By Shalini Pandey
The shares of I.T.C Limited fell 15% last week, just after the GST Council increased the cess on cigarettes in its first meeting after the rollout of the indirect tax regime on 1st July 2017.
The FMCG major, makers of Gold Flake and Wills brand cigarette, witnessed their biggest fall in 25 years. The stock eventually closed 12.63 per cent down at Rs 284.60.
Why the cess was raised again
The council raised the cess on cigarettes to take away an estimated Rs 5,000 crore annual “windfall” that manufacturers could have reaped from lower GST rates, according to the Indian finance minister Arun Jaitley.
Previously, the council had fixed a peak GST rate of 28 percent on cigarettes. Additionally, a cess was levied to create a corpus for compensating states for any loss of revenue from implementing the GST.
The cess was made up of 5 percent ad valorem rate and a fixed per thousand stick rate based on length of cigarettes.
Ad valorem rate
It is a method for charging a duty, fee, or tax according to the value of goods and services, instead of by a fixed rate, or by weight or quantity.
The increase has been necessitated as the GST rate together with cess was found to be lower than the combined incidence of central excise, state VAT and other levies put together. GST and cess combined on cigarettes was around 6-8 percent lower than the pre-GST regime.
Therefore, the decision was taken that the peak GST rate of 28 percent as also the 5 percent ad valorem cess will continue but the fixed cess is hiked.
The increase in cess ranges from `485 per 1,000 sticks for filter cigarettes of up to 65 mm length to `792 per 1,000 sticks for those of 70-75 mm. In the case of other filter cigarettes, the tariff will rise by 31%.?
Producers impacted
The levy on large cigarettes has been increased to 36 percent with producers being asked to pay an additional a duty of?Rs.?4,170 per thousand sticks, according to a statement from the finance ministry. The previous rate was 31 per cent.?This will put an additional financial burden for the producers.
What does it mean for the consumer?
Consumer prices will not change as the increased tax incidence would only take away the windfall profits the manufacturers were earning, the finance minister said.
But according to brokerage firm Morgan Stanley, ITC, which accounts for three out of four cigarettes sold in the country, will need 12-13 per cent weighted average cigarette price hike with around 20 per cent price increase in the king size segment to offset the tax increase.?Also, severe pressure on the legal cigarette industry will adversely impact the Indian tobacco farmers and revenue collection, because this would lead to increase in smuggling and illicit cigarette trade.
What are the long term effects?
This is seen as negative for ITC as the company drew 62 percent of its gross revenue from cigarettes in 2016-17. The company’s cigarette revenue had seen a 5.1 percent growth last year.
Some brokerages have already downgraded the stock. ITC shares had surged to a record high of Rs 353.20 on July 3 as the overall GST rates were reducing the overall tax incidence on cigarettes. On Monday, the stock fell 3.4 per cent to Rs 325.75 ahead of the announcement of an increase in cess on cigarettes.
The hardships do not end here, with Morgan Stanley predicting a bigger risk in the form of a sharp increase in cigarette tax in the next Budget (likely February 2018).
Seems like ITC?s tobacco business, once seen as the company?s backbone will continue to show tough times in the near future.
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