Improve Korea Proposals to the Korean Government and the National - - PowerPoint PPT Presentation

Improve Korea

Proposals to the Korean Government and the National Assembly of Republic

• f Korea

Jan 2019 Page 1

IMPORTANT DISCLOSURES

This presentation is published by Dalton Investments LLC solely for informational purposes and is not, and may not be construed as, investment, financial, legal, tax

• r other advice.

This presentation has been compiled based on publicly available information (which has not been separately verified by Dalton Investments) and does not: (i) purport to be complete or comprehensive; (ii) constitute an agreement, offer, a solicitation of an offer, or any advice or recommendation to enter into or conclude any transaction or take or refrain from taking any other course of action (whether on the terms shown herein or otherwise); or (iii) constitute proxy solicitation or any other similar form of activity, or any advice or recommendation to take or refrain from taking any action or do or refrain from doing any act which would otherwise constitute proxy solicitation or any other similar form of activity. The market data contained in or utilized for the purposes of preparing this presentation is (unless otherwise specified) as at the end of trading hours on December 31, 2018. Changes may have occurred or may occur with respect to such market data and we are not under any obligation to provide any updated or additional information or to correct any inaccuracies in this presentation. The information herein contains “forward-looking statements.” Specific forward-looking statements can be identified by the fact that they do not relate strictly to historical or current facts and include, without limitation, words such as “may,” “will,” “expects,” “believes,” “submits,” “anticipates,” “plans,” “estimates,” “projects,” “targets,” “forecasts,” “seeks,” “could” or the negative of such terms or other variations on such terms or comparable terminology. Similarly, statements that describe objectives, plans or goals are forward-looking. Any forward-looking statements are based on current intent, belief, expectations, estimates and

• projections. These statements are not guarantees of future performance and involve risks, uncertainties, assumptions and other factors that are difficult to predict

and that could cause actual results to differ materially. Accordingly, you should not rely upon forward-looking statements as a prediction of actual results and actual results may vary materially from what is expressed in or indicated by the forward-looking statements. Many of the statements in this presentation are our beliefs, which are based on its own analysis of publicly available information. Any representation, statement or

• pinion expressed or implied in this presentation is provided in good faith but only on the basis that no reliance will be placed on any of the contents herein. You

should obtain your own professional advice and conduct your own independent evaluation with respect to the subject matter herein. We expressly disclaim any responsibility or liability for any loss howsoever arising from any use of or reliance on this presentation or its contents as a whole or in part by any person, or

• therwise howsoever arising in connection with this presentation.

In respect of the information and materials which have been prepared by us and contained herein, in the event of any inconsistency between the English language version and the Korean language version, the meaning of the English language version shall prevail.

Jan 2019 Page 2

IMPORTANT DISCLOSURES

This document is provided for informational purposes only, and does not constitute a solicitation of any shares in any investment vehicle managed by Dalton Investments LLC. Such solicitations can only be made to qualified investors by means of the private placement memorandums, which describe, among other things, the risks of making an investment. Additionally, this presentation does not constitute investment advice of any kind. All of the information in this document relating to Dalton Investments LLC or its affiliates (collectively, “Dalton” or the “Firm”) is communicated solely by Dalton, 1601 Cloverfield Boulevard, Suite 5050 N, Santa Monica, CA 90404, regulated by the U.S. Securities and Exchange Commission (SEC). SEC registration does not imply SEC endorsement. No representation or warranty can be given with respect to the accuracy or completeness of the information, or with respect to the terms

• f any future offer of transactions conforming to the terms hereof. Certain assumptions may have been made in the analysis which resulted in any information and

returns/results detailed herein. No representation is made that any results/returns indicated will be achieved or that all assumptions in achieving these returns have been considered or stated. Additional information is available on request. Opinions and estimates offered constitute our judgment and are subject to change without notice, as are statements of financial market trends, which are based on market conditions. Unless otherwise indicated, figures presented are preliminary, unaudited, subject to change and do not constitute Dalton’s standard books and records. Any estimates, projections or predictions (including in tabular form) given in this communication are intended to be forward-looking statements. Although Dalton believes that the expectations in such forward-looking statements are reasonable, it can give no assurance that any forward-looking statements will prove to be

• correct. Such estimates are subject to actual known and unknown risks, uncertainties and other factors that could cause actual results to differ materially from

those projected. These forward-looking statements speak only as of the date of this communication. Dalton expressly disclaims any obligation or undertaking to update or revise any forward-looking statement contained herein to reflect any change in its expectations or any change in circumstances upon which such statement is based.

Jan 2019 Page 3

Recommendations to Korean Government & National Assembly

• Reduce the income tax rate on dividends
• Dividends are taxed as part of overall income; for high income-earning individuals,

the rate is 42% when income exceeds 500 million Korean Won. High taxes on dividends make them less attractive as a means to distribute wealth to shareholders.

• In Hong Kong and the United States, dividend income is taxed at 0% and 23.8%*

maximum, respectively.

