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Looking into near-term and long-term

LT has underperformed the broader capital goods index for the last six months on concerns related to weaker-than-expected domestic and international ordering. Despite muted ordering trends in FY25 so far, we see the following positive factors for LT: 1) strong order book sustaining healthy revenue growth, 2) an expected revival of domestic order inflows after state elections, 3) bottoming-out of margins, 4) fairly stable working capital, and 5) attractive valuations of 23x FY26E EPS for the core EPC segment. We do believe that LT’s near-term performance may be influenced by narratives surrounding state elections and Middle East tensions; however, our longterm thesis on the company stays intact. We maintain BUY with our SOTP-based TP of INR4,250, valuing core business at 30x two-year earnings and a 25% holding company discount for subsidiaries.

Order inflows weak so far

Order inflows for LT have remained weak so far in 1HFY25 mainly due to a weaker-than-expected revival in domestic ordering. Elections, weak spending from the central government and lower-than-expected awarding from the private sector have resulted in subdued domestic ordering so far. We expect that after the state elections, ordering should start ramping up from subsegments like transportation infra, energy, B&F, minerals and metals, statespecific water projects, and defense (Ref Exhibit 2, 3). International ordering is also expected to improve from renewables, natural gas, and transmission (Ref Exhibit 7).

Can slowdown in Middle East ordering dry up projects? Maybe not

Overall ordering from the Middle East stood at ~USD237b in CY23 vs. USD103b in CY22. LT’s international inflows have hovered in the range of 2.5-3.5% of overall GCC ordering for the last three years. With a high base of ordering in FY24 from the Middle East, we expect a moderation going ahead, but the activity in Saudi Arabia has remained strong so far. Saudi Arabia awarded contracts worth USD112b in CY23 and USD81b in 8MCY24, despite scaling down Giga-projects lately such as NEOM and LINE. This ordering was broad-based across projects like gas plant expansion from Saudi Aramco, the SPPC renewable energy program, water desalination, construction-related projects from NEOM, Diriyah Company, the Jeddah Central project, NHC, etc. There are about USD49b worth of individual contracts in Saudi Arabia at the bid evaluation stage, most of which have a strong likelihood of being awarded over the next four months. We, thus, believe that despite a slowdown in ordering from Giga-projects, other segments will continue to drive ordering activity, and we expect LT to continue to target opportunities in those projects. The nearterm decline in international ordering due to a high base of last year for LT cannot be ruled out

Is execution impacted? Not yet

LT already has a strong order book of INR4.9t, providing a visibility of 2.5x on revenues, which should help LT sustain healthy revenue growth over the next few years. Execution is currently going as per schedule on large-sized international projects, and hence we have factored in a CAGR of 14% core E&C revenue over FY24-27. We do see a possibility of LT’s revenue growth outperforming its guidance of 15% in FY25.

Is competition still high in projects? Yes

LT has been facing increased competition in domestic projects, for which other EPC majors, such as Megha Engineering, Tata Projects, Afcons Infrastructure and IRCON, have started bidding aggressively, even for larger-sized orders. The company would refrain from entering into a bidding war and would adopt a selective approach to tenders that meet its profitability, working capital and execution criteria. This is also one of the reasons for lower ordering on the domestic side, where the company has prioritized margins and working capital over order accretion.

Margins have a scope of expansion

Over the last two years, LT’s margins were impacted by legacy projects and sharp fluctuations in commodity prices. The company’s current order book mix is around 60% toward variable pricing contracts and 40% towards fixed pricing contracts. With most commodities being range-bound in FY25 and the expected completion of legacy projects during 1HFY25, we expect margins to start inching up in the next few quarters. The company has, however, maintained its guidance of flat margins YoY in FY25.

Working capital expected to remain comfortable

Working capital has remained in the comfortable range for LT at 12%/13.9% of sales in FY24/1QFY25, due to its focus on collections and customer advances from international projects. With constant reduction in working capital, the company has managed to improve core business RoE over the last three years. We expect NWC as a percentage of sales to remain at around 18% for the core business.

Valuation and view

Adjusted for subsidiaries’ valuations, LT’s core EPC business is trading at 23x/21x FY26E/FY27E EPS. We maintain our estimates and TP of INR4,250 based on SOTP, valuing core business at 30x P/E on Jun’26E EPS and 25% holding company discount for subsidiaries. We reiterate our BUY rating on LT

Key risks and concerns

A slowdown in order inflows, delays in the completion of mega and ultra-mega projects, a sharp rise in commodity prices, increase in working capital, and increased competition are a few downside risks to our estimates.

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