The purpose of the study is to do a detailed analysis of a manufacturing company, Tata Motors Ltd. In this report, we have calculated the beta, cost of equity and the cost of capital for Tata Motors Ltd., one of the largest two-wheeler manufacturing organizations in India. Along with this, we have also studied the capital structure and calculated the degree of financial and operating leverages of Tata Motors Ltd. for the years 2014-15. Data for calculating the beta and risk free rate has been obtained from the Ace Equity. To find out the capital structure and the degree of financial and operating leverage, data has been taken from the annual report of the company

1. Program & Batch: PGDM – Ex (2015-16)
Term: IV
Course Name: Corporate Financial Management
Name of the faculty: Dr. Alok Kastia
Topic/ Title : Detailed Analysis of Tata Motors Ltd. by calculating its cost of
capital using CAPM, its Capital structure and Leverages
Original
or Revised Write-up:
Original
Group Members: S. No. Roll No. Name
1 150301007 Tushar Sharma

2. TATA MOTORS LTD.
2
Contents
1. Executive Summary.......................................................................................................3
2. Introduction/Background of the study ...........................................................................3
3. Conceptual Framework..................................................................................................5
Capital Structure....................................................................................................................... 7
Leverage ..................................................................................................................................9
4. Literature Review ........................................................................................................9
5. Objective of the study..................................................................................................11
6. Scope & Methodology.................................................................................................11
7. Data Collection ............................................................................................................11
8. Data Analysis ...............................................................................................................12
Capital Structure..................................................................................................................... 12
Leverage ................................................................................................................................ 13
9. Conclusions & Recommendations...............................................................................14
10. References....................................................................................................................15

3. TATA MOTORS LTD.
3
Detailed Analysis of Tata Motors Ltd. by calculating its cost of
capital using CAPM, its Capital structure and Leverages
Executive Summary
The purpose of the study is to do a detailed analysis of a manufacturing company, Tata Motors
Ltd. In this report, we have calculated the beta, cost of equity and the cost of capital for Tata
Motors Ltd., one of the largest two-wheeler manufacturing organizations in India. Along with
this, we have also studied the capital structure and calculated the degree of financial and
operating leverages of Tata Motors Ltd. for the years 2014-15. Data for calculating the beta
and risk free rate has been obtained from the Ace Equity. To find out the capital structure and
the degree of financial and operating leverage, data has been taken from the annual report of
the company. Beta (daily) for the year 2014-15 of the company is 1.365 while the risk-free rate
for the year 2014-15 is 7.9. The cost of equity (Ke) comes out to be 15.78% for the year 2014-
15. The cost of debt (Kd) is 9.5. The weighted average cost of capital (WACC) is 8.32. The
degree of financial leverage (DFL) .966 2014-15 while the degree of operating leverage (DOL)
-2.4 for 2014-15. The degree of combined leverage (DCL) of the company is -2.32.
Introduction/Background of the study
Tata Motors Limited (formerly TELCO, short for Tata Engineering and Locomotive Company)
is an Indian multinational automotive manufacturing company headquartered
in Mumbai, Maharashtra, India, and a subsidiary of the Tata Group. Its products include
passenger cars, trucks, vans, coaches, buses, construction equipment and military vehicles.
It is the world's 17th-largest motor vehicle manufacturing company, fourth-largest truck
manufacturer, and second-largest bus manufacturer by volume.[3]
Tata Motors has auto manufacturing and assembly plants
in Jamshedpur, Pantnagar, Lucknow, Sanand, Dharwad, and Pune in India, as well as in
Argentina, South Africa, Thailand, and the United Kingdom. It has research and development
centres in Pune, Jamshedpur, Lucknow, and Dharwad, India and in South Korea, Spain, and
the United Kingdom. Tata Motors' principal subsidiaries purchased the British premium car
maker Jaguar Land Rover (the maker of Jaguar, Land Rover, and Range Rover cars) and the
South Korean commercial vehicle manufacturer Tata Daewoo. Tata Motors has a bus-
manufacturing joint venture with Marco polo S.A. a construction-equipment manufacturing
joint venture with Hitachi , and a joint venture with FiatChryslerwhich manufactures automotive
components and Fiat Chrysler and Tata branded vehicles.

