FMCG - HDFC securities PCG ITC Ltd - Q3FY1… · During Q3FY19 ITC’s Revenue grew by 15% YoY and 1.4% QoQ to Rs. 114.31bn, ... This report is not directed to, or intended for display,

Page 1

Recommendation

BUY

Targets

Rs. 314-340

Time Horizon

5 Quarters

Industry

FMCG

CMP

Rs. 274

Quarterly Highlight:

During Q3FY19 ITC’s Revenue grew by 15% YoY and 1.4% QoQ to Rs. 114.31bn, while Net Profit came at 32.09bn

(4% YoY). Company’s bottom line had benefited from an exceptional gain of Rs 4.13bn in the same quarter last

year. Excluding tax write-back in the year-ago period, net profit rose by 14%.

Cigarette (cig) revenues grew by 9.6% (exp. 8.5%) driven by 7 year high volume growth of ~7.5% (exp. 6%; -4%

in 3QFY18). Although cig. EBIT growth was a tad bit slower at 8.8% owing to high cost tobacco lead and higher

imports for capsules (switch cig.) Cig. volumes are now recovering with 3 consecutive quarters of positive growth

given a stable tax environment. We expect 5/3/3.5% vol. growth in FY19E/20E/21E.

Non-Cigarettes portfolio also delivered a 16 quarter high revenue growth of 17% led by Agri and Paper. FMCG

underlying revenue growth (ex-retail) was higher at 13-14% (HUL at 13%) vs. reported growth of 11.5%. The co.

is undergoing a restructuring drive in its retail segment (eg. John players store count at ~100 stores vs. ~450

earlier) which impacted segment growth. Revenue of Hotel business grew by 12%, Agribusiness grew by 25.7%

and Paper grew by 20.5%.

Outlook:

On 10th December 2018, we had Recommended ITC Buy in the range of Rs. 274 - 253 (making or avg price Rs.

263.5) for the successive targets of Rs. 314 and 340 for the frame of 4-6 Quarters.

We believe ITC is a relatively safe stock to accumulate during volatile times such as the present. It is coming off six

years of cigarette volume decline and poised to deliver 11% earnings growth over FY18-21E.

At 24x FY20E EPS, ITC trades at an unfair discount of ~40% to the sector and provides a good entry point. After

analysing the Recent Q3FY19 result the view and rational remain intact for the company.

We believe ITC can outperform hereon, driven by (1) Recovery in rural consumption which accounts for 2/3 of

smokers, many of whom are upgrading themselves from Beedis (2) Expectation of a stable tax environment (7-8%

annual hikes) as the catch-up with global tax rates is largely done (3) Favourable base and (4) A clamp down on

the illicit trade and (5) Rising contribution from FMCG Business. In such a scenario, ITC can deliver mid-single digit

volume growth over FY18-21E. Our 8% revenue CAGR estimate over FY18-21E looks reasonable vs. 10%/9% CAGR

in last 10/5 years.

Note: We have attached the Pick of the week detailed report at the bottom of the report.

FUNDAMENTAL ANALYST

Nisha Shankhala

[email protected]

HDFC Scrip Code ITCLTD

BSE Code 500875

NSE Code ITC

Bloomberg ITC

CMP as on 5 Feb ’19 274

Equity Capital (Rs Cr) 1224

Face Value (Rs) 1

Equity O/S (Cr) 1224

Market Cap (Rs Cr) 336125

Book Value (Rs) 43

Avg. 52 Week Vol 124112

22 52 Week High 322.7

52 Week Low 250.5

Red Flag 220

Shareholding Pattern (%)

Institutions 55

Non Institutions 44.8

Other 0.2

PCG Risk Rating* Yellow

* Refer Rating explanation

Report

Q3FY19 Result Update

mailto:[email protected]

1 | P a g e

ITC Ltd Q3FY19 Result Update

Feb 05, 2019

FINANCIAL SUMMARY: (Rs mn) 3QFY19 3QFY18 YoY (%) 2QFY19 QoQ (%) FY17 FY18 FY19E FY20E FY21E

Net Revenue 1,14,313 99,522 14.9 1,12,725 1.4 4,28,036 4,34,489 4,82,107 5,33,211 5,90,555

EBITDA 43,258 39,045 10.8 42,060 2.8 1,54,359 1,64,830 1,85,050 2,04,200 2,25,681

APAT 32,091 28,202 13.8 29,547 8.6 1,04,772 1,12,202 1,25,247 1,38,091 1,52,221

EPS (Rs) 2.6 2.3 13.3 2.4 8.6 8.6 9.2 10.2 11.3 12.4

P/E (x) 31.9 29.8 26.9 24.3 22.1

EV/EBITDA (x) 20.5 19 17 15.2 13.6

Core RoCE (%) 36.4 37.2 38.1 38.6 40.1

Year to March (Rs mn) 3QFY19 3QFY18 YoY (%) 2QFY19 QoQ (%) 9MFY19 9MFY18 YoY (%)

Segmental Revenues

Cigarettes* 50,734 46,292 9.6 50,261 0.9 1,52,270 1,79,576 9.7*

FMCG 32,010 28,718 11.5 31,604 1.3 92,314 82,768 11.5

Hotels 4,519 4,044 11.7 3,626 24.6 11,557 10,095 14.5

Agribusiness 19,246 15,309 25.7 22,197 -13.3 72,956 62,594 16.6

Paperboards, Paper & Packaging 15,425 12,796 20.5 14,245 8.3 43,228 39,488 9.5

Total 1,21,933 1,07,159 13.8 1,21,932 0 3,72,325 3,74,520 -1

Less: Inter-segment revenue 8,532 8,631 -1.2 10,983 -22 40,752 42,009 -3

Total 1,13,402 98,527 15.1 1,10,949 2.2 3,31,573 3,32,511 -0.3

Segmental EBIT

Cigarettes* 35,577 32,693 8.8 35,791 -0.6 1,06,951 98,351 8.7

FMCG 767 470 63.1 585 31.2 1,852 729 154.1

Hotels 603 548 10.1 156 287.5 891 643 38.5

Agribusiness 1,988 2,333 -14.8 2,361 -15.8 6,294 7,247 -13.1

Paperboards, Paper & Packaging 3,321 2,683 23.8 3,109 6.8 9,387 7,997 17

Total 42,256 38,726 9.1 42,001 0.6 1,25,375 1,14,967 9

Less:

