Thinking points
- KSK Co., Ltd. (TSE: 9687) is a small system integrator specializing in network service, embedded software development, and semiconductor design, with strong business relationships with large IT players and telecommunication companies.
- Key challenges for the company include rapid technological changes in client industries such as the emergency of 5G/IoT and securing talent to keep up with the increasingly diversifying needs of clients.
- Key opportunities for the company include growing demand for cloud-based network services, as well as for data center development, where KSK can offer cloud operation and maintenance services.
- At JPY2,102 per share, KSK trades at an adjusted EV/EBIT of 2.4x with a market capitalization of JPY12.5bn.
- Assuming a fair value EV/EBIT of 2-4x, investors can expect an investment CAGR of +4.5% to +13.4%, including shareholder returns, over the next 3-5 years.
Introduction
KSK is a small system integrator specializing in network service, semiconductor design, embedded software development, and on-site operation & maintenance. The company operates three segments:
- In the System Core segment, KSK designs semiconductors such as LSI* and hardware equipment. It also develops embedded software that supports IoT technologies in automobiles, home appliances, and robots.
- The IT Solution segment includes technical support services for major IT companies, software development contracted by end users, sales and maintenance of packaged software, operator dispatch and data entry services for government offices, municipalities, and health insurance associations.
- The Network Service segment focuses on network system construction support, operation and maintenance services such as cloud operations and virtual network construction, 5G network deployment support, CSIRT** operation support, vulnerability assessments, and SOC*** operation services.
* LSI (Large Scale Integration) : An electronic circuit component that integrates transistors, diodes, passive elements, etc. to realize complex functions. Generally composed of silicon or other semiconductors.
** CSIRT (Computer/Cyber Security Incident Response Team): Expert group that handles computer security incidents.
*** SOC (Security Operations Center): Centralized unit that deals with security issues on an organizational and technical level.
Business & operating environment
Company History
KSK. Co., Ltd. was founded by Takeshiro Yamazaki in 1974 in Tokyo, originally as a trading company of welding machines and metal parts. In 1979, the company shifted its business model to a system integrator and started to expand its coverage to the other areas of Japan. In 2004, KSK acquired mobile content developer Flex Farm Ltd., and listed on the Tokyo Stock Exchange. The founder passed away in 2008, and his wife (Youko Yamazaki, the current largest shareholder) and family members inherited his shareholding.
Industry and Business Model
KSK provides a wide range of B2B IT services, but has grown its network-related services into a core business. As part of its network-related services, KSK helps its clients carry out digital transformation initiatives by designing, building, and operating cloud infrastructure.
According to Astute Analytica, the global Network as a Service (NaaS) market is expected to grow at a CAGR of +40.7% from USD15bn in 2021 to USD119bn by 2027, with growth mainly driven by increased adoption of cloud services among enterprises and the augmentation of software-defined networks (SDNs). As for Japan, IDC forecasts a CAGR of +12.5% from 2020 to 2025 for the domestic data center services market (services that operate and monitor information systems in data centers).
KSK’s business performance has also grown steadily since the financial crisis, with a sales CAGR of 4.2% (2012-2022) as illustrated below. While sales for the System Core segment and IT Solution segment have grown at a +2.0% and +1.7% CAGR respectively, sales growth in the Network Service segment has outpaced both of these at +6.5%, driving the company’s growth over the past decade.
Meanwhile, sales to major Japanese IT and telecommunication conglomerates such as the NEC group (TSE: 6701), NTT (TSE: 9432), and Fujitsu (TSE: 6702) have continued to account for approximately 40% of total sales, indicating that KSK has successfully expanded sales to its existing major customers.
Operating profit margins have remained stable at around 8~11% over the last five years. Gross profit margin has also remained stable at around 20%, which according to the company’s own analysis is several percentage points higher than its peers thanks to the company’s high-margin System Core business.