4. TATA MOTORS LTD.
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Founded in 1945 as a manufacturer of locomotives, the company manufactured its first
commercial vehicle in 1954 in a collaboration with Daimler-Benz AG, which ended in 1969.
Tata Motors entered the passenger vehicle market in 1991 with the launch of the Tata Sierra,
becoming the first Indian manufacturer to achieve the capability of developing a competitive
indigenous automobile. In 1998, Tata launched the first fully indigenous Indian passenger car,
the Indica, and in 2008 launched the Tata Nano, the world's cheapest car. Tata Motors
acquired the South Korean truck manufacturer Daewoo Commercial Vehicles Company in
2004 and purchased Jaguar Land Rover from Ford in 2008.
Tata Motors is listed on the (BSE) Bombay Stock Exchange, where it is a constituent of
the BSE SENSEX index, the National Stock Exchange of India, and the New York Stock
Exchange. Tata Motors is ranked 287th in the 2014 Fortune Global 500 ranking of the world's
biggest corporations.
Table 1
The purpose of this study is to calculate the beta, cost of equity, WACC, degree of financial
and operating leverage for Tata Motors and to find out the capital structure of the company.
The primary objective is to find out how the cost of equity and the overall cost of capital
affect the capital structure of the company.

5. TATA MOTORS LTD.
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Conceptual Framework
CAPM
CAPM, developed in 1960’s, provides a framework to establish the relationship between the
risk and the expected return for any risky asset. In other words, given the relevant risk for any
asset or security, CAPM model helps investors in ascertaining as to what should be the
expected or required rate of return. This expected or required rate of return is generally used
as a discount rate during the process of equity valuation. Although various alternative models
exist in the market to determine the required rate of return, CAPM is the most widely used on
account of its simplicity and practicability.
CAPM is built on the insight that the market rewards the investors only for systematic risk
(which affects all assets) undertaken and ignores the unsystematic risk (unique risk)
component. In effect, since the unsystematic risk can be completely diversified away by the
investors, required or expected rate of return for a risky asset should be a function of only
systematic risk.
Total risk = Systematic risk + Unsystematic risk
Systematic risk, also known as market risk, affects all risky assets or securities and cannot be
diversified away by the investors. This type of risk is generally attributable to macro events,
such as change in interest rates, inflation, exchange rates, etc. and affects the entire universe
of assets or securities, although in varying degrees. For example, while an increase in interest
rates would affect all securities to a certain extent, impact on rate sensitive sectors such as
banks, auto and infrastructure would be more compared to that of FMCG, pharma and IT
sectors. Similarly impact of an increase in CPI would be more on FMCG and Banking sectors
compared to that of other sectors.
Unsystematic risk, also known as idiosyncratic risk or specific risk, is generally unique to the
industry or a particular company, and can be diversified away completely by the investors. For
example, labour strikes or unrests, product recalls, management change or regularly
upheavals are prime examples of unsystematic risk as they generally affect a particular
company or industry.
To determine the expected or required rate of return on any risky asset, CAPM specifies the
following equation:
Required return on asseti = Risk-free rate + (Equity risk premium) x Betai
Ri = Rf + (Rm – Rf) x βi
Where, Rm refers to market returns, and Rf refers to risk-free rate
The above equation specifies that the required rate of return on a risky asset is equal to the
return available on a risk-free or riskless investment plus a compensation for risk premium as
measured by the product of Equity risk premium (Rm – Rf) and beta (β).

6. TATA MOTORS LTD.
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Equity risk premium refers to the premium investors at a large demand for shifting their
investments from risk-free to risky assets. Higher the risk aversion of the investors, higher
shall be the premium or compensation required for making this shift in allocation (from risk-
free to risky assets). Similarly, beta in the above equation, serves as a measure of systematic
risk. So higher the beta, higher shall be the required return on the risky asset and vice-versa.
Beta refers to sensitivity or responsiveness of asset (or security) returns relative to that of the
market portfolio or index. Assets having beta greater than 1 are considered to be more risky
than the market and assets having beta less than 1 are considered to be less risky relative to
the market.
Security Market Line (SML) is the graphical representation of the CAPM and specifies the
linear relationship between individual asset’s required or expected return and its systematic
risk. The figure below shows the construction of SML where on the x-axis we have the
systematic risk or beta and on the y-axis we have the expected or required rate of return. The
slope of SML is the reward to risk ratio required by all the investors or the market. However,
given that the beta of market is 1, the slope of the SML is the market risk premium.
Under conditions of market equilibrium, all risky assets or securities should lie on SML to
reflect the appropriate expected return-beta relationship. Consequently, if any asset or
security departs from this equilibrium or appropriate expected return-beta relationship, it may
not be correctly priced. Consequently, all assets or securities lying above the SML are
underpriced or undervalued, whereas those lying below it are overpriced or overvalued.
WACC
To fund long term projects and assets, firms generally raise capital through various sources
such as equity, debt and preference shares. Each of these sources of capital has a different
costor required rate of return reflecting varying degree of risk attached to it. WACCrepresents
the weighted average of the cost or rate of returns required by the equity, debt and preference

