Tata Elxsi Limited (500408) Earnings Call Transcript & Summary

Ladies and gentlemen, good day, and welcome to the Q2 FY '26-'27 Earnings Conference Call of Tata Elxsi Limited. [Operator Instructions] Please note that this conference is being recorded. I now hand the conference over to Mr. Shashank Ganesh from E&Y. Thank you, and over to you, sir.

Thank you very much, [indiscernible]. Good evening to all the participants in the call. Good morning, if you are logging in from the Western side. Before we proceed to the call, let me remind you that the discussion may contain forward-looking statements that may involve known or unknown risks, uncertainties and other factors. Therefore, it must be viewed in conjunction with the business risk that could cause significant results, performance or achievements that differ from what is expressed or implied by such statements. Today, [indiscernible] answer your questions today, we have the senior management of Tata Elxsi, represented by Mr. Manoj Raghavan, Managing Director and CEO; Mr. Nitin Pai, Chief Marketing and Chief Strategy Officer; Mr. Nalin Rana, Chief Financial Officer; and Ms. Sneha V., Company Secretary. We will start the call with a brief overview of the past quarter by Mr. Raghavan, followed by a Q&A session. [Operator Instructions] With that, I would like to hand over the call to Manoj Raghavan. Over to you, Manoj.

Thank you, Shashank. Good evening, everybody, and thank you for joining us today. I hope you and your families and your teams are doing well. We appreciate your continued interest in Tata Elxsi and I'm pleased to connect with you to discuss the performance for the second quarter of FY '27. During the quarter, we remain focused on deepening customer relationships, strengthening execution advancing our strategic initiatives and investing in capabilities that position us for long-term growth. I'll now take you through the key highlights of the quarter. In the second quarter of financial year '27, we reported an operating revenue of INR 1,055.7 crores, growing 2.3% in constant currency. We reported an EBITDA of INR 231.4 crores, growing 7.1% quarter-on-quarter and 19.7% year-on-year. Our EBITDA margin for the quarter was 21.9%, a 70 basis point improvement over the previous quarter. The transportation vertical reported a quarter-on-quarter growth of 2% in constant currency terms aided by new deal wins. Notable win is a strategic multiyear deal from a leading automotive OEM for the next-generation cloud-based telematics and connected vehicle ecosystem. In the Aerospace segment, we continue to see business traction, albeit on a small base. I'm pleased to share with you a strategic collaboration with Sarla Aviation to support the development of Shunya, a pioneering step towards India's first indigenous electric vertical takeoff and landing eVTOL Aircraft. We also won a strategic engagement from a global aerospace supplier for development of a test rig and validation of our commercial aircraft systems. Our media and communication verticals registered a quarter-on-quarter growth of 3.4% in constant currency. This growth was driven by sustained ramp-ups across key engagements and AI-led deal wins. During the quarter, Tata Elxsi secured a strategic AI engagement with a global technology leader to [indiscernible], a GenAI powered virtual assistant focused on multilingual intelligence and delivering digital experiences at global scale for further strengthening our position in the rapidly evolving [indiscernible]. Our Healthcare and Life Sciences vertical too recorded a healthy growth of 3.5% quarter-on-quarter in constant currency terms. One of the notable deals in the quarter was a win from a global renal care leader to develop its next-generation home dialysis system, signing end-to-end product engineering from user experience and mechanical design to MTS systems and regulatory compliance. During the quarter, Tata Elxsi implemented a wage increase across its workforce as a part of its continued commitment to retaining rewarding and nurturing top talent, recognizing that its people remain the foundation of company's long-term growth and innovation. Our continued focus on delivery excellence enabled us to expand EBITDA margin by 70 basis points sequentially despite the impact of the annual wage solution. Overall, during the quarter, delivered strong operational execution and resilient growth across customers and in all industry verticals. In terms of regions, U.S. and India did very well for us, while Europe was soft with the predominance of automotive revenues in that region. While the global business environment continues to evolve, we see sustained opportunities emerging from our clients' priorities around innovation, digital engineering, AI adoption and product modernization. Having said that, Q3 is typically a short quarter with few weak working days. While we await customer specific direction and possible furloughs, we remain focused on sustaining growth in the second half while continue to invest in our differentiated AFS offerings and driving operational excellence. With that, let me conclude my remarks. Thank you for your continued support and confidence in Tata Elxsi. I will now be happy to take your questions.

