EMs to benefit from government's focus on indigenisation? In conversation with Syrma SGS' JS Gujral.
Is India's new EV policy a welcome step for manufacturers? In conversation with LKP Securities' Ashwin Patil.
Is India's new EV policy a welcome step for manufacturers? In conversation with LKP Securities' Ashwin Patil.
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NewsTranscript
00:00 (upbeat music)
00:02 - Thanks for tuning in to The Smith Show.
00:11 I'm Neeraj Shah, and there was a note
00:13 that came in from Jeffries, Brokerage House Jeffries,
00:17 on March 19th, wherein they said
00:19 that they initiated coverage on Cairns and Surma,
00:23 and they are saying that the Indian EMS industry
00:25 is estimated to post a 35% CAGR growth,
00:29 led by China plus one, lower labor costs,
00:33 and focus on components that companies
00:35 like Surma and Cairns are doing
00:37 are going to give them a possibility
00:42 of an EPS CAGR of 55 to 60% with ROC expansions.
00:47 We thought it best that let's get in the management
00:49 to try and understand what is their game plan
00:51 with regards to all of this.
00:53 Mr. J.S. Gujral, MD of Surma SGS,
00:55 joins us right now on the show.
00:57 Mr. Gujral, thanks so much for joining in.
00:58 Much appreciate you taking the time out.
01:01 This is Neeraj here.
01:02 Good morning.
01:02 - Good morning.
01:04 - When we've spoken in the past,
01:06 you've kind of established this possibility
01:08 of long-term growth rates.
01:10 Back then, there was a slightly different Surma
01:15 in that you were very gung-ho on the medical sector.
01:19 ODM was a large portion of your business.
01:22 Maybe it's coming off a little bit,
01:23 but things have changed for Surma as well.
01:26 So I would love to understand,
01:27 at the beginning of FY25, we are five days away.
01:31 So let's say from FY25 onwards,
01:34 for the next three years, Mr. Gujral,
01:36 what is the big picture for the space and for Surma SGS?
01:40 - See, electronics manufacturing,
01:45 as I have always been saying,
01:47 has never had it so good
01:49 because of the positive government policies,
01:52 the global attention towards India as a manufacturing base.
01:57 And we are very confident that this sector will grow.
02:02 Coming to Surma SGS, we have our plans firmly in place
02:07 to maintain this growth tempo.
02:12 We have grown at about 50% for the last three years,
02:14 which means the year ending in about five days from now.
02:19 And we expect a 35, 40% growth rate
02:23 for several years from now on is distinctly possible.
02:28 In the short run, this growth rate will be fueled
02:33 by the domestic demand, indigenization, import substitution.
02:38 And as companies like us, which are into the export sector,
02:44 get integrated to the global supply chains,
02:48 exports would constitute a significant portion
02:53 of the growth story in the years to come.
02:57 Exports have a longer gestation period.
03:00 So I think we're uniquely placed that in the short run,
03:04 we have the domestic demand, which will fuel the growth,
03:07 and the companies which can integrate
03:09 to the global supply chains
03:11 will maintain that growth momentum going forward.
03:16 - Got it.
03:17 Mr. Gujral, just before I get to the nuts and bolts
03:22 of what will drive growth for you,
03:24 I'm trying to understand if this growth
03:27 can happen at better profitability.
03:30 Usually companies which want a higher rate of growth
03:33 give up a little bit on margins,
03:34 because it's okay because growth makes up for it.
03:36 There are some assumptions being made by analysts
03:39 that in your case, this 35% or 40% growth
03:43 that you're talking about for the next three, four years
03:45 could actually happen with expansion of margins
03:48 and expansion of return on capital.
03:51 Would you throw some light on this?
03:53 - Yeah.
03:54 You see, in the EMS space, what we analyze
03:59 and what I think analysts analyze
04:01 is how the margins playing out in each vertical.
04:05 And each vertical has its distinct margin profile.
04:09 For example, a medical vertical
04:12 has a higher margin profile than a say, auto-mortgage.
04:16 So in the short run, once the composition of the pie,
04:21 the revenue pie undergoes a change,
04:23 there could be a variation in the margins
04:27 only because of a change in the mix.
