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Larsen & Toubro - Credit Suisse

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DISCLOSURE APPENDIX AT THE BACK OF THIS REPORT CONTAINS IMPORTANT DISCLOSURES, ANALYST CERTIFICATIONS, LEGAL ENTITY DISCLOSURE AND THE STATUS OF NON-US ANALYSTS. US Disclosure: Credit Suisse does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the Firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision.
20 March 2017 Asia Pacific/India Equity Research
Electrical Equipment
Larsen & Toubro (LART.BO / LT IN) Rating OUTPERFORM Price (17-Mar-17, Rs) 1,551 Target price (Rs) (from 1,800) 1,850 Upside/downside (%) 19.3 Mkt cap (Rs/US$ mn) 1,446,750 / 22,118 Enterprise value (Rs mn) 2,303,684 Number of shares (mn) 932.97 Free float (%) 88.2 52-wk price range (Rs) 1,601-1,182 ADTO-6M (US$ mn) 34.2 Target price is for 12 months.
Research Analysts
Lokesh Garg
Domestic execution conundrum; turning better 100 projects; half the backlog; incrementally turning better. We take a
deep dive at about 100 domestic projects (~1/2 of total domestic backlog) to
understand the execution scenario. The execution scenario is prima-facie
better in segments such as roads (more projects have started, e.g., MP
projects), power (Malwa project has momentum now) and DFCC (execution
picking up; some half complete). T&D, Metro and hydrocarbons remain
strong. Water and real estate (half is residential) remain mixed with contract
specific developments.
Overseas execution, inflows steady; several strong niches. L&T
execution and inflows from the Middle East have remained steady. Overall
market ordering reduced to US$100 bn p.a. vs. ~US$160 bn at CY14 peak.
We estimate 4-4.5% market share for L&T supported by specific niches such
as (1) gas compression orders from PDO Oman, (2) T&D orders from Qatar,
(3) budding relationship with Saudi Aramco, and (4) fabrication presence
(Sohar Oman yard). Dubai Expo and Qatar world cup are bringing in
opportunities.
Guidance inconsequential; strong earnings compounding ahead. Near-
term guidance is inconsequential, as we (probably the market also) already
build in a substantial miss. We build in strong earnings growth of 25% over
FY16-19E based on (1) EPC revenue growth (11% CAGR), (2) margin
normalisation (150 bp+ in EPC) largely on Hydrocarbons and HE, (3) a 15%
CAGR growth in services and (4) lower interest cost and flat depreciation.
Reiterate OUTPERFORM; increase TP to Rs1,850 (from Rs1,800). Our TP
of Rs1,850 is based on Rs1,380 for the core EPC business (20x P/E on
Mar’19E EPS) and Rs480 for the subs. Our OUTPERFORM rating is based
on domestic execution pick-up, a steady Middle East, reducing working
capital and reasonable valuations (18x FY19E consol. and 16.5x FY19E
EPC EPS of Rs70). The key risk is margin erosion on delays. Absence of
investment cycle could cap upside.
Share price performance
S&P BSE SENSEX IDX which closed at 29,513.39 on
17/03/17. On 17/03/17 the spot exchange rate was
Rs65.41/US$1
Performance 1M 3M 12M Absolute (%) 4.8 14.1 29.9 Relative (%) -0.5 2.2 9.7
Financial and valuation metrics
Year 3/16A 3/17E 3/18E 3/19E Revenue (Rs mn) 1,019,641.2 1,097,515.2 1,225,918.9 1,383,957.3 EBITDA (Rs mn) 103,494.0 112,197.7 134,539.1 158,498.3 EBIT (Rs mn) 85,626.7 93,749.7 116,349.4 140,171.7 Net profit (Rs mn) 41,848.4 52,920.1 67,106.9 80,369.6 EPS (CS adj.) (Rs) 44.89 56.77 71.99 86.22 Change from previous EPS (%) n.a. 0.0 0.0 0.0 Consensus EPS (Rs) n.a. 57.27 69.05 82.41 EPS growth (%) (5.5) 26.5 26.8 19.8 P/E (x) 34.5 27.3 21.5 18.0 Dividend yield (%) 1.2 1.1 1.4 1.7 EV/EBITDA (x) 22.0 20.5 17.5 15.0 P/B (x) 3.25 2.66 2.29 1.96 ROE (%) 9.8 10.7 11.4 11.7 Net debt/equity (%) 175.6 150.5 138.2 122.3
Source: Company data, Thomson Reuters, Credit Suisse estimates
20 March 2017
Larsen & Toubro (LART.BO / LT IN)
Price (17 Mar 2017): Rs1,551; Rating: OUTPERFORM; Target Price: (from Rs1,800) Rs1,850; Analyst: Lokesh Garg
Income Statement (Rs mn) 03/16A 03/17E 03/18E 03/19E
