ITC shares: Should you buy? Results were above estimates | All you need to know about this FMCG major

Sharekhan maintains Buy with an unchanged price target of Rs 250. Cigarette sales started recovering from September but yet to reach pre Covid levels. Non-cigarette FMCG performed strongly. Kotak Institutional Equities says that overall print was better than expected led by FMCG, paperboards and agri businesses. ITC continues to offer a combination of decent growth and inexpensive valuation. Jefferies think on the whole, results have been ahead. At 14.5x FY22, valuation appears to be compelling; higher payout implies an attractive 5% dividend yield.

Kotak Institutional Equities tweak estimates on ITC and maintain BUY with target of Rs 250 from Rs 260 earlier. FMCG margin expansion gathers steam. The key highlight of ITC’s 2Q print was healthy 15% topline growth in FMCG coupled with 390 bps YoY expansion in EBIT margin to 6.7% (estimate 4.1%). Cigarette business performance was weak (EBIT -16% YoY) on expected lines. Overall print was better than expected led by FMCG, paperboards and agri businesses. ITC continues to offer a combination of decent growth and inexpensive valuation.

Jefferies maintains buy rating with target of Rs 265 on ITC. Key takeaway from the localised lockdown continued to impact ITC's cigarette volumes which declined double digits during Q2 FY21 and led to a slight miss on EBIT. FMCG business however reported a strong volume led double digit growth with the best ever EBITDA margins, just shy of 10%. Other businesses have been mixed. On the whole, results have been ahead. At 14.5x FY22, valuation appears to be compelling; higher payout implies an attractive 5% dividend yield.

Summary:

ITC’s Q2 FY21 performance was affected by localised lockdowns in July August resulting in a 12% decline in volume of core cigarette business (net sales was down by 14%). Cigarette sales started recovering from September but yet to reach pre Covid levels. Non-cigarette FMCG performed strongly, rising by 18.4% led by staples, operating profit grew 66% YoY to Rs 366 cr (margins rose 300 bps to 9.7%). As the non-cigarette FMCG business scales up, its operating margins are expected to improve further and would remain stable (despite normalisation of sales in some categories in the post Covid era). Stock trades at discounted valuation of 12.3x its FY2023E EPS, consistent improvement in the non-cigarette FMCG margins along with normalisation of cigarette business would be key re-rating triggers for the stock.
Q2 FY21 performance was disrupted by localised lockdowns in July-August 2020 having a significant impact on core cigarette business. Overall revenues stood flat at Rs 11977 cr and operating margins (OPM) decreased by 453 bps to 33.9% leading to 11% decline in PBT. Cigarette business net revenues (excluding excise duty) were down by 14.4% YoY due to a 12% decline in volumes. South metros and large towns were affected by localised lockdown affecting cigarette sales. Cigarette business PBT decreased by 16%. Non cigarette FMCG business revenues grew by 18% largely driven by 25% growth in essential categories (contribute 75% of revenues). Discretionary / out-of-home category revenues decreased by 2% while OPM of non-cigarette FMCG business improved by 300 bps YoY to 9.7%. Cigarette sales normalised in June but affected by localised lockdowns from mid-July, they were badly hit in August.

However, with receding cases and the economy getting slowly unlocked, sales are recovering m-o-m but are yet to reach pre-COVID levels. The non-cigarette FMCG business revenue growth is also boosted by opportunistic scale-up in categories such as sanitiser, Atta, hand wash, ready-to-cook food and disinfectant sprays/surface cleaners. However, some of the category growths would normalise in the post-COVID era. But scale-up in margins of the business will sustain due to robust brand portfolio, higher operating leverage, product innovation and supply chain efficiencies. Further, the company managed to significantly reduce fixed costs and other discretionary costs (other expenses down by 14.1% in first half of FY21). Though some of the fixed cost will rise when businesses such as cigarettes and hotels normalise, structural cost benefits would continue to support profitability. Thus, Sharekhan expects OPM of the non-cigarette business to consistently improve in the near term.

Key positives:

Non-cigarette business OPM reached close to 10%.
Rural index stood at 109 while urban index stood 95. Š
Agri business revenues grew by 13% (value-added businesses up by 25%).

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Key negatives:

Cigarette business sales volumes decreased by 12%. Š
Paperboard, paper and packaging (PPP) revenues and PBIT decreased by 6.8% and 7.2%