• JUNE 2, 2003

L&T: Improving fundamentals

L&T, the countryís largest engineering, procurement and construction (EPC) company and, one of the largest cement producers announced its FY03 results last week, which were better than expected. The company has reported a 12% topline growth for FY03 while its bottomline growth has been higher at 25%. The March quarter, especially, has been very good for the company where the bottomline has risen by nearly 42% despite a lower topline growth of 11%. We take a detailed look at the performance of the company and the key takeaways of the analyst meet held by the company last week.

The main highlight of L&Tís performance in FY03 has been the strong growth in revenues from its core business of EPC. The EPC business has reported a growth of 34% in its revenues in FY03. This was mainly led by robust growth in the companyís exports business. Export revenues that contributed 17% to total revenues, grew by a significant 50% in FY03. While the companyís EPC business has provided cheer to the company, the cement divisionís performance in FY03 has been lackluster.

While the cement division has seen strong growth in volumes, subdued realisations have taken toll on the revenue growth from this division. While volume growth has been strong at 11%, a 10% fall in realisations in FY03 have meant that revenue growth in the cement division has been restricted to a flat 2%. Cement demand across the country has been robust in FY03, however, an oversupply condition has resulted in pressure on prices. L&T, being one of the largest producers of cement in the country, has also been impacted by the fall in prices.

Coming to the operational performance of the company, L&Tís operating margins have fallen in FY03. The fall in margins is mainly on account of lower margins in each of the divisions of the business. The EPC division has been vying strongly for international projects and hence is susceptible to heavy competition. This competition implies lower margins for the international projects the company won in FY03. The cement division, on the other hand, has been plagued by poor realisations, which have taken a toll on the operating margins. However, one aspect that stands out despite the fall in margins is that working capital requirements of the company have improved in FY03. This may be in part due to falling interest expense apart from better operational efficiencies.

Performance of the EPC division apart, the company has taken significant steps to reduce its cost of capital and this has positively impacted the bottomline growth. Interest expenses have been reduced by 44% in FY03 and this has been the main reason for the robust 25% growth in the companyís bottomline in FY03. Both restructuring of existing loans as well as repayment of debt have reduced interest expenses. The company has repaid close to Rs 10 bn of debt in the last two years. This has also significantly improved cash flows of the company.

As far as the future prospects of the company are concerned, the EPC division of the company is set to see strong growth in revenues mainly on account of robust growth in export business. This is evident from the current order book position of the company (Rs 130 bn), which is nearly twice the current revenue of the EPC division. Regarding the cement division, with improvement in cement prices, the company is likely to witness better topline growth as well as improvement in margins. Being one of the largest cement producers in the country, L&T is in a good position to capitalize on the demand growth that is expected in the country in the next 2-3 years.

L&T has done well in the last 1-2 years to improve efficiencies and falling interest rates have helped the company further in this endeavour. Going forward the profitability of the cement division is likely to improve further due to falling interest expenses and this division is likely to contribute more to the bottomline of the company. However, we are still of the opinion that significant value can be unlocked in the event of a demerger of the cement division. However, one thing that is evident is the fact that by improving its performance in FY03, the company has made sure that the attractiveness of the cement division has been enhanced.

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