ITC shares are down 10 per cent in 2025 so far, with stock investors cautiously awaiting the Union Budget 2025 for any hikes in taxes on cigarette and other tobacco products. Nuvama Institutional Equities sees a low probability of a sharp hike in cigarette tax in the Budget as a small tax hike was taken last year and legal cigarette volumes are gradually recovering despite an urban slowdown.
The brokerage believes that tax collections could suffer in case of a double-digit tax hike, due to the negative effect on legal cigarettes and market share gains for illegal players.
"Although we remain near-term cautious on ITC due to its weak FMCG business in Q3FY25, we retain ‘Buy’ due to a recovery in the agri business, dividend yield and comfortable valuations. Factoring in the demerger of the hotel business, our revised SotP-based target price works out to Rs 571 (earlier Rs 585)," Nuvama said.
To recall, the duty on cigarettes increased sharply at a CAGR of 15.7 per cent from FY13 to FY17. But tax revenue from cigarettes rose at a mere 4.7 per cent CAGR. Thereafter, relative stability in taxation was observed until January 2020. Revenue collections grew 10.2 per cent during April 2018–January 2020 over July 2017–March 2018.
The Union Budget for FY21 increased the National Calamity Contingent Duty (NCCD) by 2–4 times across cigarette stick sizes, resulting in tax hikes of 9–15 per cent.
A double-digit tax hike could push consumers towards smuggled cigarettes. Nuvama noted that the share of legal cigarettes in total tobacco consumption has declined from 21 per cent in 1981–82 to a mere 8 per cent. Despite accounting for less than one–tenth of the tobacco consumed in the country, duty-paid cigarettes account for more than four–fifths of the revenue generated from the tobacco sector.
"There is a separate proposal to increase GST on cigarettes and tobacco-related products from 28 per cent to 35 per cent. If this comes to pass, cigarette prices will in effect increase by 6–7 per cent. We are still awaiting further developments on this," it said.
For the December quarter, Nuvama expects ITC’s cigarette business to post decent volume of 3.5 per cent YoY against 3.3 per cent growth in Q2FY25. It sees a slight compression in margins due to raw material inflation.
"Overall, we expect ITC’s Q3FY25 revenue/Ebitda to grow 8 per cent/1 per cent YoY due to the weak FMCG business (we expect a 10 per cent dip in profits YoY with 3 per cent YoY sales growth). Also, any sharp potential tax hike in the upcoming union budget keeps us cautious on the stock in the near term," Nuvama said.
Overall, it does not see a high probability of a sharp cigarette tax hike. A minor hike is possible, but that should not be a big concern for the cigarettes industry, Nuvama said.