Dixon Technologies – Muted Q1 performance; long term story remains intact

Consumer electronics reported a strong growth in the topline but the margins in the segment suffered on account of site transfer from Dehradun to the new Tirupati facility as well as higher input costs. During the quarter gone by, Dixon signed an agreement with Xiaomi for the manufacturing of TV sets. The company is witnessing good traction in this segment and expects consumer electronics revenues to grow by 20 percent in this financial year.

Lighting products also grew at a healthy double-digit rate in Q1 FY19. The performance can be attributed to strong demand from its key clients - Crompton Greaves, Wipro & Panasonic, Anchor, and Philips. The order book in this segment has further strengthened with the addition of 4 new clients (Jaguar, Usha, Syska, and Orient) in the past couple of quarters. The product portfolio has also expanded with the addition of Wipro High Beam LED bulbs. The management expects revenue growth of 10-12 percent for lighting products and therefore, sees margin improvement on account of economies of scale.

Home appliances revenues for the quarter more than doubled owing to strong washing machines demand. High commodity prices, as well as the adverse currency movements (linked to raw material imports), resulted in weaker margins for this segment. The company has agreements in place to pass on the input costs to its clients and therefore expects to regain 13 percent margins (vs 11 percent currently) over the next few quarters.

Dixon is expanding its washing machine manufacturing capacity from 0.7 million per annum to ~1.2 million per annum washing machine in the current year. The company has a very strong order-book in this vertical and expects to attain 80-85 percent capacity utilisation in the coming quarters.

Mobile phones segment reported yet another quarter of disappointment as Dixon’s customers continue to face competitive pressures and low volume offtake. Gionee has restarted operations with Dixon from Q1 FY19 but its sales during the quarter remained weak. During Q4 FY18, Dixon has added Tambo as a client for the manufacturing of feature phones which should result in increased capacity utilization over the next few months. To further enhance the scope and margins in this segment, Dixon is venturing into manufacturing of motherboard and Printed Circuit Boards.

Reverse logistics business was again a dampener on the profitability like the previous quarter. Dixon has appointed a new business head to revive the business and expects to post a revenue and margin recovery in FY19.

Dixon has ventured into Security systems with the manufacturing of CCTVs and Digital Video Recorders and has made good progress in this segment so far. CP Plus, Dixon’s sole business partner for this segment, is witnessing strong market demand for security systems. As a result, Dixon is planning to enhance its camera manufacturing capacity to 400k units from 100k currently.

Outlook and Recommendation

Dixon’s business sits at the forefront of ‘Make in India’ theme. The government proposal to increase customs duties will further boost domestic electronic manufacturing from players like Dixon. The business has additional tailwinds in the form of low electronic penetration, reduction of GST rates for white goods and pick-up in domestic consumption.

The management expects to clock a topline growth of around 20 percent by adding new clients as well as mining the relationships with existing clients. The company expects an even faster growth in profits on account of 70-80 bps improvement in margins. The margin enhancement will be driven by improving capacity utilisation, higher contribution from original design manufacturing, backward integration and investing in low-cost automation to generate operating efficiencies. The completion of manufacturing transition from Dehradun to Tirupati facility (expected completion by August/September 2018) will result in further margin expansion due to the removal of cost redundancies. However, further currency appreciation and increase in commodity prices could impact the margins over the short term.

Dixon is an interesting play on domestic manufacturing. A muted Q1 show has resulted in a price correction post results and the stock is now trading at nearly 35 times FY19 earnings. Long-term investors interested in steady and secular earnings growth can look to accumulate this stock.