Stock Analysis - 3S , 060310.KQ

1. Three Lines Summary

• FOSB is the main product of 3S, but FOSB recycling is frequent in demanding customers, so sales do not increase easily.

• No news about FOUP, which was developed in 2009 ~ 2013, is a consumable item that is difficult to be reused at high added value.

• Because the financial condition is not so beautiful, both short-term trading and long-term trading looks dangerous.

2. Before We Start

3S is also known as "3S Korea Co Ltd" (hereinafter referred to as "the Company") and was established in 1991 and listed on KOSDAQ in 2002. The headquarters is located in Geumcheon-gu, Seoul and is a small and medium-sized company. The main business is wafer carrier business and environmental equipment business, but do not pay much attention to this because there are many business purposes for the purpose of the articles of incorporation. The company has a subsidary in Shanghai, which is said to carry out environmental test equipment business. I do not know… may be it is for PM2.5 dust.

What is a wafer carrier? The name looks great, but in the end it is a packaging box for transporting silicon wafers. Obviously, the need depends on silicon wafer production and shipments are the demand increases as the semiconductors market grows. Even though it's just a box, it is a technology-intensive product; the reason is simple because neither dust nor air must be present in the box! If the silicon wafer gets dirty, it should be discarded. That is why if you are in a semiconductor factory, you see everyone wearing a white suit and looks like a spaceman. Since it is super difficult to get rid of anything completely, the entry barrier of the market is super high. In case of FOSB, there are only four companies who have the source technology in the world, and the company is one of them.

FOSB is a box that is used to transfer wafers to a semiconductor manufacturing site, and FOUP is a packaging box used to transfer within the manufacturing site. It is said that there are no manufacturers in Korea and all FOUP imports are from US and Japan. There is also something called an O/C (Open Cassette), which is a container used to cut silicon ingot (silicon ingot) and transfer them to a wafer manufacturing process.

Above is the picture of FOSB and below is the picture of FOUP

In short, the company is a dust-free vacuum containers manufacturer. Dust is the archenemy. The company can make FOSB and O/C, and major consumers are domestic and overseas semiconductor companies such as Samsung Electronics and LG Electronics. The terms of payment for Samsung is 7 days, and for LG or Winiah Mando is 90-day bill. For the rest of the companies it is just cash right away. The terms of payment is really surprising.

Above picture is the open casette (O/C)

Also, the company is in the ODM business of environment equipment. The products are calorimeter, environmental test equipment, and etc. The added value is relatively higher than the OEM because the development is done by the company. Most of the time, the company makes a test device that performs the performance test of the air conditioner for a building.

It is said that the business started from the calorimeter manufacturing and formerly a calorimeter distributor.

Calorimeter is a device that measures calorie. For ease of understanding, just consider it as a thermometer, there are not much differences anyway. It is used to measure the thermal performance of air conditioners and radiators. Since it is a test device for developing new products such as air conditioners, it will be delivered to factories and laboratories but the needs may be limited. The overseas trend is to increase the margin rate by adding value with so-called ‘smart factory’ and ‘artificial intelligence’. Reliability is a key for this type of products; therefore, lowering the margin rate does not increase the sales. It seems that even though the company started as a second mover, the company has overcome the entry barriers, I believe the reliability secured and there is a growth potential. However, the company is not the only one in Korea to make a calorimeter.

Environmental control system and other test equipments are mainly used to test weather and residential related stuff. But, frankly speaking, I do not know what they are doing in detail, but it seems that the company develops and delivers the test equipment in the form desired by the customer. It is a good idea in terms of accumulating technology, but there seems to be no core product.

The automotive test equipment business is a next-generation business item of the company strategically promoted by the company. It is a system for measuring the energy performance of each part or testing under specific environmental conditions, but mostly the products are for thermal performance measurement at the moment. I do not know exactly what kind of the product there are.

If it is expected to grow environmental measuring equipment or measurement equipment for optimizing thermal performance due to environmental regulations of the future world, it may be a little premature. However, if the technology accumulates, it seems that it is not bad because it has a high probability of being selected when the time comes. But, I am still a little uncertain. I think it will improve if environmental regulations become stronger, but I do not know yet.

The establishment of a subsidiary that conducts environmental testing equipment business in China is considered to have entered the market considering the environmental regulations of China and the size of the air conditioner industry. I think it's not a bad idea, but I have to see how sales are growing. The subsidiary in Shanghai is a company with a net loss of 1 ~ 300 million KRW.

Sales are growing by 10 ~ 20% every year, but exports are on the pace and domestic demand is on the rise. The calorimeter business is more than double the sales of the wafer carrier division. Total turnover is roughly KRW 30 billion a year, which is slightly over 90 billion as of March 21, 2018.

Anyhow, there are three FOSB competitors in the world, and the company mainly competes with Japanese companies. Profitability cannot be improved significantly in the current situation where the Japanese yen continues to rise. In addition, wafer makers, the largest consumers of FOSB, are entering an oligopoly system through mergers and acquisitions and thus negotiation power for the price may drop in the future. The only countermeasure against this is the technology, but the current R&D cost is around 500 million KRW a year, and it is doubtful whether it has the capacity to develop new products.

