Improve Korea Improving the Economy by Addressing the Korea Discount - - PowerPoint PPT Presentation

Improve Korea

Improving the Economy by Addressing the Korea Discount

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

Our Thinking on Economic Democratization

Korean corporations have been and continue to be strong, innovative and profitable. They create significant economic value. But this value seldom benefits minority shareholders. Koreans should share in the value created by Korean companies either directly as shareholders

• r indirectly through pension and saving plans.

We at Dalton Investments LLC, a long-term value-oriented investment management firm with approximately four billion dollars of assets under management, believe stocks are appropriate means for economic democratization as they can be owned with minimal capital and affect a majority of Koreans, at least through the National Pension and retirement pensions.

Jan 2019 Page 4

The Korean Stock Market Has Been One of the Worst Performing Markets for the Last 7 Years...

13% 28% 30% 21% 37% 39% 41% 39% 25% 38% 25% 72% 31% 26% 33% 12% 10% 16% 28% 21% 38% 40% 46% 62% 53% 71% 39% 99% 133% 137%

0% 20% 40% 60% 80% 100% 120% 140% 160% 180%

• Jan. 2012 to Dec. 2018 (7 years)

Cumulative Total Shareholder Return

Dividend Yields Price Change

Source: Bloomberg; Assuming dividends reinvested in the indexes

Jan 2019 Page 5

…Despite Rising Operating Profits of Korean Companies

Source: FN Guide; Kiwoom Securities

₩0 ₩20 ₩40 ₩60 ₩80 ₩100 ₩120 ₩140 ₩160 ₩180 ₩200 '12 '13 '14 '15 '16 '17 '18E

KOSPI 200 Operating Profit (KRW T)

KOSPI 200 (ex. Semi) Semiconductor Sector

Jan 2019 Page 6

Resulting in the “Korea Discount” - Korean Companies are Valued at Book Value (5-year average)

0.0 0.5 1.0 1.5 2.0 2.5 3.0 Korea Japan China Europe Taiwan ASEAN World US

5 year average Price to Book Ratio (‘13-’17) by MSCI Indexes

Source: Bloomberg, MSCI (Morgan Stanley Capital International Index) *Economic Value Added = Capital x (Return on Capital – Cost of Capital)

P/B=1 implies that the underlying business is expected to not create any “economic value added”*

Jan 2019 Page 7

“Korea Discount” Has Grown Worse

Source: Bloomberg, MSCI

0.8 0.9 1 1.1 1.2 1.3 1.4 1.5

MSCI Korea Price to Book Ratio

Lower than levels seen during the Global Financial Crisis

Jan 2019 Page 8

Koreans Who Own Approx. 70% of the Korean Stock Market are Most Hurt by the Stock Market Underperformance

Source: Korean Financial Investment Association - FreeSis; FN Guide – Company Guide; Korea National Pension Service. *Stock

• wnership analysis on 58 business groups (account for approx. 75% of Korean stock market) show that majority shareholder & related individuals

account for approx. 10% and Korean firms (limiting to ownership in subsidiaries & affiliates) account for approx. 19% of Korean stock market.

30% 20% 10% 7%

0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% KOSPI & KOSDAQ

Korean Stock Ownership Estimate*

Foreigners Korean National Pension Majority Shareholder & Related Individuals Korean Firms (Limited to

• wnership in subsidiaries

& affiliates) Korean Institutional & Individual Investors

67%

Jan 2019 Page 9

Korea National Pension Service ($570B*) Invests 17% of Its Assets in Korean Equities and is Therefore Directly Impacted

Source: Korea National Pension Service Investment Management *As of Oct. 31, 2018 **Jan. 1, ‘18 to Oct. 31, ‘18

48% 19%

17%

11% 4%

Korea National Pension Fund $570B*

Others Foreign Fixed Income Alternative Investments Domestic Equities Foreign Equities Domestic Fixed Income 10.4% 10.4% 2.3% 7.0% 4.2% 5.3% 4.6%4.8% 7.3%

• 0.6%
• 2%

0% 2% 4% 6% 8% 10% 12%

Korea NPS Investment Returns

Jan 2019 Page 10

Korea National Pension Fund ($570B*) is Forecast to be Depleted in 2057 Due to a Rapidly Aging Population

