Robust volumes driven by both Jaguar and Land Rover brands: In November, Tata Motors' JLR sold 6,047 units, up 37% year-on-year compared to 23% y-o-y YTD (year-to-date). Sales momentum for Jaguar remained robust with 1,446 units, up 103% y-o-y driven by strong response for the new XF and XJ all-wheel drive variants and F-Type. Land Rover sales were strong as well with 4,601 units up 25% y-o-y driven by strong growth across Range Rover (up 267% y-o-y) and Evoque (up 21% y-o-y) models.
JLR incentives decline sequentially, led by ramp up in new launches: JLR incentives declined 11% m-o-m (month-on-month) to $2,723/unit due to lower incentives provided on both Jaguar and Land Rover brands. New product launches such as RR Sport, XF and XJ models have contributed to the reduction in overall incentives. Our recent meetings with JLR retailers in the US suggest increasing order backlogs for the RR and RR Sport brands, which should support sales momentum going forward.
Margins to remain stable with upside risk: JLR’s margins are currently lower than BMW’s. This is despite JLR’s much higher product margin score. The lower profitability at JLR could be partially attributed to BMW’s scale economies. For instance, JLR produces 15% fewer cars per employee than BMW. On the other hand, this indicates that JLR’s margins should expand as strong volume growth drives scale benefits. Further, an expected consolidation in the platforms and improving ratio of models per platform could add to profitability. This provides potential upside to margin. Moreover, although Jaguar has lower margins than Land Rover, an increasing Jaguar contribution to sales may not necessarily dilute JLR margins, as Jaguar’s high operating leverage indicates its profitability to improve with sales . Overall, assuming China contributions and pricing environment remains stable, the current margins look sustainable, with risks to the upside. On the back of a stable margin, we estimate Ebitda to grow at a 15% CAGR in FY14-16e. Currency volatility remains a risk to our estimates.
Valuation: Overall we remain positive on the growth for JLR owing to a robust pipeline of new launches. Stable margin outlook is another positive. Any revival in domestic business is an added upside in the near term. We rate Tata Motors OW (overweight) with a target price of R445. We value the company based on SOTP (sum-of-the-parts). We value the JLR business at 4x Ebitda and the domestic business at 6x September 2015e Ebitda.
Downside risks to our view: A higher-than-expected increase in incentives could dent JLR margins. Strengthening of the EUR and weakening of the USD relative to GBP. Risk of design faults in new launches may hurt brand perception. Higher-than-expected investments in their upcoming hybrid vehicles or new electric vehicles is a risk to cash flows.