The cigarette industry in India is highly regulated with manufacturing permitted for those with a government license. In an organised space, ITC Limited, Godfrey Phillips, VST Industries and Golden Tobacco are the main players. There are about 15 other players licensed to manufacture cigarettes, but have a miniscule presence.

Exhibit 1: Indian cigarettes: Market share insight

In value

FY05

FY06

FY07

FY08

FY09

FY010

FY011

FY012

FY013

FY014

FY015

ITC

82.3%

83.0%

83.9%

83.9%

83.6%

84.0%

83.0%

85.5%

85.1%

85.7%

85.7%

Godfrey Philip

9.8%

9.8%

9.6%

10.1%

10.9%

10.9%

11.5%

10.8%

9.9%

10.0%

10.1%

VST

5.3%

4.9%

4.4%

4.3%

4.9%

4.7%

5.1%

5.4%

4.7%

4.1%

4.1%

Golden Tobacco

2.6%

    2.3%

2.1%

1.7%

0.6%

0.4%

0.3%

0.3%

0.3%

0.2%

0.2%

In volume

 

 

 

 

 

 

 

 

 

 

ITC

71.2%

72.4%

73.6%

73.5%

78.1%

77.8%

75.6%

76.3%

78.6%

78.1%

78.2%

Godfrey Philip

12.4%

12.3%

12.2%

13.1%

13.8%

14.6%

16.3%

15.0%

13.5%

14.0%

13.8%

VST

9.3%

8.4%

7.9%

8.1%

7.2%

7.0%

7.5%

8.0%

7.2%

7.4%

7.5%

Golden Tobacco

7.2%

    6.9%

6.3%

5.3%

1.0%

0.6%

0.6%

0.6%

0.7%

0.5%

0.4%

Source: Company, Union Budget; IL&FS Institutional Equities

Source: Company, IL&FS Institutional Equities

Regulatory pressure mounting on cigarette consumption: Taking a cue from peer countries and increased pressure from the WHO, the Indian Health Ministry has been implementing a series of steps in the past couple of years to curb smoking. Over the years, regulatory authorities focused on controlling consumption through excise duty/VAT hikes. With the shift in stance from controlling to curbing cigarette consumption, increased activity can be seen with other forms of tobacco. The Union Ministry of Health and Family Welfare, on 13 January 2015, proposed the amendment of the Cigarettes and Other Tobacco Products (prohibition of advertisement and regulation of trade and commerce, production, supply and distribution) Act (amendment) Bill 2015, i.e., COTPA (amended). As part of pre-legislative consultations, the Ministry of Health and Family Welfare has put the new bill for public consultation. Here are some of the key provisions incorporated in the proposed COTPA (amended) Bill 2015.

  • Ban on-site advertising: Implementation would not impact the existing consumer base as consumer loyalty towards brands is very strong. However, in case of a new consumer, it will surely have an impact

  • Ban on sale of loose cigarettes: About 70%–75% of cigarette sales are in the loose format. In our view, it would be very difficult to implement the proposal. There could be three scenarios in the implementation of this rule: a) drop in cigarette consumption; b) on the contrary, increased consumption, as consumers begin buying a pack of 20/10 sticks compared to stick-wise purchases; c) tobacco users could be pushed towards chewable tobacco and beedi, which are more harmful. Internationally, after ban implementation in Finland, the law proved successful; it was observed that the pre-ban consumption of 18mn sticks in 2008 fell to 16mn sticks in 2009 and 10mn sticks in 2010. So far, Chandigarh has implemented the ban on the sale of loose cigarettes in January 2015, followed by state of Maharashtra in June 2015.

  • Scrapping of elected smoking areas: It will have minor impact, as most consumption occurs outside these designated areas.

  • Higher penalty for smoking in restricted areas (to be raised from INR200 to INR1,000) and for selling products without warning: Better surveillance would be required. This move will help the legal industry and a curb on overall consumption is possible.

  • Age limit bar: Better surveillance would be required.

  • Larger pictorial warning requirement: As c70%–75% of the total volumes is sold in loose format, we do not believe that implementation of a larger pictorial warning would have a large impact. It is interesting to note that the plain packaging in Australia has not led to a significant volume decline in cigarette sales.

World Bank calls for higher taxation on tobacco products

The present taxes on tobacco products in India are well below the rate that has been recommended by the World Bank (from 65% to 80% of retail price). Taxes on beedis, on an average, are only 9% of the retail price, while cigarette taxes account for approximately c60% of the retail price (c26% average VAT rate on MRP and c33% excise on ex-factory price). At a possible CAGR of 15% in excise (assuming no margin expansion), the World Bank target would be achieved in 3–4 years’ time. However, tobacco taxes in India are not regularly adjusted for purchasing power/inflation and hence tobacco products, over time, became increasingly affordable, despite the occasional sharp increase in taxes over the past few years.

