TATA MOTORS LTD: DVR THE BEST !!!

Scrip Code: 570001 / TATAMTRDVR

CMP:  Rs. 310.70; Market Cap: Rs. 14,974.71 Cr; 52 Week High/Low: Rs. 391.35 / Rs. 219.27

Total Shares: 48,19,66,945 shares (17.61 % of Share Capital); Promoters : 24,78,587 shares –0.51 %; Total Public holding : 47,94,88,358 shares – 99.48 %; Book Value: Rs. 203.82; Face Value: Rs. 2.00; EPS: Rs. 47.67; Dividend: 105.00 % ; P/E: 10.67 times; Ind. P/E: 245.44; EV/EBITDA: 4.85.

Total Debt: Rs. 54,954.47* Cr; Enterprise Value: Rs. 2,01,927.08* Cr.

*DVR being a class of equity capital, Tata Motors financials are used

TATA MOTORS LIMITED: Tata Motors was founded in 1945 as a Public Limited Liability Company under the Indian Companies Act VII of 1913 as Tata Locomotive and Engineering Company Ltd and changed its name to Tata Engineering and Locomotive Company Limited (TELCO) in 1960 and later on it again changed its name to Tata Motors Limited in 2003. The company declared its first Bonus in 1977 in ratio of 1:5; then in 1979 2:5; in 1982 2:5; in 1995 3:5. The company declared split in its face value in the year 1996 from Rs. 100 to Rs. 10; and then in 2011 from Face value of Rs. 10 to Rs. 2. The company is leading manufacturer of commercial & passenger vehicles in India and is among the top three passenger car manufacturers in India and world's fourth largest truck manufacturer and is also world's second largest bus manufacturer. Through its subsidiaries, the company is engaged in engineering and automotive solutions, construction equipment manufacturing, automotive vehicle components manufacturing and supply chain activities, machine tools & factory automation solutions. Tata Motors has operations in UK, South Korea, Thailand & Spain. The company has many subsidiaries but the most prominent among these is Jaguar-Land Rover (JLR- a popular brand of British car manufacturing company Ford Motors, Jaguar was bought at $238 Cr from General Motors in 1989 and Land Rover was bought from BMW for $300 Cr in the year 2000) which was acquired in 2008 by Tata Motors at $230 Cr ($60 Cr for JLR Pension fund + $170 Cr to Ford motors) and turned it from a loss making company to a profit making company. JLR contributes 54 % to the company’s revenues. Tata Motors other subsidiaries include Tata Precision Industries Pte. Ltd; Trilix S.r.l; PT Tata Motors Indondesia; Sheba Properties Ltd; TML Holdings Pte. Ltd; Tata Motors Insurance Broking Advisory Services Ltd; Tata Motors Finance Ltd; Concord Motors (India) Ltd; TML Distribution Company Ltd; Tata Technologies Ltd; Tata Motors European Technical Centre Plc; TAL Manufacturing Solutions Ltd; TML Drivelines Ltd; Tata Motors (SA) (Proprietary) Ltd; Tata Motors Thailand Ltd; Tata Motors Marcopolo Ltd; Tata Daewoo Commercial Vehicle Company; Jaguar Land Rover Automotive Plc. The company’s product portfolio ranges from the ultra-low cost car Nano which was launched in 2011 to the luxurious cars from JLR, from its ground breaking invention of the light commercial vehicle (LCV) the Ace to the international Prima Truck range. Tata Motors is compared to Toyota Motors Corp of Japan, Mazda Motor Corporation of Japan, Suzuki Motor Corporation of Japan, Jardine Cycle & Carriage ltd of Singapore and Bayerische Motoren Werke AG (BMW), Audi AG, Daimler AG, Volkswagen AG of Germany, Ford Motors of USA and Mitsubishi Corporation. 

