Larsen & Toubro -Order inflow concerns overhyped, Macquarie Research,

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Larsen & Toubro
Order inflow concerns overhyped
Event
 L&T has fallen by 10% in the last six trading sessions likely on fears that the
company may miss its FY11 order inflow guidance due to a delay in
Hyderabad metro’s (HMR) financial closure.
 We believe issues in HMR are not serious enough to derail project viability
and earnings for L&T’s parent. Even an order inflow miss is unlikely to have
any major impact on near-term earnings. We reiterate our Outperform on the
stock with a target price of Rs2,260.

Impact
 Overall order momentum on the weaker side as deferrals continue: We
expect order inflow growth in the first nine months of FY11 to be around 14%
(based on Q3FY11 assumption of Rs160bn). Management has admitted that
the ordering cycle continues to remain stretched both for public and private
sector projects, while maintaining projects are not getting cancelled. Activity
generally picks up in the last quarter of the fiscal year but if it can fill up the
deficit remains to be seen. Financial closure of Hyderabad metro is key to
achieving headline order inflow growth number for FY11.
 Issues in Hyderabad Metro not significant to derail financial closure: Our
interaction with senior management in L&T and a project official in HMR
suggests that the key issue is around re-alignment for the 4km stretch of the
71km metro. Management is confident that financial closure will still be
achieved by the end of FY11. We believe the issues are not of the nature
which could derail financing dramatically. A delay of 1-2 months will neither
affect viability nor FY12 revenues for the parent company in any significant
way. Political uncertainty continues to remain an unknown commodity which
could spring surprises.

 Even with 20% order inflow growth, order book coverage would be high:
Even with order inflow growth of 20% (against guidance of 25%) in FY11, the
order book coverage would remain at a high of 3.4x. However, 20% order
inflow growth includes the Hyderabad metro award of Rs100bn.
 2-3% impact on FY12-13 revenue and earnings impact: Even with an
order inflow miss by 5%, the impact on earnings would be limited to just
2-3% to our FY12-FY13 revenue and earnings estimates.
Earnings and target price revision
 No change.
Price catalyst
 12-month price target: Rs2,260.00 based on a Sum of Parts methodology.
 Catalyst: financial closure and order booking of Hyderabad metro
Action and recommendation
 Valuations attractive at discount even to mid-cap capital goods peers:
We believe order book growth will continue to be strong despite a potential
order inflow miss in FY11. The stock is now trading at 17x FY12E (adj for
subs valuation), which is at a discount to other cap goods peers including midcap
names like Thermax (TMX IN, Unrated). We reiterate our Outperform
rating with a target price of Rs2,260.