Range Rover Velar has been the latest hit model for JLR, but can the run continue?

Range Rover Velar has been the latest hit model for JLR, but can the run continue?

Tata-owned Jaguar Land Rover (JLR) has been a stunning success story under the ownership of Tata Motors over the past decade. It has successfully expanded its model range under its two premium brands and extended its global reach to grow sales in major new export markets. Tata Motors has not wanted to upset the goose that lays the golden egg and a hands-off policy, allowing the company to invest in new models and plants, has been central to a highly successful performance - higher sales accompanied by growing profits and a considerable boost to shareholder value at Tata Motors (listed on the Bombay Stock Exchange). If you want to consider vehicles that have epitomised the glory days of this new success chapter for these premium British brands with heritage, think Range Rover Evoque and Jaguar F-Type.

An aggressive new product development strategy has seen the emergence of a Jaguar SUV - once almost unthinkable - in the form of the E-Pace and multiple Range Rover models (the Velar being the latest). A new Land Rover Defender is on the way and there is a clear strategy for electrification, embodied in the Jaguar I-Pace and plug-in hybrids for future Land/Range Rovers (vital  for Land Rover given the ever tougher market conditions for diesel, especially in Europe).

But the good news for JLR is now being accompanied by developments that are dampening the outlook. Lower sales in key export markets are impacting production plans in the UK. JLR's global sales fell 12.3% in September from a year earlier. The main negative was a 46% reduction in China, which JLR blamed on trade tensions. European sales also fell 4.7%.

Land Rover has just announced that it will shut its Solihull plant for two weeks this month. That announcement follows earlier ones including a three-day week at the Jaguar Castle Bromwich plant. China is a big worry. Demand in China is topping out. After a period when JLR products flew off forecourts, the market is changing. SUVs are still very much in vogue, but domestic makers are introducing more and better product to take more share. The big move into electrification being encouraged by Beijing risks catching JLR a little late to the party. Buyers of high-end vehicles are also wary of spending while the trade war between the US and China plays out.

Elsewhere in the world, the US market is coming off a high base and tough to make very much progress in (though the Range Rover Velar has done very well this year). Europe is also a more difficult marketplace, worries over clampdowns on large diesel engines acting as an additional concern.

And, while we're on Europe, it's hard to avoid the B-word, Brexit. We still do not know the shape of the deal being negotiated, in terms of trade arrangements, that will govern UK-EU trade after Brexit. However, we do know that continued 'frictionless' trade, as currently, between the UK and EU customs union area could be coming to an end. The extent of the possible change is unclear, but in the worst case scenario of a 'no-deal' Brexit, there would be delays at borders for new checks on goods and new tariffs. JLR, as predominantly a UK manufacturer, is more exposed to this additional cost than its main competitors sat in the heart of the continent. The German OEMs do not want a hard Brexit either, but they are also very wedded indeed to maintaining the integrity of a single market and customs union that has worked so very well for them. The thought that a major competitor is bearing a much higher Brexit cost may, though, be some consolation in Ingolstadt, Munich and Stuttgart as they survey their own Brexit costs. In Gaydon, scenarios involving a major run on sterling won't be too appealing either, especially if UK interest rates head rapidly up.

Lately, JLR has very publicly warned of the Brexit risks and dangers to its business, as it seeks to put pressure on the UK government to do a deal with Brussels that minimises additional costs on European trade. A disorderly Brexit could significantly disrupt JLR's supply chain. The risks get larger as the clock ticks, no deal evident.

The top line issues for sales are arriving just as the company has to dig deeper to invest in costly electrification technology.

Over at Tata Motors, JLR's travails are not something that can easily be ignored. The distant cash cow is far too important for that, with the UK subsidiary accounting for at least two thirds of Tata Motors' earnings. The top line issues for sales are arriving just as the company has to dig deeper to invest in costly electrification technology. Capital investment at JLR is being increased to GBP4.5bn in the current financial year (was GBP4.2bn in the previous year) and maintained at that rate in the following two years.

Recent major investments include the opening of an engine plant at the company's joint venture in China and construction of a manufacturing facility in Nitra, Slovakia, where production is due to begin later in 2018. A GBP450m investment is underway at the Gaydon Design and Engineering Centre in the UK to centralise automotive design and product engineering activities. In January, Jaguar Land Rover also confirmed plans to open a software engineering centre in Shannon, Ireland, to support the development of electrification and self-driving systems for future vehicles.

It's an aggressive capital investment strategy to secure new models and technology, especially electrification and a whole new flexible and scalable platform, 'modular longitudinal architecture' (MLA; coming in 2020), designed to bring major cost savings as more vehicles share the same underpinnings across both brands. Future MLA products (Range Rover, RR Sport, Discovery, Velar, F-Pace, XF, XE, Evoque, Disco-Sport, E-Pace) will all be able to cater for an ICE, BEV, or PHEV derivative. It is planned that the roll-out of MLA will be fully complete by 2025. That sounds ambitious given the long list of models affected by the changeover.

Addressing the market shift away from diesel is a priority issue for JLR, but it is going to be expensive to do, unavoidably so. JLR looks like it is laying the right groundwork for long-term success, but it is hitting headwinds right now, bumps in the road. Investors and analysts have been alarmed by mounting costs at JLR just as sales soften. The sensitivity was underlined when almost a fifth was wiped off Tata Motors share price in Mumbai this week, following the JLR announcement of a two-week shutdown at Solihull. It is likely that JLR production cuts will put significant dents in Tata Motors revenue and operating profit in the quarter that will end on December 31, the negative sentiment around for a while longer yet. There may even be calls from some quarters to review JLR's investment plans and take some cost out. Such calls are sure to meet heavy resistance in Gaydon, but a deteriorating sales trend and profit contribution won't look good in Mumbai. A recovery to sales in China can't come soon enough.

Tata Motors share price on the slide

INRlost value (vs previous data point)lost value (vs 15 Jan)
15 Jan 2018432.35NA0.0
9 April 2018358.3-17.1-17.1
8 June 2018305.414.8-29.3
8 Oct 2018213-30.2-50.7
9 Oct 2018 (low point)177.5-16.7-58.9

Source: Bombay Stock Exchange

Tata Motors financial results (quarter ended June 30, 2018)

INR bn%ch (YoY)
RevenuesINR 670.81bn+14.7
Net incomeINR -19.02bn-159.8%
Net profit margin-2.84%-152.2%
Operating incomeINR -4.26bn-196.9%
Cost of revenueINR 383.44bn+16.5

Source: Tata Motors

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