L&T: Guidance cut, order flows disappoint

Company's key business segments see pressure on profitability

Larsen & Toubro (L&T)’s performance for the quarter ending September disappointed the Street on a number of fronts and led to a four per cent fall in its stock to Rs 1,411.15.

Although consolidated revenues and net profit at Rs 23,393 crore and Rs 996 crore were better than Bloomberg consensus estimates of Rs 23,230 crore and Rs 975 crore, the profit was boosted by exceptional gains of Rs 309 crore from sale of stakes in a subsidiary and associate company. Core business profitability, as represented by earnings before interest, tax, depreciation and amortisation, at Rs 2,592 crore came lower than the Rs 2,692 crore anticipated by the Street.

Profit pressure in some core business segments including infrastructure, the largest revenue contributor (40 per cent), disappointed. The infrastructure segment’s earnings before interest and tax fell to 8.6 per cent from 10.1 per cent last year.

While the quarterly performance for an engineering projects company like L&T might not be a true indicator as claimed by the management in the past, a bigger worry is the order inflow and forecast, indicators of future performance. Here, order inflow also disappointed the Street, that already had become cautious after the June quarter’s soft order inflows. For the September quarter, order inflows fell 28 per cent year-on-year to Rs 28,620 crore. Not surprisingly, L&T reduced its FY16 order inflow growth forecast from 15 per cent to 5-7 per cent, and revenue growth forecast from 15 per cent to 12.5 per cent.

Order inflows were largely driven by the infrastructure sector (58 per cent of total inflows), which though positive might lead to margins remaining range-bound, says an analyst. Since total order book stands at Rs 2,44,097 crore (up 14 per cent year-on-year), with international orders constituting 28 per cent, L&T’s short-term prospects remain intact. The company remains hopeful of investments picking up by downstream oil companies, which should prop the order book. However, if order inflows continue to remain soft for a few more quarters, it could cast a shadow on its medium-term prospects.

Given this backdrop, analysts are likely to downgrade earnings. Ravi Shenoy, assistant vice-president (midcaps) at Motilal Oswal Securities, says L&T’s earnings disappointed with higher than expected depreciation and interest. Lower commodity prices, including crude oil prices, have cut capex in related industries. “Our earnings, as well as target price, are likely to be cut, given the disappointing results,” he adds.

Others such as Piyush Jain at Morning Star have been conservatives with estimates and, hence, might not be cutting the target price.

Going ahead, while divestment in some assets and IT subsidiary listing will be positive, L&T’s presence across the economy also makes it a preferred choice of analysts looking at a play on India’s economic and infra growth story. Thus, given the 25 per cent correction in the stock in the past three months, they believe a correction will offer a good entry point.

Analysts at Angel Broking maintain a positive view saying though there have been delays on the order awarding front, L&T is well positioned to gain from an expected gradual recovery in the capex cycle, given its better cash flow generating potential. The question is, when and how fast this recovery will happen.