Cars are moving into the fast lane for Tata

Natarajan Chandrasekaran is splitting Tata Motors from a position of strength. Cars used to be a top headache for the chair of the Indian salt-to-hotels conglomerate but the latest plan to separate the company's commercial vehicles and its passenger vehicles into two listed entities signals confidence in an important turnaround.

The rejig is underpinned by improvements at Jaguar Land Rover which Tata acquired for $2.3 billion in 2008. Those luxury marques are largely sold outside of India and accounted for 78 percent of the company's overall EBITDA in the quarter ended December. The passenger cars entity that JLR will anchor includes electric vehicles Tata mostly sells within the South Asian nation. The EV unit counts private equity firm TPG among its investors.

After burning money for years, JLR has generated positive free cash flow for five straight quarters. There is strong demand for its higher-priced Range Rover and Defender sport utility vehicles (SUV), including in China. And following a multi-year effort to cut manufacturing costs, average revenue per car has risen to about 70,000 pounds ($89,614) from over 40,000 pounds between the financial years 2019 and 2023. JLR's operating profit margin more than doubled in the three months ended December, compared with a year earlier.

That strength enables a strategically sensible carve-up. Infrastructure spending drives demand for commercial vehicles like trucks. But sales of SUVs and electric-cars are fuelled by splurging consumers. Though JLR and the rest of Tata's cars target two different customers, both are premium in their own right: Range Rovers cost over 100,000 pounds and Tata's electric cars can be 40 percent-75 percent more expensive than their petrol variants.

Shareholders may have to be patient to feel the benefits of a split however. Tata Motors' shares have edged down a smidge since the March 4 announcement after rallying 24 percent this year and analysts see little immediate upside in their sum-of-the-parts analyses.

Tata Motors as a whole currently trades on a multiple of around 6 times forward EBITDA, per LSEG. But the existing passenger business - which currently doesn't include JLR - could increase its valuation to 15 times from 12 times in the longer term as electric-car manufacturing scales and margins improve, according to ICICI Securities. 

Maruti Suzuki, the top seller of cars in India, trades on 19 times. The rejig will also make it easier to win more outside investment for the EV business too.

Whatever happens next, Tata is betting that JLR's worst days are behind it.