Solemn assurances of a legendary leader cannot be taken lightly
AM Naik, the boss man of Larsen & Toubro, the blue-chip behemoth, has a somewhat aggressive and intimidating personality. He makes it clear that he is result-oriented and does not take no for an answer.
The reason Naik has a legendary stature amongst corporate head honchos is because he hails from a modest family background and was educated in a vernacular school in a village. In fact, Naik was not well versed in English and had difficulty communicating with his peers.
However, Naik overcame all of his handicaps and single-handed steered L&T to the position of a global engineering giant with a mammoth market capitalisation of Rs. 1,40,000 crore.
The shareholders of L&T have pocketed great riches during Naik’s tutelage. In the period of 16 years from 2000 to date, the stock is up an eye-popping 5183%. This works to a CAGR of 28.38% which is impressive by any standards.
It is obvious that the solemn assurances of a person of such impeccable credentials cannot be taken lightly by us.
Changes to L&T Finance to increase RoE and drive stock price upwards
In his latest interview, Naik candidly acknowledged that L&T Finance, one of L&T’s subsidiaries, has under-performed its peers and delivered sub-par returns to shareholders. However, he assured that emergent steps are being taken within the Company to set right the anomaly and ensure that the shareholders of L&T Finance are able to stand at par with their peers in other NBFCs.
Naik’s precise words of assurance are as follows:
“We made some changes in L&T Finance and it is now on track to growing return on equity. This will drive share prices more and it will cross Rs 100 in three-four months and Rs 150 by December next year. Anything that grows well, can manage well, can compete well and can have interlinking businesses with the rest of L&T, is core.”
He repeated this assurance in another interview: (@5.30):
“In the last one year, it has done much better. The stock has performed very well. It has doubled in one year. I have no doubt in my mind that next year, with the kind of focus that they have on the Return on equity and a number of other initiatives which have been taken, reconstitution of the management, new CEO has come whose focus is on return on equity, I have no doubt that the stock will move up considerably in the coming twelve months”.
It is most significant that AM Naik assured that the changes would ensure an increase in the return of equity (RoE). It is elementary that an increase in the RoE will result in an automatic increase in the price of the stock, all other things remaining equal.
“Excellent growth & profitability” foreseen in strategy to increase RoE: Dinanath Dubhashi, MD of L&T Finance
The million dollar question as to what changes will be made by L&T Finance to it’s business model and how will they will impact the RoE have been revealed by Dinanath Dubhashi, the MD. The salient points made by Dinanath Dubhashi can be summed up as follows:
(i) L&T Finance was earlier aiming to secure a banking license. This prompted it to get involved in numerous businesses which included low profit-margin business. This dragged down the RoEs significantly to the present level of 10%;
(ii) The Company is now focused only on profitable segments of rural financing, housing finance and wholesale financing;
(iii) The non-core activities such as car financing leases, etc will be hived off in 2017 itself. The Company has already hired merchant bankers and issued the mandate;
(iv) The result of focusing on the core and profitable activities is that the RoEs will surge from the present 10% to around 18-19% by the year 2020. The focus on reducing the cost to income ratio will also aid profitability;
(v) The Company will have a simple business strategy and employ the right people to deliver the strategy;
(vi) Bain Capital presently holds 5 percent of L&T Finance. It has invested Rs 300-350 crore as subscription for warrants which will give it another 5% stake. Bain Capital will provide valuable strategic inputs on business strategy.
Savvy investors are making a beeline for L&T Finance
Dia Rekhi of ET interviewed several leading fundamental and technical analysts to understand the future prospects for L&T Finance. The experts are unanimous that if the Company does walk the talk and focuses only on the core business, it has a very bright future.
Siddhartha Khemka of Centrum Broking pointed out L&T Finance is currently at a discount to other NBFC peers. He also emphasized that the consistent growth in numbers and a focused approach in core areas like housing, microfinance and infrastructure financing will drive interest in the stock.
Another expert pointed out that while L&T Finance is quoting at a price-to-earnings ratio of 15.49 estimated earnings, Shriram City Union is quoting at 16.80 times estimated earnings. Cholamandalam Investment and Finance Company is quoting at a whopping 25.07 times.
Buy recommendation of Daljeet Kohli
Daljeet Kohli is a devoted fan of L&T Finance. In an earlier report, Daljeet recommended a buy on the basis that “re-rating is on the cards”. Daljeet explained the entire nuts and bolts of what the proposed restructuring is and how it would result in a re-rating.
In his latest report, Daljeet implored investors to take advantage of the correction and buy aggressively with the following logic:
“L&T Finance Holdings (LTFH) has corrected by 10% in 1 week due to correction in overall markets which provides best opportunity to accumulate. We continue to maintain positive view on LTFH as it has taken right steps to improve its long term ROEs materially from current 13% which will be led by 1) decline in defocused portfolio where the risk is higher like Infra, CV, CE and long term SME financing 2) significantly improving cost to income by closing the overlapped branches (like closing down a branch where there is a branch of L&T Finance and also of L&T Housing in same location / area), 3) reducing the risk in wholesale / infra business by focusing on only operational projects which is likely to limit provisioning and 4) stable consolidated NIMs. Hence we upgrade rating to BUY with upwards revised target price of Rs 115, implying 2.8x FY18 ABV (3 years PT of Rs 155 based on 2.8x FY20 ABV).”
It is notable that Daljeet has enjoyed good success with his buy recommendations of finance stocks. His previous buy recommendations of Bajaj Finance, CAPF, CARE, Lakhsmi Vilas Bank, City Union Bank etc have yielded multibagger return and delighted investors.
Daljeet’s target price of Rs. 115 for L&T Finance means that hefty gains of 22% from the CMP of Rs. 94 are waiting to be harvested by us.
Buy recommendation of Sandip Sabharwal
Sandip Sabharwal, the noted stock market expert, has also come out with all guns blazing in favour of L&T Finance. While Sabharwal was not articulate with reasons for his buy recommendation, it is obvious that he is also smitten by the fact that the restructuring and increase in RoEs will result in a re-rating of the Company.
It is very rare for corporate head honchos to talk about stock prices and where they will be in the future. Yet, AM Naik confidently said that he has “no doubt” that L&T Finance’s stock “will move up considerably in the coming twelve months”. In fact, he even projected that the stock would rule at Rs. 150 by December 2017, which is a whopping upside of 60%.
It is clear that the assurance is carefully thought out and is backed by a solid plan. The Company is committed to take all steps necessary to increase the profitability. If the RoEs do increase as significantly as is anticipated, it is obvious that the stock price can double and even treble in a few years.
Further, L&T Finance’s blue-chip credentials provides comfort that the company is in a fail-safe mode and that we will get our money back in one piece even in the worst case scenario.
So, L&T Finance may be the ideal “Heads I Win, Tails I Don’t Lose Much” sort of stock!