L&T - WHAT LIES AHEAD?

By Ruma Dubey

It is said that the financial performance of Caterpillar is a reflection of the capital goods sector in USA and here in India, it is Larsen & Toubro (L&T). Well, the performance was not exactly trailblazing. But for the exceptional income and other income, it was overall pretty tepid. Its consolidated net profit for Q2FY16 rose 15.5% (YoY) at Rs.996 crore and revenue reported a 11% rise at Rs.23,393 crore.  It had an exceptional gain of Rs.310 crore during the quarter.

What was worrisome though was the 28% (YoY) drop in orders – during quarter its order intake was at Rs.28,620 crore. The good news here – QoQ, the order intake was up 8.5%. International orders saw a 68% (YoY) increase and this adds 38% to total order inflow. In the Press Conference following the results, L&T executive said that the company was lowering order inflow guidance to 5 to 7% from earlier 15%.

And in this background, now read this other news - Larsen & Toubro Electromech Company in Oman, last week wrote an official letter to the head of the Labour Welfare at the Ministry of Manpower, saying that the company is going to lay off 300 Omani workers in its oil concessions. The company has stated in its letter that it has faced difficulties in winning government oil contracts, which forced it to lay off workers. The company added that it took the decision to avoid the worsening of the economic situation and bankruptcy.

This is a developing story as L&T has many projects in the Middle East. Currently the entire region is either going slow on their ambitious projects or postponing those which have not taken off yet. Thanks to the slump in oil prices, these regions are currently struggling to cope with this new balance. And in the coming days, those in the Gulf say that do not be surprised if you hear more layoff’s in the oil sector.

Thus when we analyze the results of L&T or for that matter any capital goods sector which have a considerable interest in the Middle East, it would be prudent to have a cautious outlook. 20% of L&T’s order comes from the Gulf Cooperation Council or GCC countries which includes Bahrain, Kuwait, Oman, UAE, Saudi Arabia and Qatar. Some of these projects are surely at a risk as we move ahead, especially in hydrocarbons and large infra projects.  Not only a slowdown in existing orders, we are talking about bidding for new projects in the region could also see a scale back.

For Voltas, 40% of its orders come from the Middle East and Punj Lloyd is at a bigger risk as 60% of its orders come from this region. Both these companies are scheduled to declare their Q2 numbers on 6th November.

For L&T, which is indeed a reflection of the Indian capital goods sector, unless domestic orders pick up, things could get sticky in the quarters ahead. Yes, the PM is working on getting stalled projects working, cutting red tape. Hopefully that could lead to some spike up in the order book in the coming months.

For the capital goods sector as a whole, all progress depends entirely on domestic growth and that needs to get kickstarted. Yes, there is no denying the fact that order intake has gone up sequentially. Does that mean that one should buy into this sector now? For a long term investor, any dip in a stock like L&T is a buy signal. Accumulate at every fall, keeping a horizon of at least 3 to 5 years. Once the economy bounces back, this is one sector which will zoom up first like a rocket. If only the economy bounces back with vigor…..