Experiential Business Learning Project on

“Cigarette” from the “Tobacco” Industry and “ITC

Ltd”
Submitted in partial fulfillment of the requirement for the award of

POST GRADUATE DIPLOMA IN

MANAGEMENT
From
NARAYANA BUSINESS SCHOOL, AHMEDABAD

Subject : Managerial Economics

Component : (Specify CEC/Internal)

Submitted By:

KHUSHI PRITHIANI (08 DS)

SHIVAM TRIPATHI (10 QF)
SAPNA RAVAL (12 DS)
UJJVAL JASANI (14 QF)

Under The Guidance Of:

NAME : Dr. Hiral Sonkar
DESIGNATION : Assistant Professor
DEPARTMENT : Economics
 INTRODUCTION
As one of the world's most economically significant agricultural crops, tobacco is a general
term given to products prepared from the cured leaves of plants belonging to the Nicotiana
genus. India stands behind China and Brazil, as one of the largest producers and exporters of
this product. Tobacco consumed in any form poses health risks and complications and affects
a large population of passive smokers. The highly addictive alkaloids present in tobacco make
it hard to quit. Despite these health issues, the tobacco industry is flourishing due to its
economic importance. Tobacco is produced in the states of Gujarat and Andhra Pradesh in
India, where the weather is suitable for the crop. Smoking tobacco in India is known for its
quality and places the country in the leading revenue earning bracket worldwide.
Tobacco use patterns in India are unique and reflect longstanding cultural practices. Two
features stand out — bidis are more common than cigarettes; and chewing tobacco use is widely
prevalent. The diversity in forms of tobacco consumption complicates any assessment of
tobacco taxation in India. Tobacco is also important as an economic activity in India — its
production and sale directly or indirectly involve some seven million workers, and tobacco
contributes 2% of central tax revenue. India also has a mosaic of taxation approaches, mirroring
a diverse tobacco manufacturing and legislative environment.
 PART A: ECONOMIC ANALYSIS OF CIGARETTES
➢ CONSUMPTION:
While most of the tobacco is processed into cigarettes, the leftovers are used to make
the popular beedi or bidi, where tobacco is wrapped in tendu leaves. Smokeless tobacco
has been quite popular in the country for centuries with variants of chewing and
snuffing tobacco products. Due to easy access and low cost, products such as Paan/pan,
gutka, and flavored tobacco are widely consumed by young and old alike.
Unfortunately, this makes for distinct red Paan stains on walls all over the country. A
variety of bidis and smokeless tobacco products are made in cottage industries without
warnings on the packaging and sold in family-owned shops and stalls. Furthermore, at
least 75 percent of cigarettes are sold as single sticks, so buyers do not see the
warnings on the packet.
➢ TAXATION AND BAN:
Tobacco consumption has been reduced significantly in the country. Despite this, 267
million people still uses it, and as society liberalizes more women are taking up
smoking. A series of legal precautions and warnings came into effect at the turn of the
millennium. It started with banning advertising of tobacco and alcohol use, followed by
mandatory pictorial warnings on products. A Supreme Court judgment in 2001 banned
smoking in public spaces in the country, and a series of governmental anti-tobacco
advertisements followed this message. Public spaces and restaurants have designated
areas for smoking. The ban on the sale, manufacture, distribution, and storage of gutka
and all its variants was implemented in May 2013 and consequent notifications have
enforced a strict ban on all smokeless tobacco products. The number of legal cigarettes
has decreased while the illegal cigarette trade has increased dramatically due to high
cigarette taxes and strict tobacco control laws like India's 85 percent pictorial warning
on tobacco product packs.

➢ PRICE ELASTICITY:
Good estimates of the responsiveness of tobacco consumption to higher prices are a key
input to analyzing the future of tobacco taxation in any country. India’s case is
complicated by the existence of several distinct categories of tobacco products. This
necessitates estimates of the responsiveness of the demand for any given tobacco
product, both to its own price, and to the price of other tobacco products (respectively
termed the own-price and cross-price elasticity of demand). Estimates of the own-price
elasticity of demand for cigarettes in developed countries range from –0.25 to –0.5,
while estimates in low- and middle-income countries suggest that the price elasticity of
 demand varies between –0.5 to –1. 20 Most studies report a higher elasticity for tobacco
products among lower-income populations.

