Harsha Engineers International Limited (HARSHA) Earnings Call Transcript & Summary

Ladies and gentlemen, good day, and welcome to Harsha Engineers International Q1 FY '24 Conference Call. [Operator Instructions] Please note that this conference is being recorded. I now hand the conference over to Mr. Vishal Rangwala, CEO and Whole-Time Director. Thank you, and over to you, sir.

Hi. Good afternoon to all. Thank you very much for attending this Q1 FY '24 investor call for Harsha Engineers. With me today on the presentation is Mr. Sanjay Majmudar, who is a strategic adviser to Harsha and Mr. Maulik Jasani, who is the CFO. I'm assuming that you have already had a chance to look at the numbers. However, our CFO, Mr. Maulik Jasani will take you through key numbers after my briefing. As indicated in our previous call, the Q1 numbers are reflecting an overall subdued performance, primarily due to the underperformance of our subsidiary company as well as difficult market conditions in Europe and China region. However, we continue to perform quite strongly in Indian market as well as capturing opportunities across the global market. First, we are working on several new opportunities pertaining to our core segment, which is capitalizing on the available outsourcing opportunity in varying cages. Again, I'm happy to inform that we have continued to witness strong growth in the segment of large-size bearing cages, which we have reported a 19% growth in Q1 FY '24 over quarter 4 FY '23. Similarly, we are seeing a very strong traction with Japan, Japanese -- Japan-based customers and which is also very encouraging 20% growth in quarter 1 versus the previous quarter. We are internally also quite excited about upcoming opportunities in India from new projects, which has been announced by our customer and driven by primarily China [ Plus 1 ] initiative taken by them. We believe that we will be a natural beneficiary for the bulk of the bearing cage requirement for these new projects. Further, as you may be aware, we are also enjoying high market share when it comes to requirement of Indian Railways and we are quite excited about upside potential, the aggressive capital expansion and growth plan in this segment announced by Indian Railways. I'm also happy to share that we have witnessed early sign of revival in demand for Bronze Bushings and we have started seeing fresh orders coming in the current quarter with a very positive forecast in the second half of the year. I'm also insofar as Romania is concerned, we are closely observing the situation and we believe that demand conditions should start improving from third quarter current financial year basis on various interactions we've had in Europe with our key customers. Similarly, we believe that our China performance also should start improving in coming quarters of the current financial year. Inasmuch as greenfield project in our wholly owned subsidiary company, Harsha Engineers Advantek Limited is concerned, we are in the final stage of concluding acquisition process of the land and we will finalize CapEx plan in coming months. Thus in spite of relatively soft Q1, we feel that consolidated basis for the full year FY '24, we should be able to achieve higher single-digit overall growth in top line and a decent double-digit growth in bottom line. With that, I request Maulik to walk us through key numbers for quarter 1. Over to you, Maulik.

Hello, everyone, good afternoon. Thank you, Vishal for the business overview. For the last quarter ended June '23 for our Engineering business at consolidated level, we have achieved a revenue of INR 301 crores against a revenue of INR 325 crore in the immediate previous quarter and INR 355 crores -- INR 358 crores in the same quarter last year. We have achieved consolidated EBITDA of INR 48.8 crores in quarter 1 FY '24 against INR 56.5 crore in the quarter for FY '23 and INR 55.2 crores in quarter 1 FY '23. The major impacts on the EBITDA is on account of the RM price increase in the last quarter as well as our operational cost increase witnessed by minimum wage implementation and power and fuel increase. In our Solar division in quarter 1, we have incurred a onetime O&M expenses for the maintenance cost of INR 2.4 crores, which is not supported by the revenue, while at our consolidation, there is also a onetime impact of INR 2.4 crores on account of negative exchange rate loss booking at COGS level while converting our foreign subsidiaries financials into INR. The company has incurred a CapEx of INR 21.7 crores in quarter 1 FY '24, which includes CapEx of INR 10.6 crores as per the IPO and use plan. With this brief on the financial numbers, I hand it over to Vishal to take the Q&A.

