Cigarette Industry

ANALYSIS OF CIGARETTE INDUSTRY IN INDIA

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CIGARETTE INDUSTRY

Historical Overview of Tobacco in India The history of global tobacco trade is integrally linked with the history of India. It was to discover a sea route to this fabled land, reputed for its spices, silk and gems, that Christopher Columbus set sail in 1492. His wayward journey took him instead to America. This discovery of the New World was accompanied by the discovery of tobacco by Portuguese sailors. This plant, treasured by the American ‘Indians’ for its presumed medicinal and obvious stimulant properties, was eagerly embraced by the Portuguese who then moved it to the Old World of Europe. Even though their quest for easy access to Indian spices was delayed by some years, the Europeans did not fail to recognize the commercial value of this new botanical acquisition. When the Portuguese eventually did land on Indian shores, they brought in tobacco. They introduced it initially in the royal courts where it soon found favors. It became a valuable commodity of barter trade, being used by the Portuguese for purchasing Indian textiles. The taste for tobacco, first acquired by the Indian royals, soon spread to the commoners and, in the seventeenth century, tobacco began to take firm roots in India. Thus, tobacco travelled to the real Indians from their curiously named American cousins, through the medium of European mariners and merchants who sailed the seas and spanned the continents in search of new markets and colonies. It was with the establishment of British colonial rule, however, that the commercial dimensions of India’s tobacco production and consumption grew to be greatly magnified. Initially, the British traders imported American tobacco into India to finance the purchase of Indian commodities. When the American colonies declared independence in 1776, the British East India Company began growing tobacco in India as a cash crop. Attempts were made, under the colonial rule, both to increase the land under tobacco cultivation and to enhance the quality of the leaves produced. The British East India Company and its successor, the British Raj, used tobacco as an important cash crop, both for domestic consumption and foreign trade. The manufacturing industry was, however, not established till much later, as the British believed in exporting the leaf to Britain and re-importing cigarettes to India, with

considerable value addition in the process. As domestic consumption of cigarettes rose, the Imperial Tobacco Company commenced production within India, retaining control and repatriating the profits. In the late nineteenth century, the beedi industry began to grow in India. The oldest beedi manufacturing firm was established around 1887 and by 1930 the beedi industry had spread across the country. The price differential from cigarettes favored the use of beedis by the working classes and this domestic product soon supplanted cigarettes as the major form of tobacco consumption. The tax policies adopted by the Indian Government after Independence also favored the beedi in comparison to cigarettes. This further fostered a growth in beedi consumption. While tobacco chewing was practised for many centuries, commercial production and marketing have been markedly upscaled recently, with the introduction of the gutka. The rate of growth of consumption of gutka has overtaken that of smoking forms of tobacco. As a result, oral tobacco consumption has opened a new and broader front in the battle between commercial tobacco and public health in India. The economics of tobacco, which introduced it into India and entrenched it during the colonial rule, also provided a compelling reason for continued state patronage to the tobacco trade, even in free India. The ready revenues that bolster the annual budgets, the ability to export to a tobacco-hungry world market and the employment opportunities offered to millions provided the rationale for encouraging tobacco, both as a crop and as an industry. While economics may have been the principal force propelling the seemingly inexorable advance of tobacco in India, there are also a multitude of social and cultural factors which need to be recognized, so that the variations in its use across social, religious and ethnic subgroups can be comprehended. Such factors have operated since the time tobacco entered India, though the nature of the socio-cultural determinants that influence individual and community responses to tobacco may have varied over time, region, religious denomination and social class. It is this tapestry of international linkages, powerful economic factors and distinctive cultural influences which make the history of tobacco in India a fascinating study.

Tobacco Industry Today Tobacco occupies a prime place in the Indian economy on account of its considerable contribution to the agricultural, industrial and export sectors. India is the second largest producer of tobacco in the world. China and the USA rank first and third, respectively, in terms of tobacco cultivation. Brazil, Turkey, Zimbabwe, Malawi, Italy and Greece are the other major tobacco producing countries. Tobacco contributes substantially to the economies of these countries. In 2000–2001, the contribution of tobacco to the Indian economy was to the extent of Rs 81,820 million, which accounted for about 12% of the total excise collections. Foreign exchange earnings during the same period were Rs 9030 million, accounting for 4% of India’s total agricultural exports. Endowed with favorable agro-climatic attributes such as fertile soil, rainfall and ample sunshine, India has the potential of producing different varieties of tobacco with varied flavors.

