Industry Overview• The Engineering sector is the largest in the overall industrial sectors in India.• It is a diverse industry with a number of segments, and can be broadly categorized into two segments, namely, heavy engineering and light engineering.• Approximately 15-20 %growth rate in industry expected (LNT growing @ 25%)• Most of the leading players are engaged in the production of heavy engineering goods and mainly produces high-value products using high-end technology. Requirement of high level of capital investment poses as a major entry barrier.• Leading players in this industry are L&T, ABB, BHEL, Siemens, Thermax, Crompton Greaves, Voltas• The light engineering goods segment, on the other hand, uses medium to low-end technology. Entry barrier is low on account of the comparatively lower requirement of capital and technology.• The demand in the engineering sector to remain to be healthy primarily on account of the Government’s increased thrust on infrastructure development.• Industry margins growing @ 12-15%• Industry profitability approximately 10-14%
Company Overview• Larsen & Toubro Limited (L&T) is a technology, engineering, power, construction and manufacturing company.• It is one of the largest and most respected companies in Indias private sector with a strong revenue growth of 25% and order inflow growth of 15-20% in FY2012.• Leadership position in all its major lines of business.• L&T has an international presence, with a global spread of offices and factories. Has strong footprint in the Gulf and in China. Subsidiaries• Larsen & Toubro Komatsu Limited• Larsen & Toubro Finance• Larsen & Toubro Infrastructure Finance• L&T – Integrated Engineering Services (IES)• Larsen & Toubro Valves Business Group
Firms competitive position:• Impact on margins:• EBITDA margin stable at 15.2% and strong inflows of Rs 303 bn.• Capital Investment Requirement:• L&T reported a strong balance sheet at the end FY 2011 with a marginal deterioration in working capita levels & gross debt to equity of 0.33X.• L&T increased its investments in its subsidiaries and associates by 29.6bn to 106.4 bn at end FY2011 from FY2010-end level of Rs. 77bn primarily led by(1) buy out of PE stake in L&T IDPL and investment in other development projects of Rs. 10.7 bn• (2) Increase in investment in L&T finance and L&T infrastructure finance by Rs. 6.8 bn. (3) Increase in investment in L&T power development to the tune of about Rs. 4.6 bn.• Growth Rates:• Management guided for strong revenue (25%) and inflows (15-20%) growth in FY2012 end.• Our estimates build a marginal order inflow growth of 3% and strong revenue growth of 24% for FY2012 end.
Key ParametersSource: Kotak Institutional Equities’ research report
WACC-Target PriceCost of Equity Using CAPM ModelRf 8.24% 10 year Benchmark Gsec YieldRm 15% Expected Market Returnβ 1.1128R Equity 15.76%10 Year Benchmark G Sec Yield 8.24%AAA Corporate Bond Spread 1.23%Tax Rate 30.00%Total Debt (2011) 83241.2Total Equity (2011) 10,56,970 Market Capitalisation as on 24th JuneWACC 15.10%
• Terminal Value at the end of FY 2016• Assumption: Free cash flow growth falls to 10% after 2016 and remains constant thereafter forever• G FCF 10%• R WACC 15.10%• Terminal Value (Rs. Mn) 24,60,286• Enterprise Value (Rs Mn) 15,43,718• Value of Equity (Rs. Mn.) 14,60,710• Estimated Price (Rs) 2,413.60