[Operator Instructions] We have the first question from the line of Harshit Patel from Equirus Securities.

Sir, my first question is on the India engineering margins. They have declined quite substantially on Q-o-Q basis from 24.5% in the previous quarter to less than 21% in this quarter. I think while Maulik sir mentioned quite a lot of factors for that, if you could explain what exactly happened here. So was it due to product mix change or any further pricing adjustment with the customers, I think that will be very helpful?

As I explained there has not been a significant product mix. Obviously, product mix will always play a role in our kind of a business where product varieties are many. So major -- one of the major difference, which I could not explain in my speech is also the account of the exchange rate impact, which has been negative this time due to our forward rates taken last year when price was very high and that forward rate has realized as a negative as of now. So both that positively impact us. We can see that impact in our other income breakdown given in our presentation.

Right. Understood.

Just to add -- Maulik, we have also the factor of a reversal of kind of the reversal impact of the pass-through where your selling prices are actually softened a bit, but raw materials in the later part of the quarter have increased. So again, that would have taken a toll actually.

Yes. To some extent, that is also there in addition to what I was saying about minimum wage increase and other -- power and fuel cost.

Understood, sir. Sure. Sir, my second question is on our subsidiary performance. I think the revenue performance was quite healthy at the subsidiary level despite the global macro challenges. So if you could give some flavor on both China as well as Romania performance in terms of sales, margins, et cetera, it will be very helpful.

Yes. This is Vishal here. Primarily, on the Romania side, semi-finish, even though revenue side, things are not too bad, it's primarily semi-finished revenue, basically with very limited margins there. On the finished product revenue were actually declining or softer versus the previous quarter because of the market conditions there. And on the China side of things, again, market was very challenging in during quarter 1. However, we were -- we actually did not too bad and actually primary loss is coming from the conversion of inventory valuation due to exchanges basically. So that's overall, both remain a challenge to us. However, we are happy to see operational improvements in China. And both once the market turns around, we are very confident of seeing a positive number there as well.

Understood. Sir, just a small follow-up on that. If you can give some outlook on the energy cost in Europe. So have they started coming down substantially? Or are we -- or have we already contracted those energy prices at the old rate and therefore, it will continue to hamper us for some quarters? So if you can give some outlook on the overall energy cost that we are incurring in Europe.

So we have seen some softening of energy prices in Europe, meaning that they have started coming down. They are not substantially down as yet. Over there, what we have is 3 months on track going on. So I mean, it's not a very long-term commitment as of right now. And with our customer also, we have actually received most of that increase whatever we incurred up till now. However, right now we are also waiting and watching how that situation develops in Europe and hopeful that this should significantly come down in the next few quarters. However, we are actually not sure exactly how it will roll.

We have the next question from the line of Amit Anwani from Prabhudas Lilladher Private Limited.

My first question is on one thing on the subsidiary performances, which we highlighted that Q3, Q4, we can see some revival starting Q3, Q4 onwards. And we also mentioned that still we are seeing weaknesses in the global markets and still there are challenges. So what gives us confidence that this performance will start improving if you could throw some light? And at the same time, if you would like to give any guidance on Romania and China as well with respect to full year and what we have factored in, in this high single-digit top line growth and double-digit profitability? Yes.

Yes. So on the Romania and China, what -- based on what we are -- our customer inputs we have received, it gives us confidence that the situation will change in the next few quarters. However, it's not for sure. But just...

You see what is happening. Overall, if you see last 1, 1.5 years, Europe has been down and the indications that are given is that there's such a long down cycle, people have started to live with a bit of higher inflation and now with inflation seemingly coming under control, the demand revival is definitely on the card. This is what our analysis and the information that we get from our subsidiaries, that is what we feel. Again, but I'll be very honest, we don't have a crystal ball to gaze and this is a sort of feeling that we are getting. We have to wait and watch, but we are pretty hopeful that it should happen. And we don't give subsidiary-wise guidance, so it would not be possible for us to give any specific guidance. At best, our internal target is that they should turn around in the second half. This is what we are targeting.

