ITC's Q3FY20 results (Neutral) - Muted for cigarettes, FMCG profitability shines

Q3FY20 result highlights

• Revenues grew by 5.1% yoy to Rs120.1bn (est: Rs122.4bn). EBITDA grew by 6.6% yoy at Rs46.1bn (est: Rs47.4bn). PBT grew by 7.2% yoy to Rs51.7bn (in line), Adj. PAT grew by 33.2% yoy to Rs42.7bn (est: Rs38.6bn) led by lower tax rate. Reported PAT grew by 29% to Rs41.4bn due to Rs1.3bn of exception loss of tobacco leaf due to fire.
• Cigarette revenues grew by 4.7% yoy (est: 5%). We estimate Cigarette vol grew by ~2% yoy (est: 2%). EBIT grew by 5.6% yoy (est: +7% yoy) with margin expansion of 60bps yoy to 70.7% led by improved price/mix and higher contribution from in-house capsules.
• FMCG sales grew by 3.5% yoy (adj. for sales of ‘John Players’ brand in Q4FY19, sales growth was 6.1% which is decent given the environment). Despite higher ad-spends, EBITDA grew by strong 48% yoy to Rs2.6bn with a margin expansion of 230bps yoy to 7.7%.
• Hotels/Agri/Paper segment rev. grew by 22.2%/8.8%/0.8% yoy while EBIT growth for the three segments stood at 45%/7.4%/0.6%. Hotels rev. growth was led by strong performance of both new and existing properties, Agri growth was led by trading opportunities and scale up of value-added products while Paper segment growth was muted due to subdued demand in end-user industries such as FMCG & liquor and sharp correction in global pulp prices.

Key positives: Steady performance in FMCG, strong Hotels results.

Key negatives: Muted cigarette volume.

Impact on financials: No material change in estimates.

Valuations & view

ITC’s results were marginally weaker than expected with cigarette division EBIT growth of ~6% yoy. For 4QFY20E, base is unfavourable (Q4FY19 cigarette volume growth at ~8%) and in 9MFY20 it has reported cigarette vol. growth of 2.6% yoy. With 100bp EBIT margin expansion in cigarette division over 9MFY20 to 71.2%, we believe margin expansion going forward will only be modest and profit growth for the division (and ITC) hinges on its ability to grow cigarette volumes, which is a tall order, in our view. While regulatory environment is stable but the likelihood of punitive taxation action increases with every passing day. Revenue growth and profitability improvement in the FMCG business is on track but not enough to materially alter the PAT growth profile of 8% CAGR over FY20-22E. Despite cheap valuations (16.7x FY22E EPS), we maintain Neutral rating given lack of positive triggers.