Sales revenue 1,019,641 1,097,515 1,225,919 1,383,957 Cost of goods sold 724,126 778,798 862,630 968,607 EBITDA 103,494 112,198 134,539 158,498 EBIT 85,627 93,750 116,349 140,172 Net interest expense/(inc.) 16,405 14,799 11,936 11,132 Recurring PBT 79,254 90,780 116,355 141,608 Profit after tax 54,946 62,184 79,703 97,002 Reported net profit 42,791 52,920 67,107 80,370 Net profit (Credit Suisse) 41,848 52,920 67,107 80,370
Balance Sheet (Rs mn) 03/16A 03/17E 03/18E 03/19E
Cash & cash equivalents 53,283 32,325 44,815 79,082 Current receivables 260,292 280,171 312,950 353,294 Inventories 48,296 50,796 53,296 55,796 Other current assets 1,138,140 1,307,393 1,526,683 1,791,663 Current assets 1,500,011 1,670,685 1,937,744 2,279,834 Property, plant & equip. 295,362 253,107 248,268 241,319 Investments 104,709 117,315 117,315 117,315 Intangibles 0 0 0 0 Other non-current assets 0 25 25 25 Total assets 1,900,081 2,041,133 2,303,352 2,638,493 Current liabilities 540,943 580,902 692,285 857,184 Total liabilities 1,428,428 1,471,056 1,645,806 1,872,789 Shareholders' equity 444,546 542,969 630,439 738,597 Minority interests 27,107 27,107 27,107 27,107 Total liabilities & equity 1,900,081 2,041,133 2,303,352 2,638,493
Cash Flow (Rs mn) 03/16A 03/17E 03/18E 03/19E
EBIT 85,627 93,750 116,349 140,172 Net interest (6,373) (2,970) 5 1,437 Tax paid (24,308) (28,596) (36,652) (44,607) Working capital (199,141) (151,674) (143,186) (142,924) Other cash & non-cash items 17,867 18,448 18,190 18,327 Operating cash flow (126,328) (71,041) (45,293) (27,596) Capex (58,306) (14,622) (19,490) (17,879) Free cash flow to the firm (184,635) (85,664) (64,783) (45,475) Investing cash flow (66,894) (27,229) (19,490) (17,879) Equity raised 5 0 0 0 Dividends paid (18,410) (16,974) (22,010) (26,721) Financing cash flow (34,787) (14,330) 41,357 35,363 Total cash flow (228,010) (112,600) (23,426) (10,112) Adjustments 0 0 0 0 Net change in cash (228,010) (112,600) (23,426) (10,112)
Per share 03/16A 03/17E 03/18E 03/19E
Shares (wtd avg.) (mn) 932 932 932 932 EPS (Credit Suisse) (Rs) 44.89 56.77 71.99 86.22 DPS (Rs) 18.50 17.42 22.15 26.61 Operating CFPS (Rs) (135.52) (76.21) (48.59) (29.60)
Earnings 03/16A 03/17E 03/18E 03/19E
Growth (%) Sales revenue 10.8 7.6 11.7 12.9 EBIT (1.9) 9.5 24.1 20.5 EPS (5.5) 26.5 26.8 19.8 Margins (%) EBITDA 10.2 10.2 11.0 11.5 EBIT 8.4 8.5 9.5 10.1
Valuation (x) 03/16A 03/17E 03/18E 03/19E
P/E 34.5 27.3 21.5 18.0 P/B 3.25 2.66 2.29 1.96 Dividend yield (%) 1.2 1.1 1.4 1.7 EV/sales 2.2 2.1 1.9 1.7 EV/EBITDA 22.0 20.5 17.5 15.0 EV/EBIT 26.6 24.6 20.2 17.0
ROE analysis (%) 03/16A 03/17E 03/18E 03/19E
ROE 9.8 10.7 11.4 11.7 ROIC 4.6 4.7 5.3 5.9
Credit ratios 03/16A 03/17E 03/18E 03/19E
Net debt/equity (%) 175.6 150.5 138.2 122.3 Net debt/EBITDA (x) 8.00 7.65 6.75 5.91
Company Background
L&T is India's largest engineering & construction company with presence in the infrastructure, hydrocarbons, metals, shipbuilding and defence segments. L&T is a significant player in financial services, IT services and infrastructure asset development.
Blue/Grey Sky Scenario
Share price performance
The price relative chart measures performance against the S&P BSE SENSEX
IDX which closed at 29,513.39 on 17-Mar-2017
On 17-Mar-2017 the spot exchange rate was Rs65.41/US$1
Source: Company data, Thomson Reuters, Credit Suisse estimates
20 March 2017
Focus charts and tables
Figure 1: Quick review of domestic execution—roads, residential real estate and water need watching
Sector Delta Backlog (Rs bn) Remarks
Roads Positive 220 A larger proportion of contracts have now started vs. earlier. A few contracts still stuck.
Power Positive 120 Malwa contract (Rs55 bn) now moving fast. Steady progress on others.
Railways Positive 200 Primarily DFCC. Progress picking up; some projects half complete.
Real estate Same 350 Commercial and industrial execution up. Residential still slow. Mix turning less residential.
Power T&D Same 150 Steady progress on both central and state contracts including rural electrification ones.
Water Same 200 Reasonable progress (Rajasthan, Odisha, MP, UP) except some contracts (Telangana, etc.)
Metros Positive 100 Very strong progress across cities even in relatively new contracts.
Hydrocarbons Same 100 Reasonable progress across contracts from ONGC, etc.