Right. So my next question is on Bronze Bushing. You highlighted that we are seeing a revival there. So just wanted to understand more color. Is it the similar customer through which these are supplying bushings and what are the targets? And what is the contribution this quarter from Bronze Bushings?

So I'll ask Maulik to give you a specific number, if that's possible. Having said that, these -- we are working with a set of fixed customer on this specific product. And this growth is coming from these customers only. And we are seeing a good forecast from them with a good revival in specifically second half and some improvements in demand apart even happening in second quarter. In terms of projection, we are projecting for the year I think about INR 45-odd crores revenue coming out of bushing. And I think we can't share more specific detailed numbers beyond that.

Right, sir. My last question on the Japanese customer, we are seeing pretty good growth from past 2 quarters there. So are we on track for 10%, 12% as you have been highlighting in next 2, 3 years there? And is it the contribution coming for the outsourcing of large cages, which you already also highlighted that we have seen traction in large cages as well? So just wanted to understand more on that.

Yes. So Japan-based customers, we have seen a very good growth. Even just current quarter or rather quarter 1 over quarter 4 last year, we have seen 20% growth. And if you look at our commentary, we have been maintaining a very high number around 20% to 30% every time. And then that's what we see constantly happening. There is a good growth and good pipeline within the Japan-based customer. Now that's primarily not yet happening on the large-size cages. When it comes to large-size cages outsourcing, that is predominantly with our customer based out of Europe and other regions. However, we are hopeful that we are discussing similar large-size cages with Japan-based customer and that also will come there. So very confident and hopeful that in the next 1 or 2 years, we will see a significant shift on that as well.

Yes. But just to add, Vishal, I think 10% in 2 years, 3 years is a bit aggressive, let us see.

How much should be the contribution now, sir?

Are you trying to talk about the wallet share of Japanese customers or...

Yes, wallet share, wallet share.

Wallet share still is in the range of 2% to 3% only. And 10% is over 3 to 5-year target. Exactly. 3 to 5 is a more realistic number, actually.

The next question is from the line of Nikunj Doshi from Bay Capital.

Just wanted to means understand, during one of the interactions you mentioned that Solar will be discontinuing once the accumulated tax benefit is taken. So why are we continuing with the business when it's not our core strength?

So Nikunj, we have -- what we have shared that we will take appropriate call when it comes to Solar business, not necessarily discontinuing, so to speak. However, we are actively considering all the options. So having said that, as a solar business, we have some challenges and we know that. However, our endeavor has been and fairly successful in achieving a positive cash flow situation at least going forward out of Solar. And we are confident that this onetime cost issue also will have a appropriate counter in future. But right now that's the challenge we have with Solar business. And then...

Two points, which are important. We have a few AMC contracts which we have assumed over a period of time. Plus, we are focusing mainly on rooftop solar. Thirdly, there is a window of 3 to 4 years, which as per our advisers is a period which is safe enough for us to continue. And therefore, I think at least for next 1 or 2 years, we will just keep it low profile and then take a call as Vishal said, going forward. However, very clear, we are not taking any big projects, no big risks at all and no major capital allocation.

Okay. And another thing, this USD 1 million liability, product liability that we announced some time back, what is the status of that, is already paid? Have you recovered from insurance, what is the status and with one that it was a product mistake or it could be mounting mistake or some other technical issue also for the breakage?

See, we were informed about a potential issue about a year or so back about this. And since then we have worked with our customer to address, resolve it. We are fairly confident that this is now addressed and resolved. However, when it comes to claim, it was just recently raised by our customer. We have not paid for and now we are now claiming this, talking to our insurance and working with them to address this issue. So we have not taken any hit against this and we are not planning to so far.

We are sufficiently insured. And just to add over there, the supply of the same basis has started regularly since last 5 to 6 months also.

Okay. And is there any other such liability which is outstanding or under this thing, cumulative vision or something?

Yes. We don't believe there is anything else at least to best of our knowledge --

Our customer interview.

Yes. This is only customer intimation we had received earlier, which we had informed as part of our DRHP as well.

