Tata Motors results: Automaker's performance better than estimates | Full analysis here

Motilal Oswal says Tata Motors results were good as JLR numbers were strong; working cap drives FCF to positive zone. Q2 FY21 marked initial signs of volume recovery, the benefit of mix and cost cutting initiatives coming together. This coupled with normalcy in working capital as well as tight control on capex, resulted in FCF turning positive.

Tata Motors turned FCF positive in Q2 FY21, led by the normalization of working capital. Hence, consolidated net debt (Auto) decreased by Rs 63 bn QoQ to Rs 615 bn. While JLR’s near term volumes may be at risk from a potential second wave of COVID, JLR’s mix improvement and tight cost / capex control would drive sharp improvement in operating performance and debt reduction.

Axis capital maintains REDUCE rating on Tata Motors with revised price target of Rs 130 (from Rs 105). Increase in target price is driven by rollover to Sep 22E, cut in capex assumptions and increase in standalone EBITDA estimates.

Axis Capital says JLR margin surprises positively in Q2 results (11% vs estimate of 7%). While company’s cost reduction efforts are commendable and sustainable, JLR’s Q2 margin is also aided by factors which are not completely sustainable and cannot be extrapolated

(1)    Significantly lower variable marketing incentives (3.8% of sales vs normalized levels of 6%+)
(2)    Favourable currency movements (250 bps benefit on YoY basis)
(3)    Government incentives on employee costs (130 bps).

Axis Capital raised their FY21/22E consolidated EBITDA by 18%/3% to factor in the beat at JLR and much improved volume performance led by new launches in the domestic PV segment (which is a positive surprise).

5 key concerns that drive cautious view on the stock

JLR’s market share loss across major geographies over last few quarters:

JLR’s retail market share in the global luxury car industry has declined to around 6.5% in CY20 as compared to 8-9% share (includes volumes of JLR, Audi, BMW and Mercedes). Market share has declined in the U.S., Europe as well as China. JLR does not have attractive new model launches which can help it regain lost market share over the next 2-3 years.

Uncertainty around Brexit:

A “no deal” Brexit could have meaningful negative financial implications for JLR given its production base is considerably concentrated in U.K., also, Tariff increase in Europe market plus restrictions on free movement of goods between Europe and U.K. could significantly impact JLR.

EV risk highest in luxury car segment; success critical to meet emission norms:

Axis Capital believes that EV penetration can increase significantly in the luxury car segment across geographies, but primarily in Europe / U.K. and U.S., Tesla and other global luxury OEMs are definitely ahead of JLR in this regard. Also note that increased sales of BEVs (Battery Electric Vehicle) and PHEVs (Plug-In Hybrid Vehicle) is critical to meet stringent emission norms in developed markets. In CY20 so far, JLR has made provision of £ 90 mn towards EU CO2 fines as it is unlikely to meet emission norms.

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Currency movements play a big role in company’s profitability:

JLR carries significantly higher currency risk (compared to its German peers) due to considerable concentration of production in the U.K. (despite opening of plants in Europe and China over the last few years).
Low FCF generation potential of JLR business:

JLR is unlikely to generate meaningful FCF even after assuming 12% EBITDA margin and annual capex of £ 3 bn (note that even in Q2, despite significant reduction, capex was higher than EBITDA). There is limited scope to improve working capital given payables are already close to 100 days of sales, receivables are low at 15-20 days of sales and inventory days are likely to remain high (80-90 days of sales) due to concentrated manufacturing base. Therefore, unless JLR is able to deliver 14-15% EBITDA margin sustainably for 2-3 years, net debt is unlikely to come down meaningfully from current levels.