Larsen & Toubro Infotech share price: Equirus initiates coverage with REDUCE rating and target price of Rs 3750

Following a transformation in its sales and delivery, Larsen & Toubro Infotech’s (LTI) traction in digital services is increasing, helping it post industry-leading US$ sales growth over FY18-FY21E. A few soft spots however are visible in some of its growth parameters, which are likely to reduce its sales growth lead vs. select peers in FY22E. Also, Equirus believes that Larsen & Toubro Infotech’s Q3 FY21 EBIT margins at 20.6% are at near-peak levels. Larsen & Toubro Infotech deserves premium valuations vs. most of its peers given its diversified revenues, a marquee client base, higher margins and RoEs. Larsen & Toubro Infotech share price today is Rs 4200, up Rs 250 or 6%.

However, the above soft spots do not augur well for its elevated valuations (trading near +3 SD of its 3-year fwd. PE mean), with the current risk-reward unfavourable in Equirus view. Considering above arguments, Equirus initiates coverage on Larsen & Toubro Infotech with REDUCE rating and target price of Rs 3750.

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Great company with transformation leading to healthy traction in digital:

Larsen & Toubro Infotech enjoys strong parentage and expertise in various industry segments, with scalable IT services offered to marquee clients. To leverage on this strength optimally, the company underwent a major transformation under the current CEO, both in sales and delivery. As a result, Larsen & Toubro Infotech’s traction in digital services started improving not only in terms of scaling up but also in terms of diversification and rising industry rankings.

Growth lead vs. peers likely to reduce starting FY22E:

Equirus believes soft spots do not augur well for Larsen & Toubro Infotech’s elevated valuations and will work to reduce its US$ sales growth lead vs. some large and mid-peers in FY22E (but off a high growth FY21E base).

In terms of EBIT margins, Equirus believes they are nearing peak levels, and should contract going forward considering:

(a)    likely higher investments in SG&A, especially for incubation of new independent units including cloud and data products
(b)   likely increase in travel and related costs post pandemic stabilization
(c)    increasing supply-side issues for the industry

Initiate coverage with REDUCE rating:

Considering the above arguments, Equirus initiates coverage on Larsen & Toubro Infotech with REDUCE rating. The Indian IT industry is trading at premium valuations vs. its historic mean given rising digital adoption. With Larsen & Toubro Infotech being a premium vendor, our target PE multiple is set at around 25-30% premium to its 3-year forward mean.