Recent Trends in Indian Tobacco Market Continuing with a policy to control smoking, the tax measures became harsher in 2007, with an increase of 6% in excise and an additional 12.5% in VAT, bringing the total effective tax to about 20% (although the most populous state, Uttar Pradesh, imposed 32.5% VAT). As expected, volume sales declined due to the subsequent price rises. ITC Group, the leading company, is estimated to have taken price hikes as high as 20% on some brands. The industry expected a volume decline of 5%-10%, but the overall industry declines have been lower than expected, reflecting consumer resilience to price rises. Cigarettes – so many challenges The government has put severe regulatory restrictions of all types on cigarettes to restrict sales and reduce smoking prevalence. Apart from consistent rises in taxes each year on cigarettes, there is also a total ban on advertising and promotion, a ban on smoking in public, and also in films, a ban on sale to minors, and there are impending graphic health warnings on packs in 2008. Moreover, the domestic industry also faces threats from imports and smuggled cigarettes. Although imports constitute only a negligible proportion of the domestic pie, their rising share poses a threat to players. Graphic pack warnings – finally implemented by mid 2008 Under the provisions of the Cigarettes and Other Tobacco Products (Prohibition of Advertisement and Regulation of Trade and Commerce, Production, Supply and Distribution) Act, 2003, (COTPA) and rules 2006, companies will have to display pictures of the potential health dangers of smoking cigarettes, such as oral cancer and lung cancer. This is a powerful measure which will have a strong downward effect on volume sales. The rule was proposed in 2006, but was strongly resisted by the cigarette lobby, and is currently being reviewed by the government once again. Preliminary decisions to implement the pack warnings were finalised in February 2008, and only the final details on the pictures to be used are being discussed; final rules are expected to be announced soon. The industry is fearful that this may have a negative impact on volume sales. Despite regulatory controls, underlying factors for cigarette growth are strong Despite all the regulations, cigarettes in India continued to see small growth in the past five years (except in 2007 when it declined). While FY08 is expected to see declines due to the unusually high taxes in 2007, it is expected to rebound in FY09 due to strong long term core factors. India is demographically very attractive. 65% of the population is below the age of 35; potentially this is a big segment of younger consumers with rising disposable incomes and a lower aversion to smoking. Moreover, India has a low per capita cigarette consumption (141 sticks) compared with the global average. Players are optimistic about these favorable demographics and growing income trend. Cigar culture grows Cigars are still a nascent category in India, but rapidly growing. Cuban cigars have become the trendiest prop for politicians, businessmen and even young society men

and women as the hottest object to flaunt. Within the premium segment Cohiba and Partagás dominate, while Phillies is the most popular mid-priced brand. Cigar lounges have spread rapidly in all leading cities in five star hotels and up-market bars and pubs, and these offer select membership and provide elite personalised services to their members. Key names include Le Royal Meridien in Mumbai (‘Cigar Divan’), Leela Hotel in Bangalore (‘Cigar Room’) Taj Residency’s Café Mosaic and Cohiba Club. The signature store chain for Cuban cigars, ‘Casa del Habanos’ is to be launched in 2008.

Introduction A cigarette is a product consumed through smoking and manufactured out of cured and finely cut tobacco leaves and reconstituted tobacco, often combined with other additives, then rolled or stuffed into a paper-wrapped cylinder (generally less than 120 mm in length and 10 mm in diameter). The cigarette is ignited at one end and allowed to smoulder for the purpose of inhalation of its smoke from the other (usually filtered) end, which is inserted in the mouth. They are sometimes smoked with a cigarette holder. The term cigarette, as commonly used, refers to a tobacco cigarette but can apply to similar devices containing other herbs, such as cannabis. Rates of cigarette smoking vary widely. While rates of smoking have leveled off or declined in the developed world, they continue to rise in the undeveloped world. A cigarette is distinguished from a cigar by its smaller size, use of processed leaf, and paper wrapping, which is usually white, though other colors are available. Cigars are typically composed entirely of whole-leaf tobacco.

S.W.O.T Analysis of Tobacco and Cigarette Industry Strength India is one the largest manufacturers of tobacco in terms of production.Tobacco are traditional item of India's foreign trade. India is one of the leading Tobacco exporting countries in the world. India amounts for 5.8% of the international trade and ranks 5th after Brazil, U.S.A. Turkey and Zimbabwe. Weakness The growth of various varieties of Tobacco is at the mercy of unscrupulous traders and middlemen. The burden of Tobacco tax has increasingly shifted to cigarette with the removal of duty on raw Tobacco since 1979, resulting in discriminatory rates of duty compared to other Tobacco products.

Prohibition of Direct advertising. Opportunities Central Tobacco Research Institute at Rajamundry has been entrusted with the research for development of alternative uses of Tobacco in view of anti-smoking campaign. India's share in world cigarette production has remained at around 1.7% whereas India's exports of around 2.8 billion sticks of cigarette per year amounts for less than 1% of the world export of cigarette. There is significant opportunity for cigarette industry to extent and consolidate its position in intentional market due to some recent trend like withdrawal/reduction of agricultural subsidy and escalating cost in the traditional cigarette exporting countries. Threats Various N.G.O’s and Forums against the use and consumption of tobacco. The passing of various bans on smoking.

Conclusion With an increase in the world import requirements translating in to a rise in export potential, Indian Tobacco industry is presented with significant opportunities to consolidate and extent its position in the global market.

Market Size and Forecast The exports of Indian tobacco and tobacco products continued to grow for the sixth consecutive year and registered a record performance during the fiscal 2007-08 surpassing all the previous records on three counts–the exports have surpassed- 200 million kgs mark in quantity terms and Rs.2000 crores mark and US$500 million mark in value terms. Exports of tobacco and tobacco products increased by about 13% in quantity terms and 17 % in rupee terms on y-o-y basis. In dollar terms the increase is about 32%. This is a record performance.