7. TATA MOTORS LTD.
7
shares investors of a company, the weights being the proportion of equity, debt and preference
shares in the total capital of the firm. The expression for weighted average cost of capital is
given by:
WACC = we x Ke + wd x Kd x (1 – t) + wp x Kp
Where
Ke = Cost of equity
Kd = Cost of debt
t = Tax rate
Kp = Cost of preference shares
we, wd, wp = Proportion of equity, debt and preference shares respectively in the capital
structure
The interest payments by a firm are tax deductible, and hence, the cost of debt should be
considered post-tax.
WACC can also be written as:
WACC = (E/V) x Ke + (D/V) x Kd x (1 – t) + (P/V) x Kp
Where
E = Market value of equity
D = Market value of debt
P = Market value of preference shares
V= Market value of the firm (E + D + P)
Capital Structure
The term capital structure refers to the manner in which a firm has financed its business
operations by combining different sources of funds. The main sources of funds available to a
company may be classified into equity and debt sources. Equity refers to ownership capital,
including ordinary share capital and retained earnings, on which the company is not committed
to pay any fixed or pre-decided return. On the other hand, debt or borrowed capital may take
the form of bonds issued by the company or bank loans, on which the company is committed
to pay periodical interest charges as well as repay the principal amount of debt as per the
agreed terms.A third way of raising capital is by issuing preference shares which have several
features common with debt capital, and is usually combined with debt sources.
There are certain assumptions on which the theories of capital structure are based:
 The company distributes 100% of its earnings as dividends. (As b=0, & g=b*r; so g=0)

8. TATA MOTORS LTD.
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 The company’s operating earnings are assumed to remain constant in perpetuity.
 Business risk of the firm is constant.
 Financial risk of the firm changes with debt.
 Company issues Perpetual Bonds as debt.
 All investors are rational and have same expectations about the company’s future
profits.
 There are no Income Taxes.
The traditional theory of capital structure says that a firm can increase its total market value
through judicious mix of debt and equity funds. It implies that the cost of capital is not
independent of the capital structure and there is an optimal structure.
The traditional approach implies that as the firm becomes more risky with leverage, although
investors raise the equity capitalization rate, Ke, the increase in Ke initially would not
completely offset the benefit of using cheaper debt funding. As a result, at moderate levels of
debt, the total valuation and share prices increase and the overall costof capital Ko decreases.
However, as the proportion of debt increases, beyond some point Ke rises at an increasing
rate with leverage. Moreover, Kd may also rise beyond some point. The optimal capital
structure is the point at which Ko is the minimum. This can be shown in the figure below.
Figure 2
The horizontal x-axis shows the increasing debt/equity ratio while the y-axis shows the cost of
capital in percentage. As the graph shows,as long as the firm has a low to moderate proportion
of debt financing relative to equity in its capital structure, the advantage could exceed the
ke
ko
kd
Debt
Cost

9. TATA MOTORS LTD.
9
disadvantages and the firm may be able to reduce the overall cost of capital. However, if the
firm goes on increasing the proportion of debt financing relative to equity, the disadvantages
would outweigh the advantages and the overall cost of capital starts rising.
At very high levels of leverage, the perceived high financial risk alarms the equity investors as
well as debt providers who demand high risk premium, thus raising the Ke, Kd and Ko. Thus,
firms should try to avoid this type of debt trap and adopt a judicious mix of debt and equity
funds to keep its overall cost of capital low and maximize the value of the firm.
Leverage
Leverage refers to the existence of fixed costs in the cost structure of a firm. Fixed costs may
be related to operating activities or financing activities. Leverage has a magnifying effect on
profits so that profits would decline more than proportionately with every fall in sales and rise
more than proportionately with every increase in sales. Fixed costs related to operating
activities create the operating leverage and fixed costs related to financing activities lead to
financial leverage. Thus total leverage of a firm consists of the operating leverage and the
financial leverage.
Literature Review
Cost of capital (CoC) for a company is the cost of its funds (Modigliani, F. & Miller, M. H.,
1958). Funds include debt as well as equity capital. The CoC figures are important from the
perspective of an investor—CoC is the minimum rate of return that an investor expects after
making an investment in the company’s funds. It serves as a benchmark to compare the
worthiness of the investment made. The expected return on the capital invested by an investor
should be at least equal to or more than the CoC. In other words, the CoC is the rate at which
the investment made could earn from an alternative investment of equivalent risk.
There are two main theories about the capital structure of companies. According to the trade-
off theory, there is an optimal capital structure (Bradley et al., 1984). According to the pecking
order theory, there is no optimal capital structure for every firm (Myers, 1984; Myers and
Majluf, 1984); there is only a hierarchy of financial instruments with increased information
asymmetry via which a firm finances its business activities. Only when all the internal modes
of financing are exhausted does the firm opt for external financing in terms of debt followed by
equity. Some other comparatively recent theories have been proposed as
alternatives/extensions to these theories, such as the life cycle theory of firm financing and
the market timing theory, which are the latest additions to the capital structure literature. The
direct implication of CoC emerges when an investor wants to value an investment, say an
investment in a project. The CoC serves as the minimum rate of return that the investor wants
to earn from that particular project. However, capital comprises both debt as well as equity.
Thus, in order to determine the CoC, both the cost of debt (CoD) as well as the cost of equity