[Operator Instructions] Your first question comes from the line of Bhavik Mehta with JPMorgan.

A couple of questions. Firstly, you look to see [ voltage ] growth this time. Just wanted to understand how sustainable is this growth momentum over the next couple of quarters while I'm trying to understand [indiscernible] large deal ramp up [indiscernible] what are more broad-based, I say [indiscernible]. And the second question was on the margin again, with this margin expansion with [indiscernible] . But how are you thinking about margins in the second half from a headwind and [indiscernible] perspective? And also you had a [indiscernible] last time [indiscernible]? And how much of that you get to do work in the next 2 quarters?

Okay. Thanks, Bhavik. So if I take that question from a growth perspective, if you look at our transportation and automotive vertical, I think it's fairly confident of growth in the U.S. geography as well as the -- in geography that has grown smartly for us. Japan is something which has been pretty flattish, but we are hoping that, that will continue to grow. U.S. continues -- sorry, Europe continues to be a soft -- there are deals. There are large deals. There are opportunities. But again, the closures, we are still -- it's a wait and watch. So I mean, the situation, I don't think has changed very much from the last quarter, especially from a U.S. -- sorry, from Europe in perspective. But however, I think our geographies, we are pretty confident of continuing the growth part. So that is -- from a hedge perspective, we are still positive and we hope we'll be able to continue that momentum. From a Media and Communication vertical, I think over the last 2 quarters, we have shown consistent growth. And as you rightly said, some of that is due to deal ramp-ups for the deals that we have already closed. Having said that, again, even in the medium communication vertical, we are seeing some sizable opportunities that are there. And we hope we will be able to continue the growth momentum in H2. From a Healthcare and Life Sciences perspective, I think we bottomed out last quarter. And finally, we able to show growth. And again, we see a good visibility of deal pipelines and so on. So I'm hoping that even in the healthcare in business of us, the H2 will be better than H1. So overall, I would say, yes, the only worry still seems to be the slowness in Europe from the automotive perspective. But other than that, I hope that our other businesses, H2 will be better than H1 for us. On the margins, Nalin, if you could take that question?

Sure. Thank you, Manoj. So on the margins, just to give you a quick sense of where the growth came from. So about 60 to 70 bps was the cross currency benefits that we had in the quarter. And the balance, 10 to 20 bps is basically operational leverage that has played out as well as, Bhavik to your question, a lot of the onetimers, which were there are sort of -- most of them have gone away. This was obviously -- large part of this was offset by the wage hikes [indiscernible]. So -- but the operational leverage and onetimers going up is as sufficient to sort of mitigate the wage hike. From a margin trajectory perspective, what we expect is we expect operational leverage to continue playing out through the rest of the year. So while, obviously, there will be associated cost increase with revenue increases. We do see a slightly upward margin trajectory that should be playing out in the rest of the year.

The next question comes from the line of Rishi Mody with Mody Advisory.

Yes. So just first, I just wanted to talk a bit on the employee cost, right? So you mentioned you are at all the onetime benefits, but onetime expenses, if you're going to go or going to use it for the [indiscernible] now this is a structural wage hike, it will continue going forward on the onetime bonuses [indiscernible] What I wanted to understand in part [indiscernible] So from what I want to understand is that, going forward, will be -- why I'm trying to understand the scope for employee utilization is going up. But is there a mindset of also seeing how we can control the employee wage hikes because our employee count has been reducing while employee cost as a percentage of revenue has been largely higher and now stabilized. So the salary per employee has grown ahead of the revenue, which means that our profit percentage or margin per deal has come down today or if it's actually going to increase as we are taking longer time. I'm just trying to understand is there a scope? Is there a mindset or employee utilization and employee salary coming down as a percentage of revenue?

Yes. So I think there are 2 points here, right? One is we still have some more levers from the utilization perspective to go up further, right? So that will definitely help us. Second is, yes, what your point is correct. So what over the next half year, we really have to now focus on our pyramid management, right? And that is something that we are going to focus on to see how we can manage the pyramid actively by moving some of the engagements that we have started -- kick started, where we need -- needed to bring in very senior resources and technical experts and so on. Over a period of time, you need to manage with more junior staff and so on. So that is a plan in actively seeing how we can sort of look at [indiscernible] correct some of the eminent related changes that have happened over the last, I would say, 4 to 6 quarters, right? And to that extent, we have a bench that we have been training from a lower -- at lower levels and so on. So that is something that we have to work on actively over the next half year to see how much we can benefit from that. That's something that we will be actively tracking.

