TATA MOTORS DVR "A" SHARES TATMTDVR.BO
February 19, 2012 - 8:52pm EST by
ladera838
2012 2013
Price: 138.30 EPS $29.00 $31.00
Shares Out. (in M): 320 P/E 4.8x 4.5x
Market Cap (in $M): 900 P/FCF 0.0x 0.0x
Net Debt (in $M): 0 EBIT 0 0
TEV ($): 0 TEV/EBIT 0.0x 0.0x

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  • Arbitrage
  • Automobiles
  • India

Description

 

This idea centers on the question of what a voting right is worth.  If you could separate the other economic benefits of owning a share in a company from the right to a vote in the affairs of the business, what proportion of the share price would you attribute to the voting right?  Or if you had two classes of shares in a company that were identical in every respect except the voting rights, then, ceteris paribus, how much of a premium would you pay for the ability to vote?

 

The answer to this question is likely to vary from company to company, and also to vary at different times during the life of a company.  (At the time of a proxy fight, for example, one could imagine a significant premium being paid for voting shares over non-voting shares.)  This writeup also suggests that the value of a voting share may vary by country, at least in part because of confusion in the minds of investors as to the differences between two classes of shares.

 

How about a 49.5% discount for shares which have one-tenth of the voting rights of the “ordinary” shares of the company?  The company also happens to be a very large, established business in its home market, with growing visibility internationally.  If that sounds like an attractive discount, read on.

 

 

A CAVEAT

The stock discussed in this report is traded in India, on the Bombay and National Stock Exchanges.  The ability to purchase this security is limited to investors who have the ability to invest directly in the Indian stock market.  This precludes many individual investors from considering this investment.  My apologies on that score.  But I suspect that many VIC members do have the ability to invest in India, and I hence consider the idea worth posting.  I also hope to hear from members about other opportunities along these lines in other countries (or in the US).

 

 

BACKGROUND ON THE SECURITY

In November 2008, the Indian company Tata Motors issued “A Class” shares, also known as “DVR shares” (for “Differential Voting Rights”).  These DVRs were issued (along with ordinary shares) as part of a rights issue conducted by the company to help pay for its acquisition earlier that year of Jaguar Land Rover from Ford Motor Co.  The DVRs are identical to the previously outstanding ordinary shares of the company, except that they have one-tenth of the voting rights of the ordinary shares (one vote for every 10 shares), but are entitled to get a higher dividend.  The dividend is only very slightly higher, and for purposes of our analysis the difference is negligible.  Some 64 million DVRs were issued, which account for about 10% of the total shares outstanding of the company.  Following a 5:1 stock split last year, there are now about 320 million DVRs outstanding.  At the current price of Indian Rupees (INR) 138.30 per DVR share, the DVRs have a market capitalization of about $900 million, and trade actively on the Bombay and National Stock Exchanges.

 

When the DVR shares were initially issued as part of a broader rights issue, there was poor demand for them, and the company’s “promoters” – i.e. the Tata family and their affiliates – bought most of the issue (about 84%).  The DVRs were issued at a discount of about 10% (INR 305 vs. INR 340) to the common shares that were also being issued at the same time, as part of the rights offering.  Limited voting-rights shares such as the Tata Motors DVRs are very uncommon in India, and were not understood by investors there; hence the weak demand.  Over time the Tatas have gradually reduced their stake in the DVRs, and now own less than 10% of that class.  Shortly after being issued, the DVRs traded at a premium to the common shares.  But the dumping of the DVRs by the Tatas, along with the lack of understanding of the shares by the investing community, has resulted in dramatically higher discounts over time.  Over the last two years, the discount has ranged from a little over 20% to almost 60%, and currently stands at just under 50%.  I have seen an estimate that the discount has averaged about 34% since the DVRs first started trading, though I have not attempted to directly verify this calculation.

 

 

COMPANY BACKGROUND

Tata Motors is India’s largest manufacturer of automotive vehicles, including basic and luxury passenger vehicles and commercial vehicles.  The company, formerly known as TELCO (Tata Engineering and Locomotive Company), was originally a manufacturer of steam locomotives; this business was discontinued in 1971.  The company started manufacturing commercial vehicles (trucks) in 1954, originally in collaboration with Daimler-Benz, and started making passenger vehicles in 1991.  The name was changed to Tata Motors in 2003.  In June 2008, Tata Motors acquired Jaguar Land Rover (JLR) from Ford.  The company also manufactures the much-publicized Tata Nano, which is touted as the world’s most affordable car (priced at about $2,500), though the Nano is still a miniscule part of the overall operations of the business and has had some teething problems.  The company has a market share of approximately 62% of the Indian commercial vehicle market (by units) and 13% of the passenger vehicle market.

