Avalon Tech — Q2 FY25 earnings call

Avalon Technologies delivered a robust Q2 FY25, achieving its highest quarterly revenue of INR 275 crores, representing a 37% year-over-year and 38% quarter-over-quarter growth. Profitability saw significant improvement, with EBITDA soaring by 140% YoY to INR 30.1 crores, leading to an EBITDA margin of 11%, a 470 basis point expansion. PAT also increased by 140% YoY to INR 17.5 crores, with a PAT margin of 6.3%. Gross margins improved from 33% in Q1 to 37% in Q2, driven by a favorable product mix.

The company's strategy to optimize its US manufacturing footprint is showing positive results. Approximately 45%-50% of existing US production has been shifted to India, leading to a decrease in the US revenue share to 11% in Q2 FY25, down from 27% in Q1 FY24. Consequently, the net loss from US operations improved significantly to INR 4 crores in Q2 FY25, a substantial reduction from the INR 14 crores loss reported in Q1 FY25. Management anticipates US manufacturing production to stabilize around 15% for FY25, focusing on high-margin products that cannot be moved to India.

Avalon's order book demonstrated strong growth, increasing by 19.4% year-over-year to INR 1,485 crores as of September 30, 2024, with an average execution period of 14 months. Additionally, long-term contracts, extending beyond 14 months, grew by 10.2% YoY to INR 1,100 crores. This strong order pipeline underpins management's confidence in guiding to a 16% to 20% revenue growth for FY25, with an ambition to double revenue in the next 2-3 years.

The company made significant strides in improving its working capital efficiency, with net working capital days reducing by 27 days from 161 days in March 2024 to 134 days in September 2024, primarily due to better inventory management. Management aims to further reduce working capital days to around 90 historically. Capex plans remain consistent, with an anticipated spend of INR 40-45 crores per year for the next two years, maintaining an asset turn ratio of 8-10 times.

Growth is being driven by three key engines: recovery of existing US customers, new US business wins in industrial, clean energy, and auto sectors, and strong momentum in the Indian market. The Indian business, which constituted 89% of Q2 FY25 revenue, remains highly profitable with a 13.7% EBITDA margin and 8.7% PAT margin, fueled by key wins in industrial, rail, aerospace, and communications sectors. The company's diversified portfolio helps mitigate seasonality and sector-specific slowdowns.

Avalon remains committed to building a business focused on long-term profitable growth, rather than short-term gains. The company expects profit growth to outpace revenue growth due to operating leverage, as most costs aside from material expenses are fixed. Management expressed confidence in returning to historical ROCE levels of 'north of 20%' soon, driven by improving asset turns, reducing working capital, and margin expansion.

The company clarified its clean energy business focuses on storage and home electrification systems, not solar panels or inverters, a segment growing at 60-70% YoY. Management stated that its growth last quarter was 'in spite of the clean energy business' and that it is not tied to the segment for its overall numbers. Avalon is strategically positioned to serve customers from either the US (to leverage IRA benefits) or India (for cost-effectiveness), providing resilience against potential changes in US clean energy policies. The clean energy mix is expected to be between 20-25% of revenue by year-end.