ITC's Largest Shareholder Wants To Dilute Stake To 25%, But Here's Why It Isn't Easy

British American Tobacco Plc., the largest shareholder in ITC Ltd., is considering paring its stake to 25% from 29.2% in a bid to reduce debt, but such a transaction is not easy, according to chief executive Tadeu Marroco.

"We don’t need to have more than 25% shareholding in ITC to have a strategic influence, including veto rights," said Marroco, while addressing analysts during BAT's full-year pre-close trading update on Dec. 6.

"Today, we have more than that. But you cannot underestimate the complexity related to making divestments in ITC," he said.

There are two major pain points, according to Marroco. First, he said, is India's foreign direct investment rules, "specifically which precludes international companies from investing in the Indian tobacco sector". And further, "more importantly", is the central bank's stringent norms.

"There are specific RBI approvals that are required in respect of any action-taking in relation to our stake, and this adds a significant level of additional bureaucracy," said Marroco. "So, I’m not saying we will be sticking to the shares, but what I’m saying is that it’s not as easy and as it could transpire from outside."

In a significant development in the market shift, ITC Ltd. has recently surpassed London-headquartered BAT to emerge as the third most valuable tobacco company globally. This follows a sell-off in BAT shares.

ITC's market capitalisation stands at Rs 5.72 lakh crore as per Friday's closing price.

Shares of ITC have risen 34.6% in the last one year, with investors having not much to complain about at a time when the broader NSE FMCG index has risen just 19%. Going by the outlook of analysts on ITC as well as the FMCG sector, the bull run still has legs.

In fact, the strategies outlined by ITC's management at its recent analysts’ meet point to solid long-term prospects. Helped by stable taxation, there is scope for ITC to further grab volumes from the illicit trade, which still forms about one-third of the industry, according to ITC chairman Sanjiv Puri.

"ITC is a company that continues to perform extremely well," Marroco said, while addressing a query on why it is important for BAT to hang on to their investment in ITC. "It’s accretive for BAT... in terms of performance, it has had a very strong share price performance over the last couple of years... and we see a longer runway for future share price outperformance in value creation in ITC."

Marroco said that the potential spin-off of the hotels business from ITC, that has received the approval of the company's board, will provide greater capital allocation flexibility going forward.

He, however, emphasised that BAT has no intention to be in the hotel business and is keen to dispose non-core assets.

But even that's a challenge, he says.

"But you cannot forget the fact that ITC will hold something like 6% of the share of the hotels, and the problem is not the hotels, it’s the tobacco that has the FDI, so there is FDI involved in the hotels, let’s put it that way."

ITC’s fast-moving consumer goods business appears to be facing growth pangs amid prolonged slowdown in rural markets in an inflationary setting. Sure, there are green shoots, but when will it recover materially to an extent that aids topline growth is a moot question. Marocco also pointed out that ITC share price is still undervalued compared with its FMCG peers.