(a) Interest Cost & Bank Charges 56 240 -76.6 135 -58.4 586 634 -7.5

(b) Other Un-allocable Expenses -6,013 -7,810 -23 -1,826 229.3 -9,792 -10,852 -10

PBT 48,212 46,296 4.1 43,691 10.3 1,33,951 1,25,185 7

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Feb 05, 2019

Rating Chart

Ratings Explanation:

RATING Risk - Return BEAR CASE BASE CASE BULL CASE

BLUE LOW RISK - LOW RETURN STOCKS

IF RISKS MANIFEST PRICE CAN FALL 20% OR MORE

IF RISKS MANIFEST PRICE CAN FALL 15%

& IF INVESTMENT RATIONALE

FRUCTFIES PRICE CAN RISE BY 15%

IF INVESTMENT RATIONALE

FRUCTFIES PRICE CAN RISE BY 20% OR

MORE

YELLOW MEDIUM RISK - HIGH RETURN STOCKS






FRUCTFIES PRICE CAN RISE BY 35% OR

MORE

RED HIGH RISK - HIGH RETURN STOCKS







OR MORE

R E T U R N

HIGH

MEDIUM

LOW

LOW MEDIUM HIGH

RISK

Reco Date Reco Price band Target

10-Dec-18 274-253 314-340

3 | P a g e


Feb 05, 2019

200

220

240

260

280

300

320

340

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26

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27

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20

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10

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22

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-19

Close Price

Rating Definition:

Buy: Stock is expected to gain by 10% or more in the next 1 Year. Sell: Stock is expected to decline by 10% or more in the next 1 Year.

4 | P a g e


Feb 05, 2019

Disclosure: I, Nisha Sankhala, MBA, authors and the names subscribed to this report, hereby certify that all of the views expressed in this research report accurately reflect our views about the subject issuer(s) or securities. HSL has no material adverse disciplinary history as on the date of publication of this report. We also certify that no part of our compensation was, is, or will be directly or indirectly related to the specific recommendation(s) or view(s) in this report. Research Analyst or her relative or HDFC Securities Ltd. does not have any financial interest in the subject company. Also Research Analyst or her relative or HDFC Securities Ltd. or its Associate may have beneficial ownership of 1% or more in the subject company at the end of the month immediately preceding the date of publication of the Research Report. Further Research Analyst or his relative or HDFC Securities Ltd. or its associate does not have any material conflict of interest. Any holding in stock –No HDFC Securities Limited (HSL) is a SEBI Registered Research Analyst having registration no. INH000002475. Disclaimer: This report has been prepared by HDFC Securities Ltd and is meant for sole use by the recipient and not for circulation. The information and opinions contained herein have been compiled or arrived at, based upon information obtained in good faith from sources believed to be reliable. Such information has not been independently verified and no guaranty, representation of warranty, express or implied, is made as to its accuracy, completeness or correctness. All such information and opinions are subject to change without notice. This document is for information purposes only. Descriptions of any company or companies or their securities mentioned herein are not intended to be complete and this document is not, and should not be construed as an offer or solicitation of an offer, to buy or sell any securities or other financial instruments. 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DATE 10th Dec 2018

ITC looks to expand food portfolio to boost

revenues from FMCG

Hotels: Pursuing an ‘asset right’ strategy

Sustainable growth in cigarettes business in

spite so many challenges

Paper: On the path to recovery

Creating World Class Indian Brands

ITC

Limited

INDUSTRY

CMP

RECOMMEND ed

ADD ON DIPS TO

SEQUENTIAL TARGETS

TIME HORIZON ed

FMCG

Rs. 274

Buy at CMP and add on declines

Rs. 274 - 253

Rs. 314 - 340

4 - 6 quarters

Red Flag: Rs. 220

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Shareholding Pattern % (Sep 30, 18)

Institutions 54.96

Non Institutions 44.86

Custodian 0.18

Total 100.0

HDFC Scrip Code ITCLTD

BSE Code 500875

NSE Code ITC

Bloomberg ITC

CMP Dec 7 2018 274

Equity Capital (Cr) 1224

Face Value (Rs) 1

Eq- Share O/S( Cr) 1224

Market Cap(Rs Cr) 3,35,637

Book Value (Rs) 43

Avg.52 Wk Volume 12411222

52 Week High 322.7

52 Week Low 250.5

Red Flag Price Level 220

PCG Risk Rating * Yellow

FUNDAMENTAL ANALYST Nisha Sankhala

[email protected]

Company Profile: ITC Ltd is market leader in cigarettes in India. Apart from cigarettes, it has a diversified presence in

Hotels, Paperboards & Specialty Papers, Packaging, Agri-Business, Packaged Foods & Confectionery,

Information Technology, Branded Apparel, Personal Care, Stationery, Safety Matches and other FMCG

products.

ITC has the largest market share in the cigarette business with iconic brands like “Gold Flake”,”Kings

Classic” etc and this segment is the major source of company’s revenue. It operates hotels under 4

brand names. ITC has 25 mother brands in FMCG segment with an annual consumer spend of nearly Rs.

