Tata Motors Earnings Review: Profits Decline At Both Jaguar Land Rover And The Standalone Business

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As expectedTata Motors (NYSE:TTM) reported a weak set of financial results on May 26, weighed down by the large investments made by the group through its ‘transitional’ year, and also the adverse mark-to-market on unrealized hedges. The pound was around 5% weaker against the dollar in the quarter, which led to revaluation of the £1.7 billion equivalent of dollar debt for Tata. Revenues for the full fiscal year 2015, ended March, rose 13% year-over-year to approximately 263 thousand crore rupees ($41 billion), on higher wholesale vehicle shipments, rich product, and price mix. However, the stock price fell 4.2% just after the announcement of full fiscal results on Tuesday, reflecting investor discontentment with the continual decline in net profit for the company. Tata’s profit after tax remained flat for the full fiscal year, but fell to less than half of the previous year levels in Q4.

Trefis’ price estimate for Tata Motors is $43, which is above the current market price. However, we are currently in the process of incorporating the recent quarterly, and full fiscal year, into our forecasts, and revising our price estimate.

Net wholesale shipments rose to 470,000 in fiscal 2015, from 430,000 in the last fiscal, and the retail volumes were also higher at 462,000. However, retail sales were down in the last two quarters at Jaguar Land Rover (JLR), which is the most crucial division for Tata Motors, forming slightly less than 90% of the valuation for the company, as per our estimates. Retail sales to end customers fell 0.6% and 0.4% year-over-year in the last two quarters for JLR, following a 14.7% rise in retail sales in the first half of the fiscal year (April-September period). The automaker might look to keep supply in line with demand, going forward, and ease-off shipping vehicles, in order to avoid inventory pile-up and protect its premium brand image. Lower wholesale shipments in the coming fiscal could considerably drag down revenue growth.

See Our Complete Analysis For Tata Motors

Tata Motors’ financials reflect an underlying operating weakness, but all this could be because the group is somewhat in transition.

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This year, JLR launched its new compact model Jaguar XE, the locally-built Range Rover Evoque in China–its single largest market — and the company is ramping up production at its engine plants and manufacturing facilities in the U.K. Large start-up costs related to product launches, higher R&D expenses, and CapEx, are expected to dent Tata’s financials in the near term, and the company could be cash flow negative in the next fiscal, starting April 2015. But the company seems more committed to delivering better quality, than expanding scale. And this fiscal onward, it will be interesting to see whether JLR is able to deliver quality, and get back on track, especially in China.

China’s economy has slowed down from the high growth levels seen in previous years, mainly due to industry overcapacity, slowdown in infrastructure, and the real estate sectors. However, the GDP growth for the country is expected to be 7% this year, which is still solid. As disposable incomes increase, especially in the Tier-3 and 4 cities, customers are willing to pay a little extra for premium vehicles, especially the more powerful and spacious SUVs–which bodes well for Land Rover, which alone forms approximately 70% of Tata Motors’ valuation, as per our estimates.

Sales of passenger vehicles surged 9.9% year-over-year in 2014 to 19.7 million units in China, and retail sales for JLR surged 28% year-over-year in the country during this period. However, since then, demand for the British luxury vehicle brand has been tepid in the country, with volumes down more than 20% in the January-March quarter. Jaguar Land Rover is rolling-out its locally built Range Rover Evoque in China, but is facing some trouble scaling-up its output. Sales in China might have dropped this year mainly as the Chinese customers decided to wait for the locally-built cheaper JLR models, or it might be due to the measures taken by the government to make domestic automakers more attractive, such as encouraging parallel imports of premium vehicles and gray-market vehicles, not authorized by the automakers, which are sold below the official market price. [1]

Luxury foreign automakers came under the scrutiny of, and were later fined by, China’s antitrust regulator last year, as many were found guilty of monopolistic practices pertaining to highly inflated vehicle and spare part prices. Foreign automakers tend to mark-up their model prices in China, to account for taxes and costs of transportation and assembly, but still earn a hefty margin on sales in the country. Domestic automakers are taking away share from foreign makers in China in the last few months, mainly due to the surge in demand for budget SUVs. In this case, local production might be the answer for JLR. Local production will help JLR evade China’s 25% import taxes, as well as bring down model prices. In fact, the imported Range Rover Evoque is around 1.61 times as expensive as the locally-built Audi Q5, reflecting how imported cars are less competitive on the pricing front. Jaguar Land Rover’s vehicle prices are expected to fall by 15% on account of local production, which should help the automaker gather higher volume sales, going forward.

On the other hand, the domestic business is picking up for Tata Motors’ standalone business. The company’s India operations form approximately 11% of the company’s valuation, according to our estimates. Although Tata’s net India vehicle sales declined 12.4% year-over-year, in a market which picked up pace last fiscal and delivered a 2.5% overall increase in volume sales, car sales are back on track for Tata Motors, it seems. Following the launch of the sub 4-meter compact sedan, Zest, in August last year, the automaker’s monthly car sales in the country rose in each successive month (over 2013 levels), after many consecutive months of decline. Zest and the newly launched hatchback Bolt are a part of the company’s Horizonext initiative, announced in 2013, which is an aggressive strategic plan for its passenger vehicle business unit to reverse the trend of flagging sales. Owing to the encouraging initial sales for the Zest and Bolt, the passenger vehicles segment of the company showed a growth of 19.1% year-over-year in Q4, with the car segment growing by 33%.

This fiscal will be crucial for Tata, as the company looks to gain more sales on the back of new launches–at both JLR and the standalone business. By the end of fiscal 2016, JLR’s production capacity is expected to reach around 680,000 vehicles, including an initial annual production capacity of around 130,000 vehicles at the China plant. Extending production capacity, both in the U.K. and overseas, will remove supply constraints at JLR, and could possibly fuel volume growth going forward.

However, spending a lot on model makeovers and new production facilities, while unit sales remain low, could pressure Jaguar Land Rover’s, and the overall company’s, margins in the near term, and in turn, reduce free cash flow.

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Notes:
  1. China rethinks its car-sales model []