04:31 So going forward, as the capex cycle pans out
04:35 and the assets start sweating,
04:37 we are assets reach optimum utilization,
04:42 the operational efficiencies come in
04:44 and the ODM business, which currently has gone down
04:49 current in the last few quarters
04:52 because of a very high trajectory of growth
04:55 in the OEM sector.
04:56 So as all these things pan out,
04:59 we believe that we should be having a better margin
05:04 of seven to seven and a half percent in the coming year
05:08 and outlier being 8% in the coming years.
05:11 Anything beyond that will go to the chickens
05:13 when they're hatched.
05:14 - Okay, fair call.
05:17 Okay, so, but when I look at the margin trend,
05:25 it's actually come off, right?
05:28 Relative to what it used to be in the past.
05:30 So are you saying, what would the current margins,
05:33 let's say average margins at the end of FY24 be?
05:36 And what do you anticipate this number to be?
05:39 Is what this is seven to 8% at the end of FY26 or 27?
05:42 - See, the margin profile has changed
05:46 because of the change in the product mix.
05:49 For FY24, which is just coming in about four or five days,
05:53 we believe that we should be there
05:55 at about 7% EBITDA margins.
05:58 24, 25, over the first budget sort of calculations
06:02 show we should be anything between seven, seven and a half.
06:05 Anything beyond that is an outlier
06:09 if the product mix composition changes.
06:12 But based on the plans which we have today,
06:15 this is the margin profile.
06:17 And this is a margin profile
06:19 without accounting for PLI benefits.
06:23 PLI benefits will account for when the money is at the bank.
06:28 And that will be an uptick on the margin,
06:31 which I've just shared,
06:32 which is seven to seven and a half percent
06:34 for the current year.
06:34 - So could it be- - 24, 25.
06:36 - Got it, so could it entirely be possible
06:38 that over a three year period,
06:40 your revenue growth, as you mentioned,
06:42 let's say we take it as 35 odd percent
06:44 because that is what you said could happen
06:46 over the medium term as well.
06:48 But your EPS or PAT CAGR could be about 50 or 60% as well
06:53 based on the PLI benefits
06:55 and the slight margin expansion you're talking about?
06:58 - Let me put it conservatively,
07:00 it should be at the lower end of what you have stated.
07:03 I think we are conservative.
07:07 And as the operational efficiencies kick in
07:10 and my medical and the design development efforts
07:14 also start bearing fruit,
07:16 but that's a bit distant away.
07:19 For the current year, which is 24, 25,
07:21 we maintain seven to seven and a half percent
07:24 without the PLI benefits.
07:27 - And by virtue of all of this,
07:29 maybe better working capital days as you become larger
07:31 and have a better negotiating power, if you will,
07:34 plus better margins, plus better business profile,
07:37 you reckon return on capital as an indication
07:41 or as an important ratio could inch higher as well?
07:45 - It should, it should.
07:49 And that's one of the sort of very critical metrics
07:53 which we monitor.
07:55 We believe that once we are growing
07:59 and with the better negotiation power,
08:02 whether better inventory management
08:04 or return on capital should go up.
08:09 We internally target it should be around 25%.
08:13 And I think we should be very mindful
08:16 that when we are a 4,000, 5,000, whatever crore company,
08:20 the profile of customers is different
08:22 than you're a thousand crore company.
08:24 So you'll have bigger customers on your board
08:28 and bigger customers have their challenges,
08:30 but they have the positives also
08:32 that you do a high volume of turnover
08:35 with a limited number of SKU.
08:38 So hence the inventory turn, the asset turn,
08:41 it all starts yielding results.
08:44 - 25% internal target over three years
08:48 means that you would not inch up,
08:51 you would gallop higher, Mr. Gujral.
08:53 Estimates are that your ROCs could be circa 12% in FY24.
08:57 And please correct me if I'm wrong.
08:59 - I said 12% is because of certain goodwill
09:04 internally created legacy of the company
09:06 without a penny being paid.
09:08 A lot of the IPO funds not being utilized
09:13 and like they get into the capital.
09:16 So if we were to take the operational assets,
09:20 I'm very confident that currently
09:22 if we were to sort of normalize over capital employed
09:28 for these one or two operations,
09:30 which are essentially the legacy of the old companies,
09:34 we are sitting at about 80, 90%.
