ITC Ltd's second-quarter fiscal 2016 sales were down 1% year over year, and earnings were flat.
While the second half of the year tends to be modestly stronger in sales growth, we are cutting back our revenue growth to 6% and earnings growth estimate to 5% for 2016, from 13% and 12%, respectively. Our adjusted earnings per share estimate for 2016 now stands at Rs 12 per share versus Rs 13, previously. This also results in a modest 1% decline in our five-year growth estimates on revenue to 12%, and 2% drop in net income growth to 12%.
However, our fair value estimate of Rs 406 per share for the stock remains unchanged, as this gets offset against time-value-of-money accrued since our last fair value update in January. We remain hopeful that once the regulatory overhang of rising excise duties abates, the company should be able to revive cigarette volume growth, a key trigger for the stock price to meet our fair value estimate.
Given the intangible assets of strong brands and habit-forming characteristics of its primary cigarette segment (56% of 2015 sales), we continue to hold our narrow economic moat rating on the company.
During the quarter, all major segments performed below our expectations--cigarettes revenue was up a modest 2%, consumer business up 7%, agriculture declined 10%, and paper-based products were down 2%. However, the segment with the lowest profitability in terms of return on capital employed grew by a strong 11%. From a profitability standpoint, ITC Ltd's EBIT margins were stronger at 37% than our estimate of 34% for the year, as the company continues to improve cigarette margins.
This further validates our long held hypothesis that the cigarette business will help ITC Ltd make up in margins what it loses in volumes--a trend we have seen in global tobacco companies which continually earned higher margins on smaller quantities sold, thereby creating significant value for shareholders in the long run. Our outlook on ITC Ltd remains positive.