Investment Rationale:

Tata Motors Limited is largest automobile company in India. The Company is the leader of commercial vehicles in all segments, and also among the top in passenger vehicles segments. Tata Motors is the fifth largest truck manufacturer and fourth largest bus manufacturer in the world. The Company’s manufacturing base in India is spread across Jamshedpur (Jharkhand), Pune (Maharashtra), Lucknow (Uttar Pradesh), Pantnagar (Uttarakhand), Sanand (Gujarat) and Dharwad (Karnataka). The Company’s dealership, sales, services and spare parts network comprises over 6,600 touch points. Through subsidiaries and associate companies, Tata Motors has operations in the UK, South Korea, Thailand, Spain, South Africa and Indonesia. Among them is Jaguar Land Rover, acquired in 2008. According to Industry body “SIAM”, Passenger car sales in India is forecasted to grow at rate of 3 % to 5 % with an ongoing expectations of an improvement in overall macroeconomic conditions of the country, despite witnessing a fall of 6.69 % during 2012-13. Overall, the passenger vehicle revenue is estimate to rise by 5 % to 7 %. The financial year 2013 was a challenging one for Tata Motors. However, despite difficult economic conditions and rising competition, the Company retained its market leadership in commercial vehicles, on the back of new offerings and introduction of innovative technologies. Its highly successful and reliable Ace and Magic vehicles crossed the sales mark of one million units. The Company is working on a slew of new products, with a plan running up to 2020; this includes appropriate focus on alternate fuels, hybrids and electric vehicles. The organization is resolved to foster a culture of customer centricity and innovation, so that the Company’s products and services consistently exceed customer expectations. In the commercial vehicles segment, Tata Motors expects to remain the preferred brand for customers. Given the Company’s scale, it is in the best position to efficiently integrate its products and services and deliver the maximum value to its customers at the best prices. The global vehicle sales have been growing at a CAGR of 6 % for the last five years. Among the major regions, Asia Pacific has been the largest contributor to the total sales. The contribution from Asia Pacific rose gradually from 35 % in 2008 to 48 % in 2013. The highest sales came in from China (within Asia Pacific) i.e. 47 % in 2008 to 61 % in 2013. The other major demand came in from North America and Europe. The number of passenger cars and light commercial vehicles sales worldwide rose by nearly 5 % to 76.28 million units in 2013, mostly on the back of increased demand in the USA and China. The strongest momentum for growth was generated in China, where the market grew by 1.93 Cr to 2.19 Cr units reported a growth of 13.94 % in FY2013. Sales of UK grew by 10.76 % in 2013 to 22,70,000 units from 2,04,000 units. Tata Motors' narrow economic moat is driven by the strength and global recognition of its Jaguar and Land Rover brands. This allows Tata Motor to have premium pricing, also Tata motors has low-cost advantage as it is enjoyed by its Indian business which is driven by low labour costs and with the favourable tax structure for the domestic manufacturers it enjoys its narrow moat. In 2014, Tata motors derived more than 80 % of its operating profit from its Jaguar and Land Rover brands. JLR's profitability has helped Tata Motors to consistently generate excess returns. While premium, luxury, ultra-luxury, and exotic brands commands high prices and are quite often purchased to make a personal statement, consumers of these products can still easily switch to one of many competing products. Automakers in this luxury segment do not necessarily have an economic moat just because of brand strength and premium pricing. Even though Bentley (owned by Volkswagen) is globally recognized as an ultra-luxury brand that commands a commensurate price, poor margin performance would suggest that the company has not earned its cost of capital since 2007. However, based on Jaguar Land Rover's profitability in the last three fiscal years, Tata's luxury brands have been contributing significantly towards building an economic moat. Company would be able to manage the Jaguar and Land Rover brands, as indicated by its initiative to make its brand experience and marketing uniform in all the 177 markets worldwide. With new facilities in China by end of fiscal 2015 and in Brazil by 2017, the company will have a manufacturing presence in the world's top seven automobile markets. The Global growth, coupled with increased capital expenditure to regularly roll out new products which will maintain JLR's brand image and this will help Tata Motors for premium pricing and in turn Tata Motors narrow economic moat will be sustained. JLR's focus on premium segments, with an obsessive attention to design and detail, has driven substantial excess returns over its weighted average cost of capital. Overall, Tata Motors has generated returns higher than its cost of capital during 10 of the past 11 years. During eight of those years, excess returns were more than 5 % and this can be termed as an outstanding performance for an automotive manufacturer. To Tata's advantage, the company's domestic mass-market passenger vehicle and its commercial vehicle operations enjoy substantial growth potential and has low-cost manufacturing base, this is an advantage for Tata Motors. Global automobile manufacturers face a steep import duty in India. This ranges from 60 % to 200 % based on the price tag which, when coupled with insurance and domestic inland tax of 20 % to 30 %, makes them an unattractive option for the domestic buyers. Now Indian currency has depreciated more than 40 % over the last few years which have further raised the prices for the imported automobiles for the domestic market. This provides a competitive advantage to the domestic manufacturers including Tata Motors and this attracts globally automobile manufacturers and they may choose to set up manufacturing plants or assembly lines in India which could give them a level playing field versus domestic manufacturers such as Tata Motors. But still, it takes about two years to apply, receive various approvals, build a plant, and start production. Also, immediate market acceptance is not guaranteed and usually it requires more than one model.  Given the time it takes for competitors to establish a presence and that Tata is already well positioned to benefit from significant growth potential, and so Tata Motor will enjoy a moat from its cost advantage for at least 10 years. 

