Reborn as a clean growth story; a new Buy

Transcription

1 Reborn as a clean growth story; a new Buy Initial Opinion Equity Republic of Korea Chemicals-Major 17 June 21 BUY Restructuring cleans up underperforming assets; a new Buy We initiate coverage on (KIC) with a Buy rating and PO of W77,. In our view, the company appears set to deliver high growth via its hybrid yet competitive assets following successful completion of governance restructuring and subsequent relisting (1Q21) designed to separate underperforming assets. The restructuring has transformed KIC into a company with assets with high growth potential and strong capabilities to deliver upside in both earnings and dividends. It s almost all growth assets; EPS to grow 23% in 21-12E We expect three of its four key divisions will either benefit from volume growth (industrial materials), product mix (film) or high-growth markets (fashion). We also think the industrial materials business is subject to high entry barriers, due to an oligopolistic market structure. We project KIC s EPS will grow 23% during 21-12E, due to (1) acquisition of fashion business; (2) volume growth of aramid fiber (CAGR 58%, 21-12E); and (3) improving equity gains (CAGR 26%, 21-12E). Catalysts expected for both earnings and dividend In our view, KIC s 2Q net profit should beat consensus estimates by 36%, driven by better-than-expected volume/pricing mainly from its fashion business. We expect significant upside to its dividend payout (long-term), given KIC will likely generate significant free cash flow and share it with Kolon Corp (via dividends) which needs to manage its group-wide activities. We estimate KIC s DPS to rise to W2,5 in 212E from W1,5 in 21E, assuming a payout ratio of 2%. Valuation and PO of W77, Our PO of W77,/shr (SOTP-based; sector median ranging 5-7 times EV/EBITDA for various operations and a 3% discount to investments) implies 8.8X 21E P/E, 7.4X 21E EV/EBITDA, and 1.6X 21E P/B. Risks to PO: FX rate fluctuations, input cost volatility, and slower-than-expected demand growth. Estimates (Dec) (W) E 211E 212E Net Income (Adjusted - mn) NA NA 145,81 179,94 221,581 EPS NA NA 8,717 1,759 13,248 EPS Change (YoY) NA NA NA 23.4% 23.1% Dividend / Share NA NA 1,5 2, 2,5 Free Cash Flow / Share NA NA 1,148 4,925 1,63 Joon Ho Lee >> Research Analyst Merrill Lynch (Hong Kong) joonho.lee@baml.com Kenneth Whee >> Research Analyst Merrill Lynch (Hong Kong) kenneth.whee@baml.com Stock Data Price W55,3 Price Objective W77, Date Established 17-Jun-21 Investment Opinion C-1-9 Volatility Risk HIGH 52-Week Range W41,1-W58,9 Mrkt Val / Shares Out (mn) US$753 / 16.7 Average Daily Volume 2,354 BofAML Ticker / Exchange XKLNF / KSC Bloomberg / Reuters 1211 KS / 1211.KS ROE (21E) 19.2% Net Dbt to Eqty (Dec-29A) % Est. 5-Yr EPS / DPS Growth NA / NA Free Float 56.% Valuation (Dec) E 211E 212E P/E NA NA 6.34x 5.14x 4.17x Dividend Yield NA NA 2.71% 3.62% 4.52% EV / EBITDA* NA NA 6.21x 5.67x 5.16x Free Cash Flow Yield* NA NA 2.8% 8.91% 18.2% * For full definitions of iqmethod SM measures, see page 22. c58da9b71df662c >> Employed by a non-us affiliate of MLPF&S and is not registered/qualified as a research analyst under the FINRA rules. Refer to "Other Important Disclosures" for information on certain Merrill Lynch entities that take responsibility for this report in particular jurisdictions. Merrill Lynch does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. Refer to important disclosures on page 23 to 25. Analyst Certification on Page 21. Price Objective Basis/Risk on page 21. Link to Definitions on page

