Bigger warnings may not hit cigarettes a lot

As most are sold loose, such graphics on packages will have limited impact, say analysts

The production freeze by ITC, VST Industries, and Godfrey Phillips India, due to the new rule (bigger pictorial warnings on cigarette packs) might not hit their near-term performance. The April 1 deadline was known and cigarette makers ensured enough inventories during the shutdown.

If the shutdown goes on for long, there could be impact on sales.

Currently, 40 per cent of the front and back panel of cigarette packs is covered with pictorial warnings. The ministry of health and family welfare had recommended the size be increased to 85 per cent of space on cigarette packets from April. A parliamentary committee had recommended a reduction to 50 per cent.

If larger warnings are put on cigarette packs, will consumption take a hit? Not much.

Analysts at JPMorgan believe given the huge share (65-70 per cent) of loose cigarettes in total volumes, these warnings might not be effective. However, these will ease the sale of illegal cigarettes as their packs do not carry these warnings and, hence, might be deemed less harmful by the consumer.

Historically, ITC has largely been untouched by such planned shutdowns. The company had temporarily stopped production in May 2009 and December 2010. During these times, the revenues and profits of its cigarettes business continued to grow at a healthy pace.

The market seems a little disturbed by the recent developments. The stocks of the three cigarette companies have remained range-bound in the past week — while ITC and Godfrey stocks are down 0.18 and 1.95 per cent, respectively, VST is up two per cent.

Although ITC is trading at reasonable valuations of 23 times FY17 estimated earnings, intensifying regulation of the cigarettes business and low earnings growth (pegged at eight-nine per cent over the next two years) might keep the stock price in check. A sooner-than-expected scale-up of its non-cigarette business and its profitability could act as a trigger.