L&T. L&T: Well-engineered - Buy

The Centre’s push towards infrastructure — road construction, electrification of railways and high-speed rail, airport expansion and smart cities — is likely to augur well for infra major L&T’s order flow. Aside from a healthy pipeline of projects providing good revenue visibility, the company’s diversified business and strong financials are key positives. The company has also added several private players, alongside a few overseas ones, to its client base.

The Centre had announced in the Budget a spend of ₹100-lakh crore towards infrastructure over the next five years. However, owing to funding constraints, developments on the ground have fallen short of expectations. Despite the broader slowdown, L&T witnessed a healthy order intake of ₹1.8-lakh crore in FY19, 16 per cent growth year-on-year (consolidated basis), predominantly on account of diversification. In the current fiscal too, the company is off to a good start, bagging orders worth ₹38,700 crore in the latest June quarter.

At a current market price of ₹1,328, the stock trades at a PE of 20.6 times, which is at discount to its five-year average PE of 27 times. Long-term investors can buy the stock at current levels.

Order book diversification

After a lull in the order book growth from its mainstream transportation segments, the company began eyeing more projects from commercial buildings, including hospitals, construction and mining equipment, realty, hydrocarbon, power and services businesses. The company also went aggressive on tapping relatively newer segments such as defence engineering and water treatment processes. Focusing on hydrocarbon and heavy engineering businesses also helped the company add to its international client base.

The company is on a strong footing in West Asia through its transportation infrastructure and hydrocarbon business. But dealings with the oil-dependent economies have become riskier and volatile in recent times. To mitigate this risk, the company added Africa, Bangladesh, Thailand and Malaysia, among other nations, to its portfolio (in terms of geographies), by focusing on several business segments.

In short, the company had reported an order backlog of ₹2.93-lakh crore in FY19, 21.6 per cent of which pertains to international orders. Infrastructure, hydrocarbon, defence engineering and power segments are the major contributors — comprising 76, 13, 4 and 2 per cent respectively of the outstanding order book. Prominent ones in the outstanding order book include engineering, procurement, construction (EPC) at international airports of Navi Mumbai and Delhi; water desalination plant in Gujarat; metro and smart cities projects at several locations; flue-gas desulfurisation (FGD) and silicon controlled rectifier(SCR) plants at thermal power stations; engineering procurement construction and installation (EPCI) of varied plant and machinery for oil fields in UAE; and power and railway and bridge EPCI contracts in Malaysia, Thailand and Bangladesh.

In the June quarter too, the company bagged orders worth ₹38,700 crore, recording a growth of 11.2 per cent Y-o-Y. Post announcing its June quarter results, the company revealed further additions to the order book with nine orders from infrastructure, hydrocarbon and power businesses, awarded in July and August. The orders awarded so far in the second quarter of FY20 are worth more than ₹13,500 crore. The existing order book comprises complex long duration contracts, providing revenue visibility for the next few years.

Healthy financials

The company’s revenues have been growing at a CAGR of 11 per cent since FY15, while profits have grown at a CAGR of 17 per cent. In FY19, the consolidated revenues of the company grew by 18 per cent Y-o-Y to ₹1.41-lakh crore. The infrastructure business contributes a significant chunk (51 per cent) to the consolidated revenues of the company, followed by hydrocarbon, IT technology services and financial services at 11, 10, 9 per cent respectively in FY19.

The company’s operating income stood at ₹16,325 crore, 38 per cent of which came from the infrastructure business. High-margin businesses like IT and technology services, financial services, heavy engineering and defence engineering contribute a lower 21, 15, 4, 4 per cent respectively to the consolidated operating income. The overall consolidated EBITDA margin hence stood at 11.6 per cent.

Going ahead, Mindtree’s acquisition could drag the company’s earnings. However, L&T’s mainstay infrastructure business can help offset this to some extent.

The company’s management had, in its earnings call, guided for a 12-15 per cent increase in revenues and EBITDA margins (excluding the services business) to remain at the current levels of 10.5 per cent. Given the healthy order intake, the growth guidance doesn’t seem difficult to achieve.

In the quarter ending June 2019, the company continued to post strong numbers. The revenues grew by 10 per cent Y-o-Y to ₹29,600 crore. The consolidated debt-equity ratio is at 1.8 times, putting it in a far better spot than its peers GMR and Ashoka Buildcon that have debt-to-equity of more than 20 times.