16000 Cr. Its FMCG products reaches every second household in India. Its brand names include Sunfeast

(Biscuits), Bingo (Snacks), Yippee (Noodles), Aashirvaad (Flour) and company is constantly expanding

its product portfolio under the personal care segment (soaps, shampoos, deo, talc etc.). ITC's wholly

owned Information Technology subsidiary, ITC Infotech India, provides IT services and solutions to

leading global customers.

Investment rationale:

• Creating world class Indian brands.

• Sustainable growth in cigarettes business in spite so many challenges.

• ITC looks to expand food portfolio to boost revenues from FMCG.

• Long Term Potential of Personal Care Products.

• Hotels: Pursuing an ‘asset right’ strategy.

• Paper: On the path to recovery.

Concerns:

• High Taxes on Cigarettes, changes in government policy towards the industry.

• Illegal Cigarette’s share is rising.

• Free Trade Agreement on the Import of Paper.

• Cyclicality of the Industry.

View and valuation:

At 24x FY20E EPS, ITC trades at an unfair discount of ~35% to the sector and provides a good entry

point. We recommend Buy at CMP of Rs. 274 and add on dips to Rs. 253 for the sequential price targets

of Rs. 314 (27.8x FY20E) and Rs. 340 (30x FY20E) for 4 to 6 Quarters.

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Key Highlights

With more than a century old lineage -ITC has created world class brands for Indian Consumers. It has a diversified presence in FMCG, Cigarettes, Paper, Hotel, IT, Branded Apparel and Agri-Business.

Within a relatively short span of time, ITC has built 25 mother brands in FMCG segments with an annual consumer spending of nearly Rs. 16,000 Cr. Today, ITC’s FMCG products reach every 2nd household in India.

Our structural take on cigarette market is that the tax increase will not be as sharp on cigarette in the coming years as it was in the last 5 years and current higher tax will help organized players in fetching market share from illegal imported illegal cigarettes.

ITC is trying hard to shed its cigarette-maker tag by focusing more on its FMCG segment. Management has guided to achieve Rs 1 lakh Cr revenues from FMCG segment by FY2030.

We recommend Buy at CMP of Rs. 274

and add on dips to Rs. 253 for the

sequential price targets of Rs. 314

(27.8x FY20E) and Rs. 340 (30x FY20E)

for 4 to 6 Quarters.

Company profile:

ITC Ltd is one of India's foremost private sector companies. ITC has a diversified presence in Cigarettes,

Hotels, Paperboards & Specialty Papers, Packaging, Agri-Business, Packaged Foods & Confectionery,

Information Technology, Branded Apparel, Personal Care, Stationery, Safety Matches and other FMCG

products.

ITC has the largest market share in the cigarette business with iconic brands like “Gold Flake”,”Kings

Classic” and this segment is the major source of company’s revenue. It operates hotels under 4 brand

names. ITC has 25 mother brands in FMCG segment with an annual consumer spend of nearly Rs. 16000

Cr. Its FMCG products reaches every second household in India. Brand names includes like Sunfeast

(Biscuits), Bingo (Chips), Yippee (Noodles), Aashirvaad (Flour) and is constantly expanding its product

portfolio under the personal care segment (soaps, shampoos, deo, talc etc). ITC's wholly owned

Information Technology subsidiary, ITC Infotech India Ltd, provides IT services and solutions to leading

global customers.

Business Segments:

1. FMCG:

• Cigarettes: ITC is the market leader in cigarettes in India. With its wide range of invaluable brands.

ITC's highly popular portfolio of brands includes Insignia, India Kings, Classic, Gold Flake, American Club,

Navy Cut, Players, Scissors, Capstan, Berkeley, Bristol, Flake, Silk Cut, Duke & Royal. ITC's cigarettes are

manufactured in state-of-the-art factories at Bengaluru, Munger, Saharanpur, Kolkata and Pune.

• Food: ITC's Branded Packaged Foods business is one of the fastest growing foods businesses in India,

driven by the market standing and consumer franchise of its popular brands - Aashirvaad, Bingo!

Sunfeast, Fabelle, Sunbean, Yippee! Kitchens of India, B Natural, ITC Master Chef, Farmland, mint-o,

Candyman and GumOn. The Foods business is today represented in multiple categories in the market -

Staples, Spices, Biscuits, Confectionery & Gums, Snacks, Noodles & Pasta, Beverages, Dairy, Ready to

Eat Meals, Chocolate, Coffee and Frozen Foods.

• Personal Care: ITC forayed into the Personal Care business in July 2005. ITC's Personal Care portfolio

under the 'Essenza Di Wills', 'Fiama', 'Vivel', 'Engage', 'Savlon', 'Charmis', 'Shower to Shower' and

'Superia' brands have received encouraging consumer response and is being progressively extended

nationally. The product formulations use internationally recognised safe ingredients, subjected to the

highest standards of safety and performance.

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• Education & Stationery: ITC made its entry to the education and stationery business with its Paperkraft brand in the premium segment in

2002; and later expanded into the popular segment with its Classmate brand in 2003. By 2007, Classmate became the largest Notebook brand

in the country. Together, Classmate and Paperkraft offer a range of products in the Education & Stationery space to the discerning consumer,

providing unrivalled value in terms of product & price.

• Lifestyle & Retailing: ITC's Lifestyle Retailing Business Division has established a nationwide retailing presence through Wills Lifestyle & John

Players. Wills Lifestyle presents a premium fashion wardrobe for men and women, offering a tempting choice of Crisp Contemporary formals,

Stylist suave Casuals, evening wear & designer wear. John Players embodies the spirit of the modern youth that is playful, fashionable and cool.

• Safety Matches: ITC's range of Safety Matches includes popular brands like Aim, Ship and Homelites. With differentiated product features

and innovative value additions, these brands effectively address the needs of different consumer segments. ITC also exports safety matches to

various markets. The acquisition of Wimco, a subsidiary of ITC has consolidated the market standing of the Company's Matches business

through synergy benefits.

