Cigarette margins hit multi-quarter lows; analysts warn of volume collapse, illicit trade surge, and earnings decline through FY27
ITC reported a quarter that met expectations, but both Centrum and Nirmal Bang are focused on a bigger problem—tax increases starting February 1 that could fundamentally alter the cigarette business generating over 80% of operating profit.
Decent Quarter, Not so Decent Outlook
The company posted Q3FY26 standalone revenue of Rs 180 billion, up 5.7% year-on-year, though this was “2.6% below our estimates,” says Nirmal Bang. Adjusted profit after tax grew 8.3% annually to Rs 52.9 billion.
The cigarette division posted revenue growth of 8% to Rs 87.9 billion, with volumes growing an estimated 7%. But “EBIT Margins for cigarette business were at multi-quarter low at 59.9%, contracting by 163bps YoY,” says Centrum. Nirmal Bang pegged margins at 60.5%, “down by 120bps QoQ.”
The margin squeeze came from “consumption of high cost leaf inventory,” says Centrum, though leaf procurement prices “have seen moderation and the benefit will flow through in subsequent quarters.”
The February Tax Problem
Starting February 1, new excise duties hit the cigarette business. Centrum identified three risks: “(i) cigarette volumes to take a hit, (ii) proliferation of illicit/ counterfeit cigarette and (iii) impact on profitability given KSFT will see steepest price hike.”
“Therefore, we expect business growth to be muted for FY27E and no near to medium term trigger for the cigarette business momentum to pick up,” says Centrum.
“A pressing concern is what happens to cigarette volumes and profitability after the steep excise increases start kicking in from 1-Feb-26. We anticipate a calibrated price increase as the company may want to limit volume impact, which in turn would impact overall earnings,” says Nirmal Bang, noting cigarettes “form over 80% of total EBIT for the company.”
FMCG Can’t Fill the Gap
The FMCG-Others segment grew 11.1% year-on-year, driven by categories that “have seen GST cut like noodles, biscuits as well as categories like staples, dairy and premium personal care,” says Centrum. Margins expanded 163 basis points to 7.5% due to “calibrated pricing action, premiumisation and focused cost management.”
“Premium portfolio and NewGen channels continue to perform strongly, while the digital-first and organic portfolio sustains robust momentum, growing 60% YoY,” says Nirmal Bang.
But at 7.5% EBIT margins versus 60% for cigarettes, this division can’t offset significant weakness in the core business.
Paperboards grew just 2.7%, with “performance impacted by planned shutdown for maintenance of machines,” says Centrum. Agri business grew 6.3%, “led by value added agri products and leaf tobacco.”
Stock Crash and Downgrades
“ITC has corrected by ~21% in the last one month owing to the sharp increase in taxation,” says Centrum, which maintains NEUTRAL with a Rs 355 target. “While valuations look attractive, we are on the fence given no near to medium term trigger for the business momentum to pick up.”
Nirmal Bang downgraded to HOLD with a Rs 325 target: “We had cut our earnings forecasts for the company sharply in our 3QFY26 sector preview that was released earlier this month and had downgraded the stock to HOLD therein.”
“Valuation multiples also likely to come down as a result of cigarette policy uncertainty. We maintain our HOLD rating as we prefer to watch the developments from the sidelines for now,” says Nirmal Bang.
Earnings to Decline Through FY27
Nirmal Bang projects adjusted PAT of Rs 195.3 billion for FY26, down 0.8%, followed by a further 0.4% decline to Rs 194.6 billion in FY27. Growth resumes only in FY28 at 6.9%.
EBITDA margins are forecast to compress from 34.7% in FY25 to 31.1% in FY27. Revenue growth is expected to slow from 6.6% in FY26 to just 3.9% in FY27.
The Impossible Choice
At Rs 319, the stock trades at 20.2 times FY25 earnings—not expensive given projected ROE of 28%. But the upside to targets is minimal: 11% for Centrum, just 2% for Nirmal Bang.
The company faces an impossible choice after February 1: take steep price hikes and lose volumes, or keep prices modest and watch margins collapse. “We expect cigarette volumes and profitability to be under pressure in FY27E,” says Centrum.
Both brokerages are stepping aside despite the 21% correction waiting to see how tax implementation plays out. For a stock where cigarettes generate 80% of profit that caution speaks volumes about the uncertainty ahead.