2 17 June 21 iqprofile SM Key Income Statement Data (Dec) E 211E 212E (W Millions) Sales NA NA 2,88,319 3,36,1 3,241,138 Gross Profit NA NA 62, , ,995 Sell General & Admin Expense NA NA (37,72) (4,76) (427,18) Operating Profit NA NA 232, ,89 297,887 Net Interest & Other Income NA NA (84,61) (81,795) (75,148) Associates NA NA 51,164 64,479 8,797 Pretax Income NA NA 199, ,493 33,535 Tax (expense) / Benefit NA NA (53,926) (66,553) (81,955) Net Income (Adjusted) NA NA 145,81 179,94 221,581 Average Fully Diluted Shares Outstanding NA NA Key Cash Flow Statement Data Net Income NA NA 145,81 179,94 221,581 Depreciation & Amortization NA NA 113, 115, 118, Change in Working Capital NA NA (55,44) (24,93) (15,474) Deferred Taxation Charge NA NA NA NA NA Other Adjustments, Net NA NA (34,164) (48,479) (65,797) Cash Flow from Operations NA NA 169, , ,31 Capital Expenditure NA NA (15,) (14,) (9,) (Acquisition) / Disposal of Investments NA NA Other Cash Inflow / (Outflow) NA NA Cash Flow from Investing NA NA (15,) (14,) (9,) Shares Issue / (Repurchase) NA NA Cost of Dividends Paid NA NA (29,34) (38,886) Cash Flow from Financing NA NA (3,) (99,34) (118,886) Free Cash Flow NA NA 19,197 82, ,31 Net Debt NA NA 1,126,626 1,73, ,174 Change in Net Debt NA NA (19,197) (53,28) (129,424) Key Balance Sheet Data Property, Plant & Equipment NA NA 945,494 97, ,494 Other Non-Current Assets NA NA 836,42 84, ,695 Trade Receivables NA NA 393, ,4 453,759 Cash & Equivalents NA NA 21,72 4,748 54,172 Other Current Assets NA NA 477,596 59, ,995 Total Assets NA NA 2,674,394 2,75,653 2,917,116 Long-Term Debt NA NA 586, , ,311 Other Non-Current Liabilities NA NA 13, , ,264 Short-Term Debt NA NA 562,35 512,35 462,35 Other Current Liabilities NA NA 61,72 65, ,129 Total Liabilities NA NA 1,889,223 1,874,229 1,851,74 Total Equity NA NA 785, ,424 1,65,376 Total Equity & Liabilities NA NA 2,674,394 2,75,653 2,917,116 iqmethod SM - Bus Performance* Return On Capital Employed NA NA 8.3% 9.2% 1.% Return On Equity NA NA 19.2% 21.7% 22.8% Operating Margin NA NA 8.3% 8.7% 9.2% EBITDA Margin NA NA 12.3% 12.5% 12.8% iqmethod SM - Quality of Earnings* Cash Realization Ratio NA NA 1.2x 1.2x 1.2x Asset Replacement Ratio NA NA 1.3x 1.2x.8x Tax Rate (Reported) NA NA 27.% 27.% 27.% Net Debt-to-Equity Ratio NA NA 143.5% 122.5% 88.6% Interest Cover NA NA 2.9x 3.4x 4.2x Key Metrics * For full definitions of iqmethod SM measures, see page 22. Company Description Inc. manufactures a variety of chemical fibers and textiles, such as tire cord fabrics, aramid, and car air bag fabrics for industrial materials. The company also produces optical films including nylon films and polyester films for LCD films and hydrocarbon resins for chemical business. It also started fashion business with merger with FnC Kolon in 29. Investment Thesis In our view, KIC is set to deliver above-sectoraverage growth via its hybrid yet competitive assets following successful completion of governance restructuring and subsequent relisting (1Q1) designed to separate underperforming assets from KIC. We project rapid EPS growth over 21-12, given (1) acquisition of a fashion business, (2) volume growth at aramid fiber (CAGR 58%, 21-12E), and (3) improving equity gains (CAGR 26%, 21-12E). Chart 1: Sales breakdown, as of end 29 Fashion 13% Others 18% Film 23% Industrial materials 2% Chemicals 26% Source: Company data, BofA Merrill Lynch Global Research Chart 2: EBITDA breakdown, as of end 29 Film 29% Fashion 1% Chemicals 25% Industrial materials 36% Source: Company data, BofA Merrill Lynch Global Research Stock Data Price to Book Value 1.2x 2

