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Should L&T take over Satyam?
Equitymaster.com | January 29, 2009 11:49 IST
India's largest engineering company by sales, L&T, is making its intentions clear with respect to its investment in the fraud-hit Satyam [Get Quote] Computers. Yesterday, "In a hurriedly arranged conference call," as Mint puts it, L&T's management said that it will go all out to acquire a controlling stake in Satyam and get a seat on the board.
L&T recently increased its stake in Satyam to 12 per cent, from 4 per cent earlier. This hike was supposedly done with a view to give L&T a greater say in the rescue of the software firm and is precursor to the former's acquisition of the latter.
As a matter of fact, L&T already has a presence in the technology sector through its subsidiary, L&T Infotech. This business forms around 5 per cent and 9 per cent of the company's consolidated sales and profits (FY08) and has grown at a compounded annual rate of 35 per cent over the past 6 years. While these growth figures might seem in line with the broader IT sector's growth over these years, the fact is that L&T has never been known to have any kind of competitive advantages through this business. This is unlike its engineering business, where the company competes well with some of the best known global engineering behemoths in the world.
L&T's chairman A M Naik had recently commented, "My biggest worry is that nothing is going to happen over the next three months, and Satyam will be dead by then. The need of the hour is to save Satyam from disintegration. For shareholders, it is important that its value is not eroded any further. We are more than ready to help if we are approached by the government agencies."
While Naik's predicament is understandable given that L&T is sitting on a mark-to-market loss of over Rs 400 crore (Rs 4 billion) due to a slide in Satyam's share prices, the fact is that L&T is trying to aggressively diversify again into a field where it does not have much experience. The company is known for its engineering skills. But do we see it as a software superpower in the future? Definitely not!
L&T has always been a difficult company to value given its diverse business interests and ever-changing focus. Valuing the stock is like valuing moving parts. This is the reason we have always given valuations to the company that have been at a discount to its peers.
We had last recommended L&T in March 2008, believing that the froth surrounding the stock's valuations was cleared. The company's financial performance post this recommendation did not disappoint us either. However, we believe that the unwarranted aggressiveness that it has shown with respect to raising its investment in Satyam is detrimental to the interest of investors in the company.
L&T has raised its stake in Satyam from around 2 per cent a month back to 12 per cent now without knowing the 'real' worth of the latter. Satyam to us seems like a can of worms that is yet to be opened fully. L&T's latest investment in Satyam has been akin to an irrational investor buying a stock at a lower price just to average his cost and in the meantime giving no weight to a company's core fundamentals.
L&T's management must know better than us where it is trying to get into. But its investors will not like the company to dilute its strengths on the basis of which they had invested into it in the first place i.e., a leadership position and focus in the engineering sector.
Incidentally, unlike Satyam that had an 8 per cent promoter shareholding when the mess was unveiled, L&T does not have any promoters per se. This is probably the reason the company (of this size) has strayed into unrelated areas so many times in the past.
Financial institutions led by LIC [Get Quote] (holds around 17 per cent stake) are leading shareholders in L&T. We remember of LIC not raising its voice when the promoters of Reliance Infrastructure (erstwhile Reliance Energy [Get Quote]) were playing with minority shareholders money at the start of 2008. Will India's leading institutional investor's silence again wreck havoc with your investment in L&T?
As for our subscribers, the company is slated to announce its third quarter results tomorrow. We shall subsequently update you with our latest view on the company.
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