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Avalon Technologies Limited is a leading fully integrated Electronic Manufacturing Services ("EMS...

Posted: 29 Nov 2024

Avalon Technologies Limited is a leading fully integrated Electronic Manufacturing Services ("EMS") company with end-to-end capabilities in delivering box-build solutions, focusing on high-value precision-engineered products. Diversified Product Lines Supports Revenue; Revenue Declined in FY24; Recovery Likely in FY25: The Avalon group’s order book and revenue profile are diversified across key industry segments, isolating the company from a slowdown in demand in any one particular sector. The company derives its revenue clean energy, mobility (railways, auto, aero), industrial (power and automation), communication and medical, with no one sector contributing over 30% to the consolidated revenue. Furthermore, the customer concentration has reduced, with the top 10 customers contributing 50% to the revenue in FY24 (FY23: 52%, FY22: 65%). The company also has product-wise diversification in the form of designing, printed circuit boards, box build, cables, metals, magnetics and plastics, with the higher-margin box build segment contributing 50% to the group’s revenue in FY24 (FY23: 54%). That being said, since the company generates majority of its consolidated revenue from the US (FY24: 53%, FY23: 58%), the macro and recessionary headwinds impacting the demand scenario for US customers resulted in a 8% yoy decline in the revenue to INR8,672 million in FY24. Although the company faced macro-economic challenges in FY24, the management has raised its FY25 revenue growth guidance to 16%-20% from 14%-18% earlier as it expects healthy growth from 2QFY25. The increase in revenue guidance can be attributable to the restocking of inventory by US customers and the growth in the company's order book of 7% qoq and 32% yoy to INR14,610 million in 1QFY25. The same is to be executed within a period of 12-14 months. The agency also expects the revenue growth trajectory to pick up for the Avalon group from FY25. Any decline and/or lower-than-expected growth in the revenue will remain a key monitorable. Sustained Comfortable Credit Metrics: During FY24, the company repaid its debt using the funds raised during pre-initial public offering (IPO) and IPO, resulting in a decline in the consolidated borrowings to INR2,086 million (FY23: INR3,420 million). Therefore, despite an increase in the working capital cycle, the consolidated credit metrics remained comfortable in FY24. The interest coverage (operating EBITDA/gross interest expense) improved marginally to 3.8x in FY24 (FY22: 3.2x) due to a decrease in the interest cost to INR164 million (INR348 million). The net leverage (total net debt (including lease liabilities)/operating EBITDAR), while increased to 1.0x in FY24 (FY23: negative 0.7x), remained comfortable. While Ind-Ra expects that the debt levels might increase moderately in the near to medium term due to the working capital intensive nature of the company’s business and moderate debt requirements, the net leverage is likely to remain below 3.0x with a likely improvement in the EBITDA and the absence of debt-funded capex plans. Experienced Management; Long Operational Track Record of Operations: The Avalon group was established in 1995 by Kunhamed Bicha and Bhaskar Srinivasan in the US and started operations in India in 1999. The company’s day-to-day operations are managed by the promoters. The group has developed long-term relationships with its customers and suppliers over the years, which has helped in securing repeat orders. Pressure on Profitability: The consolidated profitability in absolute terms declined to INR625 million in FY24 (FY23: INR1,126 million) and EBIDA margins declined to 7.2% (11.9%)), owing to the decline in revenue and a high fixed cost. However, the company was able to maintain achieve gross margin of 36% in FY24 (FY23: 36.8%), which provides comfort. That being said, the company saw a sharp decline in the EBITDA margin to 2.2% in 1QFY25 (1QFY24: 6.9%), with a decline in gross profit margins to 33% (4QFY24: 38%, 3QFY24: 34%). While the management has indicated that the decline in margins in 1QFY25 was one off, the revenue is likely to grow by 16%-20% yoy in FY25 and the gross margins will be maintained in line with the historical levels, any decline in the profitability will remain a key monitorable for the agency. Working Capital Intensity: The company’s diversified order book across sectors necessitates maintaining a high inventory level, which results in a higher working capital requirement. The company’s operations are working capital intensive with a net working capital cycle of 171 days in FY24 (calculated as % of revenue; FY23: 148 days). The major component of this working capital cycle is inventory days which stood at 133 days (FY23: 123 days) The company's working capital days increased by 23 days in FY24 since it had to hold a large inventory due to the slow demand and unfavourable macro environment in the US, as confirmed by the management. The management aims to reduce the working capital cycle by 10-15 days in FY25. Any further elongation of working capital cycle would be a key monitorable. Forex Risk; Intense Competition and Other Industry Risks: The company imports 80% of its material requirements which exposes it to foreign exchange fluctuation risk. While part of the forex exposure is naturally hedged since it generates 50%-60% of its revenue from exports, forex gain/losses remained negligible over FY21-FY24. Moreover, the company is in business of technology contract manufacturing, which exposes it to the risk of frequent changes in technology. It also has to constantly upgrade and adopt its manufacturing processes and supply chain to meet the requirement of its customers. Also, the company operates in a highly competitive business environment, due to the presence of several organised and unorganised players. This limits its bargaining power/pricing ability, thereby constraining any major uptick in margins to an extent.