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Last Updated : Mar 04, 2013 01:46 PM IST | Source: Moneycontrol.com

Buy ITC; target Rs 340: Motilal Oswal

Motilal Oswal is bullish on ITC and has recommended buy rating on the stock with a target price of Rs 340 in its research report dated March 01, 2013.

 
 
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Motilal Oswal is bullish on ITC and has recommended buy rating on the stock with a target price of Rs 340 in its research report dated March 01, 2013.


"ITC, the government has increased the excise duty on cigarettes, except for the sub-65mm segment, by 18% against our expectation of a 10% increase. We note that this is the first time in recent history when excise duty has been increased by 15% plus for two consecutive years (21% hike in FY13). Effectively, excise duty on cigarettes has gone up 43% in two years. However, the structure of the excise duty has been left unchanged.


We estimate 9% price hike to neutralize the excise increase and another 2-3% to pass on the VAT increase. Gujarat and Bihar state governments have increased VAT from 25% and 20%, respectively to 30% each. However, to achieve 15% EBIT growth in cigarettes, our workings (exhibit on next page) suggest that a 14% price hike is required.


We cut our volume growth estimate for FY14 to 2% (7% earlier) to factor in the impact of two consecutive years of substantial price hikes and pricing growth estimate to 14% (8% earlier). In FY13, so far, ITC has taken 16-17% price increase in cigarettes.


Excise duty on the sub-65mm segment has not been changed. Consequently, excise differential per stick between the sub-65mm and 65-70mm segment increases from 44% to 53%. This could potentially accelerate investments towards the <65mm segment. ITC has expanded its offerings in the <65mm segment after the previous budget, and we expect further traction, given the excise arbitrage.


The government has also hiked the surcharge on corporate tax from 5% to 10% for FY14, leading to a 2.3% cut in our EPS estimate. This, coupled with the revision in our volume growth estimate for the year results in a ~3% cut in our EPS estimate for FY14.


ITC has strong pricing power in cigarettes – 16.8% EBIT CAGR despite 1.5% volume CAGR over FY07-12. While we expect ITC to deliver 16% EBIT growth in FY14, we believe frequent 15%+ excise duty hikes can cripple volume growth. Though demand for cigarettes is fairly inelastic, the segment is not equipped to absorb 15%+ price hikes year after year, in our view.


Despite the harsh policy measures, we believe ITC offers the best earnings visibility in our staples universe. It remains insulated from competitive headwinds and raw material price fluctuations, though the excise duty hikes more than adequately compensate for the absence of raw material volatility in ITC’s core business. This coupled with improving profitability in the non-cigarette FMCG business can augment cash flows and payout ratios, in our view. We maintain our Buy rating, with a target price of INR340. VAT measures in the forthcoming state budgets would be a key near-term monitorable," says Motilal Oswal research eport.


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To read the full report click on the attachment

First Published on Mar 4, 2013 01:46 pm
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