Segmented Market Share India is the one of the largest producers of tobacco in the world. It produced 572 m kgs of tobacco in FY03. However, India holds a meager 0.7% share of the US$ 30 bn global trade in tobacco, with cigarettes accounting for 85% of the country's total tobacco exports. Despite being the second largest producer, India is only the ninth largest exporter of tobacco and tobacco products in the world. Out of the total tobacco produced in India,

only one-third is flue-cured tobacco suitable for cigarette manufacturing. Most of the tobacco produce is suitable for the manufacture of chewing tobacco, bidis and other cheap tobacco products, which have no demand outside the country. In India, three major cigarette players dominate the market, primarily ITC with 72% market share, Godfrey Phillips with 12% and VST with 8% share of the market.

Production, exports and imports of cigarettes in India Production million pieces 1950/51

20 700

1960/61

35 000

1970/71

63 100

1980/81

78 600

1981/82

90 600

Imports

Exports

1982/83

89 100

1983/84

87 300

1984/85

96 100

1985/86

82 400

1986/87

81 100

1987/88

77 800

1988/89

80 300

1989/90

83 500

1990/91

86 100

800

1991/92

85 700

6 428

1992/93

80 800

51

2 410

1993/94

78 800

25

3 456

1994/95

84 000

86

3 463

1995/96

95 600

134

1 461

1996/97

102 300

157

1 206

1997/98

104 600

252

1 446

1998/99

101 000

35

2 543

Source: Union Budget, and foreign trade data from Directorate General of Commercial Intelligence

Currently, there four major cigarette manufacturers in India: ITC Limited (formerly Imperial Tobacco Co.); VST Industries Limited (formerly Vazir Sultan Tobacco Co.); Godfrey Philips India Ltd; and GTC Industries Limited (formerly Golden Tobacco Co., Ltd.). There are a couple of smaller-sized cigarette companies with manufacturing facilities. As they lack the necessary marketing infrastructure, they produce cigarettes for the large cigarette companies on a sub-contractual basis. Production of cigarettes reached a peak of 96.1 billion pieces in 1984/85 and then declined. It recovered again in the 1990s (Table 4.8). The Indian cigarette market was reportedly worth Rs 66 billion in 1997 (ERC Statistics International, 1998).The average price for a pack of ten cigarettes increased from Rs 4 in 1990/91 to Rs 6 in 1998/99. Currently, the retail price of a pack of 10 cheap cigarettes is Rs 6, against Rs 3 for a bundle of 25 bidis. Bidis largely escape tax as most are produced in cottage industries across the country. Attempts to raise the taxes on bidis are often interpreted as an attack on the poor, and therefore regarded as politically inexpedient.

ITC Limited

Company Profile Formerly Imperial Tobacco Company of India Limited (ITC). ITC is one of India's biggest and best-known private sector companies. In fact it is one of the World's most high profile consumer operations. Its businesses and brands are focused almost entirely on the Indian markets, and despite being most well-known for its tobacco brands such as Gold Flake, the business is now diversifying into new FMCG (Fast Moving Consumer Goods) brands in a number of market sectors - including cigarettes, hotels, paper, agriculture, packaged foods and confectionary, branded apparel, personal care, greetings cards, Information Technology, safety matches, incense sticks and stationery. The company's original business was traded in tobacco. ITC stands for Imperial Tobacco Company of India Limited. It is interesting that a business that is now so involved in branding continues to use its original name, despite the negative connection of tobacco with poor health and premature death. To fund its cash guzzling FMCG start-up, the company is still dependent upon its tobacco revenues. Cigarettes account for 47 per cent of the company's turnover, and that in itself is responsible for 80% of its profits. So there is an argument that ITC's move into FMCG (Fast Moving Consumer Goods) is being subsidized by its tobacco operations. Its Gold Flake tobacco brand is the largest FMCG brand in India - and this single brand alone holds 70% of the tobacco market.

Abstract ITC was incorporated on August 24, 1910 under the name of 'Imperial Tobacco Company of India Limited'. Its beginnings were humble. A leased office on Radha Bazar

Lane, Kolkata, was the centre of the Company's existence. The Company celebrated its 16th birthday on August 24, 1926, by purchasing the plot of land situated at 37, Chowringhee, (now renamed J.L. Nehru Road) Kolkata, for the sum of Rs 310,000. This decision of the Company was historic in more ways than one. It was to mark the beginning of a long and eventful journey into India's future. The Company's headquarter building, 'Virginia House', which came up on that plot of land two years later, would go on to become one of Kolkata's most venerated landmarks. The Company's ownership progressively Indianised, and the name of the Company was changed to I.T.C. Limited in 1974. In recognition of the Company's multi-business portfolio encompassing a wide range of businesses - Cigarettes & Tobacco, Hotels, Information Technology, Packaging, Paperboards & Specialty Papers, Agri-Exports, Foods, Lifestyle Retailing and Greeting Gifting & Stationery - the full stops in the Company's name were removed effective September 18, 2001. The Company now stands rechristened 'ITC Limited’.