• Agarbattis: As a part of ITC's business strategy of creating multiple drivers of growth in the FMCG sector, the company commenced

marketing Agarbattis (Incense Sticks) sourced from small-scale and cottage units in 2003. ITC is no. 1 player in the Dhoop industry with Brand

name of Mangaldeep (Cycle).

2. Hotels:

ITC entered the hotels business in 1975 with the acquisition of a hotel in Chennai, which was then rechristened ITC Chola. Since then the ITC-

Welcome group brand has become synonymous with Indian hospitality. It operates hotels under 4 brand names: ITC Hotels, Welcome Hotel,

Fortune and Welcome Heritage. With over 108 hotels in more than 74 destinations ITC Hotels is one of the leaders in the hospitality business in

India.

3. Paperboard & Speciality Papers:

ITC's Paperboards and Specialty Papers Division is India's largest, technologically advanced and most eco-friendly, paper and paperboards

business. The business caters to a wide spectrum of packaging, graphic, communication, writing, printing and specialty paper requirements

through its four world-class manufacturing units.

4. Packaging:

ITC's Packaging & Printing Business is the country's largest convertor of paperboard into packaging. It converts paper and paperboard into a

variety of value-added packaging solutions for the food & beverage, personal products, cigarette, liquor, cellular phone and IT packaging

industries. It has also entered the Flexibles and Corrugated Cartons business. The Division, which was set up in 1925 as a strategic backward

integration for ITC's Cigarettes business, is today India's most sophisticated packaging house.

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5. Agri Business:

ITC's Agri Business is the country's second largest exporter of agri-products. The Leaf Tobacco business' partnership with the farmer is also

almost 100 years old. ITC is the largest buyer, processor and exporter of leaf tobaccos in India - creating a global benchmark as the single

largest integrated source of quality tobaccos. It is also currently focusing on exports and domestic trading of:

Feed Ingredients (Soyameal), Food Grains (Wheat & Wheat Flour, Rice, Pulses, Barley & Maize), Marine Products (Shrimps and Prawns),

Processed Fruits and Coffee.

6. Information Technology:

ITC Infotech is a specialized global technology services provider, led by Business and Technology Consulting. The company caters to enterprises

in Supply Chain based industries (CPG, Retail, Manufacturing, Hi-Tech) and Services (Banking, Financial Services and Insurance, Healthcare,

Airline, Hospitality) through a combination of traditional and newer business models, as a long-term sustainable partner.

Investment Rationales:

Creating World class Indian Brands

ITC was incorporated on August 24, 1910 under the name Imperial Tobacco Company of India Ltd. With more than a century old history ITC has

created world class brands for Indian Consumers.

ITC is the market leader in cigarettes in India. With its wide range of invaluable brands. ITC's highly popular portfolio of brands includes

Insignia, India Kings, Classic, Gold Flake, American Club, Navy Cut, Players, Scissors, Capstan, Berkeley, Bristol, Flake, Silk Cut, Duke & Royal.

Within a relatively short span of time, ITC has built 25 mother brands in FMCG segments, many of which are market leaders in their segments.

This vibrant portfolio of brands represents an annual consumer spend of nearly Rs. 16,000 Cr today. Today, ITC’s FMCG products are very much

familiar across India.

In terms of annual consumer spend, Aashirvaad is over Rs. 4000 Crs, Sunfeast over Rs. 3500 Crs, Bingo! Over Rs. 2000 Crs, Classmate &

YiPPee! are over Rs.1000 Crs each and Vivel, Mangaldeep & Candyman are over Rs. 500 Crs each. ITC’s FMCG brands have achieved impressive

market standing in a relatively short span of time. Today, many of ITC’s products have assumed market leadership – Aashirvaad is No. 1 in

Branded Atta, Sunfeast is No. 1 in Premium Cream Biscuits, Bingo! is No. 1 in the Bridges segment of Snack Foods, Classmate is No. 1 in

Notebooks. Other ITC brands are also gaining significant consumer franchise – YiPPee! is No. 2 in Noodles, Engage is No. 2 in Deodorants and

Mangaldeep is No. 2 in Agarbattis and No. 1 in the Dhoop segment.

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ITC Brand Portfolio:

ITC Brand Names:

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Cigarettes revenue continues to grow in spite so many challenges

Time and time again the concern on ITC has been around tax hikes and its impact on the cigarette business. All challenges aside, the company

has been able to deliver ~10% cigarette revenue CAGR in the last 10 years despite muted volume growth. This reflects ITC’s pricing power and

leadership position.

The legal cigarette industry, has been reeling under the cumulative impact of steep increase in taxation over the last five years and intense

regulatory pressures. The tax incidence on cigarettes, after cognising for the latest increase in Cess rates, has nearly trebled over the last six

years, on a comparable basis. Consequently, cigarette taxes remain, effectively, about 50 times higher than on other tobacco products.

The legal cigarette industry contributes more than 87% of tax revenue from the tobacco sector. It is estimated that the cumulative drop in

farmer earnings is in excess of Rs.3450 Cr. over the last three years, i.e., an average loss in earnings of over Rs.1150 Cr per year. The greater

portion of tobacco consumption in the country (estimated at about 89%) is outside the tax net. This means, the government is expected to

curb the illegal imports, which is likely to benefit ITC as this will result is price equality between domestic legal and imported illegal cigarettes,

and ITC is the largest domestic player. ITC is the market leader in the Cigarettes industry in India across all geographies and segments with

state of the art manufacturing facilities and world class product portfolio. Overall cigarette consumption in India is pretty low as compared to

that across the globe. Annual per capita adult cigarette consumption in India is approx. 1/9th of the global average. Although India accounts for

17% of world population, its share of world cigarette consumption is just 1.8%. This shows the tremendous opportunity available in this

industry. The high taxes and the reducing margins will hurt the farmers and the company in the near term, but cigarettes consumption for India

is definitely expected to rise in the future.