Source: Korea National Pension Service *As of Oct. 31, 2018

671,383 780,610 1,078,656 1,378,515 1,641,860 1,776,319 1,777,883 1,768,941 1,673,943 1,244,339 384,976 (123,881)

• ₩500,000

₩0 ₩500,000 ₩1,000,000 ₩1,500,000 ₩2,000,000 2018 2023 2028 2033 2038 2043 2048 2053 2058

Korea National Pension Fund Forecast (KRW B) Forecasts Depletion Year 1st Forecast (‘03) 2047 2nd Forecast (‘09) 2060 3rd Forecast (‘13) 2060 4th Forecast (’18) 2057

NPS Depletion Forecasts

Jan 2019 Page 11

Contributions to Retirement Accounts Are Approximately 17% , and Higher Contribution Rates are Being Discussed

9% 8%

National Pension Retirement Pension

Estimated Contribution by Majority of Koreans (% of Wages)

Jan 2019 Page 12

Korean Private Retirement Pension Assets have Grown Rapidly but Performance has been Mediocre

Source: Korea Financial Supervisory Service - 2017 Retirement Pension Accumulation & Investment Status; Mirae Asset Retirement Institute; Fidelity Investments

$0 $50 $100 $150 $200 $250 $300 $350 $400

Korea Retirement Pension Asset ($ B)

2% 3% 9%

0% 1% 2% 3% 4% 5% 6% 7% 8% 9% 10% Korea Average Inflation Korea US

3% Korean pension returns vs. 9% U.S. pension returns (estimated average annual returns over the 9 years until 2017)

Jan 2019 Page 13

Unsurprisingly, Koreans have chosen to invest in non-financial assets (e.g., real estate)

Source: OECD; Bloomberg

75% 74% 69% 67% 66% 57% 58% 43% 35%

0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% Korea Australia France Germany Italy Canada UK Japan US

Low % of Household Investments in Financial Assets (Estimated, ‘13-’16)

Non-financial assets Financial assets

Jan 2019 Page 14

Investment in Real Estate Has Ballooned Household Debt

Source: National Assembly Budget Office; Bank of Korea

7.4% 7.2% 3.5% 3.4% 3.0% Secured loan Overall financial debt Income Total assets Unsecured loans

Korea Household Financial Debt CAGR (2012 to 2017)

753 818 861 910 969 1,074 1,199 1,295 1,352 $0 $200 $400 $600 $800 $1,000 $1,200 $1,400 $1,600 '10 '11 '12 '13 '14 '15 '16 '17 '18 3Q

Korea Household Debt ($, B)

Jan 2019 Page 15

Elderly Poverty Rate and Self-employment Rate are High in Korea

Source: OECD *Even if adjusted with assets, Korea’s rate is estimated to be 21% while other countries are not adjusted

46% 26% 21% 19% 14% 13% Korea* Australia US Japan UK OECD Average

Elderly Poverty Rate Estimates (2017)

25% 17% Korea OECD Average

Self Employment Rate Estimates (2017)

7th out of 35 countries

Jan 2019 Page 16

Korea’s GDP Growth Rate is Slowing and Youth Unemployment is Increasing

Source: Statistics Korea - Korean Statistical Information Service

0% 1% 2% 3% 4% 5% 6% 7% 8% 9% '00 '01 '02 '03 '04 '05 '06 '07 '08 '09 '10 '11 '12 '13 '14 '15 '16 '17 '18E

Korea Real GDP Growth Rate

0% 2% 4% 6% 8% 10% 12% '00 '01 '02 '03 '04 '05 '06 '07 '08 '09 '10 '11 '12 '13 '14 '15 '16 '17 '18

Korea Unemployment Rate

Unemployment Rate Youth Unemployment Rate

Jan 2019 Page 17

Growth in Household Consumption Has Lagged Growth in Korean Corporate Profits

Source: Bank of Korea; Factset; MSCI *For listed companies that comprise MSCI Korea index

2% 5% 6% 15% Household Consumption Household Income All Corporation Profits MSCI Korea Profits*

Estimated Korean Consumption vs Korean Corporate Profit Growth Rates (2008 to 2017, CAGR)

Jan 2019 Page 18

Korean “Manufacturing” Ranks Much Higher Globally than Korean “Consumption and Services”

Source: World Bank

Topics Global Rankings Population 27th Manufacturing Value Add as a % of GDP 8th / 216 countries & economies (2016) Household & Non Profit Consumption as a %