Vision Sustain ITC's position as one of India's most valuable corporations through world class performance, creating growing value for the Indian economy and the Company’s stakeholders.

Mission To enhance the wealth generating capability of the enterprise in a globalizing environment, delivering superior and sustainable stakeholder value.

ITC products ITC has a diversified presence in Cigarettes, Hotels, Paperboards & Specialty Papers, Packaging, Agri-Business, Packaged Foods & Confectionery, Information Technology, Branded Apparel, Personal Care, Stationery, Safety Matches and other FMCG products. While ITC is an outstanding market leader in its traditional businesses of Cigarettes, Hotels, Paperboards, Packaging and Agri-Exports, it is rapidly gaining market share even in its nascent businesses of Packaged Foods & Confectionery, Branded Apparel, Personal Care and Stationery. As one of India's most valuable and respected corporations, ITC is widely perceived to be dedicatedly nation-oriented. Chairman Y C Deveshwar calls this source of inspiration "a commitment beyond the market". In his own words: "ITC believes that its aspiration to create enduring value for the nation provides the motive force to sustain growing shareholder value. ITC practices this philosophy by not only driving each of its businesses towards international competitiveness but by also consciously contributing to enhancing the competitiveness of the larger value chain of which it is a part." ITC's diversified status originates from its corporate strategy aimed at creating multiple drivers of growth anchored on its time-tested core competencies: unmatched

distribution reach, superior brand-building capabilities, effective supply chain management and acknowledged service skills in hoteliering. Over time, the strategic forays into new businesses are expected to garner a significant share of these emerging high-growth markets in India. ITC's Agri-Business is one of India's largest exporters of agricultural products. ITC is one of the country's biggest foreign exchange earners (US $ 3.2 billion in the last decade). The Company's 'e-Choupal' initiative is enabling Indian agriculture significantly enhance its competitiveness by empowering Indian farmers through the power of the Internet. This transformational strategy, which has already become the subject matter of a case study at Harvard Business School, is expected to progressively create for ITC a huge rural distribution infrastructure, significantly enhancing the Company's marketing reach. ITC's wholly owned Information Technology subsidiary, ITC Infotech India Limited, is aggressively pursuing emerging opportunities in providing end-to-end IT solutions, including e-enabled services and business process outsourcing. ITC's production facilities and hotels have won numerous national and international awards for quality, productivity, safety and environment management systems. ITC was the first company in India to voluntarily seek a corporate governance rating. ITC employs over 25,000 people at more than 60 locations across India. The Company continuously endeavors to enhance its wealth generating capabilities in a globalising environment to consistently reward more than 3,66,000 shareholders, fulfill the aspirations of its stakeholders and meet societal expectations. This over-arching vision of the company is expressively captured in its corporate positioning statement: "Enduring Value. For the nation. For the Shareholder."

Financial Results for the quarter ended 30th September, 2008 Net Turnover up 32.3% Non-Cigarette businesses now constitute 51.2 % of Net Turnover ITC's Net Turnover at Rs.2888 crores posted a strong growth of 32.3% driven by the non-cigarette businesses which grew by 53% during the quarter and now account for 51.2% of the Company's Net Turnover. The key growth drivers were the continued ramp up of the Foods business, higher Agribusiness revenues and a strong performance by the Hotels business.

The Company's post-tax profit for the quarter ended 30th September 2006 at Rs. 679.60 crores recorded a 18.7% growth while pre-tax profit at Rs. 957.76 crores grew by 17.5%. Earnings Per Share for the quarter stood at Rs.1.81.

ITC CIGARETTES

ITC is the market leader in cigarettes in India. With its wide range of invaluable brands, it has a leadership position in every segment of the market. It's highly popular portfolio of brands includes Insignia, India Kings, Classic, Gold Flake, Silk Cut, Navy Cut, Scissors, Capstan, Berkeley, Bristol and Flake. ITC's pursuit of international competitiveness is reflected in its initiatives in the overseas markets. In the extremely competitive US market, ITC offers high-quality, value-priced cigarettes and Roll-your-own solutions. In West Asia, ITC has become a key player in the GCC markets through growing volumes of its brands.

ITC's cigarettes are produced in its state-of-the-art factories at Bengaluru, Munger, Saharanpur and Kolkata. These factories are known for their high levels of quality, contemporary technology and work environment.