➢ SUPLLY SIDE CONSIDERATIONS:

Tobacco in India is sown on medium black and light soils. The crop takes 6 to 7 months
to mature. It has a short growing season, enabling farmers to cultivate other minor
pulses such as green gram, black gram, and certain varieties of rice outside the tobacco-
growing season. Since tobacco is a short duration crop, the time lag between investment
and returns is not long. It is also a hardy crop and grows on light soil with negligible
risk from weather, pests, and diseases, making for assured returns on investment. It is
a labor-intensive crop in all three stages — cultivation, harvesting and processing.
Changes in the land area under tobacco cultivation have gone through four broad
phases, as shown in Graph AI.1. During the first phase in the 1950s (not depicted in the
graph), the area under cultivation increased. In the second phase, through the late 1970s,
crop levels remained stationary, and then expanded in a third phase beginning 1989-90.
This trend continued until a fourth phase in the late 1990s, when the area under tobacco
showed a definite decline.
Estimates from national employment surveys by the National Sample Survey
Organization, (NSSO) indicate the tobacco workforce in India to be around seven
million during 2004-05 as shown in Table AI.1 and Graph AI.2. Since India’s national
workforce is estimated to be 457 million it amounts to 1.5% of the total employment.
In the last two decades, the number of workers engaged in the tobacco sector has grown
more than two-fold, from 2.88 million in 1983 (as against three hundred million
workers in the country) to around 7.0 million during 2004-05 (in contrast to India’s
overall employment of 457 million). 33 These figures stand in contrast to the tobacco
industry’s own estimates of almost three to four times the figure (from 27 to 35 million).
On the supply side, the production pattern of tobacco in India reflects the domestic raw
material demand arising from chewing tobacco and bidi manufacture, followed by
cigarette production. India is the third largest tobacco producer globally, after China
and Brazil. India produced over 10% of the world’s raw tobacco during 2003-04 but
was ninth in the world as an exporter of tobacco and tobacco products. A sizeable
fraction of raw tobacco goes into manufacturing chewing tobacco, bidis, and other
products, with cigarettes accounting for only one third of the total production.
 The value of exports of commodity group 2402 Cigars, cheroots, cigarillos, and
cigarettes, of tobacco or of tobacco substitute from India totaled $ 101 million in 2022.
Sales of commodity group 2402 from India went up by 16.9% compared to 2021:
exports of commodity group 2402 Cigars, cheroots, cigarillos, and cigarettes, of
tobacco or of tobacco substitutes" went up by $ 14.6 million (cumulative exports of
commodity group 2402 from India amounted $86 million in 2021).
Exports of commodity group 2402 "Cigars, cheroots, cigarillos and cigarettes, of
tobacco or of tobacco substitutes" amounted to 0.022% of total exports from India
(cumulative merchandise exports from India totaled $ 452 billion in 2022). The share
of commodity group 2402 in total exports from India decreased by 0 p.p. compared to
2021 (it was 0.021% in 2021 and cumulative exports from India were equal to $ 394
billion).
Exports of commodity group 2402 amounted to 8.3% of total sales of group from India
in 2022 (the value of exports of commodity group from India amounted to $1.21 billion
in 2022). The share of exports of commodity group 2402 in sales of commodity group
from India lowered by 1.16 p.p. compared to 2021 (it was 9.47% in 2021, and exports
of commodity group from India were $911 million).
➢ CONTRIBUTION TO GDP:
India's nominal GDP or GDP at current prices for the fiscal year 2022-23 is projected
to reach ₹272.41 lakh crore, (approximately $3.30 trillion), marking a significant
growth rate of 16.1 percent compared to the ₹234.71 lakh crore (approximately $2.84
trillion) in 2021-22. In its latest study on the economic aspect of tobacco, industry
chamber Assocham has found that the sector contributes a whopping Rs 11,79,498
crore to Indian economy, approximately 4.04% and employs an estimated 4.57 crore
people.
 PART B: INDUSTRY ANALYSIS

OVERVIEW OF THE TOBACCO INDUSTRY IN INDIA:

The revenues sources of the country include the direct tax from the citizens along with
corporate tax as well as the indirect tax on the commodities and services. Among the
indirect tax revenues, the revenues generated from tobacco and related products account
for a major portion which accounts for Rs. 953.19 billion in 2022 of the indirect
revenues and an average of 86% of the tax revenues. The tobacco sector in India is
expected to grow at a CAGR of 11.94% from 2023 to 2028.
India accounts to be the second-largest producer and the third-largest exporter of
tobacco in the world. The tobacco export for FY 2021 was approximately US$875.09
million while the export of the unmanufactured tobacco was approximately US$ 517.54
million.