3 17 June 21 Bull & Bear case Company or Theme Bull case Bear case BofAML view Industrial materials Tire cord: Higher-than-expected new car sales globally and recovery in replacement and OE tire market. Tire cord: Slowdown in new car sales globally and slower-than-expected recovery of replacement and OE tire market. Chemicals Film Fashion Source: BofA Merrill Lynch Global Research Aramid fiber: Faster-than-expected normalization post-capacity addition and sustainable double-digit margin (2%). Stronger-than-expected demand in plastics and lower-than-expected input cost pressure for hydrocarbon resin (C5/C9) and phenol. Continued momentum in LCD module cycle. Product mix improvement shifting to more value-accretive optical film (LCD-related) and electronic materials. V-shape recovery in domestic economy. Continued momentum in outdoor and sportswear market due to continued uptrend in the well-being and health segment. Aramid fiber: Slower-than-expected ramp-up of newly added capacity and fierce competition with global major companies. Mounting input cost pressure driven by oil price hike in the absence of meaningful demand recovery in hydrocarbon resin and phenolic resin. Slowing demand in LCD module and slowerthan-expected ramp-up of newly-added optical film. Market share weakening due to fierce competition with The North Face (No 1 player) in domestic outdoor and sportswear market. Slowness in domestic consumption. Tire cord: We estimate tire cord market continue to grow at 3% CAGR during E driven by volume increase in OE tire and replacement tire on the back of recovery of global automotive industry. Aramid fiber: We estimate 11% of EBIT margin in 21E for aramid fiber of Kolon Ind, given higher overhead cost during ramp-up period in 1Q1 vs. management guidance of 15% EBIT margin in 21E. We remain cautious on the commodity chemical space, given a large wave of capacity additions, mostly from China (21 onwards). We view the margin trend of Kolon Ind s chemical business will likely taper off, given input cost pressure in the absence of strong demand recovery (especially for phenolic resin division). BofAML hardware team maintains bullish case on LCD cycle driven by strong LCD TV demand and forecasts tight supply and demand condition in the next two years. We view outdoor and sportswear market in Korea will grow 1/11% in 21E/11E due to continued strong demand in leisure wear on the back of domestic economy recovery. BofAML Global Research forecasts 6.2% GDP growth in 21E. Investment thesis We initiate coverage of (KIC) with a Buy rating and 12- month SOTP based price objective of W77,, implying 4% upside potential. In our view, KIC is set to deliver above-sector-average growth via its hybrid yet competitive assets following successful completion of governance restructuring and subsequent relisting (1Q1) designed to separate underperforming assets from KIC. We project KIC s EPS will grow 23% during 21-12E, given (1) acquisition of a fashion business; (2) volume growth at aramid fiber (CAGR 58%, 21-12E); and (3) improving equity gains (CAGR 26%, 21-12E). In addition, we expect 2Q earnings are likely to surprise on the upside which will likely beat consensus by 36% on our estimates; our projections are net profit of W48bn (up 34% QoQ) on 6% QoQ top-line growth due to better-thanexpected volume/pricing mainly from the fashion business. at a glance KIC is a newly listed (as of 1 Feb 21) core operating arm within the Kolon Group following de-merger from Kolon Corp (a holding company, 22 KS, Not Covered) effective end-29. It is a diversified chemical manufacturer specializing in four major domains, namely (1) industrial materials (tire cord, air bag fabric and aramid etc); (2) chemicals (hydrocarbon/phenol resins); (3) film (packaging and LCD-related optical film); and (4) fashion (outdoor and sportswear) representing 2%/26%/23%/13% of total revenues in 29, respectively. 3

4 17 June 21 Post-restructuring; earnings power enhanced With the five-year group-wide restructuring completed as of end 29, we believe the company is set to deliver enhanced growth/return at its core operations as well as subsidiaries from 21E vs. pre-demerger status given completed volume gains across the board, acquisition of a fashion business, and realignment of subsidiaries to profitable business. However, the company s growth story is not well appreciated by the Street yet which we believe it is mainly due to persistent negative perceptions of marginal businesses (ie, synthetic fiber) as well as subsidiaries poor performance (lossmaking LED manufacturer, Neoview) over the past three years before de-merger even though these underperforming assets have been separated from KIC. (1) Full impact from acquisition of fashion business We expect the fashion (formerly FnC Kolon) business to post full-year EBIT of W53bn in 21E vs. W19bn in 29 (pre-demerger), which only reflected five months EBIT from Aug through Dec in 29 post-acquisition. (2) Capacity increases across the board completed in end-9 Hydrocarbon resin: capacity hiked by 11% in Nov 29 to 1ktpa from 9ktpa, translating into incremental EBIT of W7.6bn in 21E, on our estimates; Optical film: as of Nov 29, the production capacity of optical film rose to 114ktpa (up by 15%) to meet strong LCD module demand. Our estimates suggest incremental EBIT of W5.6bn; Aramid fiber: volume gains to 5ktpa (up 15% YoY) are likely to boost EBIT by W2.6bn, based on our conservative EBIT margin assumption (11% in 21E vs. 16% in 29) reflecting higher overhead cost at the early stage of ramp-up. Chart 3: KIC: 29 EBIT (pre-demerger) vs. 21E EBIT Chart 4: KIC restructuring process vs. EBIT during E 25 2 Wbn Wbn * Restructuring Industrial materials Chemicals Film Fashion Others Synthetic fiber * Merged Kolon Chemicals *Spun off Kolon Plastics & sell off high absorbant polymer * Merged FnC Kolon (Fashion) * Scrapped Spandex * Spun off synthetic fiber EBIT (predemerger) Volume increase in ind materials Aramid expansion Optical film expansion Hydrocarbon resin expansion FnC acquisition effect 21E EBIT (5) (1) * New investment (28) Aramid Pre demerger LCD Film Glass Fiber reinforced plastic pipe Second thick optical film E 211E 212E Post Source: Company data, BofA Merrill Lynch Global Research Source: Company data, BofA Merrill Lynch Global Research 4

