19 May 2011 4QFY11 Results Update | Sector: Engineering

Larsen & Toubro

BSE SENSEX S&P CNX

18,141 Bloomberg Equity Shares (m) 52-Week Range (Rs) 1,6,12 Rel. Perf. (%) M.Cap. (Rs b) M.Cap. (US$ b)

5,428 LT IN 608.9 2,212/1,463 -1/-12/-13 971.1 21.6

CMP: Rs1,595

TP: Rs1,849

Buy

* Consolidated; EPS is fully diluted

L&T's 4QFY11 earnings growth was ahead of expectations largely due to better-than-expected EBITDA margins. The company surprised positively with 27% growth in order intake, well ahead of our estimate. The management provided guidance of 15-20% growth in order intake and 25% growth in revenue in FY12 despite an adverse external environment. We expect L&T to post 21% earnings CAGR over FY11-13. The stock trades at 15x FY13E consolidated EPS. Buy. Strong margins boost PAT; revenue growth disappoints: L&T posted 4QFY11 revenue of Rs150b (up 13% YoY), below our estimate of Rs159b (up 19% YoY). However 4QFY11 EBITDA margins were 15.2%, up 10bp YoY, above our estimate of 14.1%. RM and construction costs declined 173bp and staff cost and SG&A costs rose 80bp and 120bp, respectively. Adjusted net profit was Rs15.3b (up 14% YoY), above our estimate of Rs15b (up 12% YoY). Process, power segments drive order intake growth; Order backlog Rs1,302b, BTB ratio 3x TTM: 4QFY11 order intake was Rs303b, up 27% YoY and FY11 order intake was Rs797b, up 15% YoY. 4QFY11 orders included the Hyderabad Metro order (Rs59b), an order to supply three blast furnaces to a steel company (Rs58b), a 3x 360MW gas power plant (Rs35b) and orders from the metals and building segments. The FY11 order backlog was Rs1,302b, up 30%, and BTB was of 3x TTM revenues. Strong FY12 guidance; intake to grow 15-20%: L&T expects to grow its order intake by 15-20% and revenue by 25% in FY12. In FY11, L&T's order intake fell short of its guidance of 25% and revenue grew in line with guidance of 20%. The company expects pressure on EBITDA margins due to rising commodity prices. The management expects rising commodity prices to have a 50bp impact on EBITDA margins in FY12. Valuation and view: We marginally upgrade our FY12 and FY13 standalone profit estimates by 4% and 2% respectively and consolidated profit estimates by 2.5% and 2% respectively. We expect FY12 order intake to grow by 13% to Rs899b. Our FY12 consolidated EPS is Rs83 (up 19% YoY) and Rs102 (up 23% YoY) for FY13. Our EBITDA margins are 12.3% for FY12 (down 50bp YoY) and 11.8% for FY13 (down 50bp YoY). We maintain Buy with a target price of Rs1,849 on an SOTP basis by assigning the target multiple for L&T standalone at 18x FY13E. We value the subsidiaries' at Rs429/share.

