Stock Analysis - KISAN TELECOM CO., LTD , 035460.KQ

Three Line Summary

• Optical repeater for main base station is a downturn industry and RRH is replacing its position now.

• The defense business is a low-risk, low-profit business, and the aviation navigation equipment business is a high-risk, high-profit business, but seems to have problems with its sales capacity.

• Technically strong buying signals, but fundamentals are weak.

Before We Go

Kisan Telecom (hereinafter referred to as "The Company") consists of Kisan Telecom, which manufactures repeaters for wireless communications, Hyundai Jcom, which manufactures and sells military wireless security equipment, and Mopiens, which manufactures and sells aviation navigation equipment. In the telecom equipment segment of the revenues, in general, when the communication service infrastructure is changed such as 3G to 4G, there is a lot of increase in revenue. Otherwise there is only maintenance and replacement. Since transffering to 4G has finished, sales has been stagnated for quite a time. As management sensed this problem, they tried to diversify the business portfolio with military and aviation business.

The Company made sales of roughly KRW 50 billion and an operating loss of about KRW 2 billion. The main customer is KT and dependence on the customer is significant. Therefore, when KT installs a repeater, they make money. The stock price moves very much when there is news of frequency auction and other 5G investment plannings. There will be 5G investment soon , however, the trend of the market moves from repeater to repeating enabled RRHs. For instance, the telecom equipment business in 2011 made KRW 60billion, while in 2017, KRW25billion ,which shows the characteristics of this business.

What does repeater do? In order to use the phone-call or the mobile wireless data, our cell phones need to communicate somewhere by receiving the radio wave. Since the base station that shoots this radio wave can not send them to infinite distance , The repeaters amplify weakened signal received from the other and transmit it out away again. So there should be at least one repeater for each base station. It's like If we live in a large house, the wifi does not work well in a distant corner room. We usually install a small amplifier to increases the Wifi distance for it , which is what a repeater does. It is not an incredibly great equipment. It gets a signal, put more energy in it with electricity, and send out again.

In the picture above, you can see the elongated boxes on the top, which is called the Remote Radio Head (RRH), which receives the radio signal and performs various conversions (analog to digital, digital to analog, amplification or attenuation etc.). That was pretty mych it until 3G world, but as 4G came along, It also came to include repeater functions. The RRH is made by Samsung and LG. So, as the number of base stations increased, the sales of The Company increased, because the base station was built by a large company and telecommunication companies purchased the repeater from the communication equipment company like The Company. However, as telecommunication paradigm moved to 4G, big brothers started to put the repeater function into the RRH, and the RRH shown in the picture above includes the repeater function. Still, there are demands for repeaters, such as an underground parking lot or building. If you go to the underground parking lot or the basement of the building, you can find some repeater antena on the ceiling. That's it. The bottom line is that demand for repeaters for base stations is decreasing. Sales can not be maintained without new products. Of course, the repeater market will not disappear completely, but it surely declines. So, this company is trying to build the base station. Below is the optical repeater of The Company :

Other VoIP equipment and LAN equipment are not making much sales. The above repeater price is about KRW 6 million per unit, which is almost the same price as the overheated competition. From 2018 to 2019, it is expected to be the starting point of 5G investment. Perhaps the base station repeater will not sell much and the 5G repeater in the building will be the core of sales.

So what about the defense industry? The main product is PRE. PRE is an abbreviation of Position Reporting Equipment. It looks like this:

What is it doing during the military operation? A soldier carrying it and asked, "Where are we?" vWhen you need to find out the position where you are , you turn it on and get the coordination. There is also the ability to 'see' the location so that commanders will know where their units are. There is a military grade GPS in it. There is also a satellite location reporting system, which uses satellite networks (such as iridium phones and satellite phones) to report location information around the world. It is difficult to export as they are strategic materials and foreign marketing capability is not so great. In the defense industry, sales are roughly KRW 25bn and operating margin is 5%. The company has only one customer, the army. So revenue for the defence business is stable, but doesn't have much growth potential at the same time. The PRE shown in the picture is about 5 million won.

DME and DVOR are the flagship products of aviation navigation equipment. Navigation safety systems are not used in aircraft, but are used in airports and control systems. This industry has fairly high barriers to entry because of the reliabillity concern of customers, and The Company have just got over the barrier to start gaining position. Their sales in this field are around KRW 8 billion, operating loss is KRW 2.2 billion, and net loss is KRW 4.2 billion, which accounts for most of The Company's losses. Sales fell 3 billion from last year, operating loss got worse by KRW 1.8 billion, and net loss down to KRW 4 billion. It is a company that still does not earn money. Domestic sales at the Airport Control Center dropped from KRW 6 billion in 2015 to KRW 300 million in 2017, and exports increased from KRW 4.4 billion in 2015 to KRW 8.5 billion in 2017, but still long way to go black.

DVOR stands for Doppler VOR and VOR again stands for VHF Omnidirectional Range. Name is quite long. This equipment is rounded up to shoot a 360-degree radio wave, and an aircraft approaching gets them and compute its entry angle information.

DVOR looks like the above picture. The radio waves are being sent out from the antenna-like ones. Then the airplane picks up the radio and says, "Oh, I'm here, I need to make a left turn early," or "It will be right when I land on that direction.". If you are wondering how much distance remains to the DVOR, you need to install DME (Distance Measuring Equipment) module which looks like below :

The elongated cylindrical object on the end is DME. If you install it, It sends out the signal to the airplane and pilot gets to know the remaining distance to the airport. It is a necessary device and a device with a lot of entry barriers. DVOR costs about KRW 400 million per unit.

The bottom line is that they do not have killer products. The only upside potential is the aviation equipment business.

Management and Major Stakeholders

The major shareholder is Park Byung-ki, who was born in 1959 and used to be a researcher of Keumsung Information and Communication untill 24 years ago. His stake is about 35.22%, including relatives' holdings. Park Byung-ki established the KISAN system in 1993 and has been running this company for 25 years. He studied electronic engineering in Korea University.

Valuation Memo

There are no tangible assets, but they have a certain level of technology. For the defense business, which has little competition. It should be judged by technological value of communication field. It is also a deficit enterprise. Although there would be a big possibility for stock overshooting, it is better to approach conservatively because all affiliates can be shaken with small issue. Overally the company has weak fundamental health.

Financial Matters

Since management are well noted that they have serious business problem as well as financial one, they seems to have tried many things to cover their loss or potential loss. One among them is to invest their cash into financial market products such as equity fund or fixed income securities. Approximately KRW 6 billion are invested in financial instruments such as funds and other securities. They even have put money into subordinated tranches of CDO. Subordinated tranche of CDO's credit rating is C , which is worse than speculative grade. There is no reason to buy such investment instrument for a manufacturing company unless the bank makes a loan and forced them to buy it in return.

Comments on Technical Analysis

See below chart :

Above chart looks like saying "you have to buy this!". The momentum for upward has been quite strong, and the resistance was penetrated. But who knows as chart lies all the time. However, something seems happening technically. With proper mindset for loss-cut, riding over the momentum might be an opportunity. But i rather don't buy since fundamantal of the company is not very attractive.

If I am the CEO

I will normalize the aviation business and pay more attention to foreign currency funds management. In recent years, some portion of the sales was made by the base station construction. I think it would be good to have more orders of the base station for 5G.