09:37 And from there on, we should be able to cross the 22%,
09:41 23% mark in the years to come.
09:43 - Okay, okay.
09:44 - That's the benchmark we have set for ourselves.
09:47 - Got it, point well taken.
09:48 The other aspect is CapEx.
09:51 Now you have a new facility in Noida,
09:52 if it's coming up, which I'm not wrong,
09:55 you're processing setting up a new facility
09:56 in Bawal and Pune as well.
09:58 Would these expansions,
10:00 now would these expansions essentially aid revenue growth
10:05 in a structural basis over the next three years?
10:08 And is there something else that is on the anvil?
10:11 Because I see EMS companies come out
10:13 with some fairly innovative product announcements
10:18 as well as global tie-ups with customers pretty regularly.
10:24 - See, we are now migrating from individual unit-based
10:29 to campus-based development.
10:31 So we are putting up a campus in Pune
10:34 where the first modular manufacturing facility
10:39 will come up.
10:41 And as the demand increases in the coming years,
10:45 more and more such modular facilities
10:47 will keep coming up at Pune.
10:50 Then the small expansions are necessitated by the customers.
10:55 I would love not to have them and do it all at one place,
10:58 but then in electronics, you have to be near to the customer.
11:02 So some of the expansions which you have mentioned
11:06 are more directed towards existing customers
11:10 and their growth to be sort of funneled
11:14 from the existing facilities only.
11:17 So the expansion of the facilities in Northern Barwell
11:20 are the case in part.
11:22 But for all major expansions,
11:24 we'll be doing campus expansion.
11:26 We are doing one in Pune.
11:27 The first manufacturing facility should be ready
11:31 by middle of this calendar year or financial year.
11:36 And then we are putting up a new campus in South also,
11:40 but that's a bit far by the way as of date.
11:46 - Okay.
11:47 One final thing, Mr. Gujral,
11:52 is there a risk to this story as things stand?
11:56 And it's okay to not see,
11:58 I mean, there are always risks to business,
12:00 but there might not be too many high risks,
12:02 but I'm just trying to understand
12:03 because the growth numbers seem very strong,
12:06 the internal seems strong, the opportunity size is large.
12:08 What is the risk to this story?
12:11 - See, I think the risk is more micro than macro.
12:14 - Okay. - I'll be very honest.
12:16 So I think the global, the macro level situation looks good,
12:20 but if something tomorrow was to happen at a global scale
12:23 on which I have more control with,
12:24 I don't worry about that.
12:27 What we believe, the risk is that when you are growing
12:31 at a rate of 35, 40% for five, six, seven years,
12:36 you need to have an organization.
12:39 You need to have system, you need to have procedures,
12:42 which can cater to that.
12:45 Managing a 2,000 crore company
12:47 and a billion dollar company is a different thing.
12:50 So I think the industry has to look inwards
12:56 and start building systems at the backend
13:00 to cater to this growth.
13:01 I don't think growth per se will be a limiting factor.
13:06 It is our ability to manage the growth,
13:09 which could be a cost rate or which could fire up the things.
13:14 If you're not able to have an organization
13:18 to cater to that.
13:19 - The billion dollar size was in reference
13:22 to your ambitions, Mr. Gujrat.
13:24 If so, by when?
13:25 - Yeah, that's, let's see.
13:29 We are growing at 40, 45%.
13:31 This year we'll be doing about 3,000 crores.
13:33 Next year, the plans are in tact
13:35 to be at about 4,500 odd crores.
13:38 So if that trajectory, I think by calculation,
13:41 we can do whether it is two years or three years
13:42 or whatever it is.
13:43 But yes, the ambition is to be a billion dollar company
13:46 sooner than later.
13:47 - Jai Mata Di, all the best for that.
13:50 Mr. Gujrat, thank you so much for taking the time out
13:52 and speaking to us.
13:53 Appreciate your time.
13:54 - Pleasure, thank you.
13:56 And good.
13:56 - Thank you to you too.
13:58 Well, that's Sarma SGS, pretty confident
14:00 about growth targets, so pretty optimistic
14:03 about the kind of internals as well,
14:05 including margins and return ratios more importantly.