5 17 June 21 EPS growth CAGR 23% during 21-12E We expect the company to register EPS growth of 23% CAGR during 21-12E due to the combination of the following: Higher earnings contribution from fashion business: we forecast fashion business to post EBIT growth of 19% CAGR during 21-12E due to its significant leverage (72% of total fashion division s revenue in 29) to the fast-growing outdoor and sportswear market where we see a growth of CAGR 15% during the same period as well as its pole position in the domestic market (No 2 player with 22% market share) aided by macro tailwinds. (Refer to page 14 for more details on fashion division). Value-accretive volume gains at aramid fiber: our estimates suggest that aramid fiber (a specialty fiber) is likely to deliver EBIT growth of CAGR 69% during 21-12E on account of volume gains (CAGR 58% during 21E-12E) as well as improving EBIT margins of 11%/14%/16% in 1E/11E/12E vs. 16% in 29, respectively. Kolon Ind is No 3 manufacturer globally with 9% market share. Product mix improvement in film business: we estimate EBIT at film business to grow 18% CAGR during 21-12E due to its product mix improvement shifting to value-accretive optical film (LCD related) from commoditized packaging film for food and confectionary segment. We believe the company to continue to enhance optical film portion in base film segment to 5% by 212E from 3%/2.9% in 29/26, respectively. Improving equity method gains: in our view, equity method gains will likely rise to W51bn/W65bn/W81bn in 1E/11E/12E vs. negative W7bn in 29 (pre-demerger) due to the absence of loss-making subsidiary, Neoview, a LED manufacturer, which was transferred to Kolon Corp post-demerger, as well as higher contribution from profitable subsidiaries ie, SKC Kolon PI (5% JV with SKC, polyimide film manufacturer using for FPCB) and Kolon Glotech (manufacturing car sheet fabric and dealing in imported car business) driven by favorable end-market demand. Chart 5: Incremental EBIT analysis from 21E to 212E Chart 6: Equity gains likely turn into positive territory from 21E W bn E E (2) (4) (6) (1) (32) Total equity gains (2) Equity loss from Neoview (7) (8) 15 21E EBIT Volume gains at aramid EBIT gain at EBIT gain at film fashion Volume gains at aramid EBIT gain at EBIT gain at film fashion Chem margin squeeze 212E EBIT (1) (12) (92) E 211E 212E Source: BofA Merrill Lynch Global Research estimates Source: BofA Merrill Lynch Global Research estimates 5

6 17 June 21 Chart 7: Historical average NPM of realigned subsidiaries, 7-9 % Kolon Glotech 9 NPM 1. SKC Kolon PI 7.7 KNC Source: BofA Merrill Lynch Global Research estimates 3 year average of net profit margin 6.4 Kolon Plastics 3.9 Cambridge 8-9 NPM 2.9 KFM Chart 8: Equity method gains contribution by subsidiaries, 1E-12E Wbn 9 Kolon Glotech KFM (Kolon Fashion Materials) SKC Kolon PI (Polyimide Film) Hana Capital KNC Others E 211E 212E Source: BofA Merrill Lynch Global Research estimates Table 1: KIC s subsidiaries snapshot Subsidiaries Stakes (%) Description Cambridge Kolon 7.8 Manufacturing and distributing men's suits and women's line and business casual wear Kolon Glotech 53.8 Manufacturing car sheet fabric, artificial-lawn and imported car business (BMW) Kolon Fashion Material 67.1 Synthetic fiber business Kolon Plastics 1 Engineering plastics producers for car bumper and interior materials SKC Kolon PI 5 Joint venture with SKC specializing in Polyimide film using for FPCB Kolon Nanjing Co 1 Manufacturing tire cord and car air bag in Nanjing China Source: Company data, BofA Merrill Lynch Global Research 6

7 17 June 21 Potential catalysts Strong 2Q results expected; upside risk to consensus We believe 2Q results are likely to beat the Street s consensus by 36% at the bottom line. We estimate 2Q net profit to register W48bn (up 34% QoQ) on sales growth of 6% QoQ due mainly to the normalization of utilization rates at aramid fiber and LCD-related film post-capacity additions ended 1Q1 and good seasonality for fashion wear. Chart 9: Kolon Ind: 2Q1E results vs. street s expectation 1Q1 Actual BofA ML est 2Q1E QoQ (%) Cons est 2Q1E BofA ML vs. Cons Sales Industrial materials % Chem % Film % Fashion % Others % Total sales % 773.1% EBIT Industrial materials % Chem % Film % Fashion % Others (3) (3) NA Total EBIT % % EBIT margin (%) Industrial materials 1.% 13.1% Chem 6.3% 8.2% Film 9.1% 11.9% Fashion 6.3% 8.8% Others -2.2% -2.1% Total EBIT margin (%) 6.1% 8.4% Net profit % % Net profit margin (%) 5% 6% 5% Source: Bloomberg, BofA Merrill Lynch Global Research estimates Potential upside to dividend payout We view KIC as a good vehicle to gain exposure to the group-controlling family s interests and expect significant upside to its dividend payout in the longer term, given KIC will likely generate significant free cash flow and share it with Kolon Corp (via dividends) who needs to manage its group-wide activities. We estimate DPS to rise to W2,5 in 212E from W1,5 in 21E, assuming a payout ratio of 2%. Tire cord expansion in China; LT positive KIC announced that it plans to increase its tire cord capacity at Kolon Nanjing Co (KNC) in China by 12ktpa (up 8%) to 27ktpa by 2H211 with capex of W38bn, according to the filing at the Korea Stock Exchange on 2 May 21. We take this report as a LT positive, given potential market share gain to 17.5% from current 13% in the globally oligopolistic tire cord market (No 2 player worldwide) in the absence of capacity additions by its competitors. We estimate incremental net profit of W4bn (assuming 5% net profit margin at KNC) which represents 25% of total incremental equity method gains in 212E. 7