Our structural take on cigarette market is that the tax increase will not be as sharp on cigarette in the coming years as it was in the last 5

years and current higher tax will help organized players in fetching market share from illegal imported illegal cigarettes.

ITC looks to expand food portfolio to boost revenues from FMCG

ITC is trying hard to shed its cigarette-maker tag by focusing more on its FMCG segment. ITC is looking to expand products portfolio in its food

division to achieve the vision of Rs 1 lakh Cr revenues from FMCG segment by FY2030. The food category, which drives the fast moving

consumer durable industry, is expected to contribute around 60-65% of its turnover by 2030.

Management has guided that company will boost revenue in the segment by strengthening existing categories and venturing into newer ones.

In order to achieve this target, ITC is also looking to acquire products, which are currently not in its portfolio and planning to launch 30-40 new

products each year.

Currently, the revenues generated from ITC's foods business, is below Rs 9,000 Cr although consumer spend is in excess of Rs 12,000 Cr, with

the difference due to seller discounts offered by the company.

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The company has recently ventured into centre-filled snacks under Mad Angles, Bounce Mini biscuit, Dark Fantasy Jelly fills cake and chicken

instant noodles under Yippee etc.

ITC is looking at the dairy space as well. It also has huge market and company will be launching dairy beverages in the medium term. In the

snack category also there are many areas where company haven't started operating in like health space, where it can spread wings.

Company is exploring to ways to tie up with e-commerce players to use them as channel partners and make the new products reach to all

parts of India. ITC has tied up with Bigbasket and plans more tie ups in the coming years.

Long Term Potential of Personal Care Products

ITC’s Personal Care Products Business delivered robust performance and enhanced its market standing during last year against a backdrop of

significant disruption to trade and supply chain following the roll out of GST. This was driven largely by sustained focus on innovation, product

mix enrichment, expansion of distribution reach, proactive cost management and enhancing supply chain responsiveness.

‘Engage’ is the market leader in the women’s segment and at No. 2 position overall. ‘Savlon’ hand wash is the fastest growing brand in the

market in its segment. In the body wash segment, the ‘Fiama’ range of shower gels is the fastest growing and the second largest brand

nationally. Now, ITC has also launched moisturising skin creams under the ‘Charmis’ brand and is planning to strengthen its skincare

portfolio. This rapidly growing portfolio of products across various segments put ITC in a strong position to command the market and reach to

a wider customer base, leveraging its brand name.

ITC’s manufacturing facility in the North East, which was commissioned in March last year, has already achieved 90% capacity utilisation. This

has led to strengthening the supply chain and has enabled efficient servicing of proximal markets in the North East. There is immense

potential in the personal care space in the long-term given the low levels of per capita consumption currently, rising disposable incomes,

increasing urbanisation and growing consumer preference for enhanced personal grooming and ITC is very well positioned to seize the

emerging opportunities.

Hotels: Pursuing an ‘asset right’ strategy

ITC hotels is India’s second largest hotel chain with around 108 hotels at 74 destinations. Company’s Hotels business remains amongst the

fastest growing hospitality chains in the country with four distinct brands – ‘ITC Hotel’ in the Luxury segment, ‘WelcomHotel’ in the Upper-

Upscale segment, ‘Fortune’ in the Mid-market to Upscale segment and ‘WelcomHeritage’ in the Leisure & Heritage segment.

Current projects underway for the company includes ITC Hotel at Kolkata and Ahmedabad while WelcomHotels at Bhubaneswar, Guntur and

Amritsar.

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The hotel industry is coming out of a deep lull after the 2007-08 peak where ARRs and occupancy rates were at life time highs. Room supply

in the last decade has moderated as the industry looked to match demand. In the recent years, F&B segment became increasingly important

to the industry in the backdrop of low occupancy rates. As a major blow, F&B was impacted in FY18 owing to the highway ban on liquor. We

also observed that EBIT margins have fallen ~41% from the peak of FY08 to ~10% in FY18. While EBITDA margins during the same period

declined from 47% to 22% in FY18 (higher rooms with lower occupancy rates / ARR).

With a turn in the business cycle for the hotel industry hereon, we expect ITC’s hotel business to get higher ARRs and to enjoy occupancy

rates leading to expansion in EBITDA margins.

ITC is now looking to adopt an ‘asset right’ strategy with higher share of management contracts (50% revenue mix in the next few years vs.

40% currently). Higher share of management contracts coupled with turn in business cycle should drive expansion in RoCE.

Paper: On the path to recovery

ITC’s Paperboard and Paper business contributes 86% of the segment while rest is led by printed materials. Paper business is also a strategic

move for backward integration of the cigarette business. A large portion of this business is being consumed internally.

In recent years, ITC’s paper business was impacted owing to slowdown in end user industries such as FMCG (incl. cigarettes), liquor and

pharmaceuticals coupled with cheaper imports. On the brighter side, benign input costs, greater use of in-house pulp vs. imports and richer

product mix continued to drive EBIT growth.

As per ITC, outlook for Paperboard industry (48% of industry) is expected to see 7.5% CAGR for the next 5 years. Within paperboards (ITC

holds leadership position), value-added paperboards is expected to grow at 10.5% CAGR driven by growth in FMCG, Pharma and F&B

industries.

We expect with better growth from FMCG and other end user industry, ITC’s paper business can sustain low double digit revenue growth.

Operating leverage and higher contribution from the value-added products would further improve the margin profile of this business.

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View and valuation:

We believe ITC is a relatively safe stock to accumulate during volatile times such as the present. It is coming off six years of cigarette volume

decline and poised to deliver 11% earnings growth over FY18-21E.