Source: Company data, Credit Suisse estimates
Figure 2: Est. mix of domestic book (Rs1,850 bn) Figure 3: Road—Larger proportion have now started
Source: Company data, Credit Suisse estimates Source: Company data, CEA, Credit Suisse research
Figure 4: DFCC picking up momentum now Figure 5: Power—Key projects started (e.g., Singaji)
Source: Company data, Credit Suisse estimates Source: Company, CS estimates
Figure 6: Guidance—We build in a significant miss Figure 7: 25% EPS CAGR during FY16-19E
Source: Company data, Credit Suisse estimates Source: Company, CS estimates
Roads, 220
Railways, 200
Investment in DFCC (Rs bn)
-
25.9 23.4
4Q17E-LT guidance 4Q17E-CS estimate(% )
PAT
EBITDA
Revenue
Domestic execution seems slightly better
Domestic execution has been disappointing for a long while curtailing the revenue and
earnings growth for the company. We highlight that domestic execution is appearing better
with a pick-up in execution across roads, railways and power verticals. We estimate L&T’s
domestic order backlog mix and present our perspective on a sectoral basis.
We take a deep dive and take a look at about 100 domestic projects which would account
for about half of total domestic backlog to understand the domestic execution scenario.
We highlight that the execution scenario is prima-facie turning better in segments such as
roads (more projects have started such as MP projects), power (Malwa project has
momentum now) and DFCC (execution picking up; some half complete). Segments such
as T&D, Metro and hydrocarbons are very strong in execution terms. Segments such as
water and real estate (particularly residential) remain a mixed bag with contract-specific
developments.
Figure 8: Domestic backlog for L&T (Rs1,833 bn) Figure 9: We expect execution to improve gradually
Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates
Absence of private sector orders has possibly slowed execution
Figure 10: Public sector share in inflows has risen Figure 11: Execution always skewed towards 4Q
Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates
Real estate (resi &
Book to bill ratio (%, RHS)
(Rs bn)
-
20 March 2017
Domestic execution improvement can drive significant operating leverage
Improved domestic execution is one of the key catalysts for the stock. The company’s
business has scope for significant operating leverage both above and below the EBITDA
line. Operating leverage originates from absorption of fixed overhead costs, flat
depreciation and interest costs.
Figure 12: Status of domestic backlog
Sector Delta Backlog (Rs bn) Remarks
Roads Positive 220 A larger proportion of contracts have now started vs. earlier. A few contracts still stuck.
Power Positive 120 Malwa contract (Rs55 bn) now moving fast. Steady progress on others.
Railways Positive 200 Primarily DFCC. Progress picking up; some projects half complete.
Real estate Same 350 Commercial and industrial execution up. Residential still slow. Mix turning less residential.
Power T&D Same 150 Steady progress on both central and state contracts including rural electrification ones.
Water Same 200 Reasonable progress (Rajasthan, Odisha, MP, UP) except some contracts (Telangana, etc.)
Metros Positive 100 Very strong progress across cities even in relatively new contracts.
Hydrocarbons Same 100 Reasonable progress across contracts from ONGC etc.
Source: Company data, Credit Suisse estimates
Roads still a mixed bag; though better than before
Roads execution for L&T as well as for the broader sector has been disappointing for a
long while. However, while still being mixed, we highlight improvement in the portfolio with
several projects starting execution. We note progress on several large contracts now such
as (1) Hospet-Chitradurga of Tata Realty, (2) MP road projects (Rewa-Jabalpur-
Lakhnandon), (3) Gulbarga-Homnabad, and (4) Mandovi river bridge. Work has recently
started (though marginal as yet) on (1) Villukuri-Kanyakumari, and (2) Raipur-Bilaspur
projects. However, work has not started on (1) Addahole-Bantwal, (2) Mukkola-TN border
projects. Solapur-Bijapur project of Uniquest Infra also has had no progress and is likely to
be cancelled.
Apr-15 NHAI 26.5 Rewa-Katni-Jabalpur, Jabalpur Lakhnadon
projects, MP
Work started in April 2016 - Ongoing now; ~15% complete
Mar-15 PWD, Delhi 16.6 Barapullah Elevated Corridor Phase-III Work slow due to land acquisition delays
Oct-14 UP govt. 16.3 Lucknow to Unnao expressway (63km) Work completed
Apr-15 Tata Realty & Infra 12.0 Hospet Chitradurge road ~22% complete (Jan-17); Slow progress - Utilities shifting work
ongoing
Jun-15 Uniquest Infra 11.0 Solapur-Bijapur road Seems project is being rebid.
Mar-16 NHAI 10.8 Kerala/Tamil Nadu –Villikuri -Kanyakumari road Project is in two parts. Has started but with only 0.8 and 3.6%
completion in two stretches, respectively. NGT order delay
Jan-15 NHAI 10.0 Bijapur-Gulbarga-Homnabad road Shifting of utilities completed in 2QFY17; almost half complete
Apr-16 NHAI 8.2 Addahole (Gundya) to Bantwal, KN road No progress as per NHAI; Work should have started in Dec-16 as
per KN assembly discussion
Apr-16 NHAI 5.0 Mukkola junction to Kerala/Tamil Nadu road No progress until Jan-17
Jul-14 GSIDC (Goa) 4.0 Bridge across Mandovi river Work restarted and likely to be completed by Sep-17
Nov-15 NHAI 3.9 Chandigarh-Kharar elevated corridor Work started in Dec 2016 after local issues were addressed; 10%
complete with target date pushed to Apr-19 (v/s Dec-18)
Jan-16 NHAI 3.9 Raipur to Bilaspur road Marginal completion of 0.8% as of Jan-17
May-14 Kolkata MDA 3.1 Garden Reach to Remount Road elevated corridor Likely to be completed by end March
Source: Company data, Credit Suisse estimates
20 March 2017
Power: Some of the long stuck projects have picked momentum
We highlight that several projects such as Tanda and Shree Singaji (Malwa) have now
started execution vs. being slow so far, particularly the Malwa project. The Khargone
project has remained steady with FY17 execution (~Rs10 bn) likely similar to FY16
execution. Pick-up in Malwa project is most important and impressive as it is a very large
project (Rs55 bn) that has now started strong execution in FY17, with FY17 spend likely to
be more than treble of FY16 spend in the project.