Okay. Okay. And just wanted to understand, we are leaders in this space, we are with decent market share. But it's not witness in the pricing power, I suppose because margins have been fluctuating and we are seeing margins coming under pressure very often. So I mean, sir, what is the -- can't we pass on to the customers because since we are leaders?

Yes. So on the material side, we are able -- we have a clear price pass-on mechanism and we are able to clearly pass that on to our customers. However, what you see a variation is lag of it at times. So you don't see a exact impact in every quarter. That is one part of it. The other part is that beyond material, there is no other pass-through. So when some of the cost challenges come our way, we face that issue and we have to take that because we have a long-term contract and it's a long-term supply agreement. We have to manage that, and that becomes our responsibility. So ultimately, we look at a very bigger picture and long-term picture and say this is what we need to pass through, then we are able to work with our customer or else there are bumps sometimes based...

So in Q1, whatever we have witnessed minimum wages implementation or power utilities cost and other things. So that we can assume it will be passed on in the Q2 onwards to the clients? Or it will still a...

Normalized so that at India level, at least a 20%, 21% consistent margin, which we have demonstrated over last many years will be maintained. This Q1, this provisioning has come. And again, there were impact of that pass-through mechanism working at times negatively, you see? But overall, if you look at the whole year, it will normalize. And just to add to what Vishal explained on the margins, you see the problem is that, yes, on a stand-alone basis, Romania and China, both look to be dampening the overall scenario of margins. However, the fact of the matter is that these acquisitions and these plants that we had set up in China first as a greenfield and then as a brownfield were more strategic in the sense that because of their presence, our profile is actually of an MNC player having multiple locations. It helps us in derisking the overall profile of the company. Secondly, it helps us in getting more business in India, which is more profitable. Having said that, yes, we completely agree that China and Romania businesses ought to turn around sooner and it's just a matter of time. But overall, therefore, we have always given an indication that even on a consol basis, our target EBITDA is to reach at least 18% over next couple of years. And I think we are working on that. We're pretty hopeful we should achieve it.

The next question is from the line of Jason Soans from IDBI Capital.

Yes. So just wanted some more color, sir, on this gross margins clearly have come on a consolidated basis, I mean have come at 44.8% when your usual gross margins when you go back over around 48% to 49%. Now I do understand that you have given some commentary on the COGS exchange loss, but is there any other factor contributing to it in terms of raw material increase or some other things?

Yes. So -- Maulik. Basically a consol level, the gross margin has also been impacted because of the incremental sales done on the semi-finished casting in Europe, where we have seen the growth in the Q1 and that is the reason which has impacted the overall margin as well as the gross margin at consol level apart from the one point we already discussed on conversion loss of foreign subsidiaries impacting the COGS due to inventory conversions. These are the majors. Apart from that, there can be some minor impact on account of product mix as well as raw material price movements happen in the last quarter, which is not yet passed through to the customers.

Okay. Sure, sir. So this 24 million basically is the conversion.

Over the long-term gross margin will remain at around 50%.

Overall gross margins, you estimated to be around 50% going ahead. Yes.

Over a long term, I'm not saying next quarter, but on an average basis.

Okay. Okay. And in terms of growth, I just wanted to understand even say, globally or in domestic, you can probably break it up, like which sectors are you seeing contributing to growth in terms of bearings goes to a lot of -- host of CapEx-related sectors? So which sectors are you seeing growth coming in from?

Yes. So we have actually, when I talk domestically, we are seeing a strong growth coming out of railway side of demand as well as we are continuing to see a decent growth on the automotive side. Basically, in India across the board, specific segment is railway for us. Beyond that, we have such a vast portfolio. So I think tactically, we are touching on most of the sectors and bearing has a lot of interchangeability within sectors. So I can't fully define the sector-specific things. On a global basis, we are -- we were seeing a quite challenging environment so far for the automotive. However, we are starting to receive indication of automotive revival. And industrial and wind, even though currently soft globally, we are getting some indication of wind revival in second half of the year. That's broadly what we have.

Okay. Okay. And sir, any incremental orders or any new customers or new -- any new orders in the pipeline?

