Execution impacted by labour issues; H2FY22 expected to see an improved performance; ‘Buy’ retained
L&T’s Q1FY22 revenue (up 38% y-o-y) and EBITDA margin (10.8%) were largely in line with our expectations. That said, lower other income (down 17% y-o-y) and a higher tax rate resulted in a c20% miss on earnings which came in at Rs 12 bn (more than a fivefold increase on a benign base). Order inflows (up 13% y-o-y) were weaker than expected which the company attributed to awards deferrals. As expected, execution was impacted by worker availability issues which seem to be normalising. The company contributed Rs 5 bn to the Hyderabad Metro project and has budgeted another Rs 15 bn in contributions for the year.
We are not worried: Q1 is typically the weakest quarter so a slight miss can be made up for during the year. Also, the prospects pipeline has improved and the company is confident it can maintain its core margins at the same level as last year despite increasing commodity costs. The company kept its guidance of low to mid double-digit growth for sales and order inflow unchanged. Working capital also remains under control, despite a mild seasonal deterioration. Net debt declined as the company paid back some borrowings attributable to developmental projects. It also plans to sell its power projects and road assets which should further reduce debt levels and improve return on equity.
Improving government finances and start of private capex bode well: The Centre has continued its capital expansion projects and even started new ones. With finances improving, it has also started to compensate states for lost taxes. We believe this should allow states to pick up the pace on infrastructure spend. A sudden increase in commodity prices had resulted in some corporates deferring capex, which should normalise, as demand recovers and price growth stabilises. Many large corporates are announcing capex plans, and government schemes like Production Linked incentives (PLI) are also attracting new corporates.
Maintain Buy: We continue to value the core business at 20x target PE multiple, which is in line with the long-term mean multiple as the economic recovery for India has been better than expected. With finances improving, we expect new order momentum to continue next year. Our target price is unchanged at Rs 1,930.