Figure 14: Malwa project pick up most impressive; Tanda, Khargone on track
Date Client Order size
Nature of Work Current status
Mar-15 NTPC 55.8 1320MW Khargone - EPC Slightly slow ~Rs10 bn execution (flat YoY) in FY17
Sep-14 MP Genco. 51.0 1320MW Shree Singaji (II) - EPC Work picked up in FY17 - 9M capex 2X FY16 capex
Aug-16 Neyveli UP
Power (JV)
19.7 1980MW Ghatampur - EPC New project. Land acquisition, clearances done; FC
pending
Sep-14 NTPC 18.9 1320MW Tanda (II) - TG set Steady progress in execution (Rs9 bn capex in 9M)
Source: Company data, Credit Suisse estimates
Figure 15: Malwas FY17 capex >3X of FY16; Tanda about 2X; Khargone flat
Source: Company data, Credit Suisse estimates
DFCC – picking pace; massive contribution to total book
L&T has a total exposure of ~Rs200 bn to DFCC and related projects. DFCC execution
has picked up meaningfully. Some large projects such as Rewari-Iqbalgarh track (about
US$1 bn; Rs67 bn project size) are about half complete. DFCC intends to complete this
section earlier to start at least a portion of the DFCC project.
Figure 16: DFCC spending—up manifold; but still small relative to project size
Source: Company data, Credit Suisse estimates
-
-
Investment in DFCC (Rs bn)
20 March 2017
Figure 17: Work underway on most stretches
Date Nature of Work Order size# (Rs bn) Status (Jan-2017)
Jun-13 Rewari-Iqbalgarh track work (626kms) 67.0 ~43% complete
Mar-16 Iqbalgarh-Vadodara track work (290kms) 47.4 ~5% complete
Oct-16 Rewari-Dadri (Civil, Elect and S&T) 38.0 Civil works underway
Nov-14 Rewari-Vadodara - Electrification (915kms) 27.0 Civil works underway;
electrification work to pick
pace in some time
Jun-15 Special steel bridges over JNPT-Vadodara and Rewari-Dadri 10.2 ~15% complete
Jun-16 Mughalsarai to New Bhaupur - Electrification (417kms) 8.5 ~5% complete
May-13 Design and construction of 2x25 kV electrification, signaling,
telecommunication and associated works
Total 213.4
# - All contract amounts are for the JV entities (L&T has bid for contracts via JVs). Source: Company data, Credit Suisse estimates
Real estate: residential about half; being marquee may support
Real estate has a broader mix in terms of institutional, commercial and residential projects.
Residential is about 50% of total real estate EPC business of Rs150 bn p.a. and is about
half of backlog of Rs350 bn or so.
Residential projects are at the center of concern on execution speed related to end-
demand environment. Based on a sample of projects below we highlight that residential is
about 50% of L&T’s total business in real estate.
Residential supported by marquee nature
Residential real estate execution may be supported by the fact that L&T is primarily
involved in marquee projects, whose demand may be somewhat insulated from the
broader slowdown. L&T’s real estate business touched about Rs200 bn in FY11-14 and is
now running in the range of about Rs150 bn p.a. as per our estimates.
Figure 18: Key projects in buildings segment
Institutional buildings/Govt housing projects Commercial projects Residential real estate
Client, project Location Client, project Location Client, project Location
NISER project (DAE) Bhubaneswar ITC Sonar Hotel Kolkata The Address Wadhwa Mumbai
ESIC Hospital project Kollam Cognizant Elcot IT Park Sholinganallur, Chennai DLF Capital Green Moti Nagar, Delhi
ESIC Hospital project Joka, Kolkata L&T Realty Sanofi Tower Powai, Mumbai Emami City Kolkata
ESIC Hospital project Coimbatore TCS Customer care centre Siruseri, Chennai Godrej Garden City Ph-III Ahmedabad
AIIMS Project Bhubaneshwar TCS Adibatla project Hyderabad Omkar Worli Mumbai
RIL Township Jamnagar Shell NTCB Project Bengaluru Prestige Sunrise Park Bengaluru
IIT Hyderabad ITC Green Centre Project Bengaluru Prestige Lakeside Habitat Bengaluru
BARC Trombay Project Mumbai Omkar Bhoiwada Rehab Mumbai
Riverview-II (Lucknow Dev. Auth.) Lucknow DLF Crest Project Gurgaon
UP Awas Vikas Basement Ghaziabad DLF Maiden Heights Ph – I Bengaluru
Source: Company data, Credit Suisse estimates
20 March 2017
Figure 19: Real estate orders secured since FY15
Source: Company data, Credit Suisse estimates
Transmission projects – reasonable progress across states and central
We note reasonable progress across transmission projects, across both central (Power
Grid Corporation of India) and state sector clients. It is difficult to monitor progress on
Rural electrification projects individually, but we believe that execution would be
satisfactory on those projects as there is strong central government push to complete
these projects in a specified deadline.