The nagging concern on ITC has been punitive tax hikes on cigarettes. Still, ITC has delivered ~10% cigarette revenue CAGR over FY10-18

(FMCG sector delivered 13%), despite continuous volume cracks over FY12-18. So, this reflects ITC’s pricing power. After many years, volume

growth has come back in 1HFY19 around 3.5%.

We believe ITC can outperform hereon, driven by (1) Recovery in rural consumption which accounts for 2/3 of smokers, many of whom are

upgrading themselves from Beedis (2) Expectation of a stable tax environment (7-8% annual hikes) as the catch-up with global tax rates is

largely done (3) Favourable base and (4) A clamp down on the illicit trade and (5) Rising contribution from FMCG Business. In such a scenario,

ITC can deliver mid-single digit volume growth over FY18-21E. Our 8% revenue CAGR estimate over FY18-21E looks reasonable vs. 10%/9%

CAGR in last 10/5 years.

At 24x FY20E EPS, ITC trades at an unfair discount of ~35% to the sector and provides a good entry point. We recommend Buy at CMP of Rs.

274 and add on dips to Rs. 253 for the sequential price targets of Rs. 314 (27.8x FY20E) and Rs. 340 (30x FY20E) over the 4 to 6 Quarters.

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Quarterly Segmental:

Year to March (Rs mn) 2QFY19 2QFY18 YoY (%) 1QFY19 QoQ (%) 1HFY19 1HFY18 YoY (%)

Segmental Revenues

Cigarettes* 50,261 45,542 10.4 51,276 (2.0) 101,537 133,284 (23.8)

FMCG 31,604 28,041 12.7 28,700 10.1 60,304 54,050 11.6

Hotels 3,626 3,002 20.8 3,413 6.2 7,038 6,051 16.3

Agribusiness 22,197 19,680 12.8 31,513 (29.6) 53,710 47,285 13.6


Total 121,932 109,359 11.5 128,460 (5.1) 250,392 267,362 (6.3)

Less: Inter-segment revenue 10,983 12,597 (12.8) 21,238 (48.3) 32,220 33,378 (3.5)

Total 110,949 96,762 14.7 107,222 3.5 218,171 233,984 (6.8)

Segmental EBIT

Cigarettes* 35,791 32,917 8.7 35,584 0.6 71,375 65,658 8.7

FMCG 585 205 185.3 501 16.6 1,086 259 318.9

Hotels 156 42 267.0 132 17.7 288 96 201.4

Agribusiness 2,361 2,562 (7.9) 1,945 21.4 4,306 4,913 (12.4)


Total 42,001 38,468 9.2 41,119 2.1 83,120 76,241 9.0

Less:

(a) Interest Cost & Bank Charges 135 290 (53.4) 73 83.9 530 394 34.6

(b) Other Un-allocable Expenses (1,826) (1,265) 44.3 (1,954) (6.6) (3,779) (3,042) 24.2

PBT 43,691 39,443 10.8 42,999 1.6 85,739 78,889 8.7

Capital Employed

Cigarettes 38,469 39,733 (3.2) 32,113 19.8 38,469 39,733 (3.2)

FMCG 63,884 59,952 6.6 67,115 (4.8) 63,884 59,952 6.6

Hotels 51,928 48,770 6.5 50,921 2.0 51,928 48,770 6.5

Agribusiness 23,733 17,314 37.1 25,610 (7.3) 23,733 17,314 37.1


Total 239,092 226,020 5.8 236,729 1.0 239,092 226,020 5.8

Unallocated corporate assets 264,404 219,726 20.3 307,725 (14.1) 264,404 219,726 20.3

Total capital employed 503,496 445,746 13.0 544,455 (7.5) 503,496 445,746 13.0

Source: Company, HDFC sec Research

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Margin to susutain around current levels


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FY17 FY18 FY19E FY20E FY21E

EBITDA (Rs. Bn) EBITDA Margin%

Net Profit is expected to grow at 11% CAGR over FY18-21E


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PAT (Rs. Bn) Growth (%)

Revenue Mix %(FY18)


Cigarettes, 46.8%

Others FMCG, 23.1%

Hotels, 2.9%

Agribusiness, 16.5%

Paper, 10.7%

Revenue Growth


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Balance Sheet (Rs mn) FY17 FY18 FY19E FY20E FY21E

