L&T Infotech IPO: Should you subscribe?

L&T Infotech Ltd’s initial public offer (IPO) opens today for subscription. On offer are 17.5 million shares, which will result in 10.3% dilution in promoter stake to 84.6%. At the price band of Rs 705 to Rs 710, the IPO size is over Rs 1,200 crore. The issue closes July 13.

Out of total offered shares – up to 8.75 million shares are for qualified institutional buyers (QIBs), at least 2.6 million shares for non-institutional investors and at least 6.1 million shares are under ‘retail’ category.

While the Larsen & Toubro (L&T) parentage is a key positive, the subsidiary has been struggling with issues surrounding its senior management stability and has among the highest attrition rates in the sector.

So, should you subscribe to the IPO? Here is what leading research houses and brokerages across the country suggest:

ANGEL BROKING

L&T Infotech has reported a strong CAGR of 20.1% and 23.1% on the revenue and net profit fronts respectively over FY2011-2015. At Rs 710, which is the upper end of the offer price band, the company is available at ~13x its FY2016E earnings, which is at a slight discount to its mid-cap peers trading at an average PE of ~15x FY2016E earnings. Plus, assuming that the company maintains its historical average rate of dividend payout, it would translate into a yield of 4-5% for the investor. Apart from the favourable prospects of the company, we also foresee decent gains on listing. We recommend subscribing to the issue.

RELIANCE SECURITIES

L&T Infotech is 24% & 83% larger than Mindtree and Hexaware, respectively in terms of revenue, and earns substantially higher return on equity (RoE). In our view, Mindtree will continue to command a growth premium, given industry - beating revenue growth and substantial digital exposure. 

We believe L&T Infotech with its revenue size, high return ratios and redoubtable parentage should command around 10% PE discount to Mindtree on inferior growth, while the IPO price band indicates a much larger discount. Thus, we believe the promoters have left something on the table for the investors in terms of valuations, which we view as a major positive factor in favour of the IPO. We recommend ‘SUBSCRIBE’ on the back of scale, redoubtable parentage, high return ratios and reasonable valuation.

IDBI CAPITAL

L&T Infotech has allayed concerns over senior management exits and plans to further strengthen its senior management bandwidth. Further, it also has positives including – 1) L&T groups domain expertise across sectors, 2) High dependence on BFSI vertical (47% of revenue, FY16-17 CAGR of 12%), 3) 49 Fortune 500 clients which have account mining potential and 4) High dependence on the US (69% of revenue) and negligible exposure to the UK, though cross-currency volatility remains a risk.

M&A is a key focus area for L&T Infotech especially in Digital services. It has net cash of almost Rs2bn. Further, it has the option to raise capital through equity. The promoter shareholding post the IPO would still be ~85%. Stock options to the extent of 7% of its equity capital would vest in the next 3 years. Thus it can potentially raise funds through equity capital for M&A and also meet listing norm of 75% promoter holding.

L&T Infotech’s reasonable valuation is the key reason for our recommendation. However, we believe that its undifferentiated business model would limit any substantial re-rating in the near term. M&A would be an upside trigger as discussed above.

SHAREKHAN

Banking and financial services (26.3% of total revenues), insurance (20.7%), and energy & process (12.7%) contribute more than half of L&T Infotech’s total revenue. Any significant fall in the revenues of any one of these verticals may reduce the demand for the company’s services, besides adversely affecting its revenue and profitability. 

The company’s valuation at the offer price looks attractive, given its strong parentage, healthy return ratios and high dividend payout. Continued traction in the key verticals like BFSI and improvement in the energy vertical, coupled with stronger growth in the digital and IMS space will be key earnings drivers for the company going forward.

GEOJIT BNP PARIBAS

The company's revenue and profit after tax (PAT) has grown at a CAGR of ~13% & ~18% respectively over FY14-16. Also, the company has been consistently maintaining strong return on earnings (above 40%) and EBITDA margin (more than 15%) over the years. We are positive on the stock given the rising contribution of digital business, focus on expanding presence, leveraging parentage and increasing use of automation across projects to bring in operational efficiencies. At upper price band of Rs710, it is available at an attractive valuation of 13x FY16 earnings as compared to its peers. Hence, we recommend “Subscribe” to the issue, with a medium-to-long term perspective.