Figure 20: Transmission projects status
Date Client Order size
Aug-15
Powergrid Corporation
of India
5.0 765kV D/C line from Banaskantha to Chittorgarh Target date of Apr-18; 80% stubs cast
Sep-14 4.0 765 KV S/C transmission line (Lalitpur to Agra) Ready for commissioning
Mar-16 3.0 400 kV D/C transmission line (Cuddapah to Madhugiri) Target date of Feb-19; 20% stubs cast
Jan-15 3.0 Extension of 400/220 kV GIS Parbati pooling, 400/220 kV GIS Gurgaon
substation and 400/220 kV GIS Kanpur susbtation
In advanced stages; to be completed in next
few months
Apr-15 2.7 765 kV double circuit transmission line between Wardha and Hyderabad Target date of Dec-17; 90% towers erected
Mar-16 2.1 765kV double circuit transmission line at Cuddapah Target date of Jul-18; 30% stubs cast
Jun-16 2.0 400 kV D/C transmission line package from Tumkur to Hiryur in Karnataka Target date of Dec-18; on track
Mar-16 2.0 100MVAR STATCOM Installation at Kunta Substation in Anantapur, AP Target date of Jul-18
Sep-16 1.7 400kV Double Circuit Mundra – Bhuj Transmission Line in Gujarat Under construction
Nov-15 1.6 765kV GIS substation package at Aligarh Target date of Apr-18; Engg. in progress
Mar-16 1.2 765 kV double circuit Bhuj Banaskanta transmission line (part-1) Target date of Jul-18; 25% stubs cast
Sep-14 0.5 400/220 kV GIS Substation at Pandiabil in Odisha Ready for commissioning
May-14 PGCIL - Vizag Trans. 1.5 Construction of 765KV D/C transmission line in AP Ready for commissioning
Nov-15 Lucknow metro 4.8 Grid substation and other works Trail run of metro already done; Completed
Aug-15 TANTRANSCO
3.0 400kV double circuit (Quad) transmission line (Kamudhi and Karaikudi) Almost completed (Dec 2016)
Sep-14 3.0 400/230 KV AIS and GIS substations at Karamadai, Coimbatore, Poiyur Completed
Sep-14 1.5 400 KV D/S transmission line between Korattur-Thervaikandikai-Manali ~50% work done; Stuck; awaiting permission
Mar-17 West Bengal SEB 2.7 Strengthening the network in the urban area of Nadia district, West Bengal
(under IPDS)
Recently awarded
Jun-16 Karnataka Solar
Power Dev. Co.
2.0 220/66 kV substations and transmission network (for power evacuation from
proposed 2000 MW Pavagada Solar Park in Tumkur)
Under construction; Targeted in couple of
months
Sep-14 HP Transmission Co. 2.0 400/220/33KV insulated switchgear substation at Lahal, Chamba, HP No progress
Jan-15 UP Power Transco. 1.7 Construction of 400kV double circuit quad transmission lines between Banda-
Orai and Banda-Allahabad regions
Banda-Allahabad near completion; Banda-Orai
TANTRANSCO - Tamil Nadu Transmission Corporation. Source: Company data, Credit Suisse estimates
Residential 52%
Commerial 15%
Institutional 33%
20 March 2017
Water projects – higher government skew; mixed progress
Figure 21: Large water projects secured by the company in past few years
Date Customer Order size
(Rs bn)
Project details
Jul-16 Govt. of Telangana 18.5 Construction of a 1632m long concrete barrage with 85 vents including mechanical works
Aug-15 Public Health Engineering Department, Ajmer 14.9 Fluorosis Mitigation project (Nagaur) - Funded by JICA
Dec-15 Water Resource Department, Govt. of Odisha 10.5 EPC work of 34 lift irrigation schemes (30 months)
Jul-16 Water Resources Department of MP 8.4 Balancing reservoir, pumping station at Bansujara left bank’s main canal in Tikamgarh district, MP
Jan-16 Hyderabad Metropolitan Water Supply 5.4 Construction of 650km pipeline, 20 water storage reservoirs, other works
Dec-16 Rajasthan Urban Infra Development Project 5.0 Wastewater infrastructure works at Jhunjhunu
Dec-16 Department of Water Resources, Odisha 5.0 Mega Lift Irrigation Scheme, Cluster IX and XII
Dec-16 Gujarat Water Supply and Sewerage Board 4.2 Narmada River Basin based Bulk water pipeline work - package 2
Aug-14 Uttar Pradesh Jal Nigam 4.1 Agra water supply project (package 5A)
Jul-16 Ahmedabad Municipal Corporation (AMC) 2.0 Construction of a 30 MLD Common Effluent Treatment Plant (CETP) at Danilimda, Ahmedabad
Source: Company data, Credit Suisse estimates
Water projects are a mixed bag with several projects such as Agra, Odisha contracts making
good progress but several other such as barrage project in Telangana facing issues.
Overseas execution steady and so are inflows so far
Figure 22: MEED ordering—Annual
Source: MEED.Com, Credit Suisse estimates
Figure 23: Infrastructure contracts dominate Figure 24: Overseas execution steady despite fears
Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates
-40
-20
0
20
40
CY08 CY09 CY10 CY11 CY12 CY13 CY14 CY15 CY16 CY17E
MEED ordering (USD bn) % yoy (RHS)
Power T&D, 200
FY14 FY15 FY16 FY17E FY18E FY19E FY20E
Overseas EPC order backlog EPC revenues Book to bill ratio (%, RHS)
(Rs bn)
Risks lower, but dependence on inflows, steady execution continues
Given the larger individual project size of overseas projects, we are able to highlight status
of a much larger proportion of contracts. Execution remains steady with most projects
making steady progress. Some of the recent projects such as stadiums in Qatar, etc., are
coming up with definite timelines and may stay on course.
