ITC shares, other cigarette stocks in focus ahead of Union Budget. Will FM hike tax?

Shares of cigarette companies such as ITC, Godfrey Phillips and VST Industries were trading mixed ahead of the Union Budget. There are fears that the FM Nirmala Sitharaman could announce a hike in excise duty or NCCD duty on cigarettes and tobacco products, which would be negative for cigarette makers. The last tax hike was announced three years ago. The Budget for FY21 had increased the National Calamity Contingent Duty (NCCD) by 2-4 times across cigarette stick sizes, resulting in tax hikes of 9-15 per cent.

Prabhudas Lilladher is expecting a 5-10 per cent increase in cigarette excise duty. Sharekhan said an increase in rate  by 0-10 per cent duty should be neutral for cigarette stocks, but any increase in rate by 10-15 per cent will be negative.

"If the tax rate on cigarettes is increased by 10-15 per cent, it would affect sales volumes of ITC’s cigarette business in subsequent quarters, as the company will pass on the increase in tax rate to consumers through price hikes. Increase in  tax rate of 0-10 per cent would have a marginal impact. However, the Street will be positively surprise if there is no increase in the tax rate on cigarettes," Sharekhan said.

Nuvama Institutional Equities said it expects decent probability of some  hike in taxes on cigarettes as the last hike  was made three years ago. It said the industry has seen laudable recovery in legal cigarette volumes this year and most other parts of consumption has seen sharp inflation in the past three year. It believes consumers are likely to accept moderate hike in cigarettes tax (below 12 per cent).

Shares of ITC were trading 0.61 per cent lower at Rs 350.10. Shares of Godfrey Phillips were down 1.15 per cent at Rs 1,901.25.VST Industries fell 0.6 per cent to Rs 3040.65.

"Any tax hike beyond 12 per cent may have an adverse market dynamic impact allowing space for illegal cigarettes to occupy market share. Although the probable tax hike keeps us cautious for the near-term," Nuvama said in a recent note. 

Jefferies in a recent note said Union Budget does create some near-term uncertainty on a potential change in tobacco taxation. Its base case builds in a 5 per cent YoY tax hike in the Budget.

Nuvama noted that during FY13 to FY17, duty on cigarettes was increased sharply at a CAGR of 15.7 per cent, but tax revenues from cigarettes grew a mere 4.7 per cent CAGR.Thereafter, relative stability in taxation was observed until January 2020, with revenue collections growing 10.2 per cent.

Also read: Tata Motors shares climb 16% in January; can they cross Rs 500 mark?

Also read: Sensex, Nifty rally ahead of Union Budget, Fed outcome; Adani stocks mixed