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Cigarettes’ sales volume is expected to increase by 5-6% year-on-year to about 93 billion in FY23 and surpass pre-pandemic levels, on the back of increased outdoor mobility and a stable tax regime, according to CRISIL rating agency.
The rating agency also pointed out that rising input prices will weigh on the manufacturers’ gross margin by 100-150 basis points (bps).
However, credit profiles will remain healthy helped by rising volumes, improved operating margins, and strong balance sheets, according to an analysis of cigarette manufacturers rated by CRISIL Ratings, that accounted for over 90% of organised sector volume.
CRISIL Ratings’ Associate Director Gopikishan Dongra said that the credit profiles of cigarette makers have been resilient given healthy cash generation. They also have strong balance sheets with negligible debt and robust liquidity of about Rs 30,000 crore as on March 31, 2022.
Anand Kulkarni, Director, CRISIL Ratings, said that increasing occupancy at workplaces, near-normal retail as well as recreation mobility and a stable tax regime over the past two years augur well for cigarette’s demand. According to CRISIL, in fiscal 2021, these three mobility indicators remained below pre-pandemic levels, as reflected in a 14% decline in cigarette sales volume. But last fiscal, volume surged 14% as the indicators improved to near-normal levels.
Tax Stability and Profitability
The rating agency said that government taxes and levies play an important role and affect the demand for cigarettes. As excise duty and Goods and Services Tax were increased on cigarettes, it has led to progressive migration from duty-paid cigarettes to other lightly taxed/ tax-evaded tobacco products such as illegal cigarettes and bidi. But with taxes stabilising over the past two fiscals, demand for duty-paid cigarettes improved modestly.
Moreover, profitability of cigarette makers is likely to marginally decline this fiscal due to increase in prices of tobacco and packaging, which together account for 50-60% of total cost, are rising.
Cigarette makers largely use flue-cured Virginia (FCV) tobacco and its prices of which have been volatile. FCV prices have surged about 15% year-on-year as cultivation was impacted by untimely rainfall in December 2021 and January 20222, which is the typical harvesting period. Prices of paper which is a key component of packaging are estimated to be 10% higher this fiscal compared to an already elevated base of last fiscal.
Further, the Indian government has banned single use plastic and the outer packaging of cigarette will need to shift to biodegradable materials, which will also increase cost to some extent. These are expected to impact the gross margins of domestic cigarette makers.
Dongra said that profitability will remain healthy this fiscal, with EBIT margin at approximately 65%, aided by strong competitive advantage of established manufacturers and high entry barriers such as entrenched distribution channels and restrictions on advertising.
Stocks To Watch
Some of the Indian cigarette manufacturers which are listed are as follows: ITC, Godfrey Phillips, VST Industries, Golden Tobacco and NTC Industries.