• f GDP

183th / 212 countries & economies (2016) Services Value Add as a % of GDP 126th / 208 countries & economies (2016)

Estimates of Korea’s Global Rankings

Jan 2019 Page 19

Korea’s Fixed Capital Formation is High by Global Standards

Source: OECD; World Bank

20% 22% 24% 26% 28% 30% 32% 34% 36% 38% 40%

Gross Fixed Capital Formation (as % of GDP)

Korea OECD World

Jan 2019 Page 20

…and Ranks Very High Globally in R&D Expenditures and Patents Filed

Source: Bloomberg Innovation Index 2018 rank 2017 rank YoY change Economy Total score R&D intensity Manufacturing value-add Productivity High-tech density Tertiary efficiency

Researcher concentration

Patent activity

1 1

• S. Korea

89.28 2 2 21 4 3 4 1 2 2 Sweden 84.7 4 11 5 7 18 5 8 3 6 +3 Singapore 83.05 15 5 12 21 1 7 12 4 3

• 1

Germany 82.53 9 4 17 3 28 19 7 5 4

• 1

Switzerland 82.34 7 7 8 9 11 17 17 6 7 +1 Japan 81.91 3 6 24 8 34 10 3 7 5

• 2

Finland 81.46 8 16 10 13 19 6 4 8 8 Denmark 81.28 6 15 11 15 26 2 10 9 11 +2 France 80.75 12 35 14 2 10 21 9 10 10 Israel 80.64 1 27 9 5 41 1 19 11 9

• 2

U.S. 80.42 10 23 6 1 42 20 2 12 12 Austria 79.12 5 8 15 26 12 12 5 13 16 +3 Ireland 77.87 22 1 1 18 20 14 33 14 13

• 1

Belgium 77.12 11 22 13 10 37 13 21 15 14

• 1

Norway 76.76 19 37 19 11 23 8 14

Bloomberg Innovation Index: Korea is #1 for last 5 consecutive years

Jan 2019 Page 21

Yet Korean Company Return on Equity is Very Low by Global Standards

0% 2% 4% 6% 8% 10% 12% 14% 16% Japan Korea Europe World ASEAN Taiwan US China

5 year average Return on Common Equity* (‘13-’17) by MSCI Indexes

Source: Factset, MSCI *Calculated as Net Income for Common Shareholders / Common Equity

Excluding Samsung Electronics & SK Hynix

Jan 2019 Page 22

Possible Reasons for Poor Capital Allocation and Low ROE of Korean Companies

Little Focus on “Economic Value Added”* Excessive Risk Taking Prioritizing Affiliates & Corporate Groups Ahead of Minority Shareholders

*Economic Value Added = Capital x (Return on Capital – Cost of Capital), often viewed as more effective measure in assessing value creation than nominal, accounting profits

Jan 2019 Page 23

Korean Corporate Structure Allows Disproportionate Control by Major Shareholders

Illustration of Typical Korean Corporate Group Structure

A A1 A2 A11 A12 A21 A22

• Major shareholder group own 30% (4% of total group value)
• Minority shareholders own 70%
• Company A owns 30%
• Minority shareholders own 70%
• Company A owns 30%
• Minority shareholders own 70%
• Company A1 owns 30%
• Minority own 70%
• Company A1 owns 30%
• Minority own 70%
• Company A2 own 30%
• Minority own 70%
• Company A2 own 30%
• Minority own 70%

Major shareholder able to control entire corporate group with just 4% stake*

*Assumes the value of each company is 100; Major shareholder group personal stake value = 100 x 30% personal stake in the holding company A = 30; Total corporate group aggregate value = 100 x 7 companies = 700; 30/700 = 4.3%

Jan 2019 Page 24

And Korean Companies’ Total Payouts to Shareholders are Low

17% 32% 46% 35% 58% 45% 58% 40% 1% 1% 3% 17% 2% 28% 19% 57% 0% 20% 40% 60% 80% 100% 120% Korea China ASEAN Japan Taiwan World Europe US

Average Total Payout Ratio* (as % of Net Income) from 2011 to 2017 by MSCI Indexes

Dividend Payout Ratio Share Repurchase Ratio

Source: Factset, MSCI *Calculated as (Cash dividends paid + Share repurchase amount) / Net Income; Net income already reflects investments and therefore high payout ratio does not necessarily mean low investments.

Jan 2019 Page 25

High Dividend Income Tax Rates in Korea vs Other Countries

*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.

