Larsen & Toubro
BSE SENSEX
38,363
S&P CNX
11,532
19 March 2019
Update
| Sector:
Capital Goods
CMP: INR1,357
TP: INR1,610(+19%)
Buy
MindTree acquisition plan puts buyback option to rest
Acquisition marginally EPS accretive but not preferred use of cash
Stock Info
Bloomberg
Equity Shares (m)
M.Cap.(INRb)/(USDb)
52-Week Range (INR)
1, 6, 12 Rel. Per (%)
12M Avg Val (INR M)
Free float (%)
LT IN
1,402
1902.6 / 27.6
1459 / 1183
2/-2/-11
3297
100.0
Financials Snapshot (INR b)
2019 2020E
Y/E Mar
Net Sales
1,374 1,532
EBITDA
162.7 194.8
PAT
81.0 102.9
EPS (INR)
57.8
73.4
Gr. (%)
11.8
27.0
BV/Sh (INR)
435.6 564.4
RoE (%)
13.9
14.7
RoCE (%)
9.4
11.1
P/E (x)
23.5
18.5
P/BV (x)
3.4
3.1
2021E
1,734
227.0
127.2
90.7
23.6
627.7
15.2
12.3
14.9
2.4
Shareholding pattern (%)
As On
Dec-18 Sep-18 Dec-17
Promoter
0.0
0.0
0.0
DII
38.7
37.9
40.1
FII
20.2
20.4
18.5
Others
41.1
41.7
41.4
FII Includes depository receipts
Stock Performance (1-year)
Larsen & Toubro
Sensex - Rebased
1,550
1,450
1,350
1,250
1,150
INR107b of cash earmarked for first-ever hostile takeover in IT industry:
Larsen & Toubro (LT) has announced its intention to acquire a significant 66%
stake in MindTree (MTCL). It has earmarked an amount of INR107b for this
acquisition, valuing MTCL at INR162b (+5% v/s current market cap of INR155b)
or INR980/share. However, the promoters of MTCL (13.3% stake) may look to
resist the hostile takeover by engaging with other shareholders, and hence, it
could be a long-drawn process, in our view.
LT’s rationale for the acquisition:
The primary rationale is to expand the
services business (in line with its five-year value creation strategy presented in
2016). Moreover, this is better utilization of its strong cash balance, especially
in light of the rejection of the INR90b share buyback by the SEBI.
Retention of top management key for success of the acquisition:
MTCL would
continue to be an independent listed entity after the acquisition, and LT does
not plan to merge it with its own IT business, at least in near future. LT’s
management admitted that retention of top management is vital as the IT
business is much more people-oriented with strong customer relationships.
Considering this, it will engage with the promoters and try to address their
concerns. LT believes that there is enough opportunity in the IT industry to
capitalize on, and thus, all the three IT platforms (LTI, LTTS and MTCL) would be
allowed to scale up on their own.
Buyback may be put on backburner for now:
As of end-Dec’18, LT had cash
and cash equivalents of INR150b. Additionally, it generates free cash of
~INR15b/quarter. Even though LT is still engaged with the SEBI for its planned
share buyback, the MTCL acquisition lowers the chances of a buyback now, in
our view.
Higher aggression, if any, toward acquisition may elevate capital allocation
concerns:
MTCL’s acquisition raises a few questions on the capital allocation
policy, especially given that LT has been on track to meet its RoE guidance of
18% by FY21 and divesting its non-core assets. The concerns may get elevated
in case the cost of acquisition increases in due course of time. Ideally, LT
shareholders would have preferred share buyback as the best utilization of the
cash balance. Even management had the same intention until the same was
rejected by the SEBI.
Valuation and view:
MTCL acquisition may be marginally EPS accretive and
neutral from the valuation perspective. However, it is too early to incorporate
the same in our estimates as it may be a long-drawn process. For now, we
maintain our
Buy
rating and target price of INR1,610.
Motilal Oswal research is available on www.motilaloswal.com/Institutional-Equities, Bloomberg, Thomson Reuters, Factset and S&P Capital.
Investors are advised to refer through important disclosures made at the last page of the Research Report.
Nilesh Bhaiya – Research Analyst
(Nilesh.Bhaiya@MotilalOswal.com); +91 22 6129 1556
Amit Shah – Research Analyst
(Amit.Shah@MotilalOswal.com); +91 22 6129 1543