Dhirendra Tiwari (Dhirendra.Tiwari@MotilalOswal.com); Tel: +91 22 3982 5127

Larsen & Toubro

Strong margins boost 4QFY11 PAT; Revenue growth disappoints In 4QFY11, L&T posted revenue of Rs150b (up 13% YoY), below our estimates of Rs159b (up 19% YoY). 4QFY11 EBITDA margins were 15.2%, up 10bp YoY, better than our estimate of 14.1%. Raw material and construction costs declined 173bp and staff and SG&A costs rose 80bp and 120bp, respectively. Net profit (adjusted for exceptional gains) was Rs15.3b (up 14% YoY), above our estimate of Rs15b (up 12% YoY). E&C segment revenue grew 13% YoY in 4QFY11 and 18% in FY11. EBIT margin declined by 70bp YoY, due to a rise in input costs. In FY11, EBIT margins declined 19bp. Electrical business revenue marginally grew by 1%, indicating a slowdown in the product segment. However, EBIT margins improved by 170bp. FY11 revenue grew by 8%, and EBIT margin fell by 77bp. 4QFY11 revenue from the machinery and industrial products (MIP) business grew by 27% YoY and EBIT margin declined by 100bp. FY11 revenue grew 22% and margins fell by 73bp. FY11 order backlog was Rs1,302b (up 30%) and BTB ratio was 3x TTM. Order intake in 4QFY11 was Rs303b, up 27% YoY. FY11 order intake was Rs797b, up 15% YoY. 4QFY11 orders included the Hyderabad Metro order (Rs59b), order to supply three blast furnaces to a steel company (Rs58b), a 3x 360MW gas power plant (Rs35b) and several orders from the metals and building segments. The company expects to grow its order intake by 15-20% and revenue by 25% in FY12. In FY11 the company's order intake fell short of its guidance of 25% and revenue grew in line with 20% guidance. We marginally upgrade our FY12 and FY13 standalone profit estimates by 4% and 2% respectively and consolidated profit estimates by 2.5% and 2% respectively. We expect FY12 order intake to grow by 13%, to Rs899b. Our consolidated FY12E EPS is Rs83 (up 19%) and Rs102 (up 23%) for FY13E. Our EBITDA margins are 12.3% for FY12E (down 50bp) and 11.8% for FY13E (down 50bp). We maintain Buy with a target price of Rs1,849 on an SOTP basis, by assigning a target multiple for L&T standalone at 18x FY13E. We value the subsidiaries at Rs429/share. 4QFY11 order intake up 27%; L&T expects 15-20% growth in FY12 FY11 order inflow was Rs797b, up 15%. In 4QFY11, order intake was Rs303b, up 27% YoY. BTB was Rs3x TTM revenue. 4QFY11 order intake includes the Hyderabad Metro (Rs59b, total EPC value of Rs120b) and supply of three blast furnaces with order value of Rs58b. L&T guided for 15-20% order intake growth in FY12.
4QFY11 order intake rises to an all time high of Rs303b
303 238 184 178 95 60 99 130 120 122 125 75 147 126 96 205 156 134

75

77

1QFY07

2QFY07

3QFY07

4QFY07

1QFY08

2QFY08

3QFY08

4QFY08

1QFY09

2QFY09

3QFY09

4QFY09

1QFY10

2QFY10

3QFY10

4QFY10

1QFY11

2QFY11

3QFY11

Source: Company/MOSL 19 May 2011

4QFY11

Larsen & Toubro

Order book and BTB(x)

1,400 1,200 1,000 800 600 400 200 1QFY07 2QFY07 3QFY07 4QFY07 1QFY08 2QFY08 3QFY08 4QFY08 1QFY09 2QFY09 3QFY09 4QFY09 1QFY10 2QFY10 3QFY10 4QFY10 1QFY11 2QFY11 3QFY11 4QFY11 5 31 6 32 Order book (Rs b) BTB (x) - RHS 3.1 2.9 2.7 2.5 2.3 2.1 1.9 1.7 1.5

Order intake mix (%): Power, infrastructure comprise 70% of the Rs1,300b order backlog
Process Industries 100 80 60 40 20 0 24 34 6 23 13 1QFY07 18 37 9 24 12 2QFY07 17 30 17 25 11 3QFY07 14 39 16 19 12 4QFY07 17 36 14 22 11 1QFY08 19 36 12 20 13 2QFY08 20 37 11 20 12 3QFY08 16 23 14 4QFY08 19 22 15 1QFY09 20 20 17 2QFY09 18 17 16 3QFY09 22 14 16 4QFY09 24 12 16 1QFY10 26 15 15 2QFY10 32 12 15 3QFY10 30 15 16 4QFY10 33 14 15 1QFY11 37 15 12 2QFY11 37 14 11 3QFY11 32 7 16 4QFY11
16 12 32 36 4 100