Outlook and Valuation: 

Tata Motor’s new launches at JLR, including the all‐aluminum bodied Range Rover have generated huge positive response from the customers which shows it potential to command such PE multiples. Tata Motors declared rights issue in January 2015 in ratio of 6 new shares of Rs. 2 each for every 109 shares held. The company fixed its book closure on April 08, 2015 for the purpose of rights issue entitlement of ordinary shares and A' ordinary shares of face value of Rs. 2 each. Tata Motors will issue around 15,06,44,759 ordinary shares at Rs. 2 each at Rs. 450 each to its existing shareholders aggregating amount of Rs. 6,779 Cr, this would mean a dilution of 5.50 % on the total outstanding shares of 2,73,67,13,122. Tata Motors will also issue 6 new DVR shares of Rs. 2 each as Rights issue for every 109 DVR shares held. It will issue 2,65,30,290 ‘A’ Ordinary Shares (DVR) at Rs. 271 each to its existing shareholders aggregating amount of Rs. 719 Cr, this would mean a dilution of 5.50 % on the total outstanding DVR shares of 48,19,66,945. Tata Motors will utilize this monies for buying back its NCD of Rs. 1250 Cr this will reduce a part of Tata Motors liability and the rest Rs. 6250 Cr of funds collected will increase its net worth. FY16 is an important year for JLR with major developments including: Launch of the Discovery Sport, Jaguar XE, F-Pace and other new products and derivatives. Launch of the new Ingenium Engine plant. Launch of the Chery Jaguar Land Rover (CJLR) plant in China starting with production of the Evoque for the Chinese market to be followed by at least 2 further JLR products over the next 18 months. But this will have a transitory impact on the profitability of Tata Motors in FY16. These developments are expected to support the continued growth and profitability of JLR with strong EBITDA margins. In addition, JLR benefits when the GBP£ weakens against the Dollar. As a result, 1 % depreciation of GBP£ against USD improves its EBITDA margins by 0.50 %. Similarly it benefits when GBP appreciates against EURO. As a result, 1 % appreciation in GBP£ against EURO€ improves its EBITDA margins by 0.15 % to 0.20 %. JLR payables are 60 % in GBP£ and 40 % in Euro. Given that JLR buys about 40 % of its components from Europe & than it sells about 20 % vehicles in that continent hence JLR is a net importer of 20 % in Euro terms. As a result, it benefits when the GBP£ strengthens against the Euro. Increase in addressable segments, coupled with new products, would lead to a 20.0% CAGR in volumes over FY13-FY15E period for TATA MOTORS. The valuation of Tata Motors on SOTP basis for Core business comes at Rs. 92 per share, Value of JLR at Rs. 528 per share, based on 3.6x FY16E EV/EBITDA. And the value of other investments and JV’s are valued at Rs. 148 per share. The value of the unfunded pension liability of GBP£ 93.5 Cr is deducted to arrive at JLR’s Valuation translating into Rs. 27 per share. So, the value of Tata Motors shares after holding discount comes to Rs. 576 per share and accordingly, the price for Tata Motors DVR considering 30 % discount to ordinary shares comes to Rs. 403 per share. The long term investors can buy the ( Tata Motor DVR ) in view of attractive valuation. The long term holders of ordinary shares of Tata Motor can switch to Tata Motor DVR. TATA MOTOR has been the third company after Jagatjit Ind & Pantaloons to come out with a DVR in September 2008. The key reason for Tata Motors behind the issue of DVR was to fence itself from any takeover threat and to part finance the acquisition of Jaguar land Rover deal. Tata Motor DVR was issued at 10 % discount to issue price of main Tata Motor Share in 2008. Tata Motors DVR shares carry 1/10th of voting rights i.e. 10 % of voting right of main share. 1 vote for every 10 DVR held. DVR shareholders are entitled to a 5 % higher dividend than ordinary shares in lieu of surrendering their voting rights. Tata Motor DVR accounts for 15 % of total outstanding capital the cap is 25 %. In event of rights or bonus issue the offer holds equal rights for both main and DVR shares and any further shares issued under DVR will be termed as ‘A’ – ordinary shares DVR. In case of a buyback the buyout offer has to be for the same % of the outstanding capital of the ordinary and the DVR. Even the discovered price premium to the exit price would have to be equal for the main and the DVR. Tata Motors DVR trades at a discount of 39.97 %. The average discount for the DVR to Tata Motors ordinary share was 36.7 % since inception. The average discount for the DVR share over the last two years has been 40.5 %. At the Current Market Price of Rs. 310.70, the DVR is trading at a 38.86 % discount to Tata Motors’ ordinary share which is at Rs. 508.25. At the current levels, the probability of the discount narrowing is higher. On SOTP basis and after giving holding discount the valued of Tata Motors ordinary shares comes at Rs. 576 and applying 30 % discount to it gives DVR valuation at Rs. 403. One can buy Tata Motor DVR at all lower levels for better returns. On February 2015 S&P BSE Indices, the index provider for the BSE, has announced the inclusion of DVRs into the main indices, including the S&P BSE Sensex, S&P BSE 100, S&P BSE 200 and S&P BSE 500. S&P BSE Benchmark Indices will consider inclusion of DVR Shares if a company’s ordinary share class is also a part of the new index portfolio and are 10 % or more of total shares outstanding of the company. The inclusions would be effective from the next rebalancing of the indices, in June 2015. This is the similar to S&P Dow Jones which included Google's 'C class shares' which are without voting rights into its S&P 100 &S&P 500 index. The inclusion of Tata Motors DVR share into Sensex and/or Nifty would reduce the price difference between it and the Tata Motors share. The inclusion into a main index would also lead to index-fund managers and exchange-traded funds to buying more of the stock. Inclusion of Tata Motors DVR in Nifty or Sensex will enable global ETFs and index focused domestic fund managers to invest in the stock so that it will completely eliminate the price discount. Indian investors haven't warmed up to the idea of investing in shares with differential voting rights. Tata Motors DVR shares have given a return of about 54 % so far this year against 18 % of the ordinary shares. Recently, UK based fund house Knight Assets had recommended Tata Motors to list its DVR shares on the New York Stock Exchange, saying that the investors in the US are more familiar with the "dual class" setups, which could help correct the valuation gap. The steep discount in Tata Motors DVRs is due to a lack of balance in the economic rights and liquidity between the two share classes and lack of experience and understanding in investing in such securities. Globally DVRs trends to trade between 10 % - 15 % discounts to its Equity shares, Tata Motors DVR currently trades at 40 % discount to its Equity shares. One should buy Tata Motor DVR at 40 % - 45 % discount to its EQ SH & Sell when DVR arrives at 10 % - 15 % discount to its EQ SH. It is expected that the discount to the Equity shares will reduce to at least 30 % over next one year given the attractive valuations and increasing free float. 