Okay. And if I have to just understand where we are in the, say, the market hiring cycle for the talent that we require. We have seen the post cohort boom in salaries for IT sector than there has been a low period over the last couple of years. And now, but for us, it's not come through that line figure. So I'm just trying to understand where we are for our talent. Are we at the end of the cycle where now demand is our talent is kind of reducing or we are still going strong and hence, we will love to compete on salaries. Secondly, when you said right, you brought in senior leaders to acquire new business. Is there a potential to increase the variation for such balance linked to, say, business? Or are we looking in that direction so that the operating in the business ramp up is with our P&L [indiscernible] going forward?

That is already in play. So, Rishi, in the organization, right, right from the mineral management to the senior management, a sizable percentage of the salary is variable, right, based on performance and so on. So that -- we have sort of already implemented. So yes [indiscernible] talent demand.

So Rishi, just one additional point to give context, right? So I think we are currently seeing a period where the salary hike has taken place now. And if you recall in the last financial year, the salary high core is not in the similar period. It was a bit more back-ended which is why also you are seeing probably this trend in the last 2, 3 quarters of salary for employees. But the next -- like for the rest of the year, we are done with the salary hikes, right? So the idea is that the operational leverage should play out through the rest of the year as we sort of -- and there shouldn't be any material movement in employee costs, except for where we are investing in [indiscernible], et cetera.

Yes. And back to your first question regarding talent and so on. I think we need to differentiate from the larger IT industry. I think the talent that we have and the areas that we are focusing on. I still there is a huge demand with the GCs and continuing to set of shops and ramping up resources. So especially in the R&D phase, we need to work hard to retain our talent. Let me put it back.

Okay. Got it. And finally, just wonder just if you could start mentioning the utilization rate on the PPD so that I don't have to ask every quarter. And if you can just provide me the utilization rate for this quarter.

So utilization is about 78%. So we have sort of moved up from the last quarter. There's still possibly some room to grow. And we are -- in parallel, we are also calibrating junior hiring, but we still see some room to further to improve.

The next question comes from the line of Sulabh Govila with Morgan Stanley.

Congrats on a good quarter. So my first question is actually on the quarter itself. So just wanted to understand versus the start of the quarter where we ended up in the quarter, did the quarter pan out as per the plan? Or were you positively surprised during the quarter?

No, I think given the deals that we were tracking and so on, we are pretty confident of our MCV numbers, right Media and Communication numbers. And healthcare also, we are very confident because of the deals that we have closed and so on. It was only the automotive, we were because of the nation in Europe and so on. we were not fully confident that we'll be able to show this growth. But I think some of the deals that we closed in the U.S. and India geography actually helped us to show the growth. So yes, I think automotive, in some sense, I wouldn't say it is not unexpected. But I think we are pretty happy with what we delivered at the end of the quarter.

Okay. Okay. Understood. And secondly, within the auto vertical, just wanted to understand that the deal that we have announced this quarter, has that ramped up already in this quarter? And also, what was the growth in the aerospace part that you saw in this quarter?

No, the deal is not -- it just started. It not fully ramped up yet. So I think the arrow sales business, the volumes are still small. And I think it showed a smart growth. But I think it's too early to the quarter because it will be misleading if I say we grew x percentage because the growth is over a very small base, right? So I think we will disclose this at an appropriate time.

Understood. Understood. And lastly, when you think about the future, let's say, in the next 1 to 2 quarters, the growth is typically always driven by what you've already one other deal and what you will win in the coming days. So where we stand today, about deals we already have in the bank. Do you think that those deals are sufficient for us to continue on the growth momentum? Or will need support from the newer deals to be won during the quarter?