Oil &Gas 11 36 10 34 9 34

Pow er 10 39 7 41

Infrastructure 9 39 6 38 6 35 6 33

Others 6 32 7 38

Source: Company/MOSL

Hydrocarbons sector declines sharply in FY11

Segment Order intake (Rs b) Process Industry Oil & Gas Power Infrastructure Others Total FY10 FY11 YOY % Share % FY10 41 -60 11 61 -15 15 13 20 33 27 7 100 % Share FY11 16 7 32 38 7 100 Segment FY10 FY11 YOY % Share % FY10 30 4 39 42 -13 30 16 15 30 33 6 100 % Share FY11

90 139 230 188 49 696

128 56 255 303 56 798

Order Book (Rs b) Process Industry 160 Oil & Gas 150 Power 301 Infrastructure 331 Others 60 Total 1,002

208 156 417 469 52 1,302

Source: Company/MOSL

4QFY11 execution slow, E&C segment up 13%; Product sales drag revenue growth L&T's execution was slow in 4QFY11 after 40% growth in 3QFY11. Marginal growth of 1% in the electrical business in 4QFY11 was a drag on growth. We expect the electrical business' FY12 sales to improve. The management expects FY12 revenue to grow 25%.

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Larsen & Toubro

Quarterly revenue, growth

160,000 120,000 80,000 15 40,000 0 1QFY07 2QFY07 3QFY07 4QFY07 1QFY08 2QFY08 3QFY08 4QFY08 1QFY09 2QFY09 3QFY10 4QFY10 1QFY10 2QFY10 3QFY10 4QFY10 1QFY11 2QFY11 3QFY11 4QFY11
% YoY* 18 8 22 81 17 1 17 166 (18.54) (77.08) (72.84) 570.63 19 12 20 83

Revenue (Rs m) - LHS

Revenue Grow th (% YoY) - RHS

60 45 30

0 -15

Source: Company/MOSL

Margins resilient despite high RM costs; E&C EBITDA margins down 60bp YoY due to commodity price rise L&T's 4QFY11 EBITDA margins were 15.2%, up 10bp YoY, higher than our estimate of 14.1%. Sequentially, EBITDA margins were up 437bp in 4QFY11 due to savings in RM costs and sub-contracting charges. RM and construction costs fell 173bp and staff and SG&A costs rose 80bp and 120bp respectively. Net profit (adjusted for exceptional gains) was Rs15.3b (up 14% YoY), slightly above our estimate of Rs15b (up 12%YoY). E&C, MIP businesses up, electrical business growth moderates indicating slowdown in product segment 4QFY11 E&C segment revenue grew 13% YoY and 14% in FY11. EBIT margins fell by 70bp YoY, due to a rise in input costs. In FY11, EBIT margins declined 19%. The company
Segmental performance (Rs m)
FY10 1Q Revenues Engineering & Construcion Electrical & Electronics Machinery & Industrial Others EBIT Engineering & Construcion Electrical & Electronics 65,729 5,759 4,370 771 6,992 680 2Q 68,578 7,182 5,910 950 6,939 873 1,206 205 10.1 12.2 20.4 21.6 7,580 1,130 970 190 11.1 15.7 16.4 3Q 4Q 1Q 66,438 7,451 5,482 1,220 8,167 738 1,130 335 12.3 9.9 20.6 27.4 8,940 820 1,200 350 13.5 11.0 21.9 2Q FY11 3Q 4Q FY10 FY11

70,250 121,094 7,182 9,883 5,910 6,819 950 1,005 8,554 873 1,206 205 12.2 12.2 20.4 21.6 9,140 940 1,250 220 13.0 13.1 21.2 18,466 1,329 1,431 20 15.2 13.4 21.0 2.0 19,070 1,430 1,510 3,130 15.7 14.5 22.1

80,150 100,041 136,643 323,158 382,187 6,724 7,950 10,014 29,865 32,139 6,981 6,807 8,661 22,915 27,931 1,597 1,681 2,105 3,646 6,604 9,002 868 1,156 172 11.2 12.9 16.6 10.8 9,920 930 1,230 0 12.4 13.8 17.6 10,647 868 1,286 214 10.6 10.9 18.9 12.7 11,480 940 1,370 240 11.5 11.8 20.1 19,906 1,521 1,733 459 14.6 15.2 20.0 21.8 21,460 2,060 1,840 6,010 15.7 20.6 21.2 40,950 3,942 4,519 443 12.7 13.2 19.7 12.2 43,390 4,230 4,710 3,600 47,722 3,994 5,305 1,180 12.5 12.4 19.0 17.9 51,800 4,750 5,640 6,600

