ITC Down After UP Govt Hikes Taxes to 50%

Yesterday Media reported that Uttar Pradesh government (UP) have raised the value added tax (VAT) on cigarettes to 50 per cent from the existing 12.5 per cent which will further affect the tobacco companies like ITC. The move will impact the companies as their bottom line would get impacted.

FMCG heavyweight, ITC on the back of this news closed almost 3.6 per cent lower in yesterday’s trade and today also it is trading marginally lower in the red zone. Other Tobacco companies like VST Industries and Godfrey Phillips India share price also closed the day lower in the negative territory. One should recollect that ITC previously was trading at its 52- week high of Rs 260.2 and also BSE FMCG Index was at its life time high. This could be as ITC has the highest weight of 56.17 per cent in FMCG Index.

Earlier in the month of March 2012, government had hiked the excise duty approximately by 20 per cent on tobacco product. To safeguard its margins ITC to some extent had passed on this rise in cost to the consumers. On an average ITC has hiked the prices around 12 per cent post Budget. Usually every rise in input cost is passed on to the consumers by FMCG companies, however a sharp increase in price over a short span of 2 to 3 months could further impact the demand for the products. It is yet to be announced by the Tobacco major whether it will retain the price at the same level and would accept to have some pressure on the margins or will again partially pass on these hikes to the consumers.

On a Standalone basis, Cigarette contributes nearly 47 per cent of the ITC’s top-line while 83 per cent of its bottom-line. With this if the margins in the cigarette segment falls then it would impact the overall performance of the company. We at Dalal Streets Investment Journal believe ITC will choose the latter option and pass on the prices to the consumers. This could further impact the volume growth of the company and also its top-line.

Further other states would also revise the tax rate upwards, sooner or latter in the near term which would impact the tobacco producing companies. ITC broadly has five cigarette factories which are located in states of Karnataka, West Bengal, Bihar, Maharashtra and Uttar Pradesh. One has to certainly watch out the management’s move and guidance and could further take cues from the same. Also investors should watch out for the June quarter numbers of various companies which will soon kick start by the second week of July. We believe FMCG companies will post decent growth in their top and bottom-line growth for the June quarter, however going ahead they may face headwinds on the back of slowing demand, exceedingly delayed rains coupling with rising input pressure would impact the performance of the companies.