Jaguar Land Rover suffered a $4 billion loss this month. Credit investors need to start worrying about what is coming next.
The fourth-quarter loss announced by the Tata Motors-owned company earlier this month was driven by a 3.1 billion-pound ($3.9 billion) impairment charge. Though that is non-cash, already-elevated yields on some of the UK unit’s bonds spiked.
It’s not hard to see why. Half of the value of the writedown – some 1.55 billion pounds – comes out of tangible assets, which now will not generate the value the company previously thought due to weak market conditions in China, technology disruptions, and rising debt costs.
The rest is on intangibles, representing money that has already flowed out of the business. Of the cash spent on products and investments (a measure the company uses to assess investment in future technologies and growth), a big chunk relates to expenditure on intangibles such as technology and intellectual property.
The pertinent question is why management waited so long to write down these investments. Its annual report last year noted that there was a “risk of an impairment due to optimistic expectations of future sales volumes and/or gross margins.” It also said there was a chance that “changing technology plans (e.g. electrification) and industry trends (e.g. reducing diesel sales) are not properly considered in the impairment calculations.”
So why is it only now that these expenses were judged to be too high? Did no one kick the tires on what the returns would be, or consider whether they should have been writing down these assets faster? With so little detail, it’s hard to know whether the impairments just taken should now be considered conservative, or aggressive.
The charge should also be a warning for JLR’s increasingly precarious cash and liquidity position. The company’s liquidity – all its cash plus a 1.94-billion-pound revolving credit facility due in 2022 – has deteriorated dramatically in the past two years, dropping to around 4.4 billion pounds. Meanwhile its total debt has continued to rise, to 4.7 billion pounds as of Dec. 31.
While its persistently negative free cash flows have improved from the depths of the first fiscal half, S&P Global Ratings estimates that its measure of free operating cash will continue to be significantly in the red for two years. If the cash burn matches the average 670 million pounds a quarter seen since March 2017, JLR may struggle to make it through another year.
Meanwhile, debt to Ebitda is rising, and JLR’s implied equity value, based on a sum-of-the-parts analysis of Tata Motors, is shrinking.
The company continues to spend billions of pounds on investment and hundreds of millions more in dividends to its parent, despite deepening operational woes that we have written about here and here. Worryingly, operating cash flow is falling relative to capital expenditure, making it harder to pay for investments without dipping into debt. If the company’s attempts to deliver on its cost-cutting program continue failing to deliver and sales do not improve, further spending on tangible assets will be the only credible way to improve cash flows – but Jaguar Land Rover is already backed too far into that particular corner.