ITC share: Nuvama cuts rating to Hold, says not a Happy New Year for cigarettes

Nuvama on Thursday cut its rating on ITC to 'Hold' from 'Buy', saying the sharp hike in cigarette taxes meant it was “not a Happy New Year” for the cigarette industry. The brokerage said that while it had expected a sharp increase in cigarette taxes, the magnitude was higher than anticipated.

This, Nuvama said, was likely to lead to consensus downgrades to ITC’s cigarette volume and Ebitda estimates, as well as valuation multiples. Its expectation of a steep hike was based on the revenue shortfall following recent GST rate cuts and the strong performance of the legal cigarette industry. Pending further clarity, Nuvama now factored in a price hike of over 20 per cent and a tax hike of more than 30 per cent, which it described as meaningfully sharp.

As a result, Nuvama cut its Ebitda estimates by 7 per cent each for FY27 and FY28. It reduced its tobacco valuation multiple to 17 times from 23 times, arriving at a sum-of-the-parts target price of Rs 415. It flagged lower tobacco costs in FY27 and GST benefits to the foods portfolio as key positives.

Impact on ITC’s cigarette business
Nuvama said the tax increase was harsh and expected cigarette volumes and Ebitda to decline year-on-year in FY27, following strong volume growth of nearly 6 per cent in FY26. Historically, such sharp hikes have resulted in volume declines of 3–9 per cent, it noted. By way of example, cigarette volumes fell 3 per cent in FY11 after an about 18 per cent price hike, despite strong growth in FY10.

The brokerage warned that a double-digit tax hike could push consumers towards smuggled cigarettes. With the effective date set as February 1, it expected January sales and production to spike, thereby softening the reported impact in Q4FY26. It also pointed out that during FY13–FY17, cigarette duties rose at a compound annual growth rate of 15.7 per cent, while tax revenue grew at just 4.7 per cent. In contrast, during the period of relative tax stability until January 2020, collections grew by about 10 per cent.

Why taxes were raised?
Nuvama said expectations of higher taxation were driven by GST rate cuts across sectors, which created a revenue shortfall of around Rs 50,000 crore, and sustained mid- to high-single-digit volume growth in the legal cigarette industry. It added that a rollback appeared difficult and could take time, as the industry would need to engage with the government and support its case with data.

What has changed in taxation
The brokerage said the cigarette industry had now seen a nationwide tax hike, following a sharp increase for spirits in Maharashtra. The government has notified February 1 as the effective date for higher excise duty on tobacco, replacing the compensation cess.

For instance, in the case of 69 mm filter cigarettes, the GST rate will rise to 40 per cent from 28 per cent, the compensation cess will be removed, a new basic excise duty of Rs 4,000 per 1,000 sticks will be levied versus Rs 5 earlier, while the NCCD will remain unchanged.

While further clarifications are awaited, Nuvama said the overall increase appeared harsh.

Why Nuvama stopped short of a ‘Reduce’
Despite the downgrade, Nuvama said it did not move to a Reduce rating on ITC for four reasons. These included a strong dividend yield of around 4 per cent with an about 85 per cent payout, expectations of more favourable tobacco raw material costs in FY27, benefits from GST cuts for ITC’s large foods portfolio, and the paper business acquisition, with margins seen bottoming out by FY27.