SOURCES OF FUNDS

Share Capital - Equity 12,147 12,204 12,242 12,242 12,242

Reserves 451,982 512,897 562,074 616,016 677,093

Total Shareholders' Funds 464,129 525,101 574,316 628,258 689,335

Minority Interest 2,947 3,345 3,258 3,157 3,042

Long Term Debt 184 115 115 115 115

Short Term Debt 191 174 191 210 231

Total Debt 375 289 306 325 346

Net Deferred Taxes 18,333 18,749 19,000 19,271 19,564

Other non current liabilities 2,174 2,596 2,596 2,596 2,596

TOTAL SOURCES OF FUNDS 487,959 550,080 599,476 653,608 714,884

APPLICATION OF FUNDS

Net Block 157,778 163,907 183,950 208,872 233,017

CWIP 49,180 77,353 78,353 67,153 58,194

Goodwill 2,314 2,314 2,314 2,314 2,314

LT Loans & Advances 20,849 21,014 22,895 24,952 27,200

Total Non-current Assets 230,120 264,587 287,512 303,291 320,724

Inventories 81,161 74,951 79,755 85,971 92,728

Debtors 24,743 26,823 28,667 31,204 34,662

Other Expenses 17,471 26,523 27,849 29,241 30,704

Cash & Equivalents 205,488 249,525 263,021 299,862 341,667

Total Current Assets 328,863 377,821 399,293 446,280 499,760

Creditors 26,593 34,962 33,180 36,728 40,798

Other Current Liabilities &Provns 44,430 57,367 54,149 59,234 64,803

Total Current Liabilities 71,023 92,328 87,329 95,963 105,601

Net Current Assets 257,839 285,493 311,964 350,317 394,160

TOTAL APPLICATION OF FUNDS 487,960 550,080 599,476 653,608 714,884


Income Statement (Rs mn) FY17 FY18 FY19E FY20E FY21E

Net Revenues 428,036 434,489 477,791 528,886 587,486

Growth (%) 9.2 1.5 10.0 10.7 11.1

Material Expenses 160,492 158,555 172,005 189,341 208,557

Employee Expense 36,317 37,609 40,973 45,420 50,401

ASP Expense 8,107 9,041 10,511 12,164 13,512

Distribution Expense 8,560 9,041 10,511 12,164 14,100

Other Expenses 60,201 55,414 61,112 67,997 75,816

EBITDA 154,359 164,830 182,679 201,800 225,100

EBITDA Growth (%) 6.8 6.8 10.8 10.5 11.5

EBITDA Margin 36.1 37.9 38.2 38.2 38.3

Depreciation 11,528 12,363 13,256 14,678 16,356

EBIT 142,831 152,467 169,423 187,122 208,744

Other Income (Including EO) 17,615 18,319 20,379 22,823 25,603

Interest 243 899 805 855 909

PBT 160,204 174,016 188,997 209,090 233,438

Total Tax 55,491 59,164 64,259 71,091 79,369

RPAT 104,772 114,927 124,825 138,100 154,185

Exceptional Gain/(loss) - 2,725 - - -

Adjusted PAT 104,772 112,202 124,825 138,100 154,185

APAT Growth (%) 10.3 7.1 11.3 10.6 11.6

Adjusted EPS (Rs) 8.6 9.2 10.2 11.3 12.6

EPS Growth (%) 9.6 6.6 10.9 10.6 11.6


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Cash Flow Statement (Rsmn) FY17 FY18 FY19E FY20E FY21E

Reported PBT 160,263 174,091 188,997 209,090 233,438

Non-operating & EO Items (2,257) (3,379) - - -

Interest Expenses (8,789) (8,748) (9,614) (10,398) (11,244)

Depreciation 11,528 12,363 13,256 14,678 16,356

Working Capital Change 444 17,364 (14,856) (3,568) (4,286)

Tax Paid (54,916) (59,996) (64,008) (70,820) (79,076)

OPERATING CASH FLOW ( a ) 106,273 131,694 113,775 138,983 155,188

Capex (30,715) (27,985) (34,299) (28,401) (31,541)

Free Cash Flow (FCF) 75,558 103,709 79,475 110,582 123,647

Investments (10,749) (50,814) (15,000) (15,000) (15,000)

Non-operating Income 8,955 7,660 10,457 11,253 12,153

INVESTING CASH FLOW ( b ) (32,509) (71,139) (38,842) (32,148) (34,388)

Debt Issuance/(Repaid) (132) 24 17 19 21

Interest Expenses (255) (486) (805) (855) (909)

FCFE 75,171 103,247 78,687 109,746 122,759

Share Capital Issuance 10,670 9,128 38 (0) (0)

Dividend (83,330) (70,884) (75,647) (84,158) (93,108)

Others 37 8 - - -

FINANCING CASH FLOW ( c ) (73,010) (62,211) (76,398) (84,993) (93,996)

NET CASH FLOW (a+b+c) 754 (1,656) (1,465) 21,841 26,805

EO Items, Others 33,403 (978) - - -

Closing Cash & Equivalents 29,674 28,996 27,493 49,334 76,139


Key Ratios FY17 FY18 FY19E FY20E FY21E

PROFITABILITY (%)

GPM 62.5 63.5 64.0 64.2 64.5

EBITDA Margin 36.1 37.9 38.2 38.2 38.3

EBIT Margin 33.4 35.1 35.5 35.4 35.5

APAT Margin 24.5 25.8 26.1 26.1 26.2

RoE 23.5 22.7 22.7 23.0 23.4

RoCE 23.4 22.6 22.7 22.9 23.4

EFFICIENCY

Fixed Asset Turnover (x) 0.6 0.6 0.7 0.7 0.7

Inventory (days) 69.2 63.0 60.9 59.3 57.6

Debtors (days) 21.1 22.5 21.9 21.5 21.5

Payables (days) 22.7 29.4 25.3 25.3 25.3

Cash Conversion Cycle (days) 44.6 30.2 37.4 34.8 32.6

Net D/E (x) (0.4) (0.5) (0.5) (0.5) (0.5)

Interest Coverage (x) 587.8 169.6 210.4 218.9 229.7

PER SHARE DATA (Rs)

EPS 8.6 9.2 10.2 11.3 12.6

CEPS 9.6 10.2 11.3 12.5 13.9

Dividend 4.7 5.2 5.7 6.3 7.1

Book Value 38.2 43.0 46.9 51.3 56.3

VALUATION

P/E (x) 32 29.9 27 24.3 21.8

P/BV (x) 7.2 6.4 5.9 5.4 4.9

EV/EBITDA (x) 20.8 19.3 17.4 15.6 13.8

EV/Revenues (x) 7.5 7.3 6.6 5.9 5.3

Dividend Yield (%) 1.7 1.9 2.1 2.3 2.6


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R E T U R N

HIGH

MEDIUM

LOW

LOW MEDIUM HIGH

RISK

Ratings Explanation:

RATING Risk - Return BEAR CASE BASE CASE BULL CASE

BLUE LOW RISK - LOW RETURN STOCKS


IF RISKS MANIFEST PRICE CAN FALL 15% & IF INVESTMENT

RATIONALE FRUCTFIES PRICE CAN RISE BY 15%

IF INVESTMENT RATIONALE FRUCTFIES PRICE CAN RISE BY

20% OR MORE

YELLOW MEDIUM RISK - HIGH RETURN STOCKS





35% OR MORE

RED HIGH RISK - HIGH RETURN STOCKS





50% OR MORE

Ratings Chart

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# Explanation of Red-flag Price level: If stock prices starts sustaining below red-flag level, the premise of the investment needs to be reviewed. Risk

averse investors should exit the stock and preserve capital. The downside of following red-flag level is that if the price decline turns out to be

temporary and if it recovers subsequently you won’t be able to participate in the gains.

