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Budget seen adding pressure on tobacco firms

Indian tobacco firms, under pressure because of government anti-smoking measures, are likely to take another hit from higher excise duties in next week's budget, analysts say.

The industry has been lobbying hard to convince Finance Minister Yashwant Sinha that his February 28 budget should not hike taxes on cigarettes and thereby spare farmers in India, the world's second largest tobacco producer.

But analysts say they expect a significant hike in duties to provide revenues to pay for reconstruction after last month's earthquake and help curb a widening budget deficit.

"I'm expecting a big rise in excise duty on cigarettes. They were spared in the last two years because the volumes were going down," said Mayank Khemka, an analyst with C Mackertich, a Calcutta-based brokerage.

"Now for the first time in three years volumes have shown a positive trend which means the consumer can absorb a price hike."

Shares in tobacco companies have been under pressure since the government said on February 6 it planned to ban smoking in public places and tobacco firms' sponsorship of sporting events.

By close of business on Tuesday, shares in India's largest cigarette firm ITC had fallen 11.01 per cent to Rs 781.55, on fears the ban would impact cigarette volume growth.

Industry says tax hike counterproductive

Now the industry is arguing that too large a hike in duties could be counterproductive by reducing sales.

"No increase in duty on cigarettes as a short-term measure will optimise collections better than a moderate increase in duty," a memorandum of the Tobacco Institute of India said.

The Tobacco Institute, which represents the main cigarette companies including ITC and VST Industries, said last year's moderate 5 per cent rise boosted volumes and revenues.

Tobacco accounted for about 12 per cent of total excise duties in the year to end-March 2001.

Duties on cigarettes depends on their length, with the shorter non-filter sticks being taxed the lowest.

On average the tax is about 70 per cent before luxury taxes of 5 to 10 per cent levied by states.

Trade officials said cigarettes attracted the highest tax among tobacco products in India. In previous years they have contributed the bulk of excise revenue, though accounting for less than a quarter of all tobacco consumed in India.

Many Indians chew tobacco products or smoke bidis, which are unfiltered cigarettes filled with finely flaked tobacco bundled in a fuzzy leaf and bound tight with a coloured thread.

Bidis are mostly made by small-scale units, which contribute little to tax revenues. They account for about half the tobacco consumed in India but less than a third of consumer spending on such products.

"Revitalising growth of cigarettes' share of tobacco consumption in line with international trends is critical for expanding the tax base in tobacco and improving revenue collections," the Tobacco Institute of India said.

Cigarettes constituted 98 per cent of tobacco consumption in Italy, 79 per cent in Britain and 58 per cent in neighbouring Pakistan, it said.

Government expected to hold tough line

Research firm Merrill Lynch has already downgraded ITC to neutral from accumulate, citing the proposed ban and fears of a tax increase on cigarettes in the budget.

Merrill said it felt the ban would reduce the conversion rate from bidis to cigarettes as well as deterring consumers from upgrading from non-filters to filters, hitting both volumes and margin expansion.

Nonetheless, analysts say the smoking ban -- though possibly difficult to enforce -- signalled the government's approach to the industry and pointed towards higher taxes in the budget.

"Excise duty could go up by nine to 10 per cent because the government desperately needs ways to increase revenue to rebuild Gujarat after the earthquake," a Bombay-based analyst said.

"It is one of the very few sectors which are politically insensitive to whatever you do," he said.

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