0% 24% 42%

0% 5% 10% 15% 20% 25% 30% 35% 40% 45% Hong Kong US* Korea

Estimated Dividend Income Tax Rates (For Income > $1M)

….may discourage companies from paying dividends and encourage other ways to distribute company’s wealth

Jan 2019 Page 26

Higher Management Ownership Has Been Accompanied by Higher Value of Related Party Transactions

Source: Korea Fair Trade Commission – 2018 Related Party Transactions Status of Public Filing Required Corporate Groups

0% 5% 10% 15% 20% 25% 30% 35% 40% 45% 50% < 20% > 20% > 30% > 50% 100%

Related Party Transactions (as % of revenue) by Major Shareholder Ownership

Major Shareholder Family Major Shareholder Heir The greater the stakes held by major shareholder, the greater the value of related party transactions with affiliated companies Stakes

Jan 2019 Page 27

Korean Companies Rank Poorly on Protection of Minority Shareholders

Source: World Economic Forum 2017

Korea’s Global Competitiveness Rankings (Out of 138 Countries)

• Protection of minority shareholders’ interests: 97
• Ethical behavior of firms: 98
• Efficacy of corporate boards: 109

Jan 2019 Page 28

Korea vs Taiwan

Despite similar economic characteristics, Taiwan’s ROE, payout ratio, and Price to Book ratio are much higher, and Taiwanese are richer than Koreans

Korea Taiwan

GDP per capita (Nominal, ‘17) $29,891 $24,577 GDP per capita (PPP, ’17) Intl$41,390 Intl$52,300 GDP growth rate (‘17) 3.1% 2.8% Mean wealth per adult (‘17) $160,609 $188,081 Net financial assets per capita (‘17) €30,220 €90,260 Manufacturing as % of GDP (‘16) 27% 31% 5 year avg. ROE (‘13-’17) 9% (7%)* 12.8% (11.4%)** 5 year avg. Price to Book ratio (‘13-’17) 1.0x 1.8x

• Avg. dividend payout ratio (since ‘10)

17% 58%

Source: IMF; Credit Suisse Research Institute - Global Wealth Report; Allianz - Global Wealth Report; Factset; MSCI; Bloomberg *Excl. SEC & SK Hynix **Excl. TSMC

Jan 2019 Page 29

What Happens If Korea’s Price to Book Ratio Rises to Taiwan’s Price to Book Ratio?

0.0 0.5 1.0 1.5 2.0 2.5 3.0 Korea Taiwan

5 year average Price to Book Ratio (‘13-’17)

Source: Bloomberg, MSCI, Korea National Pension Service Investment Management *Calculated by applying 80% appreciation to the

• verall Korean stock market value (approx. $1.4T) and NPS’ Korean stocks holdings value ($97B)

+80%

$1,100B in Korea stock market value $80B (+15%) in NPS asset value

200 400 600 800 1,000 1,200 Korea Stock Market Value

+$1,100B

Estimated Impact*

Jan 2019 Page 30

What Happens If Korea’s Payout Ratio Rises to Levels in Taiwan or the U.S.?

17% 58% 40% 1% 2% 57% 0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% Korea Taiwan US

Total Payout Ratio

Dividend Payout Ratio Share Repurchase Ratio

Source: Bloomberg; MSCI *Current Earnings yield (Net Income / Market Value) was 11.6% assuming unchanged stock prices

2% 7% 11%

Korea Now Korea catching up Taiwan Korea catching up US

Total Shareholder Return Yield Estimates (As of Dec. 26, 2018)*

Jan 2019 Page 31

Higher Stock Prices Benefit Everyone

• Through National Pension Service and retirement pensions, increased

shareholder value would impact a majority of Koreans

• Increased consumption and job creation would positively impact the majority of

Koreans

• A healthier stock market could encourage greater stock ownership broadly across

the population

• 17% of the NPS is invested in stocks and only 2% (approximately) of private

pensions are invested in stocks.

• In contrast, US retirement pensions invest approximately 60% in stocks, and
• ther developed countries are also known to invest approximately 50% in stocks

Source: National Pension Service Investment Management Company; Korea Financial Supervisory Service – 2017 Retirement Pension Accumulation & Investment Status; Investment Company Institute – 2018 Investment Company Fact Book; Willis Towers Watson – Global Pension Asset Study 2018