By Mark Bern, CPA CFA
Tata Motors (TTM) is the largest automaker in India and owns Jaguar/Land Rover (JLR), which it acquired in 2008. It is also the fifth-largest medium and heavy commercial vehicle manufacturer and the second-largest maker of medium and heavy buses in the world.
Results for 2011 have been mixed and somewhat disappointing. Earnings fell short of what I had expected and with only one or two analysts following the company the consensus is based upon a very thin sample. This makes it a bit hard to judge what to expect as if even one analyst doesn’t like the company the consensus will be skewed. Likewise the reverse could also be true. So I did a little digging to try to figure out what I thought the prospects of the company might be.
One thing that caught my eye was the significant rise in the stock’s price from the low of under $4 in 2009 (after the fall from the previous high of almost $21 in 2008) to the 2010 spike over $32 and the subsequent fall back to the current level of $17.57. What a roller coaster ride. A second quarter financial disappointment is primarily accountable for the recent fall back to earth, but what powered the price to such speculative levels in the first place? Momentum obviously seems to play a role in these types of occurrence, but what got the momentum started?
I believe that several things combined to make this stock take off. Lofty expectations and not enough analysts following the stock contributed, I believe. I remember the solar stock predictions back in 2006 and 2007. That didn’t work out so well either in the short term. But the buzz around the new designs and a car priced under $3,000 got a lot of attention. The potential size of the market is another factor that attracted a lot of speculation. And sales got off to a good start. But then sales leveled off and now reality has sunk in. That is not to say that the potential market isn’t going to be huge someday or that new designs won’t excite people once again. I think, eventually, these factors will play a major role for Tata.
The reality of today is that the market for cars in India may be growing but it is still small and very competitive. The average per capita income for India is about $3,500. To put that in perspective the average per capita income in the U.S. is about $47,000. India doesn’t have a lot of two-income households while the U.S. has a bunch. We spend about half of a year’s income on a new car. In India one would have to spend almost an entire year’s income to buy a car. As incomes grow in India, the market for automobiles will also grow. That is happening and a decent pace, but these things take a few years, maybe a decade or two, for income to rise to the levels that will support the sort of consumption habits that we take for granted.
And then there are the roads. India is in the process of building its infrastructure, but again this takes time and lots of money. It will happen. It is happening. But why buy a car before you can use it safely? I haven’t been to India so I may be speaking out of turn here, but I think the day is coming when owning a car may make more sense in that country, but today I’m not so sure. It seems like more of a status symbol. Status symbols don’t feed the family. But I do believe it is coming and I do believe that Tata will share in the good fortune then and all along the way. That is one of the ways I believe an investor should look at Tata; from the long term viewpoint. The current dividend yields 2.3%. That’s better than 10-year Treasury’s and Treasury securities are not going to go up in value. We could get into a discussion about inflation here, but that’s another story.
The second way an investor can look at Tata is that much of the worst news is already baked into the price of the stock. India’s economy is growing much faster than its developed country counterparts. I suspect that the price will be volatile for many years until the domestic market for passenger cars hits another gear. Until then it is better to consider the company on dips only. An investor could look at buying a core position for the long term and then trade around that core. In other words, buy some more on dips and hold those shares only until the price spikes again. Take profits and start over when the price falls back down. The current consensus target price on Tata is $32. But remember what I said earlier about not enough analysts to provide a reliable consensus. This may be only one person’s target and it is, in my opinion, a bit high. However, I do believe that the stock could see an increase more in the range of 30% from current levels over the next 12 months.
But I like to take the longer view and I think that over the next five to 10 years Tata’s stock could provide an average total return close to 25%. Some years will be better and some will be much worse, but that is the nature of investing. It’s really how we end up down the road that counts.