Detailed Rationale

CRISIL Ratings has reaffirmed its ‘CRISIL AAA/Stable/CRISIL A1+’ ratings on the bank loan facilities and existing debt instruments of Larsen and Toubro Limited (L&T; part of the L&T group). Also, CRISIL Ratings has withdrawn the rating on non-convertible debentures of Rs 1,000 crore upon redemption and on receipt of repayment confirmation from the debenture trustee (see ‘Annexure - Details of Rating Withdrawn'). The withdrawal is in line with CRISIL Ratings’ policy on withdrawal of ratings.

 

The ratings continue to reflect the dominant position of the L&T group in the engineering, procurement and construction (EPC) market in India, its diversified presence, strong financial risk profile and robust financial flexibility. These strengths are partially offset by large working capital requirement in the EPC segment.

 

Consolidated revenue, excluding financial services, rose 22% on-year to around Rs 2,08,000 crore in fiscal 2024, driven by strong execution of large order book in the EPC business. Earnings before interest, tax, depreciation and amortisation (EBITDA) margin, excluding financial services, moderated from 11.7% in fiscal 2023 to 11.2% in fiscal 2024, mainly owing to cost pressures in the projects executed in the EPC business, even as margins sustained for the IT&TS segment at 20.4%.  As on March 31, 2024, the unexecuted order book stood at Rs 4.8 lakh crore, which, coupled with healthy sector outlook, provide strong prospects for the growth of the company’s topline while sustaining its profitability.

 

For fiscal 2024, adjusted net debt to EBITDA ratio remained strong at 0.5 time, including capital allocation for the financial services business, despite rising temporarily during the fiscal, owing to the Rs 10,000 crore share buyback during September 2023.

Analytical Approach

CRISIL Ratings has used a combination of full, proportionate and moderate consolidation of the L&T group companies. It has used the capital allocation method for the subsidiaries in the financial services business, by factoring in the capital required for maintaining their credit profiles.

 

CRISIL Ratings has fully consolidated L&T’s subsidiaries, because these entities form a core of the business risk profile of L&T.

 

CRISIL Ratings has fully consolidated the special-purpose vehicle (SPV), L&T Metro Rail (Hyderabad) Ltd (LTMRHL; CRISIL AAA(CE)/Stable/CRISIL A1+), as L&T is providing guarantee for its debt instruments. Debt in the remaining infrastructure SPVs has not been consolidated as it is non-recourse to L&T. However, in line with the moderate consolidation approach, CRISIL Ratings has factored in support from L&T to fund any equity requirement, cost overruns and debt obligation in these SPVs.

 

CRISIL Ratings has proportionately consolidated two joint ventures to the extent of the shareholding of L&T to reflect support required to the extent of its interests in these businesses.

 

CRISIL Ratings continues to not consolidate Nabha Power Ltd (CRISIL AA/Stable/CRISIL A1+) as the corporate guarantee extended by L&T ceased to exist upon refinancing of the guaranteed debt with term loans. Furthermore, the company has been considered a part of non-core assets by L&T and the parent has publicly articulated its intent to divest the asset.

 

To arrive at the adjusted net debt, surplus cash (exceeding Rs 5,500 crore that is assumed as minimum operational cash) has been reduced.

 

Please refer Annexure - List of Entities Consolidated, which captures the list of entities considered and their analytical treatment of consolidation.

Key Rating Drivers & Detailed Description

Strengths:

• Dominant position in the domestic EPC segment and diversified revenue profile: The group’s dominance in the domestic EPC segment is supported by its track record of more than seven decades, ability to cater to several sectors and strong brand. The business spans a spectrum of projects, ranging from complex turnkey EPC projects to simple construction activities. In-house design, engineering and fabrication capabilities for critical equipment and systems give a strong competitive advantage. Robust competencies across segments and sectors along with a track record of completing projects as per specifications have led to a strong brand image for L&T in India and overseas.

 

As of March 2024, the group had orders of Rs 4.8 lakh crore, led by infrastructure (65%), energy (25%), hi-tech manufacturing (7%) and the rest from other segments. International orders accounted for 38% of the order book with the bulk of these from the Middle East. These should provide strong revenue visibility over three fiscals.

 

The group enjoys healthy diversity, supported by increasing revenue contribution of the service-oriented businesses ― IT&TS and financial services, which accounted for around 26% of consolidated revenue during fiscal 2024.

 

CRISIL Ratings believes the L&T group will maintain its dominant position in the EPC market in India by judiciously bidding for projects across infrastructure, defense, solar, energy storage and water treatment sectors.

