Order pipeline, margin gains positive for Larsen & Toubro's stock

The brokerage believes that the order book would grow at 12 per cent CAGR over FY24-27

Investor sentiment for the Larsen & Toubro (L&T) stock was positive following an ‘overweight’ rating by JPMorgan. The price target from JPMo­rgan implies a potential upside of nearly 25 per cent from Friday's close.

The brokerage believes that the stock is attractively valued at 25 times estimated core earnings per share (EPS) for FY26. It estimates that EPS would grow at a compound annual growth rate (CAGR) of 23 per cent over FY24-27, along with core return on capital employed (RoCE) of 20 per cent.

The EPS growth would be driven by revenue growth (around 16 per cent) and core margin expansion. The broke­rage believes the order book would grow at 12 per cent CAGR over FY24-27.

International prospects and better domestic private orders would offset any slowdown in government spending. The company is optimistic of the guidance of Rs 3.33 trillion in orders for FY25, despite global challenges. Around 40 per cent of orders are coming from abroad, particularly West Asia, despite geopolitical tensions in the region.

In the short-term, L&T is expected to have in line Q2FY25 results with likely 12 per cent year-on-year (Y-o-Y) adjusted net profit growth with adjusted operating profit growth of 19 per cent Y-o-Y. Consolidated margins may be 10.5 per cent and core margins at 7.85 per cent. L&T has announced core orders worth Rs 21,700 crore so far for Q2FY25 and some more orders may be announced.

But due to high base effects, order inflow growth may be low. Even so, revenue visibility is high for the next two financial years with order book at well over twice last 12 month’s revenues.

Investors need to monitor scale up of electrolyser, green hydrogen and data-centre related offerings, and scale up of a foray into semico­ndu­ctors and divestment of non-core assets. The company targets order inflow growth of 10 per cent Y-o-Y, revenue growth of 15 per cent and an 8-8.25 per cent operating profit margin for the core business for FY25.

Order intake in Q2FY25 is well diversified across hydrocarbon, renewables, precision engineering, power transmission and distribution, buildings & factories and transpo­rtation segments. Two mega orders (Rs 10,000-15,000 crore) from West Asia comprise over 60 per cent of the known order intake during Q2FY25.

The company is on course with 15 per cent revenue growth guidance for FY25 and is expecting a 22-23 per cent conversion of prospects to orders.

Order book at end-Q1FY25 was Rs 4.91 trillion (up 19 per cent), over 2.1 times trailing 12 months consolidated revenues.

Government infrastructure spending continues under the National Infrastructure Pipeline (NIP), listing all projects costing over Rs 100 crore each. Total capital expenditure in infrastructure in India between FY20-25 is projected at Rs 111 trillion. Energy (24 per cent), roads (18 per cent), urban (17 per cent), and railways (12 per cent) are likely to contribute 71 per cent of the projected infrastructure investments.

There are also signs of a pickup in private sector investments in manufacturing. So L&T has plenty of future opportunities. One important note of caution is the fall in crude prices, which may affect the pace of orders from West Asia. This is because government revenues in that region depend on this. Saudi capex may be affected and that accounts for a big chunk of orders.

However, falling raw material costs may help with margin expansions with steel prices down while cement prices are flat, among others.  The stake in LTIMindtree is also of significant value even with a holding discount.