Firing on all cylinders

While prospects of its businesses remain good, the stock looks fairly priced.

On a day when the broader markets and the stock of its larger peer, Hindustan Unilever, fell (the Sensex was down 1.2 per cent and HUL down one per cent), ITC’s shares closed higher by 2.6 per cent, at Rs 206.05 on the Bombay Stock Exchange. For, it delivered a better-than-expected performance on sales and net profit. These grew by 20.6 per cent and 25 per cent, respectively, on a year-on-year basis in the June quarter. This is reasonably higher than analysts had expected — sales and net profit growth of around 17 per cent and 21 per cent, respectively.

ITC’s performance on operating profit margin disappointed, albeit marginally, as it stayed flat at around 33.7 per cent. Stock markets ignored the subdued operational performance, as ITC’s results were better than its peer, HUL.
 

STEADY GROWTH
Rs crore	FY11	Q1FY12	FY12E
Total operating income	21,468	5,860	25,327
Change (%)	16.8	20.6	18
Operating profit	7,454	1.976	8,643
Change (%)	18.3	20.2	16
OPM (%)	34.7	33.7	35.5
Net profit	4,988	1,333	5,968
Change (%)	22.8	24.5	20
NPM (%)	23.2	22.7	23.6
FY12 estimates are prior to announcement of Q1 results           Source: Company

As ITC has outperformed the Sensex significantly over the past three months, analysts are neutral on the stock in the near term. They suggest it could be considered on dips from a good long-term perspective.

CIGARETTES, HOTELS SHINE
The company’s revenue growth was largely supported by the cigarette business. However, the segment’s top line growth of 12.8 per cent was slightly lower than consensus estimates. Analysts had expected 14 per cent growth in cigarette revenues, aided by improved sales mix and marginal price rises of around four per cent (average) undertaken in the June quarter after the Union Budget surprised positively, with no increase in excise duty. The June quarter volume growth in this business is estimated at 8.5 per cent, which could be partly attributed to the lower base (volumes declined by three per cent in the same period last year.

Besides cigarettes, other businesses — mainly agri, non-cigarette fast moving consumer goods (FMCG) and paper — continued their robust growth in revenue. A jump of 19 per cent in sales of the non-cigarette FMCG business (foods, personal care, apparel) was commendable, despite a higher base; last year sales had jumped 32.5 per cent in this business. Sales growth of hotels (up 12 per cent) and agri-business (up 26 per cent) was also robust despite a higher base, while revenue growth of paper (22 per cent) was at a six-quarter high.

The overall profitability was flat, unlike expectation of an expansion in margins. This was due to a rise in total expenditure, led by raw material costs (up about 160 basis points) and lower than expected reduction in operating losses of non-cigarette FMCG. In terms of segment profitability, the PBIT (profit before interest and taxes) margin increased 200 basis points in the cigarette business and by 321 bps in hotels, significantly above expectations. Profitability in the agri and paper businesses was maintained at the year-ago quarter’s level. Last, although not significant, other income jumped 46 per cent to Rs 144 crore, boosting profit growth.

THE ROAD AHEAD
Analysts expect the company to report volume growth of five to eight per cent in the cigarette business for the full year (2011-12). Their expectations of a rebound in volumes are based on stable excise duty and improved product mix; the latter is expected to improve realisations. Other businesses are also expected to do well, mainly supported by superior product offerings and continued investments in enhancing capacity and distribution network.

On the things to keep an eye on, analysts say the deteriorating macroeconomic environment may have an adverse impact on its hotels business, while the competition in the non-cigarette FMCG business will remain elevated. Positively, the company’s diversified business model and inelastic demand for cigarettes should help mitigate the pressures.

At Rs 206.05, the stock’s valuation at 26 times FY12 estimated earnings and looks fairly priced. This is considering the average target multiple of 24 times assigned by analysts and the stock’s five-year historical trading multiple of 13-30 times.