10. TATA MOTORS LTD.
10
(CoE) has to be calculated. The cost of debt is calculated based on the interest obligation of
a company. Interest rate calculation differs from company to company depending on their
business and credit rating. Theoretically, interest rate is the risk-free rate added to the risk
premium that is adjusted to the default probability and recovery rate. There are various
methods for calculating the cost of equity. For instance, the dividend discount model can be
used to calculate the cost of equity. However, this approach requires the estimation of the
growth rate of future dividends, which can differ significantly from the actual growth rate
achieved, leading to significant deviation in the calculated and observed results. Therefore,
our study used the capital asset pricing model for the calculation of the cost of equity. Another
important aspect is the capital structurethat the company uses while raising funds; this capital
structure governs the CoC. The overall cost of capital or weighted average cost of capital
(WACC) is the weighted average of the cost of debt and the cost of equity. The primary
objective of this study is to find out how the cost of equity can affect the capital structure of a
company and to calculate the degree of financial and operating leverage. To serve the
purpose, we have selected Tata Motors, one of the largest two-wheeler manufacturing
organizations in India.
The values of CoE, CoD and CoC can serve as an important benchmark for an investor who
is new to the Indian market. These values can be used to price his/her debt or equity. Keeping
the overall weighted average cost of capital (WACC) in mind, he/she can also proportion and
organize his/her capital structure (debt and equity) to attain the desired level of WACC for
his/her company, which can be in close proximity to the overall WACC of the stock index or
the particular sector that his/her company falls under.
The review of some of the major studies has been undertaken so as to develop a clear
understanding about the relationship between capital structure and profitability. Chiang et al.,
(2002) undertake a study and the findings of the study put forth that profitability and capital
structure are interrelated; the study sample includes 35 companies listed in Hong Kong Stock
Exchange. Abor (2005) investigates the relationship between capital structure and profitability
of listed firms on the Ghana Stock Exchange and find a significantly positive relation between
the ratio of short-term debt to total assets and ROE and negative relationship between the
ratio of long-term debt to total assets and ROE. Gill, et al., (2011) seeks to extend Abor’s
(2005) findings regarding the effect of capital structure on profitability by examining the effect
of capital structure on profitability of the American service and manufacturing firms. The
Empirical results of the study show a positive relationship between short-term debt to total
assets and profitability and between total debt to total assets and profitability in the service
industry. The other major studies undertaken by Mesquita and Lara (2003), Philips and
Sipahioglu (2004), Haldlock and James (2002), Arbabiyan and Safari (2009), Chakraborty
(2010), Huang and Song (2006), Pandey (2004) came up with the findings which were

11. TATA MOTORS LTD.
11
conflicting in nature as some studies confirm positive relationship between capital structure
and profitability while other studies confirm positive relationship between the variables.
Objective of the study
To calculate the beta, cost of equity and cost of capital by using CAPM model, leverage and
capital structure for Tata Motors Ltd. Carry out a detailed analysis of the company based on
the outcome for year 2014-15.
Scope & Methodology
For our study, we have taken the daily share prices and market prices of Tata Motors Ltd. from
the Ace Equity for one year along with the risk-free rate of past 10 years in govt. bond yield.
The daily share prices and market prices were converted into the daily percentage stock and
market returns by dividing the each day’s price with the previous day’s price and taking the
natural logarithm. We calculated the covariance between the stock and market return as well
as the variance of the market return. Hence, daily Beta for Tata Motors was obtained by
dividing the average covariance between stock and market return with the variance of the
market return. This beta was further used to calculate the cost of equity for the year 2014-15
and the cost of capital or WACC for the company was derived.
To find out the capital structure of the company, we have obtained the net operating income
and the net profits available to equity shareholders from the annual report of Tata Motors Ltd.
and thus the market value of the company as well as the overall cost of capital was calculated
using the traditional theory of capital structure. The implied overall cost of capital was
calculated by dividing the net operating income with the market value of the company.
To calculate the degree of financial and operating leverage, the data was obtained from the
statement of profit & loss of the company in its annual report. The statement of profit & loss
was broken down into the multi-step income statement so that the required leverage can be
found out. The DFL was found out by dividing the EBIT of the company with the EBT of the
company while the DOL was found out by dividing the contribution made by the company with
the EBIT of the company. Further, the DCL was found out by multiplying the DFL and DOL.
Data Collection
The data was collected from annual report of Tata Motors for 4014-15 (for balance sheet and
P&L accounts), Ace analyzer, BSE India, Moneycontrol.com.