Risk perception from the Middle East has reduced given steady execution for the last one-
and-a-half years in spite of oil price drop and as yet no sizeable and specific working
capital and margin issue. However, L&T has continued dependence on this geography in
terms of continued flow of orders at about Rs275 bn in our assumptions (p.a.).
ME ordering run rate US$100 bn p.a. lower than the peak but still on
Total ordering in ME is prevailing about US$100 bn p.a. versus a peak of about US$170
bn in CY15. This suggests that there are select opportunities still available. Our
assumptions build in about US$4 bn of ordering for L&T from ME every year, building in
about a 4% market share for the company in the ME market.
L&T has many client/segment niches to itself
This market share is possible given specific niche opportunities such as (1) gas
compression orders from PDO Oman (three to four projects completed on a trot), (2)
transmission and distribution infrastructure orders from Qatar, etc. (have been mainstay
for almost a decade now even before L&T scaled up ME geography in hydrocarbon and
civil sectors), (3) budding relationship with Saudi Aramco (Midyan completed; Hasbah in
bag recently and then it has some platform orders as well), (4) fabrication presence (Sohar
Oman yard). Several large time bound opportunities are coming up in Dubai and Qatar
related to Dubai Expo 2020 and Qatar world cup (one stadium Rayyan already in the bag).
EMAS-Chiyoda bankruptcy can affect Saudi Aramco project execution
We highlight that EMAS Chiyoda recently won a contract valued at over US$1.6 bn for the
development of the second phase of Hasbah Offshore Gas field situated off the Coast of
Saudi Arabia. LTHE’s share in the contract value is approximately over 60%. EMAS
Chiyoda has filed for bankruptcy in the US courts. We believe that execution can continue
given well-established US bankruptcy laws. The aim of the bankruptcy is to protect the
interest of the company and proceed with the project execution without affecting clients’
interests. Nevertheless, a risk has opened up in this large project for the company.
Guidance – inconsequential; build in substantial miss
We note that L&T has given strong guidance for 4Q and full-year FY17E but we believe
that it is largely inconsequential. We already build in a substantial miss vs. the guidance in
our 4Q estimates. We build in YoY flattish inflows in 4QFY17E, vs. L&T suggesting almost
a 25-26% YoY growth in inflows. L&T guidance implies an order inflow of Rs546 bn versus
we building in an order inflow of Rs456 bn only. It is guiding YoY execution growth of 23%
vs. we building in an execution growth of just 10-12% (variability related to marginal base
correction on account of Ind-AS transition). L&T had grown 18% in 4QFY16 after a growth
of just 9% in 9MFY16. This year also 9MFY17 growth has been just 6%. L&T is guiding for
EPC EBIT margins of 12.8% in 4QFY17 (versus our estimate of about 10.6%). L&T
delivered 11.1% EBIT margin in 4QFY16 driven by 15% EBIT margin in infrastructure
segment (below 7% in 9MFY17).
20 March 2017
Larsen & Toubro (LART.BO / LT IN) 11
Figure 25: Build in miss across all three parameters Figure 26: EPS CAGR driven by margin recovery
Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates
Continue to build in 25% EPS CAGR over FY16-19E including losses
In spite of building in a substantial guidance miss in FY17E, L&T can deliver earnings
CAGR of 24% over FY16-19E based on three parts: (1) EPC revenue growth (11%
CAGR), (2) margin normalisation (130 bp+ in EPC) largely on Hydrocarbons and HE, (3) a
15% CAGR in services and (4) lower interest cost and flat depreciation.
Our consolidated earnings build in a Rs8.3 bn loss from the Hyderabad metro in FY19E
(can be lower on de-scoping, claims, real estate and other earnings streams) and does not
build sell-down benefit.
