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L&T: US$ 4 bn and counting - Views on News from Equitymaster

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L&T: US$ 4 bn and counting
May 29, 2007

Performance summary
  • Standalone sales grow 19% YoY in FY07 to cross US$ 4 bn mark; 35% YoY in 4QFY07

  • FY07 and 4QFY07 net profits up 39% YoY and 50% YoY respectively. These are led by expansion in operating margins and lower interest outgo

  • Operating margins expand by 2.7% in FY07, led by lower sub-contracting charges (as percentage of sales)

  • Strong performances recorded across EPC and machinery segments

  • Board recommends dividend of Rs 13 per share (dividend yield of 0.7%)

Standalone performance snapshot
  Standalone Consolidated
(Rs m) 4QFY06 4QFY07 Change FY06 FY07 Change FY06 FY07 Change
Sales 46,279 62,482 35.0% 147,631 175,788 19.1% 165,002 203,479 23.3%
Expenditure 40,505 54,384 34.3% 136,954 158,323 15.6% 149,765 179,384 19.8%
Operating profit (EBDITA) 5,774 8,098 40.3% 10,677 17,465 63.6% 15,237 24,094 58.1%
Operating profit margin (%) 12.5% 13.0%   7.2% 9.9%   9.2% 11.8%  
Other income 1,171 2,041 74.3% 4,356 4,623 6.1% 5,184 9,943 91.8%
Interest 281 63 -77.5% 751 339 -54.8% 1,303 538 -58.7%
Depreciation 324 698 115.3% 1,145 1,700 48.5% 2,435 3,449 41.6%
Profit before tax 6,340 9,378 47.9% 13,137 20,049 52.6% 16,683 30,050 80.1%
Extraordinary income/(expense) 81 -   698 -   698 -  
Share of profit/(loss) from associates - -   - -   715 951 32.9%
Minority interest - -   - -   450 1,162 158.2%
Tax 1,752 2,371 35.3% 3,713 6,019 62.1% 4,473 7,438 66.3%
Profit after tax/(loss) 4,668 7,008 50.1% 10,121 14,030 38.6% 13,172 22,401 70.1%
Net profit margin (%) 10.1% 11.2%   6.9% 8.0%   8.0% 11.0%  
No. of shares               283.3  
Diluted earnings per share (Rs)               79.1  
P/E ratio (x)               23.5  

What is the companyís business?
Larsen & Toubro (L&T) is Indiaís largest engineering company with expertise in wide areas like infrastructure, oil and gas, power and process. The company has broadly segregated its business into three key segments Ė Engineering and Construction (E&C), Electrical & Electronics (E&E) and Machinery & Industrial Products (MIP). While E&C contributed to around 73% of L&Tís standalone 9mFY07 revenues, E&Eís contribution was 12%. During the period between FY03 and FY06, L&T has grown its consolidated revenues and profits at compounded rates of 17% and 34% respectively.

What has driven performance in FY07?
E&C, the lead topline growth driver: L&Tís E&C division, which formed 74% of the companyís standalone revenues, led the companyís topline growth during FY07. This segment recorded a sales growth of 16% during the fiscal. As we have indicated in the past, the E&C segment has been a key beneficiary of increased investments in the infrastructure and hydrocarbon sectors, both in the domestic and international markets. The segmentís order booking was higher by 37% YoY (to Rs 253 bn) during FY07. At the end of March 2007, the E&C divisionís order backlog stood at 353 bn, almost 2.6 times the segmentís full year sales in FY07.

L&T: Some large E&C contracts
Domestic contracts Contract size (Rs bn)

Construction of airport terminal at Delhi for Delhi International Airport Limited

55.6

EPC contract for construction, installation and commissioning of captive power plant for naphtha cracker project, at Panipat, Haryana for Indian Oil Corporation Limited

11.4

Construction of port facilities, embarkment, bridges, jetty and township including railway electrification and water system works at Dhamra Port, Orissa for The Dhamra Port Company Limited

11.1

EPC contract for construction, installation and commissioning of naphtha cracker and associated unit for naphtha cracker project, at Panipat, Haryana for Indian Oil Corporation Limited

9.1

Overseas contracts

Engineering, procurement, installation and commissioning for 2 new offshore platform , a flare platform and interconnecting bridge for block 5 development in Qatar for Maersk Oil Qatar AS

11.3

Residual basic engineering, detailed engineering, project management and procurement of the equipment and materials for 700 tonnes per day (TDP) methanol and 100 TPD carbon monoxide plant at AL-Jubail, Kingdom of Saudi Arabia for Saudi Formaldehyde Chemical Company

5.5

As far as the electrical and electronics (E&E) business is concerned, revenues grew by 33% YoY during FY07. Growth in this segment should be seen on the backdrop of a benign investment scenario in the power sector, which has continued to benefit L&T. The Machinery & Industrial Products (MIP) business recorded sales growth of 25% YoY during the fiscal.

Segment-wise performance (Standalone)
(Rs m) 4QFY06 4QFY07 Change FY06 FY07 Change
Engineering & Construction
Revenue 36,667 48,973 33.6% 115,704 134,251 16.0%
% share 76.5% 75.3%   75.8% 73.5%  
PBIT margin 11.2% 13.6%   7.4% 10.5%  
Electrical & Electronics
Revenue 4,618 6,932 50.1% 15,500 20,671 33.4%
% share 9.6% 10.7%   10.2% 11.3%  
PBIT margin 15.5% 13.8%   14.7% 14.9%  
Machinery & Industrial Products
Revenue 4,518 6,641 47.0% 14,738 18,430 25.0%
% share 9.4% 10.2%   9.7% 10.1%  
PBIT margin 16.2% 20.6%   13.5% 17.0%  
Others
Revenue 2,116 2,514 18.8% 6,722 9,413 40.0%
% share 4.4% 3.9%   4.4% 5.2%  
PBIT margin 13.4% 9.9%   8.0% 7.8%  
Total*
Revenue 47,919 65,059 35.8% 152,664 182,764 19.7%
PBIT margin 12.2% 14.2%   8.8% 11.5%  
* Excluding inter-segment adjustments

Lower sub-contracting charges aid margin expansion: On a standalone basis, L&Tís operating margins expanded by 270 basis points (2.7%) during FY07, which was a result of stock related adjustments and lower sub-contracting charges. However, raw material costs (as percentage of sales) increased from 24.6% in FY06 to 25.4% in FY07. Based on segments, while PBIT margins of the E&C division improved from 7.4% in FY06 to 10.5% during FY07, those for the E&E business expanded marginally to near 15% in FY07.

Margin expansion and higher other income aid bottomline growth: The 2.7% expansion in operating margins combined with higher other income and lower interest costs aided L&Tís bottomline growth during the fiscal, which grew at double the rate then topline growth. But for the effect of an extraordinary gain in FY06 (on account of profit on sale of milk processing equipment and glass container businesses), the bottomline growth figure would have been higher in FY07.

What to expect?
At the current price of Rs 1,856, the stock is trading at a multiple of 22.7 times our estimated FY09 consolidated earnings. L&Tís FY07 consolidated topline performance has exactly been in line with our estimates. However, it has outperformed our estimates on the bottomline front, mainly due to higher than expected profitability levels. The company's leadership position in the construction, projects and manufacturing-led businesses holds good potential for growth in the future. Also, a healthy backlog provides it the right kind of visibility in terms of future performances. However, manpower retention issues remain our primary concern with respect to L&T. We shall soon update our research report on the company.

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