8 17 June 21 Investment risks Foreign exchange rate risk At the operating level, appreciation of the Korean won against the US$ is negative; in 29 exports represented 55% of total revenue. Our sensitivity analysis shows that a 1% appreciation of the Korean won against the US$ would reduce 21E EBIT by 5.5%. We used our BofAML economic team s FX forecast (average won against US$): W1,1 for 211E/212E, respectively. Higher-than-expected input cost High input costs of core feedstock (PTA, MEG and C5/C9) are the key downside risk to our investment case. However, the impact of input cost variance is relatively limited, given the company s low-cost structure on top of pricing power due to pole positions in each business segments. Our sensitivity analysis suggests that a 1% PTA/MEG and C5/C9 price change would impact Kolon Ind s 21E EBIT by 2.4%. Weak balance sheet We view KIC s balance sheet as weak, as measured by net debt/equity (143% in 21E) and net debt/ebitda of 3.1 times in 21E, given its exposure to capital intensive sectors (chemicals, industrial materials and film) plus recent series of acquisitions with FnC Kolon and Kolon Chemicals prior to demerger as of end- 29. However, we forecast its net debt/equity to decline to 115% and 79% in 211E and 212E on the back of strong operating cash flow in the absence of large capital outlays during our forecast period. 8

9 17 June 21 Valuation Our 12-month PO of W77, per share, based on a sum-of-the-parts valuation, suggests 4% upside potential from the current share price. The PO implies 8.8X 21E P/E, 7.4X 21E EV/EBITDA and 1.6X 21E P/B. We used a SOTP analysis for our central valuation methodology to capture the value of each individual business segment given the nature of the company s diversified business portfolio. In addition, we factored in potential dilution impact on our NAV, assuming BW exercise on a conservative approach. Core operations: We valued the company s core operations using 21E EV/EBITDA multiples of peers (6X for industrial materials, 7X for film, 5X for fashion) except chemicals, which is valued on 21E EV/EBITDA mid-cycle (6X) multiple of BofAML APR Chemicals. Investments: We applied a 3% discount to its current book value of its investment asset, given lack of liquidity and market value for Capro (638 KS, Not Covered). Chart 1: KIC SOTP analysis (W bn) s core EV 2,95 Industrial materials 653 Valued on 21E EV/EBITDA multiple of peers (6X) and EBITDA (W19bn) Chemicals 468 Valued on 21E EV/EBITDA mid-cycle multiple of BofA ML APR Chemicals (6X) and EBITDA (W78bn) Film 658 Valued on 21E EV/EBITDA multiple of peers (7X) and EBITDA (W94bn) Fashion 316 Valued on 21E EV/EBITDA multiple of peers (5X) and EBITDA (W63bn) Investments Investments in subsidiaries 462 Valued at book value except Capro at market value (3% discount) Sum of the parts value 2,557 Net debt 1,67 Assuming cash inflow in case of BW exercise Net asset value (NAV) 1,491 Shares outstanding if BW exercised (mn) 19.4 NAV diluted by BW exercise (W) 77, Current share price (W) 55,3 Potential upside/(downside) (%) 4% Source: BofA Merrill Lynch Global Research estimates Chart 11: Regional valuation comparison Price BofML Share Mkt. Cap P/E (x) EV/EBITDA (x) P/B (x) ROE (%) Curr ticker Rec Price (US$m) 29 21E 211E 212E 29 21E 211E 212E 29 21E 211E 212E 29 21E 211E 212E KRW XKLNF 1 - Buy 55,3 753 na na na na Industrial materials Hyosung Corp KRW na na 76, 2, Chemical LG Chem KRW LGCLF 1 - Buy 3, 16, PTT Chemicals THB XUAJF 1 - Buy 17. 4, Indorama Ventures THB XIRDF 1 - Buy 2.4 2, Formosa Chem & Fibre TWD XFUMF 3 - Underperform , na na na na Formosa Plastics TWD FSAPF 3 - Underperform , Film Nitto Denko JPY NDEKF 1 - Buy 3,185. 6,67 na Cheil Industries KRW CLFUF 1 - Buy 91, 3, Fashion LG Fashion KRW na na 26, Handsome KRW na na 14, Source: Bollmberg, BofA Merrill Lynch Global Research estimates 9