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Rating Definition:

Buy: Stock is expected to gain by 10% or more in the next 1 Year. Sell: Stock is expected to decline by 10% or more in the next 1 Year.

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Fundamental Research Analyst: Nisha Sankhala ([email protected]) HDFC securities Limited, I Think Techno Campus, Building - B, "Alpha", Office Floor 8, Near Kanjurmarg Station, Opp. Crompton Greaves, Kanjurmarg (East), Mumbai 400 042 Phone: (022) 3075 3400 Fax: (022) 2496 5066 Website: www.hdfcsec.com Email:[email protected]. Compliance Officer: Binkle R. Oza Email: [email protected] Phone: (022) 3045 3600

Disclosure: I, (Nisha Sankhala, MBA), authors and the names subscribed to this report, hereby certify that all of the views expressed in this research report accurately reflect our views about the subject issuer(s) or securities. HSL has no material adverse disciplinary history as on the date of publication of this report. We also certify that no part of our compensation was, is, or will be directly or indirectly related to the specific recommendation(s) or view(s) in this report. Research Analyst or his/her relative or HDFC Securities Ltd. does not have any financial interest in the subject company. Also Research Analyst or his relative or HDFC Securities Ltd. or its Associate does not have beneficial ownership of 1% or more in the subject company at the end of the month immediately preceding the date of publication of the Research Report. Further Research Analyst or his relative or HDFC Securities Ltd. or its associate does not have any material conflict of interest. Any holding in stock – No HDFC Securities Limited (HSL) is a SEBI Registered Research Analyst having registration no. INH000002475. Disclaimer: This report has been prepared by HDFC Securities Ltd and is meant for sole use by the recipient and not for circulation. The information and opinions contained herein have been compiled or arrived at, based upon information obtained in good faith from sources believed to be reliable. Such information has not been independently verified and no guaranty, representation of warranty, express or implied, is made as to its accuracy, completeness or correctness. All such information and opinions are subject to change without notice. This document is for information purposes only. Descriptions of any company or companies or their securities mentioned herein are not intended to be complete and this document is not, and should not be construed as an offer or solicitation of an offer, to buy or sell any securities or other financial instruments. This report is not directed to, or intended for display, downloading, printing, reproducing or for distribution to or use by, any person or entity who is a citizen or resident or located in any locality, state, country or other jurisdiction where such distribution, publication, reproduction, availability or use would be contrary to law or regulation or what would subject HSL or its affiliates to any registration or licensing requirement within such jurisdiction. If this report is inadvertently send or has reached any individual in such country, especially, USA, the same may be ignored and brought to the attention of the sender. This document may not be reproduced, distributed or published for any purposes without prior written approval of HSL. Foreign currencies denominated securities, wherever mentioned, are subject to exchange rate fluctuations, which could have an adverse effect on their value or price, or the income derived from them. In addition, investors in securities such as ADRs, the values of which are influenced by foreign currencies effectively assume currency risk. It should not be considered to be taken as an offer to sell or a solicitation to buy any security. HSL may from time to time solicit from, or perform broking, or other services for, any company mentioned in this mail and/or its attachments. HSL and its affiliated company (ies), their directors and employees may; (a) from time to time, have a long or short position in, and buy or sell the securities of the company(ies) mentioned herein or (b) be engaged in any other transaction involving such securities and earn brokerage or other compensation or act as a market maker in the financial instruments of the company(ies) discussed herein or act as an advisor or lender/borrower to such company (ies) or may have any other potential conflict of interests with respect to any recommendation and other related information and opinions. HSL, its directors, analysts or employees do not take any responsibility, financial or otherwise, of the losses or the damages sustained due to the investments made or any action taken on basis of this report, including but not restricted to, fluctuation in the prices of shares and bonds, changes in the currency rates, diminution in the NAVs, reduction in the dividend or income, etc. HSL and other group companies, its directors, associates, employees may have various positions in any of the stocks, securities and financial instruments dealt in the report, or may make sell or purchase or other deals in these securities from time to time or may deal in other securities of the companies / organizations described in this report.

HSL or its associates might have managed or co-managed public offering of securities for the subject company or might have been mandated by the subject company for any other assignment in the past twelve months. HSL or its associates might have received any compensation from the companies mentioned in the report during the period preceding twelve months from t date of this report for services in respect of managing or co-managing public offerings, corporate finance, investment banking or merchant banking, brokerage services or other advisory service in a merger or specific transaction in the normal course of business. HSL or its analysts did not receive any compensation or other benefits from the companies mentioned in the report or third party in connection with preparation of the research report. Accordingly, neither HSL nor Research Analysts have any material conflict of interest at the time of publication of this report. Compensation of our Research Analysts is not based on any specific merchant banking, investment banking or brokerage service transactions. HSL may have issued other reports that are inconsistent with and reach different conclusion from the information presented in this report. Research entity has not been engaged in market making activity for the subject company. Research analyst has not served as an officer, director or employee of the subject company. We have not received any compensation/benefits from the subject company or third party in connection with the Research Report.

This report is intended for non-Institutional Clients only. The views and opinions expressed in this report may at times be contrary to or not in consonance with those of Institutional Research or PCG Research teams of HDFC Securities Ltd. and/or may have different time horizons

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Documents

FMCG - HDFC securities PCG ITC Ltd - Q3FY1… · During Q3FY19 ITC’s Revenue grew by 15% YoY and 1.4% QoQ to Rs. 114.31bn, ... This report is not directed to, or intended for display,