Awards ITC's Cigarettes business has been winning numerous awards for its quality, environmental management systems and product excellence: 'Best Manufacturer of Cigarettes' for the year 2008 & 2007 and Best Exporter of Cigarettes for 2008 by the Tobacco Board based on previous three years' performance. Occupational Health and Safety Award 2007 for Excellence in Safety Management to the Bengaluru, Saharanpur and Kolkata factories from the Royal Society for Prevention of Accidents (ROSPA), U.K. 5 Star Health and Safety Rating in 2007 from the British Safety Council to the Bengaluru, Munger, Kolkata and Saharanpur factories and the "Sword of Honour" for Bengaluru & Saharanpur factories in 2006. Greentech Gold Award for excellence in Safety Management for the year 2007 to the Bengaluru, Kolkata and Saharanpur cigarette factories for the high level of performance that the units have achieved in Environment Health and Safety (EHS). Saharanpur along with Kolkata and Munger factories were honoured with the Gold award and the Bengaluru Factory with the Platinum Award in 2006. Greentech Gold Award for Excellence in Environment Management 2007 to the Bengaluru, Kolkata and Munger factories. Safety Innovation Award for 2007 and 2006 for Innovative Safety Management System to the Bengaluru Factory from the Institution of Engineers and also the Unnatha Suraksha Puraskara Award 2006 from NSC Karnataka Chapter. Golden Peacock Award for Occupational Health and Safety from the Institute of Directors, New Delhi; Award for Outstanding Performance in Environment Health and Safety from the CII and the Suraksha Puraskar Award from the National Safety Council, Mumbai to the Kolkata factory in 2007 and the "1st National Security Today Award " in the category of Best Maintained Fire Safety System in 2005. Occupational Health and Safety Gold Award from the ROSPA, UK; the Winners Trophy – Safety Health and Environment Award from the CII Eastern region; National Award for Excellence in Water Management and Innovative Project Award Initiatives for Energy Conservation from the CII to the Munger factory in 2007 and also the Excellence in Water Management Award from CII-GBC for 2006. All the four factories are certified by Det Norske Veritas (DNV) for ISO 14001, for their Environment Management Systems, OHSAS 18001 for their Occupational Health and

Safety Management Systems (OHSMS) and the ISO 9000-2000 for Quality Management Systems. The Kolkata factory is the first cigarette factory in India to be awarded the SA 8000 Certificate for Social Accountability by Det Norske Veritas (DNV) in June 2004. ITC's R&D Centre at Peenya, Bengaluru has the distinction of being the first independent R&D centre in India to get ISO 9001 accreditation and certified with ISO 14001 for Environment Management Systems by DNV. The R&D Centre is also certified for the standard ISO/IEC17025:2005, by National Accreditation Board for Testing and Calibration Laboratories (NABL). This certification is awarded for "General requirement for the competence of Testing & Callibration Laboratories

Sales and Profits ITC’s cigarette sales rose 18% even after the government imposed a ban on smoking in public places, including offices. ITC’s cigarette sales rose to Rs1, 990 crores in the third quarter. The share of cigarette sales in revenue, excluding excise taxes, in the third quarter was 52%, compared with 49% in the same period a year ago. The cigarette division’s profit before taxes and one-time gains increased 18% to Rs1,130 crores. ITC, India's largest FMCG Company, said its fourth quarter profits rose by 14 per cent helped by higher cigarette sales of its premium brands including India Kings and Gold Flake. Profits in the three months ended March 31, 2008, increased to Rs 736 crores from Rs 651 crores a year earlier, the Kolkata-based company which earns about 61 per cent from selling cigarettes, said. Sales rose 16 per cent to Rs 3,934 crores.

Strategy Analysis of ITC cigarettes The Company has been able to build on its leadership position because of its single minded focus on value creation for the consumer through significant investments in product design, innovation, manufacturing technology, quality, marketing and distribution. All initiatives are therefore worked upon with the intent to fortify market standing in the long term. This in turns aids in designing products which are contemporary and relevant to the changing attitudes and evolving socio economic profile of the country. This strategic focus on the consumer has paid ITC handsome dividends

SWOT Analysis

A. Internal Analysis Strength Biggest and the largest player in the Indian tobacco market with a market share of 80%. Its Gold Flake tobacco brand is the largest FMCG brand in India - and this single brand alone holds 70% of the tobacco market.

Weaknesses The company's original business was traded in tobacco. ITC stands for Imperial Tobacco Company of India Limited. It is interesting that a business that is now so involved in branding continues to use its original name, despite the negative connection of tobacco with poor health and premature death. To fund its cash guzzling FMCG startup, the company is still dependent upon its tobacco revenues.

B. External Analysis Opportunities ITC is moving into new and emerging markets like developing countries of Eastern Europe, Africa etc.

Threats The obvious threat is from competition, both domestic and international. The laws of economics dictate that if competitors see that there is a solid profit to be made in an emerging consumer society that ultimately new products and services will be made available. Western companies will see India as an exciting opportunity for themselves to find new market segments for their own offerings. ITC's opportunities are likely to be opportunities for other companies as well. Therefore the dynamic of competition will alter in the medium-term. Then ITC will need to decide whether being a diversified conglomerate is the most competitive strategic formation for a secure future. Various bans on smoking in public places.

