What slowdown?

On July 16, when union Minister for Shipping Road Transport & Highways T.R. Baalu inaugurated a 10 km elevated highway in Panipat, the happiest lot amongst those present were Larsen & Toubro (L&T) executives. The engineering & construction giant had completed this landmark project six months ahead of schedule. L&T’s engineers were, doubtless, proud of this achievement. But getting the highway ready ahead of schedule also augured well for the company’s financials. For one, it got an additional six months to collect toll (which would have otherwise started in January 2009); for another, it saved on wages of contract workers for that period even as it got a chance to deploy its engineers on other projects.

That’s just one way L&T is beating the economic slowdown. And it’s doing so in style, as its guidance for 2008-09—issued at the time it announced its first quarter results— reveals. The company maintains it will grow revenues by 25-30 per cent and net profits by 30 per cent in the current year.

So, what exactly is the L&T management doing right, even as many of its counterparts in construction and capital goods raise Cain about rising costs of inputs (like steel and oil)? One significant strategic decision, which was taken much before the threat of a slowdown emerged, is to rely more on projects based on variable costs. “L&T took a conscious decision some years ago to switch over to contracts that protect against commodity price escalation,” says J.P. Nayak, President & Whole-time Director, L&T. He says over 70 per cent of the order book of over Rs 57,000 crore is protected in a manner that allows L&T to pass on increased inputs costs to the customer. Three years ago, fixed and variable cost projects were equally split. Nayak adds that even in fixed rate contracts, L&T has been able to maintain positive margins by using de-risking strategies and executing projects more efficiently.

 Another way of countering a slowdown is to simply sidestep it. For instance, if construction and capital goods aren’t on a good wicket, L&T is turning to emerging areas like railways, ship-building and power. These businesses may be at a very nascent stage, but will turn big in the years to come. “Orders from these segments will offset any slowdown in sectors like refining in the near future,” says Nayak.

Another de-risking strategy is to diversify geographically outside India. L&T’s current focus is on West Asia, where it has created a ‘mini-L&T.’ The region is flush with money and is not witnessing a slowdown. “Opportunities in the Gulf more than compensate for any temporary slowdown in India’s industrial growth,” says Nayak. L&T is present in that region across a range of sectors— engineering & construction in the hydrocarbons sector, and process equipment supply to the fertiliser and power sectors. L&T also has a switchgear manufacturing facility in Saudi Arabia.

The I&T way • It has a game plan to stay on the fast track • Complete projects ahead of schedule. Eg: A 10 km elevated highway was completed six months before time • Find new growth areas: These include railways, ship-building, power and water • Find new growth markets: The company is focussing in a big way on West Asia • Shift to variable cost from fixed cost projects: This helps L&T insulate itself from rising input costs Industry review Not every construction and capital goods company can be an L&T. And that’s reflected in the companies whose results were below expectations in the first quarter ended June. Many are now coming to terms with meeting cost pressures and maintaining profit margins. The strategies being followed include moving to variable cost contracts to doing in-house construction activities rather than outsourcing. Gammon Infrastructure, a company that is mainly into infrastructure development like roads and ports on a build-own-operate (BOT) basis, has been using its parent company Gammon India for construction activity. “In a BOT project, 40-50 per cent is civil work and this can be done in-house,” says Parvez Umrigar, Managing Director, Gammon Infrastructure. With this strategy, companies can gain 2-3 per cent on margins.