After seeing three FED hikes on cigarettes in a span of nine months to February 2023, the tobacco players are likely to face more more uncertainty in the months ahead. With the next federal budget approaching and the IMF deal still not imminent, there is likely to be renewed pressure on the fiscally-embattled government to raise the rates of duties and taxes on industries such as tobacco. The economy is slowing to a crawl as imports remain stalled, affecting the government’s tax collection outlook.

The government’s argument to tax the tobacco industry even more will find strength in the latest financials reported by the top two industry players. During CY22, despite higher FED rates, the net turnover increased for market leader Pakistan Tobacco Limited (PSX: PAKT) by 27 percent year-on-year to Rs95 billion. The second-ranked player Philip Morris Pakistan (PSX: PMPK) also raised its net turnover by 14 percent year-on-year to Rs20 billion. Both firms also saw net turnover growth in latest quarter, 4QCY22.

There was also improved profitability reported by both firms during 2022. For PAKT, net profits increased by 13 percent year-on-year to Rs21 billion, whereas for PMPK the bottomline growth was comparatively higher at 22 percent year-on-year to come close to Rs3 billion. Sustaining profitability growth in the ongoing calendar year may become more difficult than the last one as there will be even higher pressures on cost of inputs. Meanwhile, volume growth is difficult to come by amid rising retail prices of cigarettes.

Already, there has been a large decline in cigarette output. As per latest data from the Pakistan Bureau of Statistics (PBS), the industry produced roughly 52.5 billion cigarettes in CY22, down by 8 percent year-on-year from 57 billion sticks in CY21. During 2022, there were sharp jumps and drops in monthly output, ranging from a massive 75 percent yearly decline in July production (1bn sticks) after the budget-mandated FED hike, to a 70 percent yearly surge in June production (5bn sticks) before FED application.

In more recent months, there may have been a trend reversal, but it remains to be seen if it will be sticky. During January 2023, the latest month for which the LSM data is available, the cigarette production stood at 4.9 billion sticks, which reflects a 12 percent yearly decline but also an increase of 23 percent month-on-month compared to December output of 3.9 billion sticks. It may become a leap of faith for the government to go for another FED hike if formal sector output continued to fall and affected tax collection.