Yes. Typically, in our business, if you ask me right, you need both. You need existing customer wins and ramp-ups to happen. You also need some percentage of it to come from new deals, right? So it's a combination of both that really delivers for us, right? So just only based on the deals that they have closed because the deal ramp-up takes time, right? It is not an IT deal where you can put so many resources and so on. These are very, very specific talent that we need to onboard and so on. So it takes that time, right? And usually, the deal ramp-up takes a couple of quarters, 3 quarters and so on to reach the full level of ramp-up into [indiscernible]? So -- and at the same time, you should also understand that because still a good portion of our revenues come from project-based business, there also ramp down of projects, right, that are ending closures and so on that at any point in time. So we always need to plan for that replacement projects and so on. So which is why we also need new projects to come in.

Understood. Understood. So lastly, maybe on that point, when there is a typical leakage in the business, given there is this nature of the business. But the rate of the leakage, I'm trying to understand the rate of this leakage today versus the last 1 year or so. Do you think that leakage rate is stable or it is improving or it's coming down? Just trying to understand where we are.

Yes. So maybe I can comment on this, Sulabh. I think in general, I think we have seen an improvement on that position from a year back. Simple 2 facts. I think we have seen large deals that have built the revenue base across both automotive as well as feed and communications. So they typically are multiyear deals, they say protected. So in that sense, you have better foundations. And in many ways, that itself provides that year-on-year, quarter-on-quarter improvement on the foundation.

And part 2 is, I think you have to remember that over the last 5, 6 quarters, we have leaked quite heavily on the supplier side of the automotive business. They were the first and the most badly at. And you have seen the string of revenues from suppliers to automotive OEMs. So once that base gets protected, the leakage coming from the rest of the portfolio becomes smaller and smaller. I'm just [indiscernible] fact that market dips leaking heavily because of the way the water there coming on the supplier base that [indiscernible]

The next question comes from the line of [indiscernible].

Maybe the first one, I think the last quarter, we did comment that the AI expenditure was a little bit stepping into the R&D budget cycles. And during the back of the quarter and the confidence we are showing now, do you want to update that comment and maybe give a little bit of color on how that dynamic is [indiscernible]?

Yes, [indiscernible], this is Nitin here again. I think that continues, right? Because I think enterprises are committing AI budgets [indiscernible] enterprise transformation, not necessarily only for R&D, right? And to that extent, that does take away from what otherwise be discretionary budget. So I don't think there's a big change in that signature to say enterprises are no longer earmarking budgets for AI, for AI transformation and so on, they continue to. But I think that is, to some extent, I think there's a little more pragmatism that is starting to flow into what the enterprises are earmarking advance. I think experiences of burning or tokens too fast with no value returning and so on, I think it started to make enterprise adviser. So on one hand, it does continue. It doesn't have an impact. But I think it is starting to become a little more thoughtful and a little more ROI based. So we believe that there's a slight relative improvement coming forward.

Yes, that's helpful. And maybe just a follow-up -- a small follow-up there in the little bit of a movement away or a little bit of prudence that enterprise are showing around demanding ROI from the spins. Is it -- like at the end of the day, who do you think will ultimately be responsible for kind of helping them determine or outline the ROI that actually can deliver for them. I'm just asking like you have different stakeholders in that equation. You've got the enterprise internal IT teams and engineering teams who have the whole alliance stack vendors and then you have all service providers. And -- but each of them, everybody is kind of [indiscernible] be figured out. But if you were to take a step, [indiscernible] give to help enterprises get the situation?

Yes, I think the answer lies in the heads of the functions, right, ultimately, because if I think about it, one of the largest costs, especially if you look at our business, we work with companies that build products and sell them in the market, right, products or services. So if I look at car companies, we are the largest cost, it's not in people, there's not an R&D. It is in a supply chain and manufacturing. So to that extent, I think the ROI is linked to what are your costs the greatest? And where are you -- where is the volatility [indiscernible] greatest? If you ask me in automotive business, it's the highest in supply chain because your material costs that are moving, you have tariffs that are coming in, you have questions on the country of origin and where is this coming from. So they have to sort that [indiscernible]. In my mind, I would actually double-click on business, what matters most, what contributes to cost and my margins most? And how do I make an impact there. Everything else becomes secondary. And we're hoping more and more people start to look at it that way and spend more on R&D, so [indiscernible] have any other [indiscernible]

So maybe -- so looking at our projects, right? So in our projects, of course, where we are involved, we would be involved in discussing with the customers on the project cost, et cetera. And if there is AI required, we would build it into our costs for those projects. But obviously, customer is operating on a much larger AI landscape, right? So most of that will be outside our preview -- that will be their own internal sort of dynamic.