Figure 27: We build 11% revenue CAGR in EPC business over FY16-19E
(Rs bn) FY16 FY19 Sales
Sales EBIT EBIT% Sales EBIT EBIT% CAGR (%)
Infra 506 50 9.9 763 71 9.3 14.7
Power 64 1 1.8 57 2 4.0 (3.9)
Heavy Engg. 33 (1) (3.0) 35 4 10.5 2.8
Elec. & Auto. 54 4 8.0 75 8 10.5 11.4
Hydrocarbon 86 (1) (1.1) 119 10 8.7 11.3
Others 97 10 10.2 106 7 7.0 3.1
EPC total 840 63 7.5 1,155 102 8.8 11.2
Source: Company data, Credit Suisse estimates
Figure 28: We build in ~7% inflow CAGR over FY16-19E from a low base
(Rs bn) FY14 1Q15 2Q15 3Q15 4Q15 FY15 1Q16 2Q16 3Q16 4Q16 FY16 1Q17 2Q17 3Q17 FY17E FY18E FY19E
E&C order inflow 1,141 281 356 301 430 1,367 213 233 331 377 1,154 241 256 294 1,192 1,291 1,399
- Domestic 775 151 307 258 336 1,054 153 146 242 263 804 132 206 200 842 941 1,049
- Overseas - Middle East 366 101 49 43 94 284 60 64 88 103 316 103 42 94 298 298 298
- Overseas - Others - 29 - - - 29 0 23 - 12 34 6 7 - 53 53 53
Services order inflow 131 53 42 45 46 186 51 54 55 56 215 56 55 55 223 248 278
Consolidated order inflow 1,272 334 398 346 476 1,554 264 286 385 433 1,369 297 311 349 1,416 1,540 1,678
Growth yoy (%) 11.4 17.1 19.2 39.1 22.6 (21.0) (28.1) 11.4 (8.9) (11.9) 12.6 8.7 (9.5) 3.4 8.7 9.0
Source: Company data, Credit Suisse estimates
25.9
23.4
12.8
5.2
4Q17E-LT guidance 4Q17E-CS estimate(% )
PAT
EBITDA
Revenue
Larsen & Toubro (LART.BO / LT IN) 12
Figure 29: Our TP of Rs1,850 includes Rs1,380 for EPC business at 20x FY19E EPS
PAT/Book Multiple Value Valuation basis Stake L&T's stake value Per share
(Rs bn) (X) (Rs bn) (%) (Rs bn) (Rs)
EPC business 64 20.0 1,290 PE multiple 100.0 1,290 1,383
L&T Finance Holdings 174 Market price 66.7 104 112
L&T Infotech 117 Market price 84.6 89 95
L&T Technology 86 Market price 90.0 70 75
Power equipment JVwth MHI 1.2 15.0 18 P/E 51.0 9 10
Infra SPVs 73 1.00 73 P/B 97.7 71 76
Power development 31 1.00 31 P/B 100.0 31 34
Other subsidiaries 112 0.50 56 P/B 100.0 56 60
Total subsidiaries 431 462
Grand total 1,720 1,845
20 March 2017
Companies Mentioned (Price as of 17-Mar-2017) Larsen & Toubro (LART.BO, Rs1550.7, OUTPERFORM, TP Rs1850.0) NTPC Ltd (NTPC.BO, Rs160.1) Oil and Natural Gas Corporation Limited (ONGC.BO, Rs189.95) Powergrid Corporation (PGRD.BO, Rs194.5) Reliance Industries Limited (RELI.BO, Rs1300.65)
Disclosure Appendix
Analyst Certification I, Lokesh Garg, certify that (1) the views expressed in this report accurately reflect my personal views about all of the subject companies and securities and (2) no part of my compensation was, is or will be directly or indirectly related to the specific recommendations or views expressed in this report.
3-Year Price and Rating History for Larsen & Toubro (LART.BO)
LART.BO Closing Price Target Price
Date (Rs) (Rs) Rating
19-Mar-14 1246.65 1004.00 U
19-May-14 1524.65 1696.00 O
U N D ERPERFO RM
O U T PERFO RM
N O T RA T ED
N EU T RA L
3-Year Price and Rating History for NTPC Ltd (NTPC.BO)
NTPC.BO Closing Price Target Price
Date (Rs) (Rs) Rating
19-Mar-14 106.63 133.29 O
O U T PERFO RM
N O T RA T ED
N EU T RA L
20 March 2017
Larsen & Toubro (LART.BO / LT IN) 14
3-Year Price and Rating History for Oil and Natural Gas Corporation Limited (ONGC.BO)
ONGC.BO Closing Price Target Price
Date (Rs) (Rs) Rating
15-May-14 252.03 233.33 N
N EU T RA L
3-Year Price and Rating History for Powergrid Corporation (PGRD.BO)
PGRD.BO Closing Price Target Price
Date (Rs) (Rs) Rating
14-May-15 139.50 180.00 O *
O U T PERFO RM
3-Year Price and Rating History for Reliance Industries Limited (RELI.BO)
RELI.BO Closing Price Target Price
Date (Rs) (Rs) Rating
02-Apr-14 956.95 1120.00 O
O U T PERFO RM
N EU T RA L
20 March 2017
Larsen & Toubro (LART.BO / LT IN) 15
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Global Ratings Distribution
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Target Price and Rating Valuation Methodology and Risks: (12 months) for Larsen & Toubro (LART.BO)
Method: Our SoTP (sum-of-the parts)-derived target price for Larsen & Toubro is Rs1,850, which comprises Rs1,380 for E&C business, valued at 20X Sep-18E EPS, and the remaining amount for subsidiaries. These include the listed financial services business (valued at market price), IT and technology businesses (valued at respective market caps), power equipment JV (PE basis), infrastructure SPVs (at 1x book), power development business (1x book) and other subsidiaries (0.5x book). Our OUTPERFORM rating reflects our view on stock
Larsen & Toubro (LART.BO / LT IN) 16
price performance relative to market over next 12 months, based on domestic execution pick-up, a steady Middle East, reducing working capital and reasonable valuations.
Risk: Downside risks to our Rs1,850 target price and OUTPERFORM rating for Larsen & Toubro include a slower-than-expected recovery in the domestic market, margin risk in the E&C business, delays in the implementation of reforms, negative surprises to our road traffic estimates and delays in execution. In case downside risks play out, there could be a risk to our Outperform rating.
Please refer to the firm's disclosure website at https://rave.credit-suisse.com/disclosures/view/selectArchive for the definitions of abbreviations typically used in the target price method and risk sections.