PESTELC Analysis Political Analysis The cigarette industry in India continues to operate in a challenging economic environment, particularly with respect to taxation and regulations relating to communication and consumption. The regulations, dictated by circumstances in more

developed markets, together with prolonged punitive and discriminatory taxation have had the effect of being directed almost exclusively at cigarettes, thereby stifling cigarette consumption in India in comparison with other forms of tobacco consumption. High rates of taxes on cigarettes, in excess of 130% of the net value of the product, have rendered cigarettes unaffordable to the majority of tobacco consumers in the country. Apart from the adverse impact on the Exchequer, the reducing base of domestic cigarette consumption discourages investment in R&D and quality enhancement of tobacco varieties and thereby undermines the export potential of high value Indian cigarette tobaccos.

Economical Analysis India is a major grower and exporter of tobacco in the world. Presently India is among top three producers of tobacco in the world. Despite lower proportion of total produce being exported Indian exports it figures among top 10 exporters of the product in the world. Presently of the total tobacco produce in India, only 50% is used in the domestic market and of this domestic consumption of tobacco only 16% is used by cigarette industry. It is estimated that over 2.3 million persons depended on this sector for their livelihood. The annual wage bill in these enterprises averaged Rs 4 300 million, and annual wages per worker varied from Rs 8 400 in bidi factories to Rs 55 730 in cigarette, cigar and cheroot factories. The total net value added by all enterprises averaged Rs 15 000 million per annum, of which bidi factories contributed 41.2 percent, and cigarette and allied industries 34.3 percent. The total annual wage bill in the cigarette and allied industries, despite wages per worker being substantially higher, was only 4 percent of its gross value of output, compared to 16 percent in the bidi factories, because bidi manufacturing is more labour intensive.

Social Analysis Moderation in rates of taxes, coupled with the aspiration of tobacco consumers to upgrade consumption, can multiply the share of cigarettes in India even in a shrinking basket of tobacco consumption. There is a growing public concern regarding increasing consumption of tobacco, its health implications and the need to prevent access to minors and non-users. With a view to achieving improvement of public health in general, the Government of India has banned the advertising of cigarettes in India. This includes all forms of advertising like TV commercials, print ads, pamphlets, hoardings etc. Also banned is the sale of cigarettes to any citizen below the age of 18. Again, all forms of transaction involving tobacco products should be carried on with a label displaying the harmful effects of its use. The label should be legible and prominent and conspicuous as to size and color. All

such restrictions by the government have made the promotion of cigarettes almost impossible. It is mostly by word of mouth that the sales of cigarettes have risen.

Technological Analysis On the technological front, ITC cigarettes have came a long way and that can be concluded by the fact that the supply chain management that the ITC employs now is of the latest trends- they have a great inventory control, logistics support etc.

Environmental Analysis Natural Environment-The main source of raw materials for cigarettes is raw tobacco which is mainly found in the state of Andhra Pradesh. There is no scarcity in supply of raw tobacco since the net income earned by the farmers from cultivating tobacco has been found to be much higher than the net income earned from other crops. Region Environment-The gap between urban and rural households in cigarette consumption is the highest in low and lower-middle income households. Urban low and lower-middle income households consume more cigarettes compared to the similar income groups in rural areas.

Legal Analysis The Cigarettes and Other Tobacco Products (Prohibition of Advertisement and Regulation of Trade and Commerce, Production, Supply and Distribution) Act, 2003, (COTPA) is being implemented in a phased manner with effect from 1st May 2004 along with the Ban on Smoking in Public Places with effect from last quarter of 2008 resulting in a dip in sales and profit.

Competitor Analysis With a market share of a whopping 72%,ITC cigarettes does not have to worry much about the competition at the present moment. Its nearest competitor Godfrey Philips has a market share of 12% which is not really a competition at present.

GODFREY PHILIPS

K. K. Modi Group The K. K. Modi Group is part of a US $ 2.4 billion Modi Enterprises that was founded by Rai Bahadur Gujarmal Modi in 1933. The Group spans a diverse range of businesses which include agro-chemicals, tobacco, tea and beverages, education, entertainment, direct selling, network marketing and gourmet restaurants. These businesses further include steel, sugar, textiles, chemicals, tyres, computers, copiers, cosmetics, telecommunications, entertainment, homecare, pharmaceuticals and on line lottery.

About Godfrey Phillips India The success of Godfrey Phillips India is the result of the Company’s commitment to innovations, enhanced operational efficiencies and adoption of internationally acclaimed business processes. Driven to excel, innovate and win, we intend to emerge as one of the most respected Company in the tobacco industry. As the second largest player in the Indian cigarette industry, our annual turnover exceeds INR 1800 crores (approx. US $369.6 million). We own some of the most popular cigarette brands in the country like Four Square, Red and White, Jaisalmer, Cavanders and Tipper. Over the years we have also set our own benchmarks in innovation with revolutionary brands like Stellar, the first slim cigarette and I-gen, the first euro norm cigarette in India.

Our products are distributed over an extensive India wide network of more than 500 distributors and 800,000 retail outlets. With the Corporate Office in Delhi, the Company has offices all across India in over 8 locations. Godfrey Phillips India has two major stakeholders, one of India's leading industrial houses - the K. K. Modi Group and one of the world's largest tobacco companies, Philip Morris. The Company also enjoys a strong backing of over 12,000 shareholders.