 

• Healthy capital structure and robust financial flexibility: The group has a conservative financial policy, as reflected in adjusted net debt to EBITDA ratio of 0.5 time as on March 31, 2024 (including capital allocation for the finance subsidiary), driven by strong cash accrual built-up through core business. The ratio remained around the similar level as that of March 2023, despite rising temporarily during the fiscal, owing to the Rs 10,000 crore share buyback during September 2023.

 

Financial flexibility is supported by the group’s ability to raise funds at competitive rates as well as robust consolidated cash and equivalents (except financial services) of more than Rs 33,200 crore as of March 2024. It is also bolstered by the significant market value of the listed investments in the IT&TS and financial services companies. CRISIL Ratings expects the capital structure, debt protection metrics and financial flexibility to remain strong.

 

• Healthy share of the high-margin IT&TS segment: Share of the IT&TS segment in the revenue and operating profit was around 20% and 34% respectively, on a consolidated basis during fiscal 2024. The IT&TS segment is a high-margin business and less working capital intensive than the EPC segment, resulting in higher return on capital employed (adjusted RoCE). Consolidated adjusted RoCE has been above 15% over the six fiscals through fiscal 2024. The RoCE is expected to remain strong with better profitability over the medium term.

 

Weaknesses:

• Large working capital requirement: Gross current assets (GCAs) net of cash (CRISIL Ratings – adjusted) were high at around 242 days as on March 31, 2024. However, the group manages working capital through customer advances and payables. The Order book is well-diversified across sectors and geographies which mitigates credit risk. The rising revenue share of IT&TS has also helped to contain working capital requirement with standalone GCAs being higher.

 

Given the intent of the management to judiciously bid for projects with lower working capital requirement and its efforts to reduce receivables and inventory, GCAs are expected to improve and will remain a monitorable over the medium term.

 

• Significant capital employed in low-return developmental projects: Substantial capital is employed in developmental projects under LTMRHL. The operations of LTMRHL, commissioned around six years ago with significant time and cost overruns, were adversely impacted by the pandemic-led lockdowns. As a result, daily traffic had declined sharply to less than 2 lakh commuters. The average daily traffic gradually recovered post-Covid and reached 4.15 lakh commuters by April 2024.

Liquidity: Superior

L&T has robust liquidity, driven by cash and equivalent (except financial services business) of around Rs 33,200 crore as of March 2024. Expected net cash accrual of more than Rs 10,000 crore in fiscal 2025, should suffice to cover incremental working capital, capital expenditure, scheduled debt obligation as well as support towards subsidiaries, including LTMRHL.

 

ESG profile

The EPC sector has a significant environmental and social impact given its nature of operations with higher emissions, waste generation and water consumption affecting local community and increasing the possibility of health hazards.

 

However, CRISIL Ratings believes that ESG profile of L&T’s supports its already strong credit risk profile. The company is taking a slew of initiatives towards environmental and social causes, some of which are highlighted below.

 

• L&T has set a target to achieve water neutrality in its operations at the consolidated level by 2035 and carbon neutrality by 2040.
• In-line with this target, the company has increased its share of renewable energy consumption by 20% in fiscal 2024 on a year-on-year basis.
• In its EPC business, the share of revenue from green businesses, which includes solar, water, green hydrogen, green buildings, and clean fuels project was around 50% in fiscal 2024.
• L&T’s lost time injury frequency rate of its workforce (at 0.07x) and attrition rate (at ~12%) was lower than its listed peers.
• Companies’ governance structure is characterized by a majority independent board (~53% are independent directors), ~7% women directors and extensive financial disclosures.

 

There is growing importance of ESG among investors and lenders. The commitment of L&T to ESG will play a key role in enhancing stakeholder confidence, given the high shareholding by foreign portfolio investors and access to both domestic and foreign capital markets.

Outlook: Stable

CRISIL Ratings believes L&T will maintain its leadership position in the EPC segment and is positioned to benefit from the infrastructure spending in India over the medium term. Its profitability is expected to be stable, supported by the increasing contribution of the IT business.

Rating Sensitivity factors

Downward factors:

•       Significant stretch in the working capital cycle on a sustained basis
•       Significant decline in ROCE below 14% on a sustained basis

About the Company

Set up in 1938 by Mr HH Larsen and Mr SK Toubro, L&T was incorporated in 1946 and reconstituted as a public limited company in 1950. It is one of Asia’s largest vertically integrated EPC conglomerates, with a strong market position across segments such as infrastructure, power, hydrocarbons, heavy engineering, precision engineering & systems, IT&TS, metallurgical and material handling, and machinery and industrial products. L&T undertakes infrastructure development projects (metro rail and power generation) through its SPVs: LTMRHL and L&T PDL.

Any other information: Not Applicable