Yes, see, we are seeing significant incremental orders. That's something specifically, I would not like to kind of pinpoint because we are very closely working with our customers on some of the various projects and they continue to give us more orders on the piecemeal basis. There are couple of big projects and orders in pipeline. And as and when we have a proper LOI or indication from customers, we will announce it, but as per the requirement. But otherwise, I think all of what I would like to say that our order pipeline is very strong. Just over last quarter, we have actually absorbed significantly higher amount of new orders, which considering our product development and realization cycle, it will take 6 months to develop and 1 to 2 years to mature. So there is a whole cycle to it and that gives us a good confidence about our future. Beyond that, I can't share much.

Okay, sir. And sir, just my final question, the negative exchange loss of INR 24.2 million. Could you just throw some more color on what exactly has happened here, of course, I mean, just relates to rupee depreciation or some color in terms of that?

Yes, it is on account of the rupee depreciation and the Chinese yuan CCSL. And as you know, on consolidation, we have to convert the financials of the foreign subsidiaries at an average rate, except the balance sheet item at opening closing rate. So change in stock has this impact of [ 2.42 ] on the COGS front, where we have to convert the inventory at the respective rate of opening and closing.

The next question is from the line of Ashish from JM Financial.

Yes. Sir, my question is, first, I mean, you did touch upon the guidance. But can you just split that into, let's say, what are you looking for the India business in terms of revenue growth and margin? And what are you looking at the individual entities of Romania and China in terms of top line guidance?

So see, it will be difficult for us to give you very specific individual numbers. However, one I would mention one thing that we are looking at growth both in Romania and China, which may be subdued versus India, which would be a little higher side. And on the margin side, also, we have kind of mentioned that we are working on Romania and China breaking even and India growing the bottom line. So the overall, what we have given that stands and then these are some of the additional colors but beyond that, I'll not be able to share.

Sure, sir. Also, sir, if you can just help with some balance sheet numbers, like what could be the net debt as of June?

Net debt as of June is INR 248 crores at a stand-alone level, INR 248 crores at stand-alone.

INR 248 crores at stand-alone. And consol, sir?

Net borrowing and net negative, right?

Yes.

Net negative, huh?

Negative. Yes. Sure. Right.

Also it's not that because of the proceeds still lie with us.

Consolidate net negative INR 177 crores.

Negative INR 177 crores. Sure. Lastly, sir, there have been some instances of failures in the overseas in some of the windmills, et cetera. And some of the larger OEMs have been facing some sort of investigation or issues. So what -- where do we stand as in are our products under any kind of sort of scrutiny or any investigation or have you heard anything from our clients, anything in that regard?

So no, as of right now we have not heard from any customers related to any new investigation or scrutiny. The one which was historical in the past and that's what we have informed then that's what related to that we have received the recall cost claim. And that's all there is to it right now. We are fairly confident there is nothing more in like all the new pipeline and all the future products, we are fairly confident we have corrected that issue and don't see any -- I mean, I'm not able to predict future, but right now we don't have any other information on that.

And that too, Vishal, I mean that too, it was pretty old. It is not recent.

Correct. That claim is related to supplies which happened between 2018, '19 to 2020, maybe up to '21. That's it. Exactly.

[Operator Instructions] The next question is from the line of [ Sabyasachi Mukerji ] from Bajaj Finserv EMC.

Sir, going a bit deeper on the growth guidance of high single-digits that you have mentioned for FY '24. If I look at your commentary and the presentation and the initial commentary also, you are saying that the India continues to be showing good prospects in terms of growth as well as Americas. So -- and domestic market especially is showing good growth prospects. So -- and on the other hand, the exports market, especially in the European market is a bit subdued. So if I were to kind of split the growth numbers between, let's say, domestic exports and China, Romania, largely the numbers that I get is India domestic should grow probably somewhere around mid-teens in FY '24 with exports probably going at mid-single-digits in China, Romania at lower single-digits. Is that a fair assumption or a fair calculation that I have?

Yes. I mean, I couldn't hear you very clearly. I think...

Repeat the second part, yes.