L&T’s special dividend proposal raises hopes of better capital allocation2 min read . Updated: 28 Oct 2020, 11:26 AM IST
- L&T had announced that it will distribute a part of earnings from its deal with Schneider Electric among shareholders
- Analysts' estimates on how much of this will be paid as special dividend range from ₹18 to ₹38 per share
Engineering and construction major Larsen & Toubro (L&T) will announce its September quarter earnings on Wednesday. But investors are more eager about a proposed special dividend than the quarterly result. The stock was up around 5% since the company said it will consider a special dividend on 28 October.
A part of the ₹14,000 crore from L&T recently concluded deal with Schneider Electric would be distributed to shareholders. Adjusted for tax, analysts estimate net sale proceeds to be around ₹12,000 crore or around ₹86 on a per share basis.
Analysts' estimates on how much of this will be paid as special dividend range from ₹18 to ₹38 per share. It’s also important that the remainder of the funds are used to retire debt and make the balance sheet lean, rather than reinvesting them in non-core businesses.
“Post-tax, the company would get around ₹12,000 crore, we are expecting the special dividend to be around ₹36 per share. For the stock to rise further, the special dividend has to be significant. We may see some correction in the stock, if they announce anything below ₹10 per share. However, valuation re-rating will depend on its capital allocation strategy and outlook on core business. The company is taking steps to reduce its focus in non-core business to allay investors’ concerns but it will take more time for these concerns to completely ease," said an analyst with a multinational brokerage house requesting anonymity.
It should be noted that L&T had last distributed a special dividend of ₹15 per share in 2008. A special dividend coming after more than a decade encourages a positive sentiment. A niggling worry for L&T’s investors has been the management decision to deploy cash in non-core assets. Analysts at Jefferies India Pvt. Ltd have pointed out that return ratios in non-core businesses have been lower compared to the core engineering business since FY04.
So, in that sense, this move does send a positive signal. “The proposed decision of the management to distribute part of the E&A divestment proceeds showcases L&T walking the talk, on returning part of the sales funds to shareholders. Though most investors would have preferred a buyback, we believe a special dividend of ₹30-38/share (40-50% pay-out) may be at the anvil, implying attractive dividend yield in addition to the absolute stock returns," analysts at IIFL Securities Ltd said in a note on 27 October.
But at the same time, it is a short-term distraction from its underlying fundamental concerns, analysts said. The spotlight would soon be back on order inflows and execution, which are more important from a valuations perspective.
With improving labour availability and easing supply-chain, L&T’s execution is expected to have improved in the September quarter. Analysts at Kotak Institutional Equities expect L&T’s core engineering and construction business operating margin to improve sequentially to around 7.8% in Q2FY21. Margins are expected to be aided by operating leverage benefits and cost-rationalization measures. However, the decline in its core EPC revenues is expected to continue in the second quarter as well, they said in their earnings preview report. Meanwhile, L&T’s recent high-speed rail order win could prompt analysts to revise their FY21 order inflow estimates upwards.