SOTP valuation (FY2016E)

BUSINESS SUBSIDIARY	Value per Share(₹)
Core Business	92.00
Jaguar Land Rover Plc (3.6x FY16E EV/EBITDA)	528.00
Tata Daewoo Commercial Vehicle Co. Ltd	11.00
Tata Motor Finance Ltd	34.00
Tata Technologies	23.00
HV Axles	6.00
HV Transmission	5.00
Investment in Tata Sons	59.00
Value of other Subsidiaries & JV's	10.00
TOTAL PER SHARE	768.00
Less: NET DEBT	48.00
TOTAL VALUE PER SHARE - Ordinary Sh	720.00
Less: 20 % Holding Company Discount	144.00
TOTAL VALUE PER SHARE (after disc)	576.00
TOTAL VALUE PER DVR SHARE (30%)	403.00

KEY FINANCIALS	FY14	FY15E	FY16E	FY17E
SALES (₹ Crs)	2,32,833	2,62,100	3,62,100	3,64,500
NET PROFIT (₹ Cr)	14,198	14,700	20,700	24,700
EPS (₹)	44.10	45.60	64.40	76.80
PE (x)	13.00	12.50	8.90	7.40
P/BV (x)	2.80	2.30	1.80	1.50
EV/EBITDA (x)	5.30	4.50	3.60	2.80
ROE (%)	27.50	20.10	22.90	21.90
ROCE (%)	25.70	24.30	25.10	25.20

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*As the author of this blog I disclose that I do not hold TATA MOTORS DVR in my any of the portfolios.

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