Larsen & Toubro rating: Add: Disappointing pace

L&T’s Q3 profitability was below our estimate, led by losses in the hydrocarbons business, unfavourable job mix, very weak non-infrastructure sales and one-offs. FY15 will be a lacklustre year but FY16 looks better given (i) likely continuation of strong sales growth in the infrastructure segment (+20%) and pick-up in non-infrastructure sales on improving inflow/backlog in FY15, (ii) losses in the hydrocarbon business will be largely provided for in FY15, (iii) potential impact, if any, of the infrastructure segment’s overseas execution on margin will materially reflect only in FY17, (iv) continued positive news flow on better domestic ordering, which will eventually be followed by actual higher order awards, though potentially back-ended.

Consolidated result: L&T’s revenue growth (up 9.7% year-on-year) was led by (i) strong infrastructure segment (up 22% y-o-y) and services business growth (trend will continue in FY16), and (ii) impacted by a sharp (aggregate 33% y-o-y) decline in power, hydrocarbons, heavy engineering and the MMH (metallurgical and material handling) businesses (decline should reverse next year on improving inflow/backlog).

Core E&C (engineering & construction)—consolidated ex-services—business Ebitda margin was impacted by (i) continued loss in the hydrocarbon business (negative Ebitda margin of 4.8%), which will likely continue for another quarter, (ii) unfavourable job mix (higher share of new projects that did not reach margin threshold) in the infrastructure segment and (iii) contraction in non-infra businesses with concurrent impact on margins.

The negatives were partially recouped by profitability in other segments (led by realty). These coupled with higher interest cost and large negative minority interest (on preferential share issue) led to lower than expected profit after tax of R8.6 bn (up 9% y-o-y).

Domestic business helps sustain order inflows; pipeline strong: Order inflows were up 19% y-o-y in Q3FY15 and 16% y-o-y in 9MFY15. Core order inflows (ex-services) grew by 13.4% in 9MFY15 and we expect similar growth in FY15. Growth in inflows was led by domestic orders (Q3- 82%), a healthy sign. The company said there was a strong R1.5 tn of ordering pipeline, to be awarded in Q4FY15/Q1FY16, predominantly in infrastructure (metro, airport, factories and buildings, T&D).

L&T tempers margin and inflow guidance: L&T has revised its FY15 guidance for (i) order inflows growth to 15-20% (from 20%) and (ii) margin to a 200 basis points y-o-y decline for consolidated-ex services business (from a 150 bps decline). It maintained its 10-15% revenue growth guidance.

We revise estimates; retain Add: We revise our estimates to R37.5, R55.8 and R76.4 from R40.8, R58.6 and R78.8 for FY15-17 and maintain target price of R1,650 (on higher 19x P/E multiple from 18Xxfor core business).

Consolidated results: Non-infrastructure segments a drag on growth: Consolidated revenues of R240 bn were up 9.6% y-o-y, ahead of the adjusted 7% y-o-y growth in standalone revenue. The additional growth versus standalone was contributed by (i) financial services (up 23% y-o-y, similar to H1 and (ii) developmental projects (on full contribution from Nabha Power). Hydrocarbon segment revenues of R18 bn declined 26% y-o-y on a weak backlog.