Shilchar Technologies: Fuelling Renewable Energy with Crafted Transformers
About Shilchar Technologies Ltd:
Shilchar Technologies Ltd was started in 1986 by Jitendra Shah. The company makes distributor transformers, which are used to change power voltage from big cables to what we use at home. Mr. Jitendra's son, Alay, joined his father's business after studying electrical engineering. Alay, who is now around 64 years old, has been with the company for over 30 years and is crucial to its operations. Together with his immediate family, they own more than 70% of the business.
Shilchar makes and tests transformers up to 66 kilovolt (KV) Class and 15 megavolt ampere (MVA) capacity. Recently, they started making Ferrite transformers. They serve various industries like Private Utility Companies, Renewable Energy Solar, Wind & Hydel, Cement, Sugar, Steel & Hydrocarbon Industries, Power Plant Developers, etc.
The company is especially focused on helping the renewable energy sector, including solar and wind energy, in the local market. They are also interested in expanding their business both locally and through exports.
Manufacturing a Transformer is a Laborious job. Why and How is it advantageous to them?
Transformers work by having a metal core inside them, usually made of a special type of steel called electrical steel. The core is wrapped with wires, a task that's done manually because machines can't do it. Each transformer, especially the bigger ones, needs to be customized according to the specific needs of the client. Throughout the electricity supply chain, transformers vary based on location and demand.
For instance, the Kolkata electricity board might require a transformer with a 400 KV capacity, while in Delhi or New York, higher capacities like 600 KV or 800 KV might be necessary. This process of manufacturing transformers requires human intervention worldwide, and India benefits from this due to its skilled labor force, which costs less compared to the US.
Strong Export Game by Shilchar:
Shilchar Technologies has a longstanding history of exporting its products alongside serving the domestic market. However, a notable shift occurred when the company began receiving a significant influx of foreign orders.
In the fiscal year 2023, approximately half of its revenue stemmed from these foreign orders, resulting in a substantial enhancement in profitability. Interestingly, export orders yield a much higher gross margin compared to domestic orders.
While domestic orders typically yield a gross margin of 15-20% after considering the cost of raw materials, export orders generate a significantly higher gross margin of 50%, all without incurring a significant increase in costs. This emphasizes the company's growing success in the international market and its strategic focus on capitalizing on export opportunities.
Benefits of Paris Accord 2015:
The Paris accord, signed in 2015, committed the world to achieving net zero emissions within a few decades. India, being a signatory, witnessed the BJP government's intensified focus on renewable energy thereafter.
The country grapples with two primary challenges: a growing population leading to increasing power demand, and limited natural gas reserves, with coal being the predominant energy source despite its polluting effects. However, India's abundant sunlight presents an opportunity for renewable energy, prompting the government to prioritize its development post-2015.
Shilchar Technologies capitalized on this shift by developing transformers tailored for the renewable power generation industry, thereby carving out a niche for itself. This niche has continued to expand, leading the company to recently announce a fresh capacity expansion to meet the escalating demand, reaching almost full capacity utilization within five years of its previous expansion.
Several questions arise regarding Shilchar Technologies Ltd
One key query is whether the majority of the company's revenue is derived from power transformers or distributor transformers. Given that power generation plants typically require power transformers to transmit electricity to the grid, which is measured in MVA (megavolt ampere). Despite this, Shilchar primarily sells transformers with a capacity of 66 KV or less, which are typically distribution transformers measured in KV (kilovolt).
This raises the question of whether the company is not selling power transformers to the renewable energy industry, or if the renewable industry primarily requires low-capacity distribution transformers rather than high-capacity power transformers.
Understanding the distribution of sales and the market demand for different types of transformers is essential for gauging Shilchar's positioning within the renewable energy sector.
Zero Debt strategy followed by the company:
Shilchar Technologies faces minimal issues with bad debts, although they experience delays in receiving payments. The company strategically utilizes debt primarily for capital expenditures (capex), promptly repaying it as soon as cash flow is generated.
In an industry where extending credit is common practice, manufacturers often face constraints during periods of rapid revenue growth due to limited access to bank borrowing for working capital needs. However, Shilchar stands out as debt-free, possessing substantial assets such as plant, machinery, and land that can be leveraged for borrowing.
Additionally, they have the option to borrow against their receivables, further strengthening their financial position. This prudent financial management underscores the company's stability and ability to navigate the challenges of the industry effectively.
Capex by the Company?
Shilchar Technologies is currently in the process of significantly expanding its production capacity. Presently, with an annual capacity of 4000 MVA (megavolt ampere), they are on track to increase this to 7500 MVA by July 2024.
This expansion is divided into two phases: Phase 1 capex will boost capacity to 5500 MVA, expected to be operational from April 2024, while Phase 2 capex will further increase capacity to 7500 MVA.
Despite operating at nearly full capacity utilization presently, with a robust annual revenue growth rate of 50%, the company anticipates swiftly utilizing its expanded 7500 MVA capacity within two years. The cost of this capacity expansion, amounting to 30 crore, will be covered by internal accruals, without the need for additional debt.
