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Elgi - Exciting Returns in a Boring Industry 💨

It is often said that ‘boring businesses give exciting returns’! While crowds rush to invest in the next-big-thing, it is the good, overlooked and cash-rich businesses that make the most money. And today, we are here to talk about a company that has managed doing just that!


A little known stock - Elgi Equipments (pronounced as Elji), which makes air compressors (yawn) is actually up 3x in the last 3 years, 6x in the last 5 years and 11x in the last 10 years. Dare to hit the snooze button on Elgi, and you will sleep through a multiplier for your money!


Air Compressors - Boring, but so Good!

If you’re not an engineer, chances are, you have heard the word ‘compressor’, but not ever bothered trying to understand what they do.


But, air compressors have existed for the last 150 years, and are essential to any manufacturing process. In fact, they are said to consume 10% of all energy required in manufacturing.


The basic function an air compressor performs is - it compresses or transforms regular atmospheric air into compressed air by pressurising it and squeezing it into a much smaller space.


For what? Think of the dentist’s chair - compressed air is used to dry the mouth, clean infected areas and even power other tools like drills and suction devices.


Similarly, in industries, air compressors can be used in a multitude of processes - to power tools, inflate tires, apply paint, clean surfaces, propel gases through pipelines, provide air to facilitate burning, move products along the assembly line, open heavy doors easily in planes, braking and suspension in cars and railways, and so much more!


Elgi - The Surprising Winner

And the second largest maker of these ever-essential air compressors is none other than Elgi Equipments! The commendable bit is that Elgi has a 22% share in a market that is dominated by either - large global MNCs, or age-old industrial behemoths.


But how did a local company with humble beginnings in Coimbatore, get to competing with the likes of Atlas Copco and Ingersoll Rand and operating in nearly 100 countries?

Factor

Problem

Solution

Competition

It’s a 150 year old industry with multiple large and established global players, and several smaller local players

Elgi invests heavily in R&D and and has focused on several break-throughs like oil-free airends and embedding IoT for real-time monitoring

Customer

The air compressor industry has diverse end-uses, which are industry-specific and client-specific

Elgi has a fully-vertically-integrated facility (including a foundry and in-house machine building), which enables it to have flexibility in design and development, and provide to customers exactly what they want

Aftersales

It being complex machinery, and it being customised requires heavy aftersales and service

Elgi has maintained high focus on aftermarket service, and in fact even gets 15% of its total revenue from it

The market leadership has, of course translated into financial performance as well, over the years, and with Elgi delivering a solid revenue CAGR of 19% and EBITDA CAGR, over the past three years.


Will the Winning Streak Continue?

Like any other business, it hasn’t been a straight line for Elgi. In fact, just last year, Elgi hit a few speed bumps overseas, which hampered performance.


It had a hiccup with its ERP rollout in the US, which caused a 6% dip in North American volume growth. And over in Europe, the business that kicked off in 2019 was expected to start raking in profits by FY24, but thanks to COVID-19 and the current economic snail-pace, that didn’t quite pan out.


But here's the silver lining: those issues are mostly in the rear-view mirror now! There are 3 factors that definitely look like they will spin things in Elgi’s favour:


1. Turnaround in International Operations

Elgi has mostly ironed out the US wrinkles and expects Europe to start pulling its weight and turning EBITDA positive from FY25 onwards.


North America and Europe together make up almost 40% of Elgi's revenue, and are critical in contributing meaningfully to overall financial performance.


Moreover, given the fact that Europe is a relatively new business that’s yet to pick up, it wasn’t chipping in anything on the EBITDA front in FY24.


With a turnaround expected here, the forecast looks sunny with a chance of higher growth and profits ahead.


2. Domestic Business Strength

While Elgi faced some turbulence overseas, back home, it's a different story. When issues cropped up in the US and Europe, the Indian business took the helm, delivering an impressive 18% growth (versus low single digit growth / de-growth in the overseas market) and keeping the company steady amidst the storm.


There are several factors that are expected to continue keeping this strength on for Elgi on the domestic front, in the future as well. These include stable macroeconomic factors and a favourable policy framework supportive of boosting manufacturing in India.


3. Capacity Expansion

For a smooth ride on this clear road, Elgi is making a bold move, investing over Rs. 500 crore (over the period of next 5-6 years) to shift its manufacturing from Coimbatore city to a new, spacious 120-acre campus outside the city.


The new capacity set to be operational by FY26, and is expected to add ~Rs. 300 crore (10% of FY24 revenue) to its top-line starting from FY26.


In addition to this, it is also investing Rs. 50-60 crore annually in plant and machinery upgrades, which are also likely to reflect positively on both revenue growth and margins.


Summing it Up

Over the last three years, despite facing challenges, Elgi's financials have been on fire, delivering:


  • A solid revenue CAGR of 19% - primarily driven by (i) volume growth, led by its India business, and (ii) strategic price hikes of some products

  • EBITDA CAGR of 30%, led by margins jumping from 11% to 15%, driven by a (i) better product mix, and (ii) increasing share of aftermarket services, which is currently 15% of total revenue, but boasts margins of ~30% (versus 10-12% for the rest of the business)


Going forward, Elgi is likely to benefit from:


  1. Continued tailwinds of favourable policy in India, strong domestic demand and an increasing share of the more profitable aftermarket business

  2. Added boost provided by new capacities, enhancement of existing facilities and a turnaround in international operations


While you still may not find air compressors that interesting, you at least know that they will be widely and irreplaceably used in manufacturing for years to come, and Elgi is a force to reckon with, in this boring-but-yet-exciting industry!

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