14:09 Take a break.
14:09 On the other side of the break,
14:11 news and updates continue.
14:12 (upbeat music)
14:15 - Well, there's enough and more buzz
14:23 within the auto space, given the fact
14:26 that the government has come out with a new EV policy
14:29 to try and break down as to what the opportunities are
14:33 in this space to try and get more perspective
14:35 on what the policy means for the sector in the longer term.
14:40 We have with us a senior analyst from LKP Securities.
14:45 We have Ashwin Patil with us to try and break
14:48 some of these metrics down.
14:52 Ashwin, talk to us about this development
14:56 with regard to the EV policy.
14:58 Is it a welcome step for Indian manufacturers
15:02 across the board?
15:03 I'll go into sub-sectors, but across the board,
15:05 is it a welcome step or do you believe
15:07 that large competition from abroad will also come through
15:12 and impact the sector?
15:13 - See, I believe that the EV penetration in India
15:17 on the PV side is just about 1%.
15:19 And there is a large room for everybody
15:22 to come and enjoy the pie.
15:23 So, no, prima facie, I think that it will be slightly
15:28 competitive scenario for the domestic incumbent players
15:32 like Tata Motors, Mahindra and Mahindra.
15:35 For example, like Tata Motors is having a strong market share
15:38 in the EV side, more than 70%, and that can get hit a bit,
15:43 but surely they have the first more advantage
15:46 and they can take on the competition very well.
15:49 So maybe like a slight 5% to 10% kind of market share hit,
15:53 they may get, but definitely the EV policy
15:58 that the government has come out with,
16:00 it's a welcome step for everybody.
16:03 From global point of view, I would say
16:04 that companies like Tesla, et cetera,
16:06 are very eager to come into India
16:09 and set up their EV ecosystem over here.
16:13 We recently saw that MG had a tie up with JSW.
16:18 So, very ambitious plans in India to,
16:22 on the auto side to expand on the EV ecosystem.
16:27 They are doing a lot of backward integration
16:30 and they want to be in each and every aspect of the EV side.
16:34 Similarly, other companies are also fencing their chances
16:38 of entering into India on the global front.
16:41 So, for the global players, I would say that definitely
16:46 it's a big chance to enter into India,
16:48 but for Indian players, slightly towards,
16:51 at the start of this phase, when the global players enter,
16:54 it can be a bit competitive scenario,
16:56 but as I said earlier, the EV space is very wide
17:00 and large so everybody can enjoy the EV proliferation
17:04 that is expected in India,
17:05 supported by this government's EV policy.
17:08 - And Ashwin, with regard to just purely ticket size,
17:12 do you think that the larger ticket size kind of companies
17:17 will be more interested in, or rather will find more benefits
17:22 from this EV policy than the smaller ticket size companies?
17:26 And therefore, maybe to that extent,
17:28 Tata Motors are a little more insulated
17:30 because that's largely the view coming
17:32 from a lot of analysts on the street.
17:34 - Exactly, that's what I said earlier also,
17:37 that Tata Motors may face some slightly competition
17:41 at the start, but since they are the first movers
17:43 and first mover advantage is very big in this market.
17:46 So, the big companies like Tata Motors, Mahindra and Mahindra
17:51 should get that benefit, but certain companies,
17:53 smaller companies may face the heat up to some extent,
17:58 but if they are also having certain ambitious plans,
18:02 et cetera, then they are also welcome
18:04 in this EV space in India, because as I said,
18:06 it's quite wide and large over here.
18:08 - And before I throw this question into a more open territory
18:14 to try and ask you your views across the auto space,
18:17 let me focus in on the policy itself.
18:20 How would you play this policy?
18:22 What is the best way to play it
18:24 from an investor perspective?
18:26 - See, from an investor perspective,
18:28 I would say that for OEMs, definitely it is a welcome step,
18:33 but it is a bigger welcome step for the auto ancillaries,
18:36 because companies like Tesla and all,
18:39 they are so huge and large that they are providing
18:42 a lot of very big opportunity for the auto ancillaries,
18:45 like maybe like Sona BLW, which is having Tesla
18:50 as one of their clients.
