S&P downgrades Tata Motors on weakening JLR; outlook stable

S&P Global Ratings today lowered Tata Motors' long-term credit rating to 'BB' from 'BB+' citing weakening volumes and other operational issues plaguing its cash-cow JLR, but retained its outlook at 'stable'. The agency also lowered its long-term issuer rating on the dollar-denominated senior unsecured notes to 'BB' from 'BB+' of the country's largest auto company by revenue.

"We downgrade Tata Motors to BB from BB+ to reflect our view of the weakening operating conditions for its subsidiary Jaguar Land Rover (JLR) over the next two-three years. A recovery in its domestic commercial and passenger vehicle businesses will only partially offset the weakness, in our view," S&P said in a note.

The ratings agency expects JLR volume to grow at 6-8 per cent over the next two-three years, after a growth of just 1.7 per cent in FY18, against the expectation of 14-17 per cent rise during the year.

"We believe the resilience of JLR has come down due to shifting consumer preferences, increasingly complex operating conditions, and its higher exposure to event risks such as Brexit and emerging trade wars," it said.

The underperforming British auto market, Europe's aversion to diesel cars, and JLR's high capes for electric vehicles (EVs) are likely trim its bottomline and larger negative free operating cash flows over the next two-three years, S&P added.

On the stable outlook, the report said, it "reflects the expectation that its faster growth over the industry with steady but lower profitability will push up cash flow-to-debt ratio to 30-40 per cent over the next 12-18 months."

The report said JLR volume is declining in part due to Europe's aversion to diesel cars after the Volkswagen "dieselgate" emissions scandal. Diesel cars accounted for over 30 per cent of JLR's volume in fiscal 2018, although the share of diesel cars in the its British and the European Union sales is over 80 per cent.

Diesel car sale is gradually recovering in these markets, but the agency believes such vehicles are well past their peak.

Tata Motors expects the share of hybrid and electric vehicles in its total sales volumes to rise to 20 per cent by fiscal 2023, from about 5 per cent now, tempering the impact of the decline in diesel volume, the agency said.

"We believe the lingering risks of Brexit-related trade restrictions and of US import tariffs add further uncertainty to JLR's operating performance," it added.

JLR's lower operating scale, higher concentration in Britain and lack of manufacturing in the US, makes its financial performance less resilient than larger peers like Daimler,BMW, Fiat Chrysler, according to S&P.

Britain accounts for about 70 per cent JLR's manufacturing which is declining now, and the US accounts for 21.7 per cent of its volume. But China's latest move to reduce tariffs on imported cars by about 10 per cent may offset some of this headwinds, according to the report.

"We expect JLR's modest sales growth, stagnant price realisation per car, rising commodity prices, and higher product development expenses to continue to weigh on Tata Motors' profitability," the report said, adding operating margin was 5.7 per cent in FY18, 130 bps lower than estimate and also in FY17. But its peers have margins of 9-12 per cent.

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The ratings agency also expects JLR's profitability to gradually recover to about 7 per cent in fiscal 2019 and 9 per cent by fiscal 2020.

"Modest volume growth from its low-cost Slovakian operations, and better cost controls should support the recovery over the next two to three years," it said.

But the report is positive on the improvement in the home market, as it sees commercial vehicle (CV) volume growing strong over the next two-three years, clipping at 9-13 per cent in this period. The CV volume rose 16.7 per cent in fiscal 2018, boosting its market share to 45.1 per cent from 44.4 in fiscal 2017.

However, the report said a fasting growing GDP, good CV and PV (passenger vehicle) portfolio, cost management, customer-centric approaches, and supplier rationalisation will boost the automaker's sales and profitability over the next two to three years.

But again heightened price competition from Ashok Leyland, Mahindra and Bharat Benz, and the recently announced changes to the CV tonnage policy could constrain its profitability, it warned.