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ITC (after several years) has been highlighting (since 1Q) a supportive macro translating to gains from illicit segment. Excerpt from ITC 2Q press release – “Stability in taxes on cigarettes, backed by deterrent actions by enforcement agencies, enable continued volume recovery from illicit trade”. We note that on volume recovery from illicit trade, in 1Q it said ‘green-shoots’ are visible to now ‘continued volume recovery’. This is the single biggest takeaway driving 2Q cigarette volume growth of 20% (estimate) (3-year CAGR of ~5%).

FMCG revenues grew 21% YoY (14.1% on 3-year CAGR basis) with management using multiple levers to offset inflationary pressure; the segment witnessed a board-based growth. Hotels business continued with good underlying performance. Paperboards business is likely seeing structural uptrend with agribusiness also reporting robust underlying performance.

We had turned positive on ITC early this year (Time to ADD – Macro & micro turning favourable), and the thesis has been playing out well. Performance has been good across segments. Reiterate ADD; TP Rs400

Cigarette business reports a good outcome: Overall revenue grew 27% YoY with well-rounded performance in all segments with ahead-of-expected print in both cigarettes and FMCG segments. Overall EBITDA was up 27% YoY while PAT grew 21% YoY. Cigarette gross revenues grew 23% YoY, with volume growth of ~20% (estimate; up ~5% on 3-year CAGR basis). ITC has highlighted (1) enhanced product availability backed by superior on-ground execution, (2) some volume recovery from illicit trade on the back of (a) stability in taxes and (b) deterrent actions by enforcement agencies. ITC has also strengthened its product portfolio with new launches and premiumisation across segments. Cigarettes EBIT was up 24% YoY to Rs44.3bn, highest in a quarter.

FMCG profitability print good despite inflationary pressure: FMCG revenues grew 21% YoY (14.1% on 3-year CAGR basis). Management highlighted that growth has been strong in both staples and convenience foods along with discretionary and out-of-home categories. The hygiene portfolio saw weakness but was still above precovid levels. Segment EBITDA margins were down 50bps YoY to 9.5% though up 170bps QoQ. Overall RM inflation continues with cool-off in some commodities. It highlighted inflationary RM was offset by price hikes, premiumisation and cost management initiatives.

Good performance in all other segments: Hotels business saw revenue rise 82% YoY. Good broad-based demand (higher occupancy) along with higher ARR have led to this performance. We note that ITC has been driving structural cost savings in this business. Paperboards segment also had a good quarter with revenue growth of 25% YoY and a strong EBIT margin print of 27.5%. Agribusiness continued to report a good quarter with revenue rising 44% to Rs40bn. EBIT margin contracted to 8.6%, translating to absolute EBIT growth of 17% YoY

Valuation and risks: We increase our earnings estimates by ~5%/4% for FY23E/24E. Maintain ADD with a DCF-based revised target price of Rs400 (Rs350 earlier). At our target price, the stock will trade at 24x P/E multiple Mar’24E. Key downside risk is tax hikes much ahead of inflation leading to volume pressure (on cigarettes) as price elasticity is still unfavourable.

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