10 17 June 21 Earnings drivers Industrial materials division Industrial materials division represented 2% and 36% of its total revenue and EBITDA in 29, generating 13% of averaged EBIT margin during 25-9 (predemerger). We forecast EBIT of industrial materials division to rise to W71bn/W83bn/W93bn in 21E/11E/12E vs. W66bn of 29 EBIT (predemerger), respectively. Key driver is the volume gains in a niche market product (aramid fiber), which is likely to represent 53%/86%/71% of incremental EBIT in 21E/11E/12E, respectively, at industrial materials division, on our estimates. We expect industrial materials division to continue to post stable earning streams in our forecast period, given its pole position in seller s markets for core products - global No 3 in tire cord and aramid fiber, No 1 in domestic car airbag market; augmented by volume gains in aramid fiber (58% CAGR during 29-12E) due to a gradual recovery in automobile sector, which are the end markets for tire cord and car airbag fiber. Chart 12: Industrial materials - sales / EBIT margin trends W bn Sales (LHS) OPM (RHS) Pre-demerger E 211E 212E 16% 14% 12% 1% 8% 6% 4% 2% % Chart 13: EBIT contribution by products at industrial materials 1% 9% 8% 7% 6% 5% 4% 3% 2% 1% % 11% 8% 8% 12% 2% 14% 7% 7% 12% 2% 42% 4% 24% 6% 7% 1% 18% 28% 6% 6% 9% 18% 36% 34% 29 21E 211E 212E Tire cords Car airbag Technical Yarn Chamude SPB Aramid Source: Company data, BofA Merrill Lynch Global Research estimates Source: BofA Merrill Lynch Global Research estimates Table 2: Global para aramid capa, end 29 Country Company Capa (KMT) US DuPont Advanced Fibre Systems 2. UK DuPont (UK) Ltd 4. Netherland Teijin Aramid bv 23. Russia OAO Kamenskvolokno 1. Japan DuPont-Toray 2.5 Teijin Aramid bv 2. China Yantai Spandex 1. Korea 5. Total 58.5 Source: Industry data, BofA Merrill Lynch Global Research Aramid fiber; key growth driver We view Kolon Ind s aramid fiber business as its new growth driver, and forecast it to contribute 14%/24% /29% of 1E/11E/12E total EBIT at industrial materials vs. 11% in 29 EBIT (pre-demerger). This is due to timely volume accretion in a niche market where potential growth is at an annual rate of 1% in the next three years driven by strong demand in various applications amid tight supply. Aramid fiber is a high-end specialty synthetic product characterized by its superb heat resistance (more than 5 C) and strength (five times of the strength of steel) for various industrial applications, ranging from aerospace, defense (bullet proof vest fabric), automotive (brake lining, high-end tire cord) to optical fiber cable system. Despite strong demand, the supply is tight as only three manufacturers share the US$2bn aramid (para) fiber market worldwide; Dupont, Teijin and Kolon Industries with 45%/43%/9% market share, respectively, due to high entry barriers created by technology requirements. We believe the key drivers for aramid fiber business include; 1) rapid growth in armor market (bullet proof fabric) stimulated by continued security concerns (post 9/11); 2) replacement demand for asbestos in automotive brake pads; and 3) sharp rise in demand for global optical fiber cables for IT applications. 1

11 17 June 21 Chart 14: Global tire cord market, 22-8 MT Global Tire cord market CAGR 3-8: 3.1% Source: Korea Tire Manufacturers Association Tire cord; stable margin in seller s market Double-digit OPM likely to sustain Tire cord business represented 42% of total EBIT in 29 at its industrial material division with 15% of averaged EBIT margin over the past two years. We believe Kolon Ind should continue to sustain high profitability of 15%/16%/16% EBIT margins in 1E/11E/12E, on our estimates due to: Diversified customer base, mostly global top-tier tire makers; Dominant market position (No 3 worldwide) where top three makers represent more than 7% market share; Low-cost structure as raw materials (PTA and MEG) represent only 3% of total COGS of tire; Less ASP pressure from tire makers, given its minor portion (less than 7%) of total tire raw material composition. Chart 15: Solid customer base 3% % of total tire sales Global MS in Tire market 25% 2% 15% 1% 5% % Bridgestone Continental Cooper Michelin Goodyear Source: Company data, BofA Merrill Lynch Global Research estimates Beneficiary from seller s market We also believe Kolon Ind is likely to benefit from the prevailing oligopolistic market structure of tire cord on the heels of industry consolidation during 25 and 27 due to higher entry barriers created by the combination of: Long-standing relationship between tire makers and tire cord producers is unlikely to break due to safety concerns in terms of quality rather than pricing. Longer period for getting approval (nearly months) on new spec-in is likely to thwart fresh entrants to an already matured market. Technological barrier for high-end polyester tire cords (PTC) also prevents low-cost producers (ie, Chinese local maker) from entering the market. Chart 16: Positive backdrop in tire industry % E 21E PT: passenger tire RT: Replacement Tire OE: O 38. Positive industry backdrop BofAML Global Research team forecasts 6%/5%/38% YoY volume growth in passenger tires, Europe/US replacement tires and US original equipment tires on the back of gradual recovery in new car sales. Chart 17: Historical EBIT margin of Kolon s tire cord business ( 3-12) % ' EBIT margin of Tire cord Oligopolistic market post consolidation Oversupply market carnibalization by capacity addition (Hyosung and Kolon) PT Europe OE PT Europe RT PT US OE PT US RT 4 2 Industry consolidation 1) Peformance fiber acquired invista 2) Hyosung acquired post processing plant of Goodyear E 211E 212E Source: BofA Merrill Lynch Global Research estimates Source: Company data, BofA Merrill Lynch Global Research estimates 11

