Industrials

Andy Mukherjee is a Bloomberg Gadfly columnist covering industrial companies and financial services. He previously was a columnist for Reuters Breakingviews. He has also worked for the Straits Times, ET NOW and Bloomberg News.

India's Tata Group badly needs to find a new cash machine. The aviation-to-autos and salt-to-steel conglomerate's existing ATM is Tata Consultancy Services, the nation's largest software exporter. The code-writing company rakes in more than 180 billion rupees ($2.7 billion) of annual free cash flow, which more than compensates for the 80 billion rupees of cash drain from the group's other 10 largest publicly traded firms.

Tata's ATM
Software major Tata Consultancy Services brings in cash; the rest of the group spends it*
Source: Bloomberg
* Free cash flow defined as cash flow from operations minus capital expenditure.

That's a risky dependence. The legacy business of helping global companies customize and deploy large-scale enterprise software products built by the likes of Oracle and SAP is fading. Bloomberg Intelligence analyst Anurag Rana anticipates a price war in 2016. Cloud-based applications are gaining ground, but it's unclear if Indian vendors' low-cost delivery model will give them a winning edge in emerging digital technologies, too.

That should make at least some people in Bombay House, Tata Group's Mumbai-based headquarters, worry. Unlike Tata Consultancy Services, or TCS, none of the other major Indian software exporters, such as Infosys, Wipro or HCL Technologies, belongs to a capital-hungry conglomerate with $38 billion in debt. They can plod on. But Tata Steel has a metals meltdown to see off and Tata Motors has to contend with a slowdown in Chinese demand for Jaguar Land Rover (JLR) as well as an underperforming domestic small-car business. The group also needs money to scale up its two fledgling aviation joint ventures with Singapore Airlines and AirAsia.

On top of that, Tata Group requires resources to become the Indian government's go-to private sector partner in defense production. Sunrise industries beckon, but cash is the best companion for a long night. Where to get it if TCS stagnates?

Borrowing is expensive, even for pedigreed emerging-market companies. Dollar loans so far this year have on average cost the group 192 basis points more than the benchmark London Interbank offered rate, according to data compiled by Bloomberg. That's cheaper than during the 2013 Federal Reserve taper scare, but slightly higher than last year.

Growing Expense
Tata Group's borrowing costs have been inching higher
Source: Bloomberg
* Denotes amount of loans signed that year.

To strike back at its cash challenge, the empire must first shrink. Tata Steel is trying to hawk a part of its European business, and Indian Hotels, which operates The Pierre in New York, is looking to sell assets to cut its debt by about 30 percent. Bolder steps might be needed. Group Chairman Cyrus Mistry wouldn't upset investors if he decided to get rid of Tata Motors' non-JLR passenger car business -- his predecessor, Ratan Tata, failed to sell it to Ford in 1999 -- and got TCS to make a big acquisition instead. Ratan Tata's 2008 purchase of JLR -- incidentally, from Ford -- was an inspired decision, although at the time it smacked of expansionism, particularly since the transaction followed an $8 billion takeover of British steelmaker Corus in 2006.

Shrinking Valuation Discount
IBM's price-to-earnings ratio is now 58% of TCS
Source: Bloomberg

Mistry should hope to bag the next JLR, rather than another Corus. One good target might be IBM, whose shares are trading close to a five-year low and at a price-to-earnings multiple of slightly more than 10, almost half TCS's valuation. Bloomberg Intelligence reckons the New York-based company will take several years to complete a successful transition from legacy businesses toward analytics, cloud, mobile and security, but meanwhile it's still generating more than $13 billion in free cash every year.

The Tata group is unlikely to find another local cash cow as good as TCS. So why not make it fatter with a daring acquisition?

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the author of this story:
Andy Mukherjee in Singapore at amukherjee@bloomberg.net

To contact the editor responsible for this story:
Katrina Nicholas at knicholas2@bloomberg.net