12. TATA MOTORS LTD.
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Data Analysis
Beta (daily) for the stock of Tata Motors is 1.36 for 2014-15
Risk-free rate for the company comes out to be 7.94% for the year 2014-15
Cost of equity for the company in year 2014-15 is -2.74.
WACC for the company is 8.30
Capital Structure
Tata Motors Ltd the overall cost of capital comes out to be 26.19% in the year 2014-15
Particulars TATA MOTARS
2014-15
Net Operating Income (O) 38,176.15
Interest for debt (I) 114.285
Profit for EquityShare Holder (P) -3,974.72
Cost of Equity (Ke) -0.027499087
Market Value of Equity (P/Ke) 144540.0736
Market Value of debt (I/Kd) 1203
Market Value of Firm (V) 145743.0736
Implied Ko (O/V) 0.261941436
Covariance(s,m) 1.080144284
Variance (m) 0.791231666
Beta Daily 1.36514289
RF (%) 7.9423
B (Daily) 1.365143
Tax Rate 0.1922
Rm 0.11

13. TATA MOTORS LTD.
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Leverage
in Cr.
Sales 36,294.74
Less Variable Cost 27041.65
Contribution 9253.09
Less FixedCost 13093.79
EBIT -3840.7
Less Interest 1611.68
Other Non-OperatingIncome 1881
Exceptional Items 403.75
EBT -3975.13
Less Tax 764
EAT -4739.13
Less Preference Dividend 0
Profit available to Equity Share Holder -4739.13
Numberof Equity Share 3,21,89,00,000
EPS -14.72
Degree of Financial Leverage (DFL) 0.966182
Degree of OperatingLeverage (DOL) -2.40922
Degree of CombinedLeverage (DCL) -2.32775

14. TATA MOTORS LTD.
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Conclusions & Recommendations
Tata Motors is a non- growth company with its EPS decreasing from 28.55 in March 2011 to -
13.72 in March 2015 (refer the table above). They are not able to pay dividends for the year
2014-15 due to very low EPS. The company has faced a loss of 4738 Cr for the year 2014-
15.
Beta of Tata Motors is more than one 2014-15 which implies that the company is more risky
to invest in its shares than the market. Hence, the investors will not get a risk premium by
investing in the shares of Tata Motors as high as they would get by investing in the market

15. TATA MOTORS LTD.
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portfolio of shares. The cost of equity for the company -2.74 in the year 2014-15. This implies
the returns for investors are next to nothing.
The company has a total debt of 14709 Cr. According to the traditional theory of capital
structure, the optimal structure of a company is one which maximizes the market value of the
company and minimizes the implied overall cost of capital. According to this theory, the
company should have a judicious mix of equity and debt financing. It will raise the cost of
equity but on the other hand, it will decrease the overall costof capital and increasethe market
value of the firm. Therefore, the company should reduce the debt by focusing on profits. The
target of the company should be to increase the EPS and D/E.
The financial leverage of Tata Motors .966 in the year 2014-15 which implies that the financial
risk of the company has increased. On the other hand, the operating leverage of the company
is -2.40 in year 2014-15 which implies that the operating risk of the company is high. The
combined leverage of Tata Motors -2.32 which implies that the leverage is not in accordance
of the capital structure.
References
 http://www.tatamotors.com/investor/annual-reports/
 http://www.tatamotors.com/investors/financials/70-ar-html/profit-loss.html
 http://in.investing.com/rates-bonds/india-10-year-bond-yield-historical-data
 http://www.aceanalyser.com/
 http://www.moneycontrol.com/india/stockpricequote/auto-lcvs-hcvs/tatamotors/TM03
 http://www.bseindia.com/markets/equity/EQReports/StockPrcHistori.aspx?expandable=7&f
lag=0
 http://money.rediff.com/companies/Tata-Motors-Ltd/10510008/ratio
 https://en.wikipedia.org/wiki/Tata_Motors