Driving the safety train

The only player in anti-collision devices for the Railways is set to capitalise on the public sector transporter’s thrust on ‘safety’

Kernex Microsystems (India), the Hyderabad-based railway safety product manufacturer, is entering the capital market to raise Rs 99.01 crore of equity through the 100% book building route. The price band has been fixed at Rs 225 to Rs 250. The money raised will go to expand capacity of the existing product lines, develop marketing offices abroad and enhance the R&D facility for promoting other transport control systems. All the projects are to be completed by May 2007.

Incorporated as a 100% as a software developer EOU in 1991, Kernex Microsystems (India) later diversified to develop the Railways’s safety system in 1999 in technical collaboration with the Konkan Railways. The company has also developed a number of window-based utility software products and exported them in the 1993 to 2003 period. But, currently, it derives its entire revenue from manufacturing, implementing and maintaining the anti-collision devices (ACDs) for the Konkan Railway and other railways. The company has also developed auto-driving devices (ADDs) for the skybus metro pilot project in Hyderabad. The entire business of the company currently revolves around developing safety products, particularly for the Railways and other transport systems.

Kernex Microsystems (India) set up a 100% subsidiary in the US in September 2000 to implement software products of the company in that country. It is now engaged in developing and implementing software for US corporate hospitals.

Kernex Microsystems (India) plans to employ almost 70% of the issue to increase the capacity of the existing products and strengthen the R&D and testing facilities for other transport control systems.

Strengths

After a series of railway accidents, entailing the loss of many human life, the government of India has allocated Rs 31835 crore for the railway safety fund. Of this, Rs 1600 crore will go for the implementation of ACDs. This ensures good business for Kernex Microsystems (India)’s ACDs in the country.

Kernex Microsystems (India) has developed a strong managerial and technical team with proven capability in executing projects in difficult railway routes including the Konkan Railways and North Eastern Frontier Railways. The data acquisition and technological development skill have put the company at an advantage to develop safe and convenient products applicable for the logistic and transportation industries.

Kernex Microsystems (India) enjoys the monopoly of manufacturing, installing, maintaining and upgrading the ACDs for the Konkan Railways and other railways in the country. Although the company has developed the technology at its R&D facility, it has sacrificed the intellectual property (IP) rights to the Konkan Railways for exclusive manufacturing rights in the country. The technology has been developed on the basis of the data and factors mainly responsible for the various railway accidents in the country and abroad. So, it gives Kernex Microsystems (India) a technology and cost edge over other manufacturers in India and overseas.

Holding exclusive international marketing rights for ACDs with a mutually agreeable royalty payment to the Konkan Railways, Kernex Microsystems plans to open marketing offices abroad, particularly in developing countries. It will have a positive impact on the expansion of ACDs. Of the total global railway track length of 1.2 million kilometers, 70% are low to medium density tracks for which the company’s ACDs are suitable. These 84-lakh kilometer lines are likely to be provided with ACD-like equipment over the next 15 years.

Further, the skybus metro project has passed the techno-economic feasibility test and is ready for implementation on a pilot basis in Hyderabad, spanning 20 kilometers. Initially, 90 coaches will be employed. Each coach will have 2 ADDs installed in it. Kernex Microsystems (India) holds the IP rights for ADDs in the country. Many other cities have also evinced interest in implementing the system.

The promoters are technocrats and have wide experience in electronics and software industries, both in India and abroad. They possess a deep understanding of the business.

Weaknesses

In the global markets, Kernex Microsystems (India) has competitors like GE, Alstom, Alcatel, Bombardier and Union Switches, and Signal. These companies have considerable technological strength compared to the company. Currently, the company’s ACDs cater to the lower-to-medium traffic railway systems. Other companies may customise their product for these systems if they see a substantial market.

Although Kernex Microsystems (India) has gained competency in terms of client and manufacturing for ACDs and ADDs in the country, the other products in development may face competitive risk from other manufacturers in India and overseas.

For ACDs and ADDs, Kernex Microsystems (India) gets the contract on behalf of the Konkan Railways. The latter also gets royalty for ACDs. Going forward, a significant dependence on the Konkan Railways for getting project contracts may reduce the margin of the product.

As it implements product-based projects for the Railways, Kernex Microsystems (India)’s receivables are usually at a higher level. So the business is working capital-intensive.

After sales and installation of ACDs commenced, Kernex Microsystems (India)’s sales and profit surged in FY 2005. Sales jumped 342% to Rs 52.56 crore and net profit was higher by 289% to Rs 8.95 crore. In the five months ending August 2005, sales and net profit stood at Rs 19.91 crore and Rs 6.24 crore, respectively.

At the issue price of Rs 225 on an expanded equity of Rs 11.8 crore, the FY 2006 annualised EPS works out to Rs 12.7 and PE 17.7. At the issue price of Rs 250, EPS works out to Rs 13.2 and PE 19. There is no comparable listed player and PE is high for a small one-product-one-client company. Though Kernex Microsystems (India) is a single-product company right now, the potential market size is huge with hardly any competition. Moreover, its proven R&D skill, experience and rapport with the Railways’s systems and authorities will stand it in good stead for introducing more products in future.