FOREIGN INVESTMENT IN THE TOBACCO SECTOR:

The key export markets for Indian unmanufactured tobacco are Western Europe,
Belgium, Korea, Nigeria, Nepal, and Egypt. Currently, the FDI presence in the
manufacture of cigars, cigarettes, and tobacco substitutes is not permitted.
The Tobacco Dealers Association, as well as a parliamentary panel, has proposed
permitting the FDI in the production of Indian Tobacco and cigarette manufacturing.
This proposal is proposed with a view to providing due stimulus for agricultural
exports.
The tobacco sector is segregated into cigarette tobacco and non-cigarette tobacco and
the cigarette segment is expected to show a volume growth of 0.8% in 2023. Cigarette
smoking is quite addictive and hence despite many government restrictions and
awareness campaigns, the consumption of tobacco in the country is still increasing. The
most dominant form of tobacco use in the country is in the form of smokeless tobacco.
Smoking tobacco includes products like bidis, cigarettes, hookah, chillum, etc. The
most used tobacco products are Khaini, gutkha, betel quid with tobacco, and zarda.

DISTRIBUTION OF THE TOBACCO MARKET IN DIFFERENT SEGMENTS:

The tobacco sector in the country is segregated into many different segments. These
segments help in better analysis of the sector and the market as well as help investors
make better investment decisions. The key segments that are found in the tobacco sector
and the analysis points for the investors are mentioned below.
CATEGORY BASED ON THE TYPE OF TOBACCO:
Tobacco in the country is available in many forms and the key segments include:
 • Cigarettes
• Cigars
• Cigarillos
• Roll Your Own
• Smokeless Tobacco
• Others

CATEGORY BASED ON THE INTENSITY OF TOBACCO:

Apart from the above categories, tobacco is also classified based on its intensity in taste
or concentration. These categories are mentioned below:
• Light
• Medium
• Others

CATEGORY BASED ON THE DISTRIBUTION CHANNEL:

In India, tobacco is available through various distribution channels. This is another

segment under the sector that needs thorough analysis and helps the participants in the
sector with its core dynamics. Such details help them in taking suitable decisions to
maximize their returns or streamline the distribution channels:
• Convenience stores
• Tobacco shops
• Supermarkets
• Online stores
• Others

CATEGORY BASED ON THE REGION OF CONSUMPTION AND SALE:

The sales, revenue, and consumption of tobacco are also analyzed on a regional basis.
The various regions to be analyzed in the country are distributed in the following pattern
are:
• North region
• South region
• West region
• East region
ADVANTAGES FOR THE SECTOR:

• Addictive forms of tobacco make it harder for the consumers to quit and
generate constant demand.
• The increasing prices of tobacco help the companies earn more revenue and
provide better returns for the investors.

LIMITATIONS OF THE SECTOR:

• The government has placed stringent restrictions relating to the advertising or

promotion of tobacco in the country. This compels the companies in the tobacco
sector to opt for surrogate advertising to adhere to the government norms.
• The tobacco sector of the country is a huge contributor to its revenues of the
country. The high taxes on this sector are one of the biggest limitations. These
high taxes add to the prices of the final product and are therefore steep in the
pockets of the ultimate consumer.
• The increasing prices of the tobacco sector make tobacco products difficult to
reach most consumers. Therefore, such customers tend to move towards cheaper
forms of tobacco in the country like bidis, chewable tobacco, and other
smokeless forms of tobacco. Such factors contribute to the slow growth of the
sector as compared to other sectors.
• The lack of FDI presence in the tobacco sector further limits its growth in the
country as well as impacts the export potential.
In India, tobacco products have sadly not gotten less accessible over the past ten years, and
there is still a significant gap between the absolute price of cigarettes and other tobacco
products. Using locally produced tobacco products like bidis and chewing tobacco. India needs
to increase the price of all tobacco products to down the cost of these products and to bolster
community health.
 PART C: COMPANY ANALYSIS OF ITC LTD:
ITC is biggest cigarettes & second largest FMCG company in India with ~78% of market share
in cigarettes & presence in staples, biscuits, noodles, snacks, chocolate, dairy products &
personal care products. The company is also present in paperboard, printing & packaging
business & Agri exports businesses:

• The company has more than two hundred manufacturing facilities in India. It has a
distribution reach of over six million retail outlets across various trade channels &
strong twenty-five brands across various categories.
ITC reported strong results with ~9% cigarette volume growth:

• Sales were up 16% YoY, driven by robust growth across segments.

