Analysis: Larsen & Toubro's bonus beats logic

With the 1:2 bonus, the equity capital will expand at a much faster pace compared to its profit growth

If the Larsen & Toubro management was attempting to placate its shareholders by announcing a bonus issue after failing to meet results expectation, it has surely failed to do so. Though the stock moved higher after the announcement of a 1:2 bonus, missing the profit expectation resulted in a sell-off pushing the price down from a high of Rs 1,650 to Rs 1,505, an intra-day fall of nearly 8.8 per cent.

Importantly the reasons cited for missing the target was misjudgement on the part of the company in terms of slow moving orders of around Rs 17,000 crore, which apparently is over 11 per cent of its order book. This resulted in the working capital of the company increasing from 12 per cent of sales to 16 per cent of sales. As a result interest costs shot up from Rs 121 crore in March 2012 quarter to Rs 281 crore in March 2013 quarter. 

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A company generally issues bonus shares when its performance has been spectacular and it expects to maintain it going forward. However, in the case of L&T neither seem to be the case. Its profit has increased by only 10 per cent in FY13 though the revenue has increased by 16 per cent.

L&T is making less money from its businesses which can be seen from a drop in its operating margin from 13.9 per cent in the March 2012 quarter to 12.1 per cent in the March 2013 quarter, with its operating profit being lower than it was a year ago. Though on an annual basis there was an improvement in the operating margin from 10.5 per cent to 11.8 per cent.

Going forward, the company does not seem to be too optimistic. It still cites a challenging environment in India and a highly competitive environment abroad. As against a 25 per cent growth in order book in FY13, the company expects its order book to grow by only 20 per cent this year. It also expects margins to be lower, in the range of 11.5 per cent.

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While missing the profit expectation will pass over, a bonus issue will have a permanent impact on the company’s equity capital. With a mediocre profit growth, a 50 per cent growth in its capital base beats logic. A further correction in the stock price cannot be ruled out.