3. Brief Company Value Memo

Sales of 30billion KRW are expected to reach 2011 ~ 2012 in 2010, and the estimate for 2013 was 60billion KRW. The company announced about mass production of FOUP in 2013, but it seems that it does not have any distinctive performance other than prototype or specialized S-FOUP products.

The FOUP is actually a field where American company Entegris is cornering the market, and the added value is quite high. Therefore, if the company can ramp up the production, it will be a big hit.

Anyway, after 2011, sales have remained steady at between 20bn and 25bn KRW, and due to the price competitiveness of Japanese companies with the rise of Japanese yen, which are major FOSB competitors, the price of the product has fallen. Rather, maybe it is good to focus on hedging against the yen rather than the dollar, but I do not think the company has any clear idea about it. Although sales have risen by about 10% each year, profitability has not yet been improved.

With the market value of the company being KRW 30 billion, market cap being KRW 90 billion, and the PSR being 3.0, I do not believe that stable investments will be made in this kind of business. The profit margin was 5% at its best, so the success of the business is based on the economy of scale. However, one of the biggest weaknesses of the company is the slowed down the growth of sales. FOSB and O/C technologies are great, but it is hard not to get support from Korean government since the government does not have urge to localize technology.

For Entegris has the PSR is 3.8 and the PE is 62. I do not know if I should buy Entegris shares. In the case of Entegris, share prices have risen sharply over the past five years.

The book value of the company’s real estate is about 230 ~ 25 billion KRW, which can be considered as about 400 ~ 50 billion KRW when if evaluated with the market price. However, the real estate of the enterprise is just private property of the controlling shareholder or the CEO in Korea. In addition, it is not necessary to think about asset value except business contribution.

Assuming sales of 30billion KRW is BEP and operating margin is 5%, sales should reach 40billion KRW to have an operating profit of 500million KRW. Considering Entegris’ multiple, we can assume 30billion KRW of going value. Considering the current market cap., we can assume the company to have fair value of 60billion KRW in sales, but I personally do not think this makes sense. As the annual sales growth rate is only 10 ~ 15%, it is not easy for the time being since the KRW is expected to remain strong. In addition, I personally think that the PE ratio of Entegris is also highly valued. Even with oligopolistic, it is not at the level at which the present market price is convinced when calculated.

4. If I am the CEO

Since the competitors are Japanese affiliates, to prepare a weak Japanese yen, it is important to borrow some Japanese yen when it is strong and repaying yen when it is weak to minimize profit aggravation. If the won strengthens, profitability will deteriorate; thus, requires a basic plan regarding the matter. Since R&D is still on-going, stable cash flow is needed for stable investment, and financial management should solve this problem besides sales. There is a 1 ~ 2 billion KRW equivalent Japanese yen loan. I do not know when the company got it, but they do have it. The change in sales due to the value of the yen is estimated to be in the range of 50 ~ 10 billion KRW, and the yen exposure at this level seems to be good to take.

The calorimeter and environmental testing equipment business in China is unlikely to be expected, but the wafer carrier business will be able to enter the Chinese market easily with partnership. However, the company should be careful about leaking technology or the backstabbing. However, the company will be backstabbed in China eventually, but if you could get backstabbed earlier and start business, maybe the god of ‘guānxì’ will be on the side of the company.

The wafer carrier business of FOSB and others has become a flagship business for the company, and it seems that economies of scale will play a major role as it is a kind of consumable business. Therefore, the company must focus on overseas operations, but overseas sales are stagnant. In case of FOSB, there is a lot of reuse, so mass production of FOUP is urgent, but there is no news since 2013. In that case, it is also possible to consider moving the business base to China or India, which can cause economies of scale.

5. Technical Analysis

There is nothing to say, since the pattern is just following the typical patterns of junk shares. However, the chart looks like "Oh this is the bottom", but it usually lasts a few years at that level. There is a chance that the price may shoot up in few years, but since the fundamentals do not look good. Maybe if you plan to inherit the stocks to your child, it is likely to pass unlisted shares.

6. Finance

I do not think the company has done a strange thing with a convertible bond, but it seems to have a bad influence on the share price in the future. In addition, recently, the company has also issued interest-bearing private bonds, interest payment cannot be ignored. The debt-to-equity ratio is not bad, but its profitability is still low so the company’s credit rating is currently dropped to B. At current situation, borrowing is virtually impossible, so the issuance of convertible bonds makes sense, but the cost of capital raising is still high. The business itself is difficult to have operating profit to sales ratio of 5%; therefore, if the cost of capital becomes 8 ~ 15%... well... There is a saying ‘One man sows and another man reaps’. Rather, we can think of using the oligopoly system to attract private equity, and then real-estates properties will most likely be sold, which is not in the favor of the owner, which is a sense of rejection. At present, the owner owns a little over 7 percent of the shares, which makes it vulnerable to hostile mergers and acquisitions.

7. Executives and Major Shareholders

Who is the CEO of the company, Park Jong-ik?

He graduated from Ajou University and graduated from Seogang University as a graduate student. He started business as a calorimeter distributor, and in the 2000s, he started to manufacture wafer carriers. He succeeded in mass production of FOSB and challenged mass production of FOUP, so I believe it is a half success. This person seems to be not a glib-tongued person, but an engineer. I believe, he is not an owner specialized in sales and cheating, so I think he has a desire for technology development. However, if he does not have people with excellent talent in new market exploration, I question the future of the company.