• EBITDA was at Rs 5224 crore, up 16.8% YoY, with margins at 31.8%.
• Consequent PAT was at Rs 4191 crore (up 11.8% YoY).
ITC’s share price has underperformed the FMCG index with negative 6.8% return (from Rs
286 in May 2017 to 267 in May 2022):

• We expect cigarette volumes, price growth in FMCG business & strong Agri exports
to drive revenues for the company in future.
• We upgraded our rating from HOLD to BUY.
We value the stock at Rs 443 on SOTP basis valuing cigarettes business 15x FY24 earnings &
FMCG business 6x FY24 sales:

• Stable taxation on cigarettes is expected to drive volumes going forward. Moreover, the
company has been gaining market share in cigarettes from last one year through new
premium products & aggrieve trade promotions.
• FMCG business is growing at a sustained pace with continuous improvement in
margins in the last five years. Opportunity size of existing foods portfolio is large.
Given Agri commodities constitute a larger part of raw material, input cost pressures
are less for the company.
• The company has been utilizing export opportunities in wheat, rice & tobacco in the
last year. The recent spurt in global Agri prices is likely to aid growth.
• Revenue witnessed growth of 16% to Rs 16426 crore on the back of 10% growth in
cigarettes, 31.8% growth in paperboard, 29.6% growth in Agri & 12.3% growth in
FMCG businesses. The hotel business also saw a strong recovery with 35.4% growth.
However, it remains lower than pre-Covid revenues. There was some impact of Covid-
19 third wave on hotel business during the quarter.
• Cigarettes volume growth was ~9% during the quarter. The company is gaining market
share through aggrieved trade promotions. It saw 128 bps improvement in cigarette
segment margins. Cigarettes volumes are higher than pre-Covid numbers. New product
launches are gaining traction & supporting volume growth.
• FMCG sales growth of 12.3% was led by robust growth in the education & stationary
segment due to re-opening of schools, sustainable growth in staples and high growth in
discretionary categories. Though hygiene portfolio (Savlon) sales came down from the
peak, they remain significantly higher than pre-Covid numbers. FMCG growth is led
by mix of volumes, pricing growth & product mix enhancement.
• EBITDA margin for the FMCG segment was up by 75 bps to 9% despite huge pressure
on commodity inflation. The company was also able to maintain full year margins at
9% (up 10 bps) despite incessant commodity inflation & lower sales of high margin
stationary business sales in earlier quarters.
• The company is scaling up its D2C business with ITCstore.in. It is present in fifteen
cities with seven hundred new products in more than forty-five categories. In the last
few quarters ITC has acquired a minority stake in D2C brands like ‘Mother Sparsh’ &
‘Mylo’.
• The company is continuing its focus on new product innovation. It has launched 110+
new products in hygiene, health & wellness, natural & convenience categories.
• E-commerce sales have grown by 50% in Q4 and have grown three times in the last
two years, contributing 7% of FMCG sales. Digital presence through ‘Unnati’ app has
been expanded to three lakh retail outlets. Rural stockiest & market coverage increased
to 1.4x and direct distribution increased to 1.1x in FY22.
• The 29.6% growth in Agri business is contributed by wheat exports due to significant
increase in wheat prices globally after Ukraine-Russia war. It is important to note that
this growth came on an already high basis in the corresponding quarter. Moreover, leaf
tobacco also saw strong volume led growth during the quarter. The strategic sourcing
supported branded packed foods business i.e., wheat, dairy & spices.
• Hotels business growth of 35% led by recovery in occupancies & ARRs. However,
ARRs still remain below pre-Covid levels. Exit occupancies are higher than pre-Covid
levels. Q4 revenues are at 84% of Q4FY20 levels. Segment EBIT was at Rs 32 crore.
• Paperboard, paper & packaging business saw 31.8% sales growth to |2183 crore led by
demand revival across end user segments. Segment profit witnessed a growth of 39.1%
to Rs 450 crore with 107 bps improvement in margins. The company increased the
capacity of value-added paperboard in FY22. Moreover, it is setting up a greenfield
project in Nadiad, Gujarat for packaging & printing products. This would be
commissioned on Q2FY23.
• ITC Infotech witnessed 16.3% revenue growth (Rs 2853 crore) in FY22 with 16%
growth in EBITDA (Rs 717 crore) & 19.9% growth in PAT (Rs 541 crore)
• Operating profit grew 16.8% to Rs 5224.4 crore led by operating leverage given the
company saw strong sales growth across segments. High commodity inflation resulted
in gross margin contraction of 56 bps. However, the company was able to save 70 bps
& 27 bps in overhead & employee spending, respectively. Net profit grew 11.8% to Rs
4191 crore.
• The company declared a final dividend of Rs 6.25/share. Along with the interim
dividend of Rs 5.25/share, the total dividend was at Rs 11.5/share, which is a 4.3%
dividend yield.
FINANCIAL SUMMARY:
 ANNEXURE:

• The company is scaling up D2C brands through acquisition of minority stake in new
age brands.
• Key Risk: (i) Commodity inflation to keep FMCG margins under check (ii) Any abrupt
increase in taxes or duties on cigarettes.