18:52 So it will open a wide open door for them
18:56 to get this opportunity, to grab this opportunity,
19:00 I would say.
19:01 And there are certain other companies also in the EV space,
19:04 like Craftsman Automation is also there.
19:06 They are having one stream of business,
19:09 which caters to the EV market.
19:11 Also, there are certain other companies which are having,
19:15 there are three different streams of revenues,
19:18 like one is catering to the ICE segment,
19:20 second is to the EV and third is EV agnostic.
19:23 So, you know, such companies also will be benefiting
19:27 out of that.
19:27 So I would play the story on the auto ancillary side
19:30 more than the auto OEM side,
19:32 because auto OEMs will be facing competition,
19:34 but at that time, auto expanding their business
19:38 to a great extent, because the global players like Tesla,
19:42 Ford, et cetera, entering into India on the EV front,
19:45 I think that can, you know, zoom up their performance,
19:50 the revenues of auto ancillaries up to a great extent
19:54 in the following years.
19:56 - Understood.
19:57 And Ashwin, just purely with regard to the kind of runway
20:00 this has and the kind of appetite of the Indian consumer.
20:04 So we've seen that at least at the top end
20:07 of the income bracket,
20:09 we've seen very good traction when it comes to EV.
20:12 Do you think that that can percolate to the bottom end?
20:16 Of course, two wheelers as well,
20:20 two wheelers are doing very, very well.
20:22 So that, your thoughts around that on sustaining
20:26 that kind of growth for two wheelers,
20:29 as well as for four wheelers,
20:31 if you can give us that perspective.
20:32 - See, from EV point of view,
20:36 if you say that, you know, two wheelers like scooters
20:40 are very fast and rapidly getting electrified
20:45 on the passenger vehicle side,
20:48 I would say that, you know,
20:50 still there is a EV wave yet to come
20:53 and LCVs are getting electrified also along with scooters.
20:58 And the third segment, I would say, is the buses segment,
21:01 which is getting, you know,
21:03 into the EV segment at a very good pace.
21:05 So these three segments, whichever companies are into that,
21:09 they'll be facing a lot of, you know, benefit.
21:13 So out of the OEMs, I would say that Bajaj Auto,
21:18 TVS Motors, those are the two companies
21:20 on the two wheeler side,
21:21 which are having a good presence on the EVs
21:24 and they're expanding also very well.
21:26 Then on the passenger vehicle side,
21:28 Mahindra and Mahindra Tata Motors,
21:30 also Ashok Leyland on the buses side,
21:32 and the LCV side, I think they are also getting
21:36 a lot of benefit and they should get benefit
21:38 out of this EV policy and the widespread
21:42 or the penetration increase on the EV side
21:45 for the passenger vehicle front.
21:46 So I think these companies should get, you know,
21:50 more benefit than others.
21:51 - And the traction will sustain,
21:53 the demand will sustain now on a higher base?
21:55 - See, I think that the demand
22:00 is definitely going to be there.
22:02 So higher base is still, I mean,
22:05 last year's base was definitely higher.
22:07 We know that because the IC segment
22:10 has been performing well.
22:11 But if you add EVs performance going forward
22:15 in the coming few years,
22:16 I think the performance of these auto companies
22:19 is going to be very good.
22:21 Though we all know that EVs, you know,
22:24 the margins on the margins front,
22:25 EV business is not, you know, very lucrative,
22:28 but going forward as the volumes increase
22:30 and, you know, battery prices,
22:32 the batteries become affordable, et cetera.
22:34 So, and the whole infrastructure on the EV side
22:38 expands very well in India.
22:39 I think the volumes, the operating leverage
22:42 should come into the picture
22:43 and that should sustain the margin performance
22:46 also going forward.
22:47 So for automobiles, I think that, you know,
22:50 maybe like a 524 can be slightly, you know,
22:54 on the slower side because of the higher base,
22:56 sorry, on 525 I'm saying,
22:58 would be higher on the higher base of 523 and 524.
23:02 We may see some sort of, you know,
23:05 slightly subdued kind of growth,
23:08 but going forward, 526 onwards,
23:10 we think that, you know,
23:12 the auto segment will be having a very good time.
23:14 (upbeat music)
23:17 (dramatic music)