See the Companies Mentioned section for full company names The subject company (LART.BO, NTPC.BO, ONGC.BO, RELI.BO) currently is, or was during the 12-month period preceding the date of distribution of this report, a client of Credit Suisse. Credit Suisse expects to receive or intends to seek investment banking related compensation from the subject company (LART.BO, NTPC.BO, ONGC.BO, RELI.BO) within the next 3 months. As of the date of this report, Credit Suisse makes a market in the following subject companies (PGRD.BO). Please visit https://credit-suisse.com/in/researchdisclosure for additional disclosures mandated vide Securities And Exchange Board of India (Research Analysts) Regulations, 2014 Credit Suisse may have interest in (LART.BO, NTPC.BO, PGRD.BO, ONGC.BO, RELI.BO)
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Larsen & Toubro (LART.BO / LT IN) 17
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Overseas execution steady and so are inflows so far
Guidance – inconsequential; build in substantial miss
Disclosure Appendix
of 17/17
DISCLOSURE APPENDIX AT THE BACK OF THIS REPORT CONTAINS IMPORTANT DISCLOSURES, ANALYST CERTIFICATIONS, LEGAL ENTITY DISCLOSURE AND THE STATUS OF NON-US ANALYSTS. US Disclosure: Credit Suisse does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the Firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. 20 March 2017 Asia Pacific/India Equity Research Electrical Equipment Larsen & Toubro (LART.BO / LT IN) Rating OUTPERFORM Price (17-Mar-17, Rs) 1,551 Target price (Rs) (from 1,800) 1,850 Upside/downside (%) 19.3 Mkt cap (Rs/US$ mn) 1,446,750 / 22,118 Enterprise value (Rs mn) 2,303,684 Number of shares (mn) 932.97 Free float (%) 88.2 52-wk price range (Rs) 1,601-1,182 ADTO-6M (US$ mn) 34.2 Target price is for 12 months. Research Analysts Lokesh Garg 91 22 6777 3743 [email protected] Vaibhav Jain 91 22 6777 3968 [email protected] COMMENT Domestic execution conundrum; turning better 100 projects; half the backlog; incrementally turning better. We take a deep dive at about 100 domestic projects (~1/2 of total domestic backlog) to understand the execution scenario. The execution scenario is prima-facie better in segments such as roads (more projects have started, e.g., MP projects), power (Malwa project has momentum now) and DFCC (execution picking up; some half complete). T&D, Metro and hydrocarbons remain strong. Water and real estate (half is residential) remain mixed with contract specific developments. Overseas execution, inflows steady; several strong niches. L&T execution and inflows from the Middle East have remained steady. Overall market ordering reduced to US$100 bn p.a. vs. ~US$160 bn at CY14 peak. We estimate 4-4.5% market share for L&T supported by specific niches such as (1) gas compression orders from PDO Oman, (2) T&D orders from Qatar, (3) budding relationship with Saudi Aramco, and (4) fabrication presence (Sohar Oman yard). Dubai Expo and Qatar world cup are bringing in opportunities. Guidance inconsequential; strong earnings compounding ahead. Near- term guidance is inconsequential, as we (probably the market also) already build in a substantial miss. We build in strong earnings growth of 25% over FY16-19E based on (1) EPC revenue growth (11% CAGR), (2) margin normalisation (150 bp+ in EPC) largely on Hydrocarbons and HE, (3) a 15% CAGR growth in services and (4) lower interest cost and flat depreciation. Reiterate OUTPERFORM; increase TP to Rs1,850 (from Rs1,800). Our TP of Rs1,850 is based on Rs1,380 for the core EPC business (20x P/E on Mar’19E EPS) and Rs480 for the subs. Our OUTPERFORM rating is based on domestic execution pick-up, a steady Middle East, reducing working capital and reasonable valuations (18x FY19E consol. and 16.5x FY19E EPC EPS of Rs70). The key risk is margin erosion on delays. Absence of investment cycle could cap upside. Share price performance The price relative chart measures performance against the S&P BSE SENSEX IDX which closed at 29,513.39 on 17/03/17. On 17/03/17 the spot exchange rate was Rs65.41/US$1 Performance 1M 3M 12M Absolute (%) 4.8 14.1 29.9 Relative (%) -0.5 2.2 9.7 Financial and valuation metrics Year 3/16A 3/17E 3/18E 3/19E Revenue (Rs mn) 1,019,641.2 1,097,515.2 1,225,918.9 1,383,957.3 EBITDA (Rs mn) 103,494.0 112,197.7 134,539.1 158,498.3 EBIT (Rs mn) 85,626.7 93,749.7 116,349.4 140,171.7 Net profit (Rs mn) 41,848.4 52,920.1 67,106.9 80,369.6 EPS (CS adj.) (Rs) 44.89 56.77 71.99 86.22 Change from previous EPS (%) n.a. 0.0 0.0 0.0 Consensus EPS (Rs) n.a. 57.27 69.05 82.41 EPS growth (%) (5.5) 26.5 26.8 19.8 P/E (x) 34.5 27.3 21.5 18.0 Dividend yield (%) 1.2 1.1 1.4 1.7 EV/EBITDA (x) 22.0 20.5 17.5 15.0 P/B (x) 3.25 2.66 2.29 1.96 ROE (%) 9.8 10.7 11.4 11.7 Net debt/equity (%) 175.6 150.5 138.2 122.3 Source: Company data, Thomson Reuters, Credit Suisse estimates
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