Vision To become a leading tobacco player in India and beyond. Godfrey Phillips India empowers all its people to think and act radically, stretch relentlessly and generate path breaking ideas and strategies to propel the Company. This helps to create and build powerful brands with unmatched service and world class processes. Godfrey Phillips India will rapidly grow shareholder value and achieve a commanding presence nationally while gaining a significant presence in global markets. Godfrey Phillips India will be amongst the most respected companies in India and in the tobacco industry worldwide.

Values • • • • •

Passion for winning. Innovation through Intrapreneurship. Winning trust internally and externally. Global mindset. Socially responsible corporate citizen.

The Management Godfrey Phillips India is a Company committed to innovation and continuous improvement which can be seen in the Company employees; from the top management to the factory level. Godfrey Phillips India’s management represents the optimum mix of professionalism, knowledge and experience. They are the guardians to the Company, and protectors of the shareholder’s interest.

Top Management and Executive Committee K. K. Modi (Chairman, K. K. Modi Group of Companies)

Ram Poddar (Chief Mentor, K. K. Modi Group of Companies) S. Seru (CEO - Domestic) A. R. Anand (CEO - International) Ajit Suryanarayan (EVP - New Product Development) Arun Kumar (EVP - HR) Bhisham Wadhera (EVP – Sales) Nita Kapoor (EVP – Marketing & Corporate Affairs) Pradip Mittra (EVP - Operations) R. N. Agarwal (CFO) S. R. Balasubramanian (EVP – IT & Corporate Development)

Partners Philip Morris Altria Group Inc is the parent Company of Philip Morris International, Philip Morris USA and Philip Morris Capital Corporation. Altria Group owns 100% of the outstanding stock of Philip Morris USA, Philip Morris International and Philip Morris Capital Corporation. Philip Morris, the owner of some of the world's most respected brands including Marlboro, is one of the largest shareholders in Godfrey Phillips India and has an agreement with the Company to provide technological services and assistance in all areas of business. In 1968 Philip Morris International Finance Corporation, a wholly owned subsidiary of Philip Morris Inc., U.S.A. acquired full ownership of Godfrey Phillips Ltd., London, U.K., which was the Holding Company of Godfrey Phillips India Ltd. till the issue of shares to the Indian public during 1975. As a result of acquisition of Godfrey Phillips Ltd., London, U.K. as above, Philip Morris Inc. through its wholly owned subsidiary, Philip Morris International Finance Corporation became the Holding Company of Godfrey Phillips India Ltd. After the public issue in 1975, offer for sale to Indian public in 1979 and a rights issue in 1981 the shareholding of Philip Morris International Finance Corporation in Godfrey Phillips India Ltd. came down to the present level of 35.93%. Philip Morris Inc. joined hands with the K. K. Modi Group in 1979.

Altadis

In December 2002, Godfrey Phillips India commenced as the exclusive distributor for the brands of the world's largest cigar manufacturer, Altadis in India, Nepal and Sri Lanka. Altadis the world’s largest cigar manufacturer has three major areas of activity, which are blond and dark cigarettes, distribution and cigars. Blond and dark cigarettes are manufactured and marketed by the group itself, under well-established brand names in France and Spain. It is a market leader in its segment. Altadis's value-added logistical expertise in tobacco and consumer-product services is extended to retailers to new sectors. Altadis ranks 3rd in Western Europe in cigarettes and 1st in the world in cigars. Altadis group is the undisputed leader in three of the largest cigar markets namely United States, Spain and France. Some of the well known cigar brands of the Company are: Farias, Fleur de Savane, Phillies, Dutch Master, VegaFina, Pleiades, Don Diego, Longchamp, Antonioy Cleopatra, Santa Damiana, Meccarillos, Cruzeros, Montecristo, Partagás, Cohiba, La Gloria Cubana, H. Upmann, Picaduros, Ducados Mini, Van Holden, Entrefinos, Tampa Nugget, Hav-a-Tampa, Backwoods and yotras marcas. The Cigar Division of the Company consolidated its No.1 position worldwide in 2002, with a market share of nearly 25%, a sales volume of around 3.2 billion units.

Financials If the success of a Company is judged by the satisfaction level of its employees, then the economic stability of a Company is judged by the satisfaction and belief levels of its shareholders. It is their belief and faith in the system, their passion about the organization that inspires the Company to sail through difficult period and face challenges. Godfrey Phillips India as a Company is dedicated to the interests of all those who have invested their faith in it. The Company strives to maximize growth in revenue while equally managing the cost of doing business. Thereby, it continuously seeks to create greater value for the shareholders.

Production Facilities With a rich heritage of over 60 years in the industry, Godfrey Phillips India has also incorporated the latest technology to deliver products of the finest quality in the market. Driven by innovation and speed to market, the two manufacturing facilities in Ghaziabad (near Delhi) and Andheri (Mumbai), are equipped with state-of-the-art equipment and incorporate best practices like TQM, Haichi-Ban, 5S, Kaizen Teian etc. The facilities comply with international quality standards like ISO 9001:2000 and ISO 14000 and it is a matter of pride for us that our high standards of environment-friendly manufacturing was brought about entirely due to the recommendations of motivated factory workers who have also established an industry record by winning the INSAAN awards (given for the best suggestions made by a factory worker in the year) for the past 11 years running. Godfrey Phillips India views its R&D capabilities as a vital component of its business strategy that provides a long term edge over its competition. Located along with the production facilities, the R&D extends its competencies and together they strive to implement the best in the market.

