Whichever way you look at it, the Tata Motors share price (Telco) seems to be on a roll. It is up a whopping 78% since the start of the current calendar year. And in doing so, it has not only knocked the daylights out of automobile stocks at home, but is amongst the highest grossing auto stocks in the world so far this year.
So, what is it that has made investors warm up to Tata Motors? It is not so much the domestic performance we believe. But the fantastic turnaround that JLR (Jaguar Land Rover), its overseas assets, has managed to put together.
If everything goes well, JLR is likely to end the fiscal year with revenues in excess of GBP 12 bn (US$ 19.2 bn). This will be almost 2.5 times the revenue it recorded for the period ended March 2009 and nearly two times the revenues of financial year ended March 2010.
From a profitability point of view, the performance has been even more noteworthy. The company is likely to end the fiscal year FY12 with profits in excess of GBP 1 bn, a far cry from the close to GBP 400 m loss that it incurred during the 9 month ended March 2009.
Clearly, the turnaround in fortunes could have surprised even Tata Motors, let alone other company observers. Little did they know that the cash guzzling and overleveraged entity would turn around in such spectacular fashion and that too, in such a short period of time. The improvement has not gone unnoticed by analysts either, who, as Bloomberg pointed out, are valuing the company at a huge US$ 14 bn. Put this in perspective against the measly US$ 2.3 bn that Tata Motors shelled out for them. Not to forget that even this amount looked exorbitant back then.
At the current valuation of US$ 14 bn, JLR is valued higher than carmakers of such repute as Fiat SpA and Suzuki Motor Corp, the latter being the parent of India's largest car maker, Maruti Suzuki.
All of this thus begs the question as to whether there has been a permanent rerating of JLR and also that of Tata Motors as a consolidated entity? It is too early to say we believe. The global auto industry and that too luxury car making has been notoriously erratic in the past and to wish away the same for JLR on the basis of just a couple of years of good performance may not be the wisest of things to do. Analysts seem to be giving a lot of weightage to the current performance of the company and very little we believe, to its past performance.
Let us not forget that this is an entity that only a couple of years back was struggling to get into the green, let alone post strong profit numbers. Besides, the company's growth is dependent largely on the global economic environment, which we all know is pretty fragile at the moment.
Usually, for an entity like JLR, which is capital intensive in nature and which also has a cyclical business model, what should be preferred is the asset based approach to valuations i.e. valuing the entity based on P/BV, after taking into account return on assets or equity of the past few years. Besides, if an EV/EBIT or a P/E based valuation is to be considered, then we would very much like the company to be valued on its normalised earnings rather than the most recent earnings.
To conclude, it does look as if JLR is being valued with the assumption that it has moved to a higher earnings platform on a permanent basis and may never come down from the same. History suggests that such an assumption is a dangerous one to make, especially when the past performance of the company is still erratic.
Will the company be able to prove the majority wrong? We cannot say for sure. What we do know is that more the stock price is dependent on its past performance continuing and less on very high future growth rates, the better it is.
Rahul Shah (Research Analyst), Managing Editor, Microcap Millionaires has led the team from the front in developing some of our most stringent and rewarding research processes. As per his own admission, the turning point in Rahul's life as a financial analyst came a few years back when he got introduced to the works of Warren Buffett and Charlie Munger. From Buffett, he understood the value of investing in good quality business with powerful moats and strong management teams. Charlie Munger on the other hand inspired him to be a lifelong learner and use mental models in order to arrive at the crux of matters across most disciplines. Rahul firmly believes that in order to be successful at investing, you have to do the big things right and possess a great temperament and a contrarian streak.
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