• Reduce inheritance and gift tax
• The maximum inheritance tax in Korea is 65%. The high inheritance tax creates a

moral hazard because major shareholders are incentivized to keep stock prices low to minimize taxes.

• I. Tax (i): reduce taxes on dividends, inheritance and gifts

*For qualified dividends; the payee must own the stock for a long enough time, generally 60 days for common stock and 90 days for preferred stock and the dividend must also be paid by a corporation in the U.S. or with certain ties to the U.S.

Jan 2019 Page 4

Recommendations to Korean Government & National Assembly

• Tax support for long-term equity investment
• In the United States, the tax rate on investments held for more than one year drops to

(a maximum of) 20% from (a maximum of) 37% for investments held for a shorter period of time. We recommend doing the same thing in Korea: reducing the tax rate

• n investments held for more than one year.
• Reducing taxes on long term investments would support long-term equity funds.
• I. Tax (ii): tax relief for long-term equity investments

Jan 2019 Page 5

Korean Investors Have Tended to Invest Very Short-term

6 19 48

Korea Global Estimated

• ptimal

Equity Institutional Investors’ Average Holding Period Estimates (Months)

Source: Korea Financial Investment Association – FreeSis; Korea Exchange – Market Data; Mercer – The Long and Winding Road

68% 32%

Trading Volume

Trading Volume Composition (Jan. 2018~ Jul. 2018)

Korean Individuals Others Mostly day traders

Jan 2019 Page 6

Recommendations to Korean Government & National Assembly

We recommend a prompt review and enactment of the pending amendments to the domestic commercial statutes, including making the electronic voting system and the cumulative voting system mandatory, and requiring the separate election of an audit committee to check the power of major shareholders.

• The 2018 electronic voting adoption rate was 26%; the cumulative voting adoption rate

was 4%; and the rejection rate of management proposals at the board of directors meeting was 0.4%. Each of these figures is extremely low. Break the logjam of pending amendments to the domestic commercial statutes

• Implementing electronic voting would allow more shareholders to easily exercise their voting

rights.

• Cumulative voting: be careful of staggering the voting period as it could corrupt true cumulative

voting.

• Separate election of an audit committee: voting rights of the largest shareholders should be

limited to secure the independence of audit committee members.

• II. Amendments to Commercial Statutes: An urgent need for change

Jan 2019 Page 7

Why is There a Need for Amendments to Commercial Laws?

Source: Korea Fair Trade Commission – 2018 Corporate Governance Status of Large Corporate Groups *Board of Director Meetings (May 1, 2017 ~ April 40, 2018)

26%

0% 10% 20% 30% 40% 50% 253 Listed Companies of 56 Largest Business Groups

2018 Electronic Voting Adoption Rate

4%

0% 5% 10% 15% 20% 25% 30% 35% 40% 45% 50% 253 Listed Companies of 56 Largest Business Groups

2018 Cumulative Voting Adoption Rate

0.4%

0% 5% 10% 15% 20% 25% 30% 35% 40% 45% 50% 253 Listed Companies of 56 Largest Business Groups

Rejection of Original BoD* Agenda due to Independent Director Oppositions, etc. Boards do not seem to function effectively Low adoption rate Low adoption rate

Jan 2019 Page 8

Recommendations to Korean Government & National Assembly

• A mandatory tender offer system requires that, when a buyer is purchasing stocks of a

company at a premium from a major shareholder with an intent to acquire the company, the buyer also purchase the stock of minority shareholders at the same price.

• In Korea, buyers often pay a very high premium only for the shares held by the controlling

shareholders and then buy the remaining shares held by the minority shareholders at a very low price (or not buy at all), which seriously violates the interests of minority shareholders.

• In extreme cases, the purchase price paid to the controlling shareholder can be 2 to 4

times that paid to the minority shareholders

• In addition, minority shareholders lose the opportunity to dispose of their stocks at an

appropriate price; the stock price may be dramatically different after the controlling shareholders and management of the company are replaced.

• Many European and Asian countries have introduced the mandatory tender offer system for

mergers and acquisitions. In the case of the United States, a fiduciary duty is legally imposed on the board of directors to protect the interests of the minority shareholders.

• III. Mergers & Acquisitions: introduce a mandatory tender offer system

Jan 2019 Page 9

Examples of Unfair Treatment of Minority Shareholders

Source: Economic Research Reform Institute – Minority Shareholder Wealth Increase Effect due to Adoption of Mandatory Tender Offer System *Not offered price but market price at the time

23,182 6,737 ₩0 ₩5,000 ₩10,000 ₩15,000 ₩20,000 ₩25,000 Majority Shareholder Stakes (23%) Minority Shareholder Stakes

Share Prices Offered by KB Financial to Hyundai Securities

16,518 7,999 ₩0 ₩2,000 ₩4,000 ₩6,000 ₩8,000 ₩10,000 ₩12,000 ₩14,000 ₩16,000 ₩18,000 Majority Sharholder Stake (43%) Minority Sharholder Stakes

Share Prices Offered by Mirae Asset Securities to Daewoo Securities

2.1x

41,213 16,700 ₩0 ₩5,000 ₩10,000 ₩15,000 ₩20,000 ₩25,000 ₩30,000 ₩35,000 ₩40,000 ₩45,000 Majority Shareholder Stakes (50%) Minority Shareholder Stakes*

Share Price Offered by Kumho to Kumho Industrial

3.4x 2.5x

Jan 2019 Page 10

Recommendations to Korean Government & National Assembly

• Provide top compensation to the professionals managing the NPS and

expand their resources.