Machinery & Industrial 954 Others 249 EBIT Margin (%) Engineering & Construcion 10.6 Electrical & Electronics 11.8 Machinery & Industrial 21.8 Others 32.2 EBIDTA (Including other income) Engineering & Construcion 7,599 Electrical & Electronics 740 Machinery & Industrial 990 Others 60 EBIDTA Margin (%) Engineering & Construcion 11.6 Electrical & Electronics 12.9 Machinery & Industrial 22.7 * for margins bp 19 May 2011

13.4 13.6 12.67 14.2 14.8 61.59 20.6 20.2 (36.14) Source: Company/MOSL

Larsen & Toubro

estimates that a continuing rise in commodity prices will impact margins by 50-75bp in FY12. The electrical business revenues grew 1%, indicating a slowdown in the product segment. However, EBIT margins improved 170bp. In FY11, revenue grew 8% and EBIT margin fell 77bp. 4QFY11 revenue of the machinery and industrial products (MIP) business grew by 27% YoY and EBIT margin declined by 100bp. For the year, revenue grew 22% and margins fell 73bp. Higher segmental working capital, cash balance drive NWC rise L&T's FY11 other income was Rs11.95b (up 31%), largely comprising interest income of Rs3.36b, with dividend from subsidiaries and associates being Rs2.3m and miscellaneous income being Rs3.45m. In FY11 L&T booked Rs2.3b as extraordinary income due to sale of part of its stake in various subsidiaries and associates.
Balance Sheet (Rs b)
Net Worth Loan Funds Deferred Tax Liabilities Total Sources Net Fixed Assets Current Investments Loans & Advances to S&A Co. Other Investments Net Current Assets Total Applications FY10 183.1 68.0 0.8 251.9 63.7 79.7 76.8 5.5 26.3 251.9 FY11 218.5 71.6 2.6 292.7 74.6 72.8 106.4 2.5 36.5 292.7 Source: Company/MOSL

FY11 working capital increased 38%, driven by higher segment working capital and an increase in cash. Most of the operating cash flow was ploughed back in the business and the FY11 capex was Rs15.7b with most of the forays into shipbuilding and forging are progressing on track. Investments in subsidiaries and associates were Rs106b. L&T Infotech FY11 profit up, good performance by finance units In FY11, L&T Infotech's revenue rose 29% and PAT improved 15%.
L&T Infotech's sequential revenue, PAT
Revenue (Rs m ) 4,730 4,690 5,120 5,650 4,570 5,880 6,040 7,020

PAT (Rs m ) 730 610 570

900

810

910 760 730

1QFY10

2QFY10

3QFY10

4QFY10

1QFY11

2QFY11

3QFY11

4QFY11

1QFY10

2QFY10

3QFY10

4QFY10

1QFY11

2QFY11

3QFY11

Source: Company/MOSL 19 May 2011

4QFY11

Larsen & Toubro

L&T Finance's FY11 revenue grew 45% and PAT grew 47%. L&T Infra Finance's FY11 revenue grew 56% and PAT grew 81%.
Subsidiary performance (Rs m)
FY10 L&T Finance L&T Infra Finance 9,660 4,500 Revenues FY11 13,980 7,040 % YoY 44.7 56.4 FY10 1,560 1,110 PAT FY11 % YoY

