2015, a slow year: Tata Motors underperformed the Sensex by 20% last year as the high-margin China market slowed down, new model ramp-up was slower than market expectations and JLR margins came down from 19% in F2Q15 to 12% in F2Q16. Despite a mixed macro outlook for 2016, we believe TTMT will have a better year ahead.
Jaguar’s best phase ever: We introduce the Morgan Stanley Proprietary model cycle index and note that Jaguar is embarking on its most ambitious model cycle since 2000, and we expect 34% FY15-18 volume CAGR (compound annual growth rate) in the brand. Land Rover will also launch two new models in 2016, making JLR one of the fastest-growing brands globally. Stable XE mix, leverage gains and lower discounts on new models will help JLR margins expand from 12% in F2Q16 to 15.5% in FY18.
China’s contribution is going down: We estimate China to account for ~20% of FY17 JLR net sales vs. 36% in FY14, so JLR would be less exposed to a sharp slowdown in China. Further, JLR is a UK-based exporter, so its earnings are unlikely to be hampered by potential USD strength.
Our AlphaWise survey of 300 fleet operators suggests that contrary to our/Street expectations, TTMT is set for market share rebound in domestic trucks. Given better earnings visibility, we now use PE (price-to-earnings ratio) to value the India business (was PB). We still value JLR at 7x PE. We cut our TTMT FY16 earnings forecasts by 12% as we build in full impact of the Tianjin blast in August 2015 and FY16 volume weakness. Our PT (price target) falls 9%, but we think value still looks attractive at ~25% discount to peers, at 7.1x FY17e P/E (8.3x adjusted for R&D) vs. 9x for BMW for 2016e/FY17.
We expect a 16% y-o-y volume rebound for JLR over FY15-18. JLR margins to expand from 12% in F2Q16 to 15.5% by FY18, driven by better utilisation at Jaguar facility, incrementally richer mix at Jaguar and lower discounting. For the India business, we believe FY15 marked the earnings trough, and we expect gradual recovery from here, with Ebitda margins swinging from -2% in FY15 to 9% by FY18, driven by sharp volume recovery across segments.
We expect 18% F16-18 earnings
CAGR for TAMO, driven by pickup in JLR volume growth and Indian business turning around. To arrive at our SOTP-derived price target, we apply 15x F18e P/E to the Indian business and 7x P/E to the JLR business. This implies 25% upside potential from current levels.