Jefferies India has affirmed a "buy" rating on Larsen & Toubro Ltd, a leading engineering company in India. The investment bank has raised its target price for the company by 22 percent from the current market price, to Rs 2,650. This upgrade in target price reflects expectations of improved earnings, driven by a robust order book.
L&T's order flow for the fourth quarter of FY23 is expected to be Rs 675 billion, which represents a YoY decline of 9 percent. Despite this, the company experienced a robust 30 percent YoY growth in the first nine months of FY23 and is likely to comfortably achieve its FY23 guidance of 12-15 percent YoY growth. To meet its target, L&T needs to make announcements worth Rs 98 billion, if 50 percent of its orders remain unannounced, Jefferies said in its latest report.
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So far this quarter, orders announced have been primarily in Power Transmission & Distribution (23 percent) and Minerals & Metals (16 percent), while Buildings and Water accounted for the rest. In its Q3 call, L&T's management noted an uptick in private sector capital expenditure, with increased momentum in areas such as Buildings and Factories and Ferrous Metals.
This trend is also being reflected in the order flow. According to Jefferies, there are two areas with potential for positive surprises in the next 12 months: Power Transmission & Distribution and Railways. Renewable energy generation and railway capital expenditure are likely to pick up, which bodes well for L&T's prospects in these segments.
During the December quarter, the company's net profit surged 24 percent to Rs 2,553 crore, while revenue increased by 17 percent to Rs 46,390 crore. International revenues accounted for 37 percent of the total revenue, amounting to Rs 17,317 crore. The EBITDA margin for the period was 7 percent, slightly lower than the 7.1 percent recorded in the corresponding quarter of the previous year.
With higher commodity prices now easing off and revenue growth anticipated, there is growing confidence that margins have bottomed out. L&T is focused on maintaining a healthy balance between its balance sheet and execution, with buoyant collections being a positive sign, the Jefferies report said. In its Q3 call, L&T improved its working capital guidance to 19-20 percent of sales from the earlier range of 20-22 percent, and it remains confident of achieving this target despite increased execution levels.
"We maintain our Buy rating, with a PT of Rs 2,650, valuing core E&C at 14x Sept. 24E EV/EBITDA (consol PB of 3.7x and 25.7x PE Sept. 24E). For FY22-25E, we expect core E&C EBITDA to rise at a 22 percent CAGR vs 16 percent in FY15-19 when it traded at 12x EV/EBITDA," Jefferies said in its report.
In the bull case scenario, the brokerage firm expects an upside of 38 percent to Rs 3,000 a share from the current market price. Jefferies said the early recovery in the macro investment cycle is expected to lead to a significant increase in the company's order flow and valuations. Although there may be a contraction in margins in the Middle East region, this may not come through if there is a better margin order flow.
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