2,300 47.4 2,010 81.1 Source: Company/MOSL

Takeaways for the analyst meet The management sounded cautious over India's macroeconomic environment, which is resulting in delays in decision making. However, the company has an impressive project pipeline and expects to do well in FY12. Execution of key projects is on schedule and revenue will pick up in FY12 and FY13 due to a strong backlog. The company expects its FY12 order intake to grow by 15-20%, and revenues are expected to grow by 25%. While L&T has maintained a sharp focus on costoptimization programs, there is a likelihood of a 50bp impact on EBITDA margins due to rising commodity prices. Key sectors that will drive growth in FY12 include roads, steel, fertilizer and hydrocarbons. The company is cautious about the power sector. Ordering activity in the Middle East is expected to pick up strongly during the year. Segments like hydrocarbons are facing competitive pricing to the extent that there is a substantial pricing differential between L1 and L2 bidders. The Hyderabad Metro, with a project cost of Rs160b, was awarded to L&T on a BOT basis, has achieved financial closure and is on track. The company has no plan to sell its electrical and automation business group. Talks about the sale of the group in the media were rumors. A management succession plan is being executed smoothly and the company is confident it will find enough talent within organization to replace outgoing directors.
Developmental Projects
Segment Roads & Bridges Power Ports Metro Rails Urban Infra Total No of projects 15 5 3 1 14 Unit Km MW MTPA Km Sq Ft Project Size 5,701 2,828 45 71 20 Cost (Rs b) 132 210 53 164 68 627 Source: Company/MOSL

Valuation and view We marginally upgrade our FY12 and FY13 standalone net profit estimates by 4% and 2% respectively and consolidated profit estimates by 2.5% and 2% respectively. We expect FY12 order intake to grow by 13% to Rs899b. Our consolidated FY12 EPS is Rs83 (up 19%) and Rs102 (up 23%) for FY13. Our FY12 EBITDA margins are 12.3% (down 50bp) and 11.8% for FY13 (down 50bp). We maintain Buy with a target price of Rs1,849 on an SOTP basis by assigning the target multiple for L&T standalone at 18x FY13E.
6

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Consolidated P & L Statement (Rs b)

FY10 FY11 Net Revenues (including other income) 439.7 520.9 Other income 7.6 9.2 EBITDA 72.0 86.8 EBITDA Margin (%) 16 16 Depreciation 9.8 13.2 EBIT 62.2 73.6 Interest expense 6.9 8.3 Share of profits in associates 1.1 0.9 PBT 56.3 66.1 Provision for taxes 18.7 23.0 Adj. for Minority interest 0.3 (0.8) PAT (after minority interest) 38.0 42.4 Extraordinary & exceptional items (Net of taxes) 16.5 2.2 Reported PAT 54.5 44.6 Source: Company/MOSL

Consolidated Balance Sheet (Rs b)

FY10 Net worth Minority interest Loan funds Deferred payment liabilities Deferred tax liabilities Total sources of funds Net fixed assets Current investments Loans and advances to S&A Cos Other investments Net current assets Total applications of funds 209.9 10.9 226.6 19.5 1.5 468.4 FY11 250.5 10.3 328.3 45.1 3.1 637.3

189.8 281.6 85.6 76.9 5.1 4.5 8.0 10.7 180.0 263.5 468.4 637.3 Source: Company/MOSL

L&T: Sum of Parts Value

Business Segment L&T Standalone Engineering, Construction, & Electricals Infotech Infrastructure Method FY13E PER (x) Valuation (x) 18 Value (Rs m) 864,462 Value (Rs/sh) 1,420 Rationale Premium to industry average Net of dividend received At par to niche second tier IT companies Road portfolio Rs18b (P/BV 1.5x), Ports Rs4b (P/BV 1.5x), Power Rs7b (P/BV 2x) Urban Infra Rs10b (P/BV 1x), Cash Rs5b BV of investments till Mar 11; L&T has advantage of catering to in house requirement of L&T's dealers/vendors/ customers, etc BV of investments till Mar 11 Discount to L&T's valuations

L&T Infotech (100% stake) L&T Infrastructure Dev.Projects Ltd.

