Pitti Engineering Limited: Is it on an inflection point?

My notes of 21st August 2023 concall,

Financial Performance

• Net revenue for the quarter: Rs. 290.71 crores (-6.54%).
• Drop attributed to reduced raw material prices passed on to clients.
• Achieved highest-ever quarterly EBITDA: Rs. 42.43 crores (+19.69% YoY).
• Recorded highest quarterly volume: 9,958 metric tons.
• Blended EBITDA per metric ton: Rs. 42,607.
• Net profit surged to Rs. 13.97 crores (+19.3% YoY).
• Net debt: Approximately Rs. 280 crores.
• Working capital cycle: Around 70 days.

Capacity Utilization

• Lamination utilization: 77.79%.
• Machining utilization: 86.28%.

Order Book Breakup

• Order book totals Rs. 799 crores.
• Approximately Rs. 200 crores in long-term orders (executable beyond 12 months).
• Balance of Rs. 600 crores executable within the next 12 months.

End-User Applicationwise Demand and Order Inflows

• Indian Railways: Decline of 8.1%
• Renewable Energy: Decline of 72.5%
• Oil & Gas: Decline of 69.2%
• Special Purpose Motors: Decline of 17.6%
• Growth in Data Center Backup, Power Generation, and Others

Demand Environment

• Strong demand across all end-user segments.
• Revenue impact due to lower raw material prices passed on to clients.
• Revenue mix varies by quarter based on end-user market demand.

Seasonality

• No apparent seasonality observed in end-user applications.
• Demand fluctuations based on market conditions.

Siemens Locomotive Order

• Siemens received 1,200 locomotives of 9,000 HP from Indian Railways.
• Pitti Engineering anticipates benefits but mentions Siemens is still in the design and contracting phase, so it’s too early to determine the impact.

Exports Revenue

• Exports revenue at Rs. 92 crores, comprising 32% of total sales.
• Core exports were railways and mining.
• Emerging traction in marine and renewable energy applications, particularly in Europe.

CAPEX and Utilization

• Brownfield expansion progress at Aurangabad and Hyderabad on track.
• Current capacity: 50,200 tonnes.
• Planned capacity expansion to 72,000 tonnes.
• Anticipating over 80% utilization for both sheet metal and machining until new capacity is commissioned.
• CAPEX plans remain intact, with slight adjustments if the merger is approved.
• Capacity expansion to 72,000 tonnes is expected to come on stream between the end of this year and Q2 FY24.
• Exponential growth in tonnage anticipated, potentially starting from FY25.
• Annual sales target: 42,000 to 44,000 tonnes, utilizing some new capacities.
• Focus on approvals and product development before aligning capacity additions.
• CAPEX incurred during the quarter: Rs. 17 crores.
• Total CAPEX for the next 15 months is around Rs. 220 crores.
• Aim to complete CAPEX by Q2 FY25, including the shift of the Hyderabad facility to Aurangabad and modernization.

Growth Outlook for FY24 and FY25

• Revenue top-line less crucial due to raw material price fluctuations.
• Sales volume has increased every quarter, with the highest-ever sales volume recorded this quarter.
• Sequential quarter-to-quarter growth of about 5% in volume.
• Margins have reached a record high, with EBITDA per tonne around Rs. 42,000.
• Post capacity expansion, EBITDA per tonne expected to reach Rs. 44,000 to Rs. 45,000 in the near future.

Growth Timeline

• Run rate for this financial year: Around 44,000 tonnes
• Annual target breakdown: 10,000 tonnes in Q1, 10,500 to 11,000 in Q2, with incremental increases in subsequent quarters.

EBITDA per Tonne Expansion Levers

1. Product Mix and Capacity Expansion

• EBITDA per tonne blends sheet metal and machining business.
• Machining capacity expansion outpaces lamination capacity.
• Higher machining utilization results in a more value-added product mix, leading to increased EBITDA per tonne.

2. Automation and Labor Efficiency

• New capacities are highly automated, reducing labor requirements.
• Enhanced automation contributes to EBITDA expansion.

3. Economies of Scale

• As the company grows, costs spread over higher tonnage, driving EBITDA expansion.

