Seraku Co: a cheap Japanese IT-services company with good earnings quality

A while a ago I had a look at Seraku Co (stock code 6199 in Tokyo), a Japanese IT-services company with low EV/EBIT and good earnings quality. After finishing my research I bought the stock. Immediately afterwards the stock surged 7%. With this sudden price increase I did not know whether it was still extremely cheap and therefore worth blogging about. At the moment the stock is back at 1133 JPY. For that price I am sure the stock is worth blogging about.

Photo by Marvin Meyer on Unsplash

Seraku Co provides “digital integration” IT services in Japan. The company provides are IT-services for in the cloud such as IT infrastructure services, server design, construction and operation, cloud support services, many different services related to development and maintenance of (large-scale) websites, services for web-marketing communication, services related to cyber security, and services related to the Salesforce platform.

To provide these services it uses “over 3000 in-house business engineers and over 500 business partners”. The company hires people without IT experience but who are highly motivated to work. The company claims they are transformed into IT engineers with 2 to 3 months of training. Once they have more experience they can take up higher profile roles within projects or get the opportunity to create new IT businesses for the company.

The company also provides cloud services related to its IT-platform for smart agriculture and mechanical design but these services do not generate substantial revenue. The company does not spend significant amounts on research and development.

Disclosure is in Japanese. Therefore my analysis depends on the accuracy and readability of computer translations. I had a look in the last quarterly report (30 November 2024) and the annual report over the year ending on 31 August 2023.

In the annual report the auditor mentions the following key audit matters: matching costs against revenue from contracts and projects. The auditor also tried to verify this in relation to the reporting period, so when costs were incurred and revenue was booked.

The company is doing a small buyback program. At the moment almost about 1.5% of the shares have been repurchased for 266.9 million JPY. The company is not paying significant dividends. In August 2023 the company paid a much higher dividend than usually: 10.4 JPY per share instead of between 3 and 6 JPY per share. I think these are the first significant repurchases in about 10 years.

The balance sheet is strong with low to moderate leverage, a high current ratio, lots of cash and hardly any debt.

Red flag: the company has already 10 years the same auditor (Ernst & Young ShinNihon LLC)

Substantial shareholders: Representative director (chairman) Tatsumi Miyazaki 42.05%, Senior Managing Director (Operating Officer/Sales Headquarters Manager) Hiromi Miyazaki 8.41%, Miyazaki Co 6.8%. Managing Director (Operating Officer/Head of Business Management) Tomoharu Koseki also owns several hundreds of thousands USD in shares.

Last financial year three directors earned together 88.2 million JPY. They might also earn salaries as employees but I don’t think so.

In each of the last two financial years the company did not generate more than 10% of the revenue from a single customer.

There were no significant related party transactions during the last two financial years.

My take: cheap company based on EV/EBIT and EV/Revenue but not so much based on other metrics such as P/E. I have not found any governance issues. This is probably a cyclical business so I am surprised to see stable long term growth.

Clearly, when well managed also a cyclical business can be a good investment, for the right price. So, I am surprised to see the earnings per share quadruple during the last eight years, but at the same time the stock price did not even double. I think this stock is a laggard because the company is a cash hoarder and for the lack of a significant dividend.

Management might realize this. They might want to change it with shareholder friendly actions such as the recent repurchases. All in all, I think this is a good stock for a small position.

Disclosure: long Seraku Co.