Illegal supply surged due to sustained curbs on consumption through excise, VAT rate hikes

While tax hikes hurt the legal sale of cigarettes, the illegal trade (comprising smuggled foreign and domestically manufactured tax-evaded cigarettes) is estimated to constitute one-fifth of the overall cigarette industry in India. This results in a huge revenue loss of over INR70bn annually to the national exchequer, according to ITC. This loss is similar to that the country suffers from gold smuggling, as per the Tobacco Institute of India. The share of legal cigarettes in the overall tobacco consumption has progressively declined from 21% in 1981–1982 to below 12% in 2013–2014, even as the total tobacco consumption has increased in India, in ITC’s view. It is interesting to note that excise duty collection from the legal industry went up only c1.3% in FY15, while overall central excise collection rose c24%. Also, the contribution of cigarette excise in the central excise collection contracted from c9.5% in FY13 to c7.7% in FY15.

Exhibit 3: Excise duty levies on cigarettes (INR/1,000 sticks)

Category

FY05

FY06

FY07

FY08

FY09

FY010

FY011

FY012

FY013

FY014

FY015

King-size

1,479

1,595

1,675

1,759

1,759

1,759

1,959

1,959

2,309

3,290

3,790

Longs

1,112

1,200

1,260

1,323

1,323

1,323

1,473

1,473

1,718

2,250

2,590

RSFT

683

740

780

819

819

819

969

969

NA

NA

NA

Plains

459

    495

520

546

1,323

1,323

1,473

1,473

1,194

1,650

1,900

Micro

138

150

160

168

819

819

669

669

669

1,150

1,400

Weighted average

916

989

1,040

1,092

1,215

1,215

1,355

1,355

1,594

2,159

2,503

Source: Union Budget; IL&FS Institutional Equities

Exhibit 4: Key state VAT rates for cigarettes

<

In value

Cigarette sale share

FY10

FY11

FY12

FY13

FY14

FY15

FY16

Andhra Pradesh

13

12.5

20.0

20.0

20.0

20.0

20.0

20.0

Kerala

10.5

12.5

12.5

20.5

20.5

15.4

12.5

20.5

Tamil Nadu

9

12.5

20.5

20.5

15.4

12.5

20.5

12.5

Karnataka

9

    20.0

20.5

15.4

12.5

20.5

12.5

20.5

Maharashtra

8

13.5

20.5

15.4

12.5

20.5

12.5

20.5

West Bengal

4

20.0

20.5

15.4

12.5

20.5

12.5

20.5

Haryana

4

12.5

20.5

15.4

12.5

20.5

12.5

20.5

Uttar Pradesh

4

20.5

20.5

15.4

12.5

20.5

12.5

20.5

Delhi

3

12.5

20.5

15.4

12.5

20.5

12.5

20.5

Bihar

3

    12.5

20.0

20.5

15.4

12.5

20.5

12.5

Chhattisgarh

3

    15.0

12.5

20.5

15.4

12.5

20.5

12.5

Gujarat

3

    12.5

12.5

20.5

15.4

12.5

20.5

20.5

Madhya Pradesh

3

    20.0

12.5

20.5

15.4

12.5

20.5

20.5

Rajasthan

3

    20.0

20.5

20.5

15.4

12.5

20.5

12.5

Source: State Budget, IL&FS Institutional Equities

Improved surveillance: The need of the hour
For the legal cigarette industry, while stricter regulation has tightened at one hand, its surveillance remains sub par at the other. Taking advantage of the lacuna, the illegal industry is flourishing in the country. There is a need to have a balance on imposition and surveillance for the legal cigarette industry. To adhere to the WHO guidelines of curbing the overall tobacco consumption, regulatory action needs to be equally adopted across different forms of tobacco. Exhibit 2 above highlights a sharp volume decline for the legal cigarette Industry. However, at the same time, there is a surge in illegal supplies.

Further regulatory action would result in consumption down trade to risky beedi consumption and a surge in illegal supplies. It would also have an impact on the livelihood of the population that depends on the industry. As per ITC’s study, the tobacco industry in India supports the livelihoods of over 41mn people, including vulnerable sections of the society such as farmers, farm labourers, those living below the poverty line in rural areas, tribal people and more.

Overall, it is about time for the regulatory authorities to improve the surveillance levels to meet the purpose of: a) curbing cigarette consumption; b) protecting exchequers revenue (affected from illegal supplies); and c) protecting the livelihood of the population that depends on the industry.

Clearly, after a decade of efforts taken by the Government, Indian corporate bond markets are at an inflexion point andpoised to realise their Dreams

 

Nitin Gupta

Nitin Gupta is a Research Analyst with IL&FS Broking Services Pvt. Ltd ( IBSPL ) team,
IL&FS Financial Services ( IFIN ), based at Mumbai
IBSPL is a subsidiary of IL&FS Financial Services ( IFIN ), India

 

 


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