Got it. And just one last kind of a data kind of question, sir. You mentioned the 78% kind of utilization number, historically, could you contextualize with that maybe recovered what this utilization used to be and where does the 78 number [indiscernible] that brand? If you can give any color, I just want to know where this number is.

I think we peaked at around 81%, 82% utilization. Higher than that, yes. So I think it still has some headroom from that point of view.

Your next question comes from the line of Amit Chandra with HDFC Securities.

So the first question is on the transportation vertical. Obviously, we have seen some early growth there. So if you can provide some more color in terms of verticals within transportation has been casing growth? And also, if you can give some more color in terms of the demand environment, especially in transportation side, what kind of change in demand you're seeing, especially in the last 1 or 2 months, especially in the U.S. auto, Europe and auto, is there any kind of a change in terms of stance [indiscernible] and also I mentioned about the drag that you're seeing from Europe, if you can just quantify ex of that, what would be the growth in the transportation vertical for us to understand what is the extent of drag there?

Yes. The growth in the transportation industry clearly has come from the auto OEMs, very clearly, right? And of course, as we also discussed, adjacencies, including aerospace and defense have also helped but at a smaller base. So -- and this growth has come in primarily for us from the U.S. geography as well as the India legacy. The rest of Asia geography has been pretty flat, I would say. And same, I would say in Europe, we have seen a little flattish tenancy. Our outlook, we -- as I explained earlier in the call, we are pretty confident to continue the growth in U.S. and Asia piece, right, we would definitely continue to see sort of sustained growth there because we've won some large deals and that ramp-ups are happening, and we are hopeful that the adjacencies will also pick up. Whereas from a Europe geography perspective, there are large deals that are in play, and that has been in place for, I would say, the last few quarters also. Unfortunately, because of the situation that the OEMs there, especially the big OEMs, we are seeing a delay in addition making and so on. We are there in the final shortlist in many of the deals there. But however, these deals have not been signed, and it is still a little bit like a wait and watch in terms of when those issues will be taken and so on. So it's very difficult to give a time line at this point in time, but we are closely working with these OEMs, working with these customers and hoping to see that -- to take some of these to [indiscernible]? It could happen in this quarter. It could happen in the next quarter. But yes, so that's the color that I can give you at this point in time.

Okay. And so the pace on the large deals that you have signed in defense in the space, typically for such a deal how many quarters, how many months it takes for it to reach the scale that we wanted to? Or is it more like kind of deal where it will take enough time for you to scale it up? Or are we going scaled up in 1 or 2 quarters?

No, it will take at least 2 to 3 quarters is what I would say. It's not an immediate. Yes, these are pretty complex deals and so on. So you need to resource ramp up the right teams. We need to -- the initial stages of these programs are very crucial. We need to get it right. And then once we deliver those initial milestones and so on, then we will be able to ramp up and move forward. So yes, so we are where I would say we are still very early in the deal cycles and the execution cycle of these deals.

Okay. And most of these large deals that you have signed that these are mostly outcome-based or kind of a contract. So if you can give some color in terms of how the margins -- we can see is it initially be a lower margin than like maybe the margin will scale up. And overall, in terms of the company margins, obviously I know [indiscernible] behind, and we're seeing all 3 segments now. I know they're getting back on track and the overall growth getting back on track. So in terms of the margins, where are we heading in terms of the historical margins, we are operating much higher. So what's the steady state kind of margins we can work with EBITDA months?

So maybe I'll take the first part of the question, right? And maybe I'll lean on Nalin to take the margin part. If you look at the deals that we're signing now, these are not -- or are the deals that we've announced and we are on, you will note that these are oriented towards doing the new these are innovations, these are product engineering and so on. So to that extent, they are not consolidating these that get back-ended in terms of margin improvements and you will build and improve margins over time, like typically IT deals do. These are, in that sense, reasonably flat. So I would not expect that there's margin improvement that is going to follow simply because you won deals now and you will continue to improve margins over time. If at all, there is margin improvement, that may come more from what [indiscernible] talked of, which is how we rebalance the pyramid and you do it carefully in a calibrated manner and that will happen across the organization, not so much for only the delta Tier 1, right? That would be my commentary on at least the new deals.