Until the headwinds ease, the L&T stock is likely to remain under pressure.
The share price of India’s largest engineering and construction firm, Larsen & Toubro (L&T), corrected 1.7 per cent on Monday, thereby increasing the last one month’s decline to 15.23 per cent.
There could be further pressure on its share price as L&T reported subdued results, with net profit growing merely 16 per cent despite strong growth in revenue by 40 per cent for the quarter ended December.
Although the results were above expectations, among the key worries are the operating margins which have come under pressure now (down 160 basis points) due to higher prices of key raw material such as steel, copper and other construction material. “I think post the result, downgrades might start because we think the company might find it difficult to even achieve Rs 3,400-3,500 crore net profit this year as against the broad expectations of about Rs 4,000 crore,” says Abhinav Bhandari who tracks infrastructure at Elara Securities.
Orders downtrend
Apart from the financial performance, the company earlier guided that by the end of this financial year its order flow could grow by nearly 25 per cent to about Rs 87,000 crore. However, during the quarter it reported a 25 per cent year-on-year drop in the order inflow at Rs 13,366 crore. Even on a nine-month basis, the order inflow has just grown by 8 per cent year-on-year to Rs 49,456 crore. This, in turn, means that to achieve the guided number the company needs large orders in the current quarter. That appears difficult, given the delays in the awarding of projects in the country. The management, however, says orders worth Rs 50,000 crore have been delayed by 6-9 months and it expects the next two months could see higher activity in the awarding of new projects. Nevertheless, it does not rule out the possibility of further delays, in which case it will significantly hit the company’s order book growth.
Bottom line worry
Meanwhile, thanks to improving execution and a strong order book of Rs 1,14,882 crore (almost three times L&T’s FY10 sales), the company hopes to report about 20 per cent growth in revenue at Rs 44,000 crore in 2010-11. This seems achievable as for the nine months it has already clocked Rs 28,417 crore in revenues. Generally, large revenues are booked in the fourth quarter.(Click for graph & table)
Investors, however, will have to watch the trend in new order flows and margins, which could remain under pressure as a result of the increase in commodity prices. Also, about 30 per cent of the order book does not have an escalation clause, which restricts the company from passing on the increase in input prices. Additionally, as a result of soaring copper prices the margins of its electrical business segment (8 per cent of the revenue) have been hit. The margins in this business could remain under stress if the company is not able to pass on the cost increases.
Outlook
While analysts expect L&T to end 2010-11 with a marginal growth of 10-12 per cent in adjusted net profits in 2010-11, they believe the next two quarters will be critical in terms of the movement in commodity prices and higher interest rates and their impact on net profit. A further slowdown in new orders could deteriorate revenue visibility going ahead, which could impact the stock’s performance in the near term. At Rs 1,670, while analysts are bullish on the stock from a long-term perspective, they expect it to underperform in the near term till the headwinds ease.
