Introduction

The video introduces ITC, a company that has been reduced to a meme stock despite being a giant in many industries. The speaker explains what ITC does and why it became a meme stock.

ITC's History

• In 1910, the Imperial Tobacco Company set up shop in India and sold cigarettes for the first time.

• Over the years, they changed their name to just ITC and expanded into other industries such as agribusiness and hotels.

• Despite this expansion, at its core, ITC is still a cigarette manufacturer.

Cigarette Business

• ITC has a virtual monopoly in the legal cigarette industry due to government regulations on advertising and licensing.

• During FY22, 75% of ITC's operating profits came from cigarettes alone.

• However, revenues from the cigarette division have been falling due to people smoking fewer legal cigarettes.

Taxation Structure

This section discusses how the government's taxation structure affects the legal cigarette industry.

Taxation on Legal Cigarettes

• The government's taxation structure on legal cigarettes is very prohibitive with 28% GST and additional compensation cess added on top.

• This makes it difficult for legal cigarette manufacturers like ITC to compete with illegal ones that are not taxed as heavily.

Diversification Efforts

This section discusses how ITC is diversifying its business beyond cigarettes.

Diversification into FMCG

• In recent years, ITC has been focusing on diversifying into fast-moving consumer goods (FMCG) such as packaged foods and personal care products.

• This has been a successful strategy, with the FMCG segment generating revenues of over 14,000 crores during FY22.

Diversification into Agribusiness

• ITC has also been investing in agribusiness, particularly in the area of e-choupals which are digital platforms that connect farmers with markets.

• This has helped ITC create a sustainable supply chain for its FMCG business while also benefiting farmers.

Future Outlook

This section discusses the future outlook for ITC.

Focus on Non-Cigarette Businesses

• ITC's management has stated that they plan to focus more on their non-cigarette businesses going forward.

• They aim to achieve a revenue mix of 50:50 between cigarettes and non-cigarettes in the next few years.

Potential Risks

• However, there are potential risks associated with this strategy such as increased competition in the FMCG industry and regulatory challenges in agribusiness.

• Additionally, there is uncertainty around how quickly people will shift away from smoking cigarettes towards alternative products like e-cigarettes.

ITC's Cigarette Business

This section discusses the decline in cigarette sales in India and how ITC's profit margins on cigarettes have increased despite this decline.

Decline in Cigarette Sales

• Only one out of ten cigarettes sold in India is legal.

• As a result, cigarette volumes have been declining for ITC.

• Revenues are also decreasing.

Increased Profit Margins

• Despite the decline in revenues, ITC's profit margins on cigarettes are increasing.

• This is because they keep bumping up prices even though they cut the length of some cigarettes.

• Between FY 2017 and FY22, profits increased from nearly 12,000 crores to 14,800 crores.

ITC's FMCG Segment

This section discusses how ITC entered the FMCG segment and its growth within this sector.

Entry into FMCG Segment

• In 2001, ITC entered the FMCG segment with a bold promise to become the biggest player by 2030.

• Their first product line was ready-to-eat gourmet foods like Mughlai Paneer but it didn't take off due to lack of familiarity among Indians.

Growth within FMCG Segment

• In 2002, they launched Sunfeast biscuits which became an iconic brand along with Classmate notebooks and Savlon antiseptic liquid.

• By FY22, their FMCG segmental revenues topped at INR 16,000 crores making them the second biggest procurer of wheat after Food Corporation of India.

• However, investors are not happy as it takes a long time for potential to turn into reality in the FMCG business.

• Additionally, ITC's margins are lower than traditional players like HUL and Nestle who have been entrenched in the space for a while.

Challenges Faced by ITC

This section discusses the challenges faced by ITC in its FMCG segment.

Time Investment

• It takes a lot of time and money to make sure that consumers remember brands and that quality is just right.

• ITC has to invest loads of money and time just making sure that they have the supply chain in place to meet demand.

• Investors don't always have the patience to wait for this potential to turn into reality.

Margins

• In FY22, ITC posted EBITDA margins of 9% for their FMCG business whereas HUL had EBITDA margins of close to 22-23%.

• To get there, ITC will also have to invest time and educate consumers which means advertising more than traditional players like HUL or Nestle.

ITC's FMCG Business

This section discusses ITC's fast-moving consumer goods (FMCG) business, which includes products such as packaged foods, personal care items, and stationary.

Potential for Growth

• ITC has a lot of room to turn a profit in its FMCG business.

• They want to build their own manufacturing facilities to ensure quality control.

• Margins have been increasing, with EBITDA margins at 9% compared to previous years where they weren't turning a profitable margin.

• However, there is concern about whether they can achieve their goal of becoming a one lakh brand by 2030.

Paper Board and Packaging Division

This section discusses ITC's paper board and packaging division.

Recent Performance

• Revenues increased from 5300 crores to 7600 crores due to increased demand during the pandemic.

• Profits also increased from 910 crores to 2700 crores.

• The paper board and packaging division was the second-highest profit-generating division in the company.