Code of Business Conduct Preamble

In terms of the revised Clause 49 of the Listing Agreement with the Stock Exchanges, the Board of Directors are required to lay down a code of conduct for all its Board members as well as senior management one level below the executive directors including all functional heads ( a list of present directors and senior management is attached). This code of conduct has accordingly been approved by the Board of Directors by a resolution passed by circulation which will be effective from 1st January, 2006 and the same shall be uploaded on Company’s website for information of general public. Applicability-This code is applicable to the Board Members and Senior Management who are members of its core management team one level below the executive directors including all functional heads (hereinafter collectively referred to as “Employee(s)”). All employees must read and understand this code and ensure to abide by it in their day-today activities.

Values and Expected Behaviors • • • • •

Safety in Workplace Conflicts of Interest Winning trust internally and externally Protecting the Company’s Confidential Information Obligations Under Securities Laws “Insider” Trading Maintaining and Managing Records

Brands Godfrey Phillips India is best known for its leading brands like Four Square, Red & White, Jaisalmer and Cavanders along with innovative brands such as Stellar, I Gen and Tipper. Stellar: The first slim cigarette to be launched in India. It has been specially engineered to deliver low nicotine without a compromise in taste and flavor. It is available in an elegant slim shaped 10’s and 20’s pack, aimed at the cognitive consumer who wants to be progressive and responsible in his habits and lifestyle. Igen: India’s 1st Euro Norm 10-1-10 cigarette holds the promise of an advanced cigarette quality and immense style. This progressive brand, known for its innovation, has also introduced India’s 1st King size 5’s pack, a convenient and stylish pack format for the young adult of today.

Jaisalmer: A Premium King Size brand. It is a luxurious blend of finest sun dried Virginia tobaccos which deliver a smooth mellow flavor.

Four Square: The flagship brand of Godfrey Phillips, Four Square is the market leader in the majority of its operating markets. The vibrant brand continues to delight its loyal consumers through constant innovation and an enriching product experience.

Red & White Flake: One of the most renowned brand names of the nation, it has been rated in the top 50 brands in the FMCG sector. It is continuing to build upon its iconic stature.

Northpole: Launched in the year 1958 North Pole is the largest selling menthol cigarette in India. North Pole has recently the Golden Peacock commendation Award for innovation in packaging.

Cavanders: Cavanders is one of the oldest and most trusted brands of the industry. Known for its heritage and highest quality standards, Cavanders has been providing superb value and satisfaction to its consumers.

Tipper: Tipper is the fastest growing micro segment brand from Godfrey Phillips. The relatively new entrant into the Godfrey Phillips stable, Tipper has driven consumer delight among micro smokers through intense consumer understanding and continuous innovation. The brand is the undisputed national leader in the tipped micro segment with significant presence in states of Maharashtra and Andhra Pradesh.

SWOT Analysis Internal analysis Strength Godfrey Phillips India is partnering with some of the top most players in the international tobacco industry The second biggest tobacco company in India. Godfrey Phillips India can claim to be the first and only tobacco company to organize the fragmented cigar market in India and secure its position as the market leader in the cigar distribution.

Weakness Weakness can be citied on aspects of low popularity of most of its products. Most of its products cater to niche markets and the revenues generated from it are not that much.

External Analysis Opportunities Already present in the Middle East, West Africa, South East Africa and South East Asia, Godfrey Phillips India can strengthen its position as an international player by entering new markets. Even expanding market share in the Indian tobacco market is an opportunity.

Threats ITC getting into the cigar market, Godfrey Philips has to defend its market share in this regard as ITC boosts of a very good logistics and supply chain. Further it has a mere 12% in market share so it has to defend that aggressively.

Porter’s Five Forces analysis

Five Forces: ➢ Buyers bargaining powers: Oligopoly market situation. ➢ Supliers bargaining power: Fragmentation, consolidation & integration. Low switching costs ➢ Threat of substitutes: Depends on buyer to buyer. Some are Brand Loyalists. ➢ Competitive rivalry: New innovative products by rivals.

Cigarettes: Future Growth potential ➢ Cigarettes account for only 15% of tobacco consumed in India unlike world

pattern of 85% due to prolonged punitive taxation 

Cigarettes (15% of tobacco consumption) contribute nearly 85% of Revenue to the Exchequer from tobacco sector

➢ Of the 58% of adult Indian males who consume tobacco, barely 15% can afford cigarettes ➢ Biri : Cigarettes ratio = 10 : 1

➢ Annual per capita adult cigarette consumption in India is appx. one tenth world average : 141 ➢ Future growth depends on relative rates of growth of per capita income and

moderation in taxes