With rising share of FMCG biz, ITC presents a bottom-fishing opportunity

Challenges such as a 13 per cent surge in tax under the goods and services tax (GST), intense competition from the tobacco-chewing segment and the illicit cigarette trade impacted ITC's flagship business — cigarettes — last financial year. 

As a result, its stock has been a laggard, down 16 per cent in the past year, compared to a six per cent gain in the BSE FMCG index and a 13 per cent rise in the benchmark Sensex. However, ITC's effort to scale up its non-cigarette businesses, especially fast-moving consumer goods (FMCG), is likely to provide impetus to the performance.

Unlike cigarettes, FMCG (sales up 7.8 per cent) and hotels (up 5.6 per cent) supported ITC's overall revenue in FY18. In fact, the share of these two segments in overall revenue rose 700 basis points (bps) to 29 per cent. ITC's non-cigarette FMCG business comprises packaged foods (Ashirvaad, Sunfeast), personal care and apparels. 

This trend is likely to continue. ITC, according to its FY18 annual report, has envisaged Rs 250 billion for projects in FMCG manufacturing, hospitality and the agri-backend, including distribution (some have already been completed). ITC's spokesperson said the company launched various new products in the non-cigarette (FMCG) category in the June 2018 quarter. Analysts say many more will come and, hence, they expect FMCG's revenue share to rise to 30-31 per cent over the next two years, from 26 per cent in FY18. Some also expect revenue share of the non-cigarette business (mainly other FMCG and hospitality) to be more than that of cigarettes in the medium term. 

But, how it plays in terms of profit will be interesting to watch. In FY18, about 86 per cent (down 30 bps) of ITC's operating profit came from cigarettes. Some analysts expect a gradual rise in contribution from the non-cigarette business in profits; FMCG business' share expanded by 90 bps to 1.1 per cent in FY18. If the trend continues, which analysts believe it will, it would enable ITC to lower the impact of the macro-level challenges in cigarettes. 

Many analysts also foresee an improvement in the cigarette business. "With no significant tax hike in recent times, we don't expect substantial price hike in cigarettes in the near term. This would improve sales volume in the coming quarters," says Kausthubh Pawaskar, analyst at Sharekhan. In this backdrop, ITC's lower valuations (28 times its FY19 earnings; 35 times for the BSE FMCG index), owing to the recent price correction, offer a good opportunity for investors.