Founded in 1996, L&T Infotech, the child of the hallowed Larsen and Toubro is now being bid adieu from the parental nest - albeit only partly. L&T holds a 94.96% stake in the company of which it is now selling about 10%. Half of the shares sold, will be offered to institutions. The other half will be split between high net worth individuals and retail shareholders. Think the company has a lot to do with engineering and infrastructure? Think again. Nearly 50% of revenue comes from clients in the banking and insurance space.The company has 250 clients, most of which, as is the norm in the IT space, tend to stick around. One hundred of them have been with the company for over 3 years. They have also been adding new clients at a pace of over 50 a year in the last 3 years. Revenue and profit growth has been solid with the former growing at almost 20% and the latter at almost 24% over the past 5 years. 70% of revenues are denominated in USD and the same proportion is derived from North America, a nice hedge against INR depreciation and India-specific risk.
L&T Infotech's concentration of clients (the top 20 account for 2/3rds of its revenues) is a concern. As is the intense competitive scenario in the IT industry, notably new competition from China, the Philippines, Eastern Europe and Latin America. And there's also the issue of clients owing them a lot of money - debtors comprise 34% of total assets. However this is not greatly dissimilar to industry standards with TCS's accounts receivable standing at 27% of assets and Mindtree's at 30% of assets.
The company fails 8 of our 27 parameters mostly due to the concerns expressed above. On the other hand, it also passes 19. Have a look at them below. No reward is without risk and no risk is without reward, as the saying goes.
Oh did we forget to mention? Retail shareholders get a discount of Rs 10 per share (about 1.4%). However you cannot bid for more than Rs 2 lakh worth of shares to qualify. Go forth and subscribe.
Larsen & Toubro - cutting its stake from 94.96% to 84.65%.
- Is the company's earnings before tax more than Rs 50 cr in the last twelve months?
Yes. It was Rs. 1147 cr in FY 2016.
- Will the company be able to scale up its business?
Yes. They have been growing at a CAGR of 20% over the past 5 years.
- Does the company have recognizable brand/s, truly valued by its customers?
No. L&T is a well-recognized brand in India however its most of L&T Infotech's clients are situated outside the country.
- Does the company have high repeat customer usage?
Yes. Existing customers have accounted for more than 96% of the revenue over the last 4 years.
- Does the company have a credible moat?
No. The IT services space is highly competitive and there is stiff competition in all its service lines.
- Does the company have any regulatory or geopolitical risks?
Yes. An unfavourable regulatory/government ruling in the US would heavily impact its revenue stream as North America accounts for 68% of revenues.
- Can the business of the company be easily replicated by new players?
Yes. The IT service industry has few barriers to entry and the management notes that they are witnessing competition from China, Philippines, Eastern Europe and Latin America which have similar labour costs to India.
- Can the company's product be easily substituted or become outdated?
No. Switching costs are high and they are constantly innovating in order to keep abreast of technology trends.
- Do the customers of the company have bargaining power?
Yes. Their top 20 clients account for 2/3rds of their revenue.
- Do the suppliers of the company have bargaining power?
- What degree of competition does the company face?
High degree of competition from both established giants and new entrants.
- Do any of the founders of the company still hold at least a 5 per cent stake in the company? Or do promoters totally hold more than 25 per cent stake in the company?
L&T will continue to hold about an 85% stake in the company.
- Do the top three managers have more than 15 years of combined leadership at the company?
- Is the management trustworthy? Is it transparent in disclosures in consistent with Sebi guidelines?
- Is the company fighting any past cases in court or with the regulator that casts doubts on the intention of the management?
No. The company and its parent are involved in several litigations but they do not cast doubts on the intention of the management.
- Does the company change its accounting policies frequently?
No. Information on this question is limited for an IPO. However there is no indication from the company's financials that this has been the case.
- Has the promoter pledged any of his holding in the company?
- Did the company generate current and five-year average return on equity of more than 15 per cent and return on capital of more than 18 per cent? Yes. Its 5 year average return on equity was about 40% and its return on capital was approximately 35%.
- Was the company's cash flow-positive during the previous year and at least four out of the last five years?
Yes, in all 5 years.
- Did the company increase its revenue by 10 per cent CAGR in the last five years?
Yes, revenue grew by 19.58% CAGR in the last 5 years.
- Is the company's debt-to-equity ratio less than 1 or is its interest coverage ratio more than 2?
Yes, the company's debt is negligible and hence interest coverage is well in excess of 2.
- Does the company rely on huge working capital for its day to day affairs?
Yes, net working capital is 34.7% of its assets. This figure is given by subtracting current assets from current liabilities. 49.1% of current assets consists of debtors, a point of concern.
- Can the company run its business without relying on external funding in the next three years?
Yes, average Free Cash Flow of last 5 years was 5.71 times capex.
- Is there a sudden spurt in short term borrowings of the company?
No, short term borrowings have fallen 43% in last 2 years.
- Does the stock offer operating earning yield of more than 8 per cent on its enterprise value?
No. It falls marginally short at 7.89% at the lower end of the price band and 7.83% at the higher end of the price band.
- Is the stock's price to earnings less than its five or ten year median level?
Its P/E ratio for the price band is 13.07 to 13.16. This compares to Mphasis's 17.68 and Mindtree's 18.88.
- Is the stock's price to book value less than its five or ten year average level?
Its P/B ratio for the price band ranges from 5.93 to 5.98. This is steep compared to Mphasis's 1.88 and Mindtree's 4.78. However IT companies' are looked at more for their earnings than assets.
With inputs from Kashyap Sriram and Ashish Jain.