Consumer Goods - Not to chew up cigarettes; sector update :Edelweiss PDF link

Fourteen states in India have banned gutkha using regulation that prohibits sale of food products containing tobacco. Key investor concerns on this are:  (1) How effective will be this ban, (2) Can it be extended to cigarettes in the long term and (3) If and by how much cigarettes stand to benefit in the medium term. We feel that the ban is likely to be effective only if implemented nationwide via strict monitoring and punitive actions against offenders. Currently gutkha is being smuggled from neighbouring states to states where the ban is in force or is being sold as separate ingredients (making it legal since it no longer qualifies as food containing tobacco). Yet, the ban is expected to curb tobacco consumption to an extent as it would become less accessible (unavailable publicly; but illegal gutkha is sold at 5-10x the earlier price). We do not expect the ban on gutkha to be extended to cigarettes. We assume this to be mildly positive for cigarette players due to the likely shift of gutkha consumers (addicted to tobacco); at the same time we will watch out for the implementation of plain packaging law on cigarettes (already implemented in Australia).

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Gutkha ban to hurt INR150-200bn industry

Using provisions under the Food Safety and Standards Regulations (2011) that bans food articles containing tobacco, many states like Bihar, Maharashtra, Madhya Pradesh, Punjab, Rajasthan, Chhattisgarh, Delhi, Goa, Gujarat, Haryana, Himachal Pradesh, Jharkhand, Kerala and Mizoram have banned the sale, manufacture and distribution of gutkha (contains ~3095 chemicals including 28 carcinogenic substances).

Cigarettes to be spared from curbs

We do not expect the ban on gutkha to be extended to cigarette as (1) it is not classified as a food item, (2) it is a major source of revenue for the government and (3) it is not banned anywhere in the world. In the past, several measures such as stringent warnings on cigarette packs, ban on cigarette advertising, ban on smoking in public places and higher tax burdens were used to discourage the use of cigarettes. Since the implementation and enforcement of these regulations is slack, cigarette consumption remains intact.

Outlook: Mild positive for cigarette players

Cigarette industry may benefit in a smaller way as some gutkha consumers may switch over to cigarettes as the price differential between illegally available gutkha and lower end cigarettes is very narrow. Players like ITC and VST have recently rolled out low price points in cigarettes (INR2) which may also serve as an entry point for the new customer base. However, we do not expect this shift to be huge as cigarettes are a more visible form of tobacco consumption and there is not much duplication in the consumer base of gutkha and cigarettes.

Consumer Goods - Not to chew up cigarettes; sector update

Regards,