We are deriving far more value by being together than being separate: ITC

Update on the Indian Equity Market:

On Thursday, Nifty ended 0.4% higher at 9,098. The top gainers among the Nifty 50 were ITC (+7.1%), Hindalco (+5.8%) and Asian Paints (+5.1%) while the losing stocks for the day Bajaj Finserv (-3.6%), Bajaj Finance (-2.9%) and NTPC (-2.9%). The gaining sectors for the day were Auto (+2.6%), FMCG (+2.2%) and Metal (+1.8%). The worst performing sectors were Pvt Bank (-0.7%), Financial services (-0.7%) and Bank (-0.6%).

Edited excerpts of an interview with Mr Sanjiv Puri, Chairman & Managing Director, ITC Ltd; dated 21^st May 2020 from Retail Economic Times:

• His understanding of the new normal: This current problem is not going away soon and will have to run the businesses and carry on with life and economic activity, taking safety precautions.
• There are challenges in this current situation because of the impact on economic activity and certain sectors are very sharply impacted. ITC sees a fair amount of opportunities for them, particularly in their FMCG businesses. There is a lot of opportunity in the health, wellness, and nutrition and hygiene space. Consumers trust in the brands will add to the opportunities as well as the current geopolitical situation. There are going to be opportunities for sure, according to him and it is for the Company to be watchful and agile and make the best of the opportunities that fit into their capabilities and strategies.
• In terms of the government package that is required, he added, one needs to reach out to the most vulnerable section of the society. The largest stimulus that can happen is actually getting back to work and how to adjust to the new normal. The longer one takes to adjust to the new normal, the bigger is the stress and the more resources will be required to pull it out. In order to get back to the new normal and get back economic activity in the new normal, first, the government has to tackle the issues of liquidity.
• Going forward, India will see some measures to boost consumption. The reforms for the agriculture sector can have a transformative impact over a period of time. But at the same time, those measures are not going to give impact immediately but the medium term, these augur well for the economy.
• FMCG the sector is slowly getting back to the normal demand levels. The demand varies across the categories. ITC is seeing good demand for staples.
• The Company is seeing some stress but at an aggregate level for foods and personal care. Mr Puri believes over time, as the capacities scale-up and the distribution and logistics improves further, the opportunities in this category will go up further.
• There are segments like education and stationery which have been severely impacted for the moment because the sessions of the schools have changed and the business is heavily indexed to the school sessions. But ultimately, children will have to go back to school and students will have to go through education.  So, it is more a timing issue than anything else.
• ITC Hotels are adversely impacted. ITC hotels are supporting quarantine facilities/ dealing with helping some stranded guests. Most of the hotels are not operational as of now which is in line with the guidelines of the government.
• The agriculture business of ITC is slowly getting back to normal and is indexed to food consumption, paper and paper board consumption. There is a little bit of lagging but once the economy fully opens up, ITC is hopeful to see more demand for paper boards and packaging.
• Outlook for ITC 5 years down the line: 10 years back, it was 60% tobacco and 40% non-tobacco. Today, it is actually the other way around; about 60% is the non-tobacco. 80% of the capital employed is in non-tobacco business. 90% of employees are in the non-tobacco business which reflects the kind of investment ITC is making in the non-tobacco segments. This gives headroom for these segments to grow. Given the positioning of the Company, they are confident of expanding their footprints quite a lot in these segments.
• Outlook for Tobacco Business: The biggest challenge that the tobacco segment faces in India is the threat of the illegal segment. As taxes have been rising, the illicit industry has been rising. Over a period of five-six years, the taxes on cigarettes tripled and at a CAGR level, the tax rate grew at about over 15% whereas the revenue growth was between 4% and 5%. ITC will see some improvement in the business once there is stability in the tax regime.
• Dividing the two business- FMCG and Tobacco: There are a few things that are advantageous when they are combined as an organisation. ITC is able to leverage a large and robust distribution and logistics highway which are high-cost elements in any company’s operations. Splitting these two segments will mean duplication of resources. At some point of time in future, when each of these businesses is mature, the splitting thing will be revisited. But in today’s context, ITC is creating a lot of value through synergy.
• The non-tobacco businesses are expected to grow at a much higher rate in the next 3-5 years. There will also be the base effect that must be factored in. But the rate of growth in the non-tobacco the segment will certainly be much faster, according to Mr Puri.

Consensus Estimate: (Source: market screener website)

• The closing price of ITC Ltd was ₹ 188/- as of 21-May-2020. It traded at 15.5x/ 13.5x the consensus EPS estimate of ₹ 12.1/13.9 for FY21E/ FY22E respectively.
• The consensus target price of ₹ 241/- implies a PE multiple of 17.3x on FY22E EPS of ₹ 13.9/-.

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