4. Product Mix Projection

• Trending towards more assembled products.
• Anticipates assembled products constituting over 80% of sales in the next 2 to 3 years (currently 70-75%).

5. Future of Lamination Business

• Loose laminations will remain in the product mix.
• Some applications require on-site assembly, and customer preferences also influence the mix.

6. Business Development in EV and Renewable Energy

• Engaging with clients for European and North American renewable energy requirements.
• Focusing on exports in the renewable energy sector.
• Collaboration with automotive clients like Varroc and Dana for ICE and EV components.
• Involvement in electric bus, two-wheeler, and three-wheeler components.

7. Merger with Pitti Castings

• Papers submitted to stock exchanges and SEBI & Awaiting regulatory approval.
• Timeline for completion expected towards the end of the current fiscal year or Q1 FY25.

Components Business Growth Outlook

• Post-merger, the company anticipates a top-line revenue of approximately Rs. 300 crore from the components business
• This growth target is expected to be achieved by FY25.

Competition and Imports

• India typically doesn’t import laminations; however, it imports raw materials, such as electrical steel, from countries like China, Korea, and Japan.
• The trend in India is shifting towards localized manufacturing of electrical steel.

Shift Towards Fully Assembled Products

• The company envisions moving towards fully assembled products like motors or alternators.
• Currently, there are no plans to start such products under the company’s brand, but contract manufacturing opportunities might be explored in the future.

Domestic and Export Mix

• Initially expected domestic growth to outpace exports.
• Recent order wins in the European market have balanced export sales growth with domestic.
• Reduction in raw material prices expected to release working capital despite lower sales in rupees.

Volume Breakup between Aurangabad and Hyderabad

• In the current quarter, they expect around 10,500 tonnes.
• The distribution between Aurangabad and Hyderabad is expected to remain similar to the previous quarter.

Emerging Market Trends

• European market opening up for larger assemblies.
• Growth expected in the railway and non-railway machine components business.

Export Opportunities

• Predominant opportunities in the marine and wind power sectors.
• Indian companies gaining traction as European companies seek alternatives to China.
• Potential to ramp up this business to approximately Rs. 150 crores within the next 2 years.

Market Size

• Domestic European market size for laminations exceeds 400,000 to 500,000 tonnes per annum.
• Exact volume sourced from China not disclosed.
• Key segments in the European market include automotive, railways, and electric vehicles (EVs).
• Both Indian and Chinese competitors are actively targeting the European market, seeking to provide laminations for various applications.

Current Market Share

• Estimated to be approximately 10% of the total Indian market for electrical-motor and generator-related laminations.
• Anticipating an increase to around 15% after the completion of CAPEX.
• Total steel consumption for electrical-motor and generator-related laminations in India is around 700,000 metric tons.
• Company’s consumption accounts for about 70,000 tonnes, or roughly 10% of the market.

Current Market Dynamics

• Laminations are utilized across a wide range of applications in Europe, from off-the-shelf motors to specialized industrial components.
• Established European brands like CG Power and Bharat Bijlee are presently comfortable importing laminations.

Company’s Strength

• The company specializes in traction motor railways and industrial/commercial motors, which are not widely imported into Europe at present.
• Initial inroads have been made in power generation and marine applications within the European market.

Competition and Scale

• Multiple lamination manufacturers in India are vying for a share of the European market, with differences primarily in terms of scale.
• Smaller manufacturers often focus on serving smaller customers and specialized applications, including special-purpose motors and renewables.

Growth Strategy

• The company is strategically expanding its focus to encompass smaller industrial consumer applications within Europe.
• Recent opportunities within the European market have yielded higher EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortization) per tonne compared to the company’s overall average.
• The company aims to further extend its presence within the European industrial/commercial laminations market, capitalizing on the growing demand.

Value Addition

• Current opportunities in Europe involve highly assembled components that incorporate shaft integration and various other machining processes, leading to an elevated EBITDA per tonne.
• EBITDA per tonne for these opportunities surpasses the company’s average.
• As the company expands into the industrial/commercial laminations market in Europe, it anticipates maintaining a favorable EBITDA per tonne relative to the Indian equivalent.