The Nano: Tata's Costly Promise

On a recent weekend in Delhi, Rajesh Malhotra was shopping in the city's crowded Bhogal market with his two children, ages 6 and 12, who were hanging on to his one-year-old, $1,400 motorcycle. Like many Indians, Malhotra, 42, can't afford the $4,300 price tag of the Maruti Suzuki 800, the least expensive car in the country. That's why he had been hoping to buy a new Nano, the revolutionary $2,500 car that India's Tata Motors (TTM) plans to launch this fall.

Now, Malhotra is having second thoughts. He's done the math and realized that once taxes and insurance costs are added, the price of the entry-level Nano rises to just over $3,000. For an extra $500, he says, he could buy a decent used car with a more powerful engine and air conditioning, which the Nano won't have. "My wife's been forcing us to save for the Nano," he says. "But it might be best to wait and see what others think first."

Yet if winning over car buyers like Malhotra is key to the Nano's ultimate success, selling $2,500 cars and still making a profit is looking like a tough proposition, at least in the near term. Tata is finding that bold price promises can be expensive. Like all automakers, the company is being hurt by rising prices for steel and other raw materials. With the Nano's October launch now just a few months away, investors fear that eking out a profit on the Nano—something promised by Tata Chairman Ratan Tata back in January—will be far harder than earlier hoped.

Big Change of Sentiment

The problems come at tricky time for Tata. Analysts project the carmaker will report on July 30 a net earnings decline of around 30% for the three months ended in June because of rising costs. That would mark the biggest quarterly drop in five years. This year, Tata Motors' stock, also hampered by its $2.3 billion acquisition of the Land Rover and Jaguar brands from Ford, (F), is down 42%, compared with 30% for the Bombay Stock Exchange's benchmark Sensex index.

That's a big change of sentiment in a short space of time. Back in January, when Tata first unveiled the Nano at the Delhi auto show, this would-be king of econo-boxes grabbed more attention than anything shown at the North America International Auto Show in Detroit held the same month. The acclaim for Tata's "People's Car" came despite the fact that no one had driven the Nano (BusinessWeek.com, 2/14/08) and it wouldn't be available for almost another year.

No matter. The Nano, a 623cc-engine compact that will get 50 mpg, instantly won kudos as a showcase of frugal Indian engineering. It sent shock waves through the auto world as carmakers reassessed how cheaply they could make small vehicles. For Ratan Tata, the car symbolized something much grander than just another product. "I hope it will be seen as the car which changes the manner in which people in rural and semi-urban India will travel," he said at the unveiling.

Rising Materials Costs

One problem is that Tata's cost concerns with the Nano are more serious than those faced by other automakers. First, at a time when global steel prices are touching record highs, prices in India are rising even faster. A locally procured ton of hot rolled coil, an industry benchmark, has surged 42%, to $675, since January when Tata unveiled the Nano.

Then there's the Nano itself. To keep costs down, Tata has done away with most of the high-tech gadgetry found in many modern autos. That also means that raw materials like steel, rubber, and other commodities account for a bigger chunk of the Nano's total price (BusinessWeek.com, May 9, 2008) than on other cars.

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