12 17 June 21 Chemicals division Margins likely to moderate in next two years In our view, EBIT margin at chemical division is likely to slip to 8.4%/8.4%/8.% in 21E/11E/12E due to potential margin squeeze in phenolic resin which may be offset by slight margin uptick in hydrocarbon resin. The chemical division s core products include hydrocarbon resin (C5, C9 and DCPD), phenolic resin which represent 7% and 2% of total revenue in 29, respectively. Hydrocarbon resin; stable margin due to pole position Hydrocarbon (C5/C9) resins are primarily used as additives in various industries, including tire, paint and ink etc. Its raw materials are C5 and C9 which are derived from naphtha cracking process; thus highly susceptible to naphtha price volatility. We forecast hydrocarbon spread to continue to rise by 6% YoY in 211E/12E, respectively, due mainly to passing through input cost hike underpinned by monopolistic position and a superior cost structure (raw materials represents only 3% of total COGS at hydrocarbon resin). Phenolic resin; margin contraction looming We believe phenolic resin margin is likely to decline in next three years due to mounting input cost pressure (phenol), to a less extent, imminent supply glut in phenolic resin (mostly from China) which exerts downward pressure on ASP. Our estimates suggest that phenolic resin spread is likely to decline by 12% in 211E and 17% in 212E YoY, respectively. Mounting input cost: recent phenol price hike (up 135% YoY) mainly stems from strong demand in BPA (75% of phenol demand) used for polycarbonate (for IT products; optical lens, Blue-ray disc and automotive headlamps). We expect phenol price to be strong due to continued resilient demand in polycarbonate fueled by the recovery in IT (optical/media application). Excess supply; subdued demand: Our analysis indicates that excess capacity of phenol resin in China is estimated to be 25ktpa in 21E, which is a negative on domestic phenol market given its pricing merit. Conversely, phenol demand should weaken given its diminishing scope of applications due to environmental hazards, in our view. Chart 18: Sales and EBIT margins trend at Chemicals W bn Sales in Chemical division (LHS) EBIT margin in Chemical division (RHS) % 8 9. Pre-demerger Merger with formerly Kolon Chemical E 211E 212E Source: Company data, BofA Merrill Lynch Global Research estimates Chart 19: Chemical product spreads assumptions US$/MT 1,6 Hydrocarbon resin - input cost Phenol resin - input cost 1,4 1,2 1, E 211E 212E Source: Company data, BofA Merrill Lynch Global Research estimates 12

13 17 June 21 Film division EBIT growth 18% during 21-12E We expect EBIT at film division to rise at a CAGR of 18% during 21-12E due to volume gains at optical film (+15% YoY, completed in November 29) amid sticky pricing on account of strong LCD film momentum. We think the company s continued efforts to improve product mix into value-accretive optical film plus positive momentum in IT materials driven by LCD up-cycle bode well for its film business to witness further growth. Chart 2: Improved product mix in base film % % of optical film vs total base film volume E Source: Company data, BofA Merrill Lynch Global Research estimates Shifting into value accretive film The company s revenue at film division is comprised of base film (food packaging film and optical film used for LCD film) and IT materials which accounts for 65% and 35% of total revenue in 29. Over the past four years, Kolon Ind has increased optical film portion to 3% in 29 from 2.9% in 26 in terms of volume within base film segment where we see value accretion given higher ASP (almost 2x) than commoditized packaging film evidenced by EBIT margin improvement. IT materials: benefiting from LCD up-cycle On top of improved product mix in base film, we see more growth in IT materials (mostly LCD-related film), which is a beneficiary from LCD up-cycle in 21E and 211E, according to the constructive view from BofAML Asia-Pacific Technology teams. Chart 21: Kolon Ind s film division: sales and EBIT trend W bn % 7 Sales in base film (LHS) Sales in IT materials (LHS) EBIT margin (RHS) Pre-demerger E 211E 212E Source: Company data, BofA Merrill Lynch Global Research estimates (2) (4) Chart 22: Annual LCD panel supply-demand summary Square KM Total supply (LHS) Total demand (LHS) Utilization rates (RHS) 17% 12% 16% 11% 11% 99% 97% 98% 91% 9% E 211E Source: BofA Merrill Lynch Global Research estimates 11% 15% 1% 95% 9% 85% 8% Table 3: Kolon Ind s core products at film division Film Core products Main function Applications Customers Competitors Confectionery and food Packaging film Food packaging shrinkable film Youlchon Chem etc SKC, Toray Saehan Inc packaging Base film DFR, LDF, prism film, Shinwha, LG Electronics, Mirae Optical film PET based optical film used as raw materials for other LCD films SKC, Toray Saehan Inc release film, anti-static film Nanotech, Nitto Denko, Tohcello IT materials DFR (Dry Film Resist) LDF (Light Diffusion Film) A photosensitive resin in a multilayer configuration with a carrier and cover film / used in photolithography to form precision patterns Used in LCD backlight units and to produce even brightness all over the display and to re-direct as much as possible towards the viewer PCB, PDP, Semi-conductor 3M, SEMCO, Daeduck Elec, LG Electronics TFT-LCD 3M, CMO, LG Display Shinwha Asahi Kasei, Hitachi LDP (Light Diffusion Plate) Used in LCD light guides TFT-LCD LG Display Cheil Industries Prism sheet Used for a LCD backlight unit providing both latitudinal and longitudinal convergence for the scattered lights from the diffusion film TFT-LCD LG Display, Samsung Electronics LG Electronics, Mirae Nanotech Source: Company data, BofA Merrill Lynch Global Research estimates 13