KSK announced its intention to keep up with recent developments such as CASE (Connected, Autonomous, Shared, Electric) vehicles and Digital Transformation (DX) by investing in the following areas:
- Development of in-vehicle microcontrollers and SoCs
- Development of software for electronic control of autonomous driving support
- Cloud infrastructure operation support for data centers
- 5G deployment support for telecommunication
Shareholders
As of the end of March 2022, the company had 7,636,368 shares issued, with 1,669,861 shares in treasury, putting outstanding shares at 5,966,507. Foreign shareholders accounted for approximately 12.3% of total. Major shareholders are as follows.
The founding family (Youko, Takemasa, and Takehiro Yamazaki) hold at least 28.9% of the outstanding shares. KK Hikari Tsushin and KK UH Partners 2 are investment companies owned by Yasumitsu Shigeta, a well-known value investor in Japan and the founder of Hikari Tsushin (TSE: 9435). AGS Corporation (TSE: 3648) is a small system integrator that has a business relationship with KSK.
The company carried out share repurchases of JPY100 mn in 2020. In its dividend policy, the company aims to pay out at least 30% of net income, which is approximately equivalent to 40% of EBIT. Looking at historical dividends, the company has paid an additional “anniversary” dividend every five years (FY03/14, FY03/19). It will also likely pay a commemorative dividend in FY03/24, which marks the company’s 50th anniversary, unless there is a drastic change in the business environment.
Financials & valuation
- KSK Co., Ltd. (TSE: 9687) is a small system integrator specializing in network service, embedded software development, and semiconductor design, with strong business relationships with large IT players and telecommunication companies.
- Key challenges for the company include rapid technological changes in client industries such as the emergency of 5G/IoT and securing talent to keep up with the increasingly diversifying needs of clients.
- Key opportunities for the company include growing demand for cloud-based network services, as well as for data center development, where KSK can offer cloud operation and maintenance services.
- At JPY2,102 per share, KSK trades at an adjusted EV/EBIT of 2.4x with a market capitalization of JPY12.5bn.
- Assuming a fair value EV/EBIT of 2-4x, investors can expect an investment CAGR of +4.5% to +13.4%, including shareholder returns, over the next 3-5 years.
With a relatively stable source of revenue, KSK has been operating nearly debt-free for over a decade, and now has cash and equivalents of JPY7.6bn out of total assets of JPY18.5bn as of March 2022. As a result, it maintains a strong balance sheet with an equity ratio of 73.7%.
Some of the challenges the company faces include rapid technological changes in client industries such as the emergence of 5G and IoT, diversification of client needs, and an increasingly competitive hiring environment for IT and engineering talent due to labor shortages. In particular, on-premise to cloud system migrations are becoming increasingly diverse, and KSK must be prepared to continuously acquire and train talent that can implement new technologies to win orders.
In terms of opportunities, KSK can expect some tailwinds from a broader trend of companies transitioning their IT services and systems to the cloud and the accompanying demand for data center development. Additionally, it can leverage its track record of fulfilling orders for leading Japanese companies to capture sales.
At JPY2,102 per share, the company trades at an adjusted EV/EBIT of 2.4x with a market capitalization of JPY12.5bn. Assuming that sales and EBIT grow at a conservative CAGR with a fair value EV/EBIT of 2-4x, investors can expect an investment CAGR of between +4.5% and +13.4% including shareholder returns, over the next 3 to 5 years.
The bottom line
KSK Co., Ltd. is a small system integrator specializing in network service, embedded software development, and semiconductor design, with strong business relationships with large Japanese IT players and telecommunications companies. Although the company faces some serious challenges such as rapid technological changes in client industries such as the emergence of 5G/IoT, diversification of client needs, and securing talent in an increasingly competitive hiring environment, it also has some tailwinds such growing demand for cloud-based network services and data center development. Buying in at JPY2,102 per share, investors can expect an investment CAGR of between +4.5% and +13.4%, including shareholder returns, over the next 3 to 5 years.
