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Despite the recent anti-tobacco initiatives of the Union government, Templeton India has decided to hold on to its positive outlook on the ITC stock. India's largest mutual fund Unit Trust of India (UTI) also has kept its position on the ITC stock unchanged, but Merrill Lynch and Kotak Securities have downgraded their recommendations of ITC. Some institutions have, also expressed concerns over what the budget has in store for tobacco companies such as ITC.

All these conflicting statements indicate that the market is really not clear as to whether a market leader like ITC will benefit from the tobacco ban or would gain from this move? With a bout 97 billion cigarettes worth Rs 11,000 crore sold in India annually and ITC accounting for about 68 per cent of this market, it is but obvious that funds were concerned about the impact of this move on this tobacco major.

In the week that the government had announced that it would launch a rigorous anti-tobacco programme throughout the country including a proposal to ban smoking in public places and to implement the proposed Tobacco Products (Prohibition of Advertisement and Regulation) Bill 2001 which seeks to impose a total ban on sponsoring of sports and cultural events by cigarette and other tobacco product companies, ITC saw an erosion in the value of its shares. It closed the week at Rs 810.05, down Rs 91, 10.9 per cent, from the previous Friday's close of Rs 901.05. This adverse reaction towards the stock by the markets was triggered by the government move to launch a rigorous anti-tobacco programme. But post that the scrip has been on the buy list of many a fund manager, especially UTI.

The reasons for a dip in the price were obvious-a knee jerk reaction, where the market and the common investor saw the main business of this tobacco leader being hurt. But post that, when one analyzed the picture in greater detail, one saw a market leader, which was in a business where the product demand was seemingly inelastic to price and with a current leadership in all the segments it operates in, the advertising ban would in fact diffuse competition and strengthen the leader’s position. Will less advertising impact cigarette companies' sales? Unlikely, perhaps, as most will find means to get their brand message across, either through surrogates, as the liquor industry is doing with eponymously-named brands of mineral water, or through brand extensions as ITC has already done with its Will Sport range of apparel and Gold Flake Expressions greeting cards, or Godfrey Phillips with its Four Square cricketing gear. Cigarette brands such as Marlboro, Dunhill and Camel, have parlayed their strong equity into a range of apparel and lifestyle accessories, insuring themselves for the day when smoking becomes unfashionable, and when they can be recognised as a lifestyle brand rather than a cigarette brand.

It is also pointed out by industry observers that ITC, which is touted to be the second largest advertiser among the corporates, had incurred about Rs 185.09 crore towards advertising and sales promotion expenditure for the year ended March 31, 2000 (Rs 201.24 crore during fiscal 1998-99). Godfrey Philips India had incurred about Rs 85 crore towards advertising and sales promotion expenses for the year ended March 31, 2000 (Rs 65.03 crore during fiscal 1998-99). So, what happens is that all that moolah, or at least a major part of it would get added back to the bottomlines of these companies.  

What has also impressed the leading institutional players is the bold stance taken by the ITC management in response to the government decision to bar tobacco companies from advertising and sponsoring sports events and people from smoking in public. While welcoming and assuring to support the Union Government initiatives the ITC Chairman, Mr Y C Deveshwar, said that a debate on the subject taking the industry point of view was vital to give it a more practical direction. ``We should not land up in a situation where only cigarette smoking is curtailed as 84 per cent of the tobacco consumption is in the non-cigarette format and that too in the poorer sections. I do not know how the Government will regulate this section. Regarding sponsorships he said that the move should also apply to international companies like Marlboro which are promoting Formula I racing. These programmes are aired across India through various uplinked channels. There has to be a mechanism to regulate. And in case this is not done then the consumers will shift to International cigarette brands which would lead to the Indian industry being thrown out and the international brands are smuggled through Nepal and Bangladesh.

Interesting developments may be in the offing and the outlook may not be all that bad as far as the ITC stock is concerned. Other stocks to watch out in this context are those of VST Industries, Godfrey Philips and Kothari Products, which makes pan masala. The impact on Kothari Products may be limited since the restrictions would be applicable only in four States and the union territories as only cigarette is a Centre subject. For pan masala and other products, State-level legislation would be required.

If one follows the reasoning given above then ITC will face no slackening of demand on one hand due to its strong brands and will also add back something of its advertising expenditure to its bottomline on the other. Plus as is with almost every other budget, the hike in excise duty will probably be passed on and absorbed by the consumer. So, the company’s cash flows will actually improve or may remain the same with this ban. This would mean better valuations for this major. We researched some equity funds which have substantial holdings of the market leader ITC and feel that investors could look at these for indirect investment into this scrip.

Aru Srivastava

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