• The National Pension Service plays an extremely important role in managing a large

pool of people’s assets and influencing the Korean equity markets, it is necessary to adopt a competitive compensation structure and increase resources to support the NPS.

• Current headquarter location and talent compensation policies have been ineffective

in retaining talent.

• IV. The National Pension Service (i): provide competitive compensation scheme

Jan 2019 Page 11

Recommendations to Korean Government & National Assembly

• Encourage long-term investment horizon.
• The Service is known to be short-term oriented in evaluating investment performance
• f equity managers
• It is critical for Korea National Pension Fund to be managed with long-term view due

to its long term liabilities

• IV. The Korea National Pension Service (ii): encourage long term investment horizon

Jan 2019 Page 12

Recommendations to Korean Government & National Assembly

• Stocks are an appropriate asset for economic democratization
• Stocks can be purchased with minimal capital
• Stocks are an easy way for the people to have part ownership in business enterprises
• The Korean stock market is one of the most undervalued in the world

One way to support stock ownership by individuals is through a default

• ption for Automatic Investment Plans
• V. Stock Ownership: support Koreans to consider owning more stocks

Jan 2019 Page 13

Recommendations to Korean Government & National Assembly

• A default option automatically allocates assets according to a pre-determined asset

mix if the subscriber of a retirement pension system does not provide specific instructions for asset allocation. The asset mix can be varied according to the subscriber’s years to retirement.

• This could reduce the current, excessively low equity investments due to oversight.

The current equity exposure for total retirement pension assets is below 2%.

• Retirement pension assets are currently at $150 billion and are expected to grow to

$400 billion by 2025. These assets need to be invested more effectively.

• The OECD recommends this practice, which already has been adopted by other

countries, such as the United States, Australia, and Japan.

• VI. Retirement Pension Funds: introducing a default option (automatic investment

system)

Jan 2019 Page 14

Recommendations to Korean Government & National Assembly

• Automatic cancellation upon share buybacks results in direct benefits to continuing

shareholders unlike share buybacks without cancellation.

• Treasury shares have been linked to abusive practices, including sales of treasury

shares to favored large shareholders and other activities that treat shareholders unequally.

• The Hong Kong Stock Exchange has a rule to automatically cancel treasury shares

upon share buybacks by an issuer. In the United States and other advanced economies, cancelling shares upon repurchase is a widely-accepted practice.

• VII. Treasury Stock: automatic cancellation when treasury stock is repurchased

Source: Korea National Petition – “Automatic cancellation of treasury shares after share repurchase” rule needs to be adopted by Korea Exchange; Financial Consumer Agency

Jan 2019 Page 15

Recommendations to Korean Government & National Assembly

Relax regulations to allow bank financial holding companies to improve their current low total payout. (The financial industry is just one example of a regulated industry; there are others.)

• Due to the minimal shareholder returns caused by regulations, domestic bank-related financial

holding companies and banks are highly undervalued, even though their profitability and capital adequacy have been fair.

• Their ROE and capital ratio are not very different from similar, major foreign companies.
• However, valuation is at below 50% of their foreign peers with average Price to Book

Ratio being only 0.5x.

• Average total payout ratio is only approximately one-third of that their foreign peers, at

approximately 25%.

• Also, companies tend to continue to pursue mergers and acquisitions that are not very attractive

from an investment perspective because the residual capital is restricted from being returned to shareholders.

• VIII. Regulated Industries: normalization of capital allocation related restrictions

Jan 2019 Page 16

Case Study: Banks and Financial Holding Companies in Korea vs Global Peers: Low Payout Ratios and Low Price to Book

0.5 1.1 1.1 1.2 1.2 1.4 0.0x 0.3x 0.6x 0.9x 1.2x 1.5x

Korea (Top 4) Hong Kong* (Top 4) US (Top 4) Taiwan (Top 4) Singapore (Top 3) Australia (Top 4)

Estimated Price to Book for Financial Holding Companies (Dec. 11, 2018)

Source: Bloomberg. *No mainland China based banks **2016 or 2017 figures for unavailable, negative or one-off numbers ***Annualized ROE as of 2018 3Q; Average of available data

25% 53% 66% 73% 77% 95% 0% 20% 40% 60% 80% 100%

Total Payout Ratio Estimates (Trailing 12 months ending 2018 3Q)**

***

Korea HK US Taiwan Singa- pore Austra- lia

ROE 10.5% 10.8% 11.7% 9.9% 12.1% 11.6% CET1 12.9% 14.8% 11.8% 10.5% 13.7% 10.6%