Notably, their existing land holdings enable future scalability up to 30,000 MVA, four times their capacity by July 2024. Consequently, Shilchar Technologies foresees no immediate challenges in scaling up its production capacity to meet market demand.
What are the drivers of such strong demand?
The utilization of captive renewable capacity by industries is witnessing significant growth, particularly as Shilchar Technologies predominantly serves private clients rather than government entities. Despite the private sector's relatively minor involvement in power transmission and distribution businesses compared to government-led initiatives, the demand for Shilchar's transformers persists and even flourishes.
This growth is remarkable considering that the company primarily manufactures transformers with small capacities, with a majority rated at 66KV or less. The surge in demand can be attributed to private sector companies recognizing the enhanced reliability of captive renewable power generation compared to a decade ago.
Additionally, compliance with green energy standards, particularly those set by the EU, serves as another driving force. Shilchar strategically capitalizes on this niche by constructing small and medium power transformers tailored to collect electric current generated by numerous solar panels and then stepping up the voltage for use in powering factory machinery.
About Management’s remuneration and Related parties:
Despite increased profitability, Shilchar Technologies has begun withdrawing more funds from the company. Notably, Alay, in addition to his fixed remuneration, now receives 3% of the company's profits. Moreover, the company has initiated the purchase of expensive cars valued at around 2 crores each.
Another aspect of interest is the existence of a private company named "Nile Transformers," where Alay's son serves as a director. Shilchar Technologies sold transformers amounting to approximately 1.3 crores to this private entity. However, details regarding the margins in this transaction remain undisclosed.
While this situation doesn't raise significant concerns presently, clarification from the company regarding the nature of this relationship is awaited in subsequent conference calls.
Moat of the Company:
The Company's success in the renewable energy sector is attributed to its exceptional quality standards and technical expertise, which are crucial in manufacturing complex renewable energy transformers. This market segment is challenging to penetrate due to its specialized nature, coupled with the difficulty in obtaining approvals from foreign clients.
Additionally, the company's extensive land bank serves as a strategic advantage, enabling them to pursue brownfield expansions seamlessly.
Furthermore, while Shilchar possesses the capability to manufacture transformers up to 132 KV, the majority of its sales are concentrated in transformers rated at 66 KV or lower.
Notably, renewable energy transformers account for approximately 60% of their sales, underscoring their significant presence in this burgeoning sector.
Domestic Industry Drivers:
The domestic market for transformers in India is significant, with a total value of 13,000 crores, split between power transformers at 6,500 crores and distribution transformers at approximately 6,800 crores. In terms of capacity, the domestic market encompasses 400,000 MVA. The realization value ranges from 7 to 12 lakh per MVA, depending on factors such as size, class, and specifications.
India's power generation capacity is anticipated to witness substantial growth, projected to reach 623 GW by FY27 from 382 GW at the end of FY22, and further increasing to 865 GW by FY32. Notably, there is a considerable expected rise in renewable energy generation, with renewables projected to constitute 57% of the generation capacity mix by FY27 and 68% by FY32, contributing to the overall growth of the sector.
The government's policy support, including the launch of a $41 billion power reforms funding initiative and the allocation of significant capital expenditure through the national infrastructure pipeline amounting to Rs 11,760 billion over FY20-25 towards the power sector, is expected to catalyze further development and investment in the industry.
Global Drivers:
Global demand for transformers is currently facing significant challenges, characterized by a supply crunch in key markets. Wait times for transformers have skyrocketed, stretching from weeks to over a year in some cases.
Additionally, costs for finished transformers have surged, with some experiencing increases of over 400 percent since 2020, primarily due to supply limitations in critical raw materials and components (CORG).
Furthermore, there is growing international pressure to address the climate crisis. The United States has committed to ambitious targets, aiming to achieve a 50 to 52 percent reduction in economy-wide net greenhouse gas pollution by 2030, transitioning to a carbon pollution-free power sector by 2035, and ultimately achieving net zero emissions across the economy by 2050.
As a result of these factors, transformers are currently in extremely short supply, leading to prolonged wait times for new units, with some delays extending up to four years.
Management Guidance:
In Q3, Shilchar Technologies reported robust sales of Rs. 121 crores, marking a remarkable 72% growth in revenue. The company demonstrated impressive financial performance, with a profit before tax reaching Rs. 34.84 crores, reflecting a substantial 119% growth in profit after tax.
Looking ahead, the management envisions a significant upswing, targeting a turnover between 800-900 crores within the next two years. The ongoing capital expenditure expansion is anticipated to be fully utilized within the same timeframe. Currently operating at full capacity, the company aims to achieve revenues in the range of 400-420 crores, with the management guiding to maintain consistent margins in the upcoming year.
The order book as of January 2024 stood at an impressive 355 crores, reflecting robust demand, particularly in the renewable sector. Furthermore, the management assured stability, indicating no shortage in raw materials, stable prices, and ruling out government subsidies.
Notably, the company possesses substantial excess land, providing the flexibility to scale up production capacity up to 30,000 MVA if the need arises.
To sum it up, Shilchar Technologies is doing great in making transformers. They're growing financially and planning smart moves for the future. With more focus on renewable energy, Shilchar's know-how and flexibility make them a big player in shaping how we power our world ahead.