Larsen & Toubro - No slowdown, at least for now

L&T received Rs122bn of new orders in 1Q09, up 23% yoy, contrary to market expectations of a slowdown. Reported sales and margins were also healthy. Inclusion of the APGENCO TG package order raises concern about long-term E&C margins. We maintain Buy on a lower target of Rs3,009.40, which offers 18% upside potential.

Domestic order inflows remain strong
L&T received Rs122bn of new orders in 1Q09 vs Rs99bn in 1Q08 (1Q08 included a single Rs55bn order for Mumbai airport). This 23% increase was contrary to market expectations that high inflation would hamper L&T's order inflows and, hence, the growth outlook for FY09-10. Order backlog has reached Rs582bn (up 37% yoy) and is now at 2.1x average sales of the last four quarters. The E&C order book at Rs563bn is 2.6x E&C sales.

APGENCO order boosts inflow; value for L&T standalone uncertain
L&T's 1Q09 order inflow of Rs122bn included the APGENCO order for a turbine and generator package won by its subsidiary JV, L&T-MHI. L&T-MHI is a large and independent entity, and we believe ideally its orders - especially equipment orders (item-rate contracts) - should not be run through L&T's standalone P&L. Moreover, with uncertainty on margins for L&T-MHI's initial order flow, it is difficult to gauge the trading margins L&T standalone would make on these projects.

1Q09 sales higher, EBITDA marginally lower, already hit by cost inflation
L&T's standalone sales grew 53%, operating profit 55% and PAT 72% (adjusted for forex gains). The company achieved this despite a 280bp increase in its materials and construction costs as a percentage of sales. Operating leverage (lower staff and SG&A expenses as a percentage of sales) helped maintain margins. We believe the next three quarters could see margins decline, unless there are savings on materials costs. We only marginally reduce our estimates for FY09 and FY10.

SOTP valuation falls; we lower our target multiples due to uncertainty
Our revised DCF value (on a higher risk-free rate) for L&T standalone implies a target PE of 22x (down from 25x), a premium to BHEL's 18x, given L&T's more diversified business drivers. Our sum-of-the-parts target is reduced further - with target multiples for other components also toned down - to Rs3,009.40 (from Rs3,962.50), 18% higher than the current price. We maintain Buy.