 

I am not going to spend much time on discussing the merits of Tata Motors’ common shares in this report, though some commentary is warranted.  As a large Indian company, with a market cap of some $18 billion (based on the price of the common stock), Tata Motors is covered by many analysts.  To me the key points are as follows:

 

(1)  The company has a strong position in each of its businesses.

(2)  Management is generally considered to be very competent.

(3)  Unit sales have been steadily growing.

(4)  The company is solidly profitable.

(5)  At the current price, the common stock appears reasonably priced.  The stock is trading at about 9x trailing earnings.  Based on expected growth rates in the low double digits, and modest multiple expansion, I would expect the common stock to appreciate by perhaps 30% to 50% over the next two to three years.

 

Incidentally, Tata Motors’ ADRs have been listed on the NYSE since September 2004 under the ticker symbol TTM.  One ADR is equivalent to five ordinary shares.  A U.S. investor who is unable to buy the DVRs, but is looking for exposure to Tata Motors, can thus easily invest in the ADRs.  As I suggest in point (5) above, I think that such a move would likely prove to produce reasonable results.

 

Tata Motors’ unit sales have grown in recent years, with total sales rising from 460K units in fiscal 2006 to over 1 million units last year.  In the first nine months of the current fiscal year, unit sales increased by another 10%. 

 

TATA MOTORS

 

 

 

 

 

 

 

 

 

 

 

 

 

FY Ended March 31

 

 

UNIT SALES BY CATEGORY (000s)

 

 

 

2011

2010

2009

2008

2007

2006

 

 

 

 

 

 

 

 

 

 

 

 

Passenger Cars

 

 

 

322

279

214

182

197

169

 

Utility Vehicles

 

 

 

244

181

159

50

49

40

 

Light Commercial Vehicles

 

 

 

311

229

161

173

149

108

 

Med/Heavy Comm'l Vehicles

 

 

 

202

180

139

191

194

143

 

 

 

 

 

1,079

869

673

597

589

460

 

 

 

 

 

 

 

 

 

 

 

 

 

 

The company’s revenues and profits have also been growing solidly, and there is little reason to expect that this will change anytime soon.

 

TATA MOTORS

 

 

 

 

 

 

 

 

 

 

 

 

 

INR millions

       Nine months ended

         FY Ended

 

 

12/31/11

12/31/10

 

3/31/11

3/31/10

 

 

 

 

 

 

 

 

Net Sales from Operations

1,147,466

868,409

 

1,231,333

925,193

 

PBT

91,096

75,259

 

104,372

35,226

 

Net income

72,825

66,361

 

92,736

25,711

 

 

 

 

 

 

 

 

EPS (diluted)--INR

21.94

20.98

 

28.96

9.74

 

 

 

 

 

 

 

 

 

 

Incidentally, given the discount in the DVR share price, an investor is earning double the dividend yield that he would receive from buying the common shares.  The dividend yield on the common shares is currently about 1.5%; a DVR investor would be receiving a dividend yield of about 3% annually.

 

 

 

EXPECTED OUTCOME

Over the next two to three years, I believe that the discount on the DVRs will gradually narrow to perhaps 20% to 30%, versus the 50% it is trading at today.  This 20-30% discount is not hard to imagine, given that we have seen those discounts relatively recently.  If the common stock price remained flat, that would imply DVR price appreciation of between 40% and 60%.  If the common stock price also appreciates by the 30% to 50% that I expect over a similar period, the combined effect (along with dividends) should give us appreciation of 100%, and possibly more.  (My longer-term view is that over some years the discount will narrow to 10% or less as the investment community recognizes that for practical purposes the vote is worth very little, and that similar securities trade at much smaller discounts to higher voting rights shares in most countries.)

 

 

CATALYSTS

  • Recognition by investors that the DVRs are essentially identical to the common shares, and that the limited voting rights do not warrant such a large discount.
  • End of selling of DVRs by the Tata family and affiliates.

 

 

RISKS

  • This is a value trap, and the discount persists, or widens.  I consider this unlikely, given that the discount is now close to the high end of the range it has traded at, and the anomaly is likely to be increasingly visible over time.
  • The company performs poorly, so that the underlying ordinary shares decline over time.

Catalyst


  • Recognition by investors that the DVRs are essentially identical to the common shares, and that the limited voting rights do not warrant such a large discount.
  • End of selling of DVRs by the Tata family and affiliates.
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