Brexit is a toss-up for JLR, neutral in case of a soft one, or a win should the deal fall through. The latter implies tariff barriers, which should spur JLR’s UK market share (~18%) due to local production arbitrage. On the other hand, JLR is relatively immune in EU given excess capacity versus sales and limited imports from UK.
Potential GBP depreciation and reducing import content (from EU) should be also beneficial. Beyond Brexit, JLR continues to stay on course while India (M&HCVs) is primed for a Super Recovery and a sharp PV turnaround. Hence, we are raising the target EV/Ebitda for India to 13x, a discount of ~15% to Ashok Leyland (AL), and revising the TP to Rs 215 (from Rs 197). Maintain ‘buy’.
Given peers Audi and Mercedes have nil production capacity in the UK, a hard Brexit could strengthen JLR’s UK market share of ~18%. Key products that could drive market share gains are Evoque, Discovery Sport, Velar and the Jaguar family. In EU (ex-UK), JLR’s higher production capacity at ~250k units versus sales of ~100k units, ability to add more models (for Jaguar and LR) with limited investments and low (mid-single digit) imports from UK limit the import tariff risk. Imports from EU into UK make up ~25% of sales, but should reduce over time. Assuming supportive (fiscal/liquidity) UK/EU government restricts demand disruption, higher working capital blockage is a manageable risk. A weakening GBP against USD may provide an additional tailwind.
The current share of replacement demand is at a multi-decadal low. This along with lead indicators (finance availability, resale prices, etc) suggests a strong volume cycle. As market leader, TML remains well placed to exploit this trend reversal. The combination of strong M&HCV volumes, improving performance in PVs and demerger of the PV business will aid a strong turnaround.
In light of a comprehensive management reshuffle and steadfast execution (so far), we remain positive that both JLR and India will capitalise on product/cyclical tailwind and usher in structural and sustainable efficiencies (refer to holistic improvement). We also expect better capex planning so that its Ebitda stays higher than capex, regardless of demand environment.
While both businesses make a strong case for a re-rating, we are re-rating the valuation of India business (in line with what we did for Ashok Leyland in Super Recovery), maintaining a ~15% discount to AL’s valuation. Given its M&HCV leadership, we expect the India business to ultimately trade at a premium to its smaller peer as TML demonstrates the turnaround (similar to that seen in AL during FY13–15). Maintain ‘buy/SO’ with an SoTP-based TP of Rs 215, valuing the India business at 13x EV/Ebitda and JLR at 6.5x EV/EBIT.