FY13E PER (x)

12

60,486 57,000

99 94

L&T Finance

Hire Purchase, Leasing, Bill Discounting

Book Value

2.0

32,646

54

L&T Infrastructure Infrastructure Finance Finance International Ventures (L&T FZE) Manufacturing Ventures - Power Equipments Thermal BTG

Book Value FY12E PER (x)

2.0 12

25,293 42,708

42 40

FY14E PER (x)

10

24,192

40

At par with industry average; FY14 to be the year of meaningful revenue and margin ramp up In line with industry average Revenue growth and margins have shown strong consistency In line with industry average Source: MOSL

- L&T Komatsu - Audco India - EWAC Alloys Total

Excavators and FY13E PER (x) Hydraulic System Industrial Valves FY13E PER (x) Welding FY13E PER (x)

12 12 12

24,975 9,147 3,737

21 8 3 1,849

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Larsen & Toubro: an investment profile

Company description Larsen & Toubro (L&T) is India's largest engineering and construction company. It undertakes projects on an engineering, procurement and commissioning basis. Its business is categorized in three segments: engineering and construction (E&C), electrical and electronics (E&E) and other diversified businesses. It has many subsidiaries and associate companies, which will gradually start adding to its bottom line. Key investment arguments L&T has an across-the-board presence in infrastructure segments. L&T is well placed to capitalize on long-term infrastructure demand. Lack of decision making by the government and an uncertain environment policy are impacting infrastructure spending and L&T's order intake. L&T's order backlog is worth Rs1,300b (up 30% YoY), implying BTB ratio of 3x TTM. Its FY11 order intake grew 15% to Rs779b and FY12 order intake guidance is up 15-20% and revenue guidance up 25%. Our FY12 intake assumption is Rs899b (up 13% YoY). L&T has a presence in financial services (L&T Finance/ Infra Finance) and IT/ITES (L&T Infotech). Over the past 2-3 years these businesses have attained critical scale. With L&T's plan to grow the IT/ITES and its infrastructure finance businesses to 40% of group revenue by FY14, we see organic and inorganic scaling up of the two verticals in 2-3 years.
Comparative valuations
L&T P/E (x) P/BV (x) EV/Sales (x) EV/EBITDA (x) FY12E FY13E FY12E FY13E FY12E FY13E FY12E FY13E 19.2 15.6 4.0 3.5 1.9 1.5 15.5 12.9 BHEL 14.1 11.9 4.1 3.3 1.8 1.4 8.1 6.7 Thermax 17.5 14.6 4.5 3.6 1.2 1.0 10.7 8.7 FY11 FY12

Key investment concerns Order intake is driven by long gestation projects and is unlikely to favorably impact FY11 or FY12 revenues and margins. An unfavorable political climate, logjams relating to clearances for projects stifle fresh order intake growth, hampering earnings growth. Recent developments L&T was awarded the construction of an airport terminal in Oman worth Rs22b. L&T was awarded a BoP package for the 2x 600MW TPS by the Dainik Bhaskar group in Chhattisgarh, worth Rs15b. Valuation and view We estimate L&T will report revenue and PAT CAGR of 23% and 21% respectively over FY11-13. Our consolidated EPS is Rs83 (up 19% YoY) in FY12 and Rs102 (up 23% YoY) in FY13. Our EBITDA margins are 12.3% for FY12 (down 50bp YoY) and 11.8% for FY13 (down 50bp YoY). We value L&T on an SOTP basis with a price target of Rs1,849 and have a Buy rating on the stock. We ascribe a P/E multiple of 18x FY13E for L&T standalone (Rs1,420/share) and Rs429/ share for L&T's other subsidiaries. Sector view We maintain a positive view on the sector.
EPS: MOSL forecast v/s consensus (Rs)
MOSL Forecast 83.0 102.0 Consensus Forecast 86.0 102.8 Variation (%) -3.5 -0.8

Target price and recommendation

Current Price (Rs) 1,595 Target Price (Rs) 1,849 Upside (%) 15.9 Reco. Buy

Stock performance (1 year)

Larsen & Toubro Sensex - Rebased 2,400
Mar-11 Promoter Domestic Inst Foreign Others 0.0 37.5 19.6 42.9 Dec-10 0.0 37.2 21.3 41.5 Mar-10 0.0 38.6 18.0 43.4

Shareholding pattern (%)

2,150 1,900 1,650 1,400 May-10 Aug-10 Nov-10 Feb-11 May-11

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Financials and Valuation

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