Centum Electronics Ltd Q2 FY2024 Concall Summary

Key Takeaways

• Strong standalone, weak subsidiary: Consolidated revenue grew 23% YoY driven by EMS and standalone BTS ramp-ups, but the European subsidiary dragged with a 14% QoQ revenue decline and EBITDA break-even from legacy fixed-price contract overruns.
• Margin recovery underway, target 10%: H1 consolidated EBITDA reached 7.8% (vs 4.8% last year); management is confident of hitting the full-year 10% target as legacy overruns close out and H2 revenues pick up.
• Structural tailwinds intact: China-plus-one supply chain derisking and Make in India defense policies are driving a pipeline of EMS export and domestic opportunities, with EV and cleantech already contributing to growth.
• Subsidiary put option obligations complete: The company now holds 90.1% of its subsidiary with no further obligation to buy, removing a cash outflow overhang while the margin recovery plan plays out.
• What to watch next quarter: Whether the big-ticket BTS orders that slipped from Q2 actually close in Q3, the pace of subsidiary margin recovery as legacy contracts roll off, and conversion of the EMS export pipeline into named customer wins.

Standalone vs Subsidiary: A Tale of Two Businesses

• Standalone revenue surged 53% YoY and 25% QoQ, fueled by production ramp-ups from new industrial and e-mobility customers plus increased defense export demand from existing clients.
• Subsidiary revenue fell 14% QoQ and was nearly flat YoY, hit by seasonally fewer billable working days in Europe during summer and budget overruns on certain legacy fixed-price contracts.
• Employee cost overruns are the margin culprit: When fixed-price projects overrun, the company loses the opportunity to bill for those hours, directly compressing subsidiary margins to break-even. Increasing India headcount is not the main driver.
• Some legacy projects closed in Q2, with a couple extending into Q3 and Q4; newer contracts are being structured as time-and-material initially before converting to fixed price, reducing future overrun risk.
• Canada remains a drag: Margin profile is steadily improving but will continue to be negative; management expects subsidiary-level profitability in two quarters without giving a specific Canada break-even timeline.

Nikhil Mallavarapu: "So, at the subsidiary level, we expect it to be profitable in the next two quarters itself."

Margin Walk & Targets

• H1 consolidated EBITDA reached 7.8%, up from 4.8% in the same period last year, putting the company on track for its full-year target.
• Full-year consolidated operating margin target is 10%, with management citing the current order book and H1 performance as the basis for confidence.
• Engineering services margin roadmap: First step to 9%-10%, then to 14%-15% over a two-to-three-year horizon through operational leverage and onshore-offshore mix shifts.
• Consolidated mid-teens ambition: Over a three-to-five-year horizon, management targets mid-teens EBITDA margins on a consolidated basis, reflecting the evolving business mix between higher-margin BTS and lower-margin EMS.
• Gross margin fluctuation is mix-driven, not pricing-driven: supplier price increases are passed through to customers with approval, so the variation comes from the proportion of EMS (lower gross margin) versus BTS business in any given quarter.
• Debt expected to decline significantly by year-end, funded by operating cash generation and customer advances on certain contracts. Standalone debt rose in Q2 from a fresh ₹15 cr term loan for CapEx and increased net working capital.

K. S. Desikan: "But as we have been saying, you know, with the current profile and the order book and what we have done in 6 months, we should be able to get a 10% for the company."

Demand Drivers: Structural, Not Cyclical

• China-plus-one is derisking, not exit: Customers are adding India as a second source while continuing to source from China, creating incremental demand rather than a wholesale shift. One analyst's assumption of a full manufacturing relocation was explicitly corrected.
• Make in India is converting tenders: Defense and non-defense segments are seeing global OEMs and Indian companies pushed toward indigenous sourcing, with previously global tenders now reserved for domestic players.
• EV and cleantech are already contributing: New customers in these segments began ramping last year and are delivering more this year, though management declined to break out their specific contribution to EMS revenue.
• Defense exports benefit from European rearmament: Legacy defense customers have increased demand due to the war in Ukraine and rising European defense budgets, flowing through to EMS export revenue this quarter.
• 75% of business comes from overseas, making these structural microeconomic shifts the dominant growth narrative for the company over the next two to three years.

Nikhil Mallavarapu: "They are not shifting all their manufacturing, first of all. So, they are derisking the supply chain, which means that they will continue to source from China, but they want to have a second source or destination to source from."

Order Book & Pipeline Visibility

• Big-ticket BTS orders slipped from Q2 but are expected to close in Q3 or at worst Q4; management is "fairly confident" while acknowledging deals are never certain until signed.
• Some large orders already closed in the standalone BTS entity, providing good visibility for coming quarters.
• EMS export pipeline is sizable, driven by existing and new customers under the China-plus-one theme; management expects to convert some in coming quarters.
• New EMS customer target: The company aims for at least a \$10 million annualized run-rate with each new customer and says it is not far from those numbers in the coming quarter.
• JV with Indra has submitted a sizable Government of India tender, but these have long gestation periods with no visibility on when they will progress to the next stage.
• Rafael partnership continues with close engagement on tender-based electronic warfare opportunities; new tenders are expected in coming quarters, but these too are long-gestation.
• Management declined to give order book guidance for year-end or order inflow guidance for the full year.

Nikhil Mallavarapu: "Yes, we are fairly confident. I mean, we can never be sure until it gets there, but we are fairly confident."

Segment & Geographic Updates

• Inventory build is partly intentional: Customers are requesting the company buy long-lead-time inventory with advances provided to fund it, visible in increased current liabilities. The rest reflects gearing up for higher H2 activity.
• Working capital dynamics differ by segment: BTS is order-to-order with materials ordered per customer order and depleting over time; EMS carries more inventory and credit exposure.
• Israel-Gaza war has no major short-term impact: The company supplies Israeli customers and continues to see a healthy pipeline; supply chains are unaffected as little is sourced from Israel.
• Indo-Canada relations have not disrupted operations: Engineers continue to travel between Canada and India without major issues.

Strategic Positioning & Capex

• Microelectronics manufacturing is a key differentiator: The company claims only one other Indian firm has comparable capabilities, creating a narrow competitive moat in high-value defense and space work.
• Put option obligations are fully complete: The final tranche was bought from management and employee shareholders this quarter, taking the stake to 90.1% with no further obligation to increase, removing a cash outflow overhang.
• Capex remains modest: No significant capex is planned beyond maintenance levels of ₹10-15 cr per annum, unless large opportunities like Indra or Rafael materialize, which are not yet factored into plans.
• Guiding 20% growth with margin improvements over the next two to three years, underpinned by the structural demand drivers and operating leverage from the existing asset base.

Nikhil Mallavarapu: "About 75% of our business is coming from overseas. So, you know, some of the growth drivers that we are seeing are a result of, there is a China plus one strategy where customers are looking to derisk their supply chain and bring business to India or other policy initiatives by the government itself to drive Make in India kind of opportunities, and these are sort of structural, microeconomic shifts that are happening."

Guidance & Commitments

Key Metrics