14 17 June 21 Fashion division No.2 outdoor & sportswear manufacturer Effective August 29, Kolon Ind s fashion division started from a merger with FnC Kolon (formerly), a No. 2 outdoor & sportswear manufacturer with 22% market share nationwide. Its revenue streams stem from (1) outdoor & sportswear; (2) golf & casual; (3) distribution & luxury (imported brand) which account for 65%/25%/1%, respectively, of total sales from fashion division in 29. Major competitors include The North Face with 32% market share (No.1) and K2 with 13% market share (No.3). Table 4: Kolon Ind s core brands in fashion division Outdoor & Sports Brand Type Launched Pricing Kolon Sport National 1973 High HEAD Licensed 1981 Medium/High Golf & Casual Jack Nicholaus Licensed 1985 Medium/High ELORD National 199 High Henry Cottons Licensed 1996 Medium/High Series National 24 Medium Distribution & Luxury Activ National 1984 Medium/High MARC JACOBS Imported 23 High JIMMY CHOO Imported 24 High john varvatos Imported 28 High Source: Company data, BofA Merill Lynch Global Research Well positioned in rapid growth market Korea s outdoor & sportswear market has rapidly grown at 18.5% CAGR during 21-9 vs. 3.2% CAGR of overall fashion market. In our view, higher growth for outdoor & sportswear stems from more people taking part in outdoor/sports activities catalyzed by (1) a five-day work per week implemented nationwide in 25; (2) growing awareness of well-being/health backed by improved GDP per capita. Given its significant exposure to outdoor & sportswear market, Kolon Ind had experienced rapid sales growth at 12% CAGR during 25-8, mostly contributed by outdoor & sportswear segment with 22% CAGR during the same period. We expect outdoor & sportswear market to continue to grow by 11/1% YoY in 21E/11E due to resilient demand driven by continued trend on wellbeing and health on the back of gradual recovery of domestic economy in favor of overall fashion market. Chart 23: Outdoor & sportswear market growth, during E W bn Outdoor & sports wear market size (LHS) YoY (%) (RHS) 3,5 Five day work week implemented CAGR 18.5% during , , , ,5 2 Kor-Jap World Cup , Chart 24: Fashion business sales and EBIT margin trends, E W bn % Pre merger (formerly Fnc Kolon) (LHS) Post merger () (LHS) 9 1 EBIT margin (RHS) CAGR 12% ('5-'8) E 211E 212E E 211E 212E Source: Industry data, BofA Merill Lynch Global Research Source: Company data, BofA Merill Lynch Global Researchestimates 14

15 17 June 21 Macro tailwind; signs of improvement emerging We see improved key leading macro indicators as signaling gradual recovery in domestic fashion market in 21 given historical high correlations. Both Consumer Sentiment Index (CSI) on expectations on domestic economic situation and clothing expense plan registered at 114 and 12 in 1Q1 (up 78% and 26% YoY respectively). Department sales growth (YoY) for women s formal wear, women s casual wear, men s wear, which are regarded as highly sensitive to domestic economic condition, also rose to 7.3%/ 8.2%/5.4%, respectively, in 1Q1 on higher household clothing expenses (up 6.5% YoY). In addition, BofAML economic team forecasts Korea GDP to rise to 6.2%/5.% YoY in 21E/11E,respectively, vs..2% in 29. Chart 25: Leading macro indicators heading north YoY(%) 12% 1% 8% Major leading indicators on domestic consumption showing significant recovery in 21 6% 4% 2% % -2% -4% -6% 1Q6 2Q6 3Q6 4Q6 1Q7 2Q7 3Q7 4Q7 1Q8 2Q8 3Q8 4Q8 1Q9 2Q9 3Q9 4Q9 1Q1 CSI on expectations on domestic economic situation CSI on clothing expense plan Source: Ministry of Knowledge and Economy, BofA Merrill Lynch Global Research estimates Chart 26: Department sales for clothing rising YoY (%) YoY (%) (1.) (5) (5) (1) (1.2) Women's formal wear Women's casual wear Men's wear Household's expense on clothing (1) (15) (15) 1Q6 2Q6 3Q6 4Q6 1Q7 2Q7 3Q7 4Q7 1Q