Concerns

• If inflation wears its ugly head and there isn't as much demand for e-commerce goods and packaged food, margins may suffer.

Agri-Business Segment

This section discusses ITC's agri-business segment.

Scale of Operations

• ITC sources close to 4 million tons of produce every year from across 22 states.

• It is one of the biggest sources of agricultural produce in India.

Financial Performance

• The agribusiness division generated revenues of close to 16,100 crores, contributing about 26% of the total revenue.

• However, earnings before interest and taxes only add up to around 1000 crores when compared to other divisions in the company.

Challenges

• Crop quality affects input costs and margins, which can disappear overnight.

• Demand for leaf tobacco isn't as robust as it used to be, which could put the entire segment in jeopardy.

ITC's Business Overview

This section provides an overview of ITC's various businesses and their financial performance.

Hotels Business

• The hotels business is capital-intensive and highly seasonal.

• It has persistently been a drag on ITC's bottom line, with barely 2% contribution to the company's total top line.

• The return on capital employed for the hotels business in the past few years averages around 2%.

Infotech Business

• In FY22, the segment reported revenues of about 10,200 crores and profits of about 510 crores.

• It isn't a capital guzzler like the hotels business, so investors don't mind it.

• ITC has been talking about hiving off the infotech business and probably listing it as a separate entity.

Overall Financial Performance

• If you put all of these businesses together, you'll see that ITC as a company has posted revenues of close to 60,000 crores and profits of nearly 15,000 crores for FY22.

Why is ITC Considered a Meme Stock?

This section explains why ITC is considered a meme stock despite its strong financial performance.

Cigarette Business

• Predominantly a cigarette company in a world that just doesn't want to do anything with cigarettes.

• ITC is a sin stock, a product that regulators want to clamp down on.

• ESG funds use environmental, social, and governance criteria to decide where to park their money, and if there's one stock they're all staying away from, it's ITC.

Other Factors

• Ecological impacts of tobacco plantations may have caused global deforestation of up to 2-4%.

• ITC isn't some upstart with backs of potential; instead, it's a mishmash of businesses with its benefits but also some very major complications.

Conclusion

ITC has strong financial performance across its various businesses. However, the cigarette business's sin product label attached to it makes foreign shareholders conscious about investing in the company. The hotels business is capital-intensive and highly seasonal, making it a drag on ITC's bottom line. On the other hand, the infotech business isn't a capital guzzler like the hotels business and has been talked about hiving off as a separate entity by ITC.

ITC's Demerger and Listing of Independent Entities

The management team at ITC has been requested to demerge the businesses, separate them, and list them as independent entities. This would allow investors to know what each business is worth without any confusion. However, the demerger hasn't happened despite being talked about for over 10 years.

Incentives for Management Team

• ITC is run by a professional management team without active promoter intervention.

• About 30% of the company belongs to British American Tobacco, a similar stake is held by the government of India through SUTI and other life insurance companies, and retail investors hold about 10% of the company.

• There's no one entity driving the company's vision, so everything is dependent on the management.

• The reason why management hasn't committed to a demerger despite talking about it for over 10 years is likely because they have nothing to gain from it.

Cross Subsidization

• If other businesses like FMCG and hotels were demerged from cigarettes business, then they lose access to the cash cow.

• It will be extremely hard to run these businesses consistently generating profits and revenues same way investors expect it to without depending on cigarette business.

• Right now, it's very easy to simply cross-subsidize everything if something doesn't work in one business.

Massive Dividends: A Confession of Sorts

Between 2003 and 2009, ITC gave back close to 30% -40% of their profits back to investors by way of dividends. However, in financial year 2022 they gave back nearly 93% of their profits back to investors by way of dividends, almost the entirety of their profit pool. This is a confession that they don't know what to do with the money.

Return on Capital

• Giving back money to investors is not what investors want to hear.

• Investors want to hear things about growth and better return on capital.

• Despite all the promises that ITC held, despite the potential from FMCG business and the cash cow that is cigarette business, the stock wasn't going anywhere.

• Between 2017 and early 2022, the stock price dipped in value.

Understanding ITC's Recent Success

In this section, the speaker explains how ITC's stock has gained value and become a defensive stock in recent years due to changes in market perception and taxation structure.

Reasons for ITC's Success

• There has been a change in market perception about stocks and the economy, with investors seeking recession-proof stocks.

• ITC is considered a defensive stock due to its largely inelastic demand for cigarettes and FMCG products.

• ITC returns a large chunk of profits back to investors by way of dividends, making it an attractive investment option.

• The taxation regime for cigarettes has remained stable since 2022, leading to increased volumes for ITC.

• The hotels business is also turning profitable for ITC due to renewed demand from people tired of staying at home during the pandemic.

Future Outlook

• It is unclear where ITC is headed in the future, but the speaker hopes to provide viewers with a sense of what ITC is as a business so they can make their own decisions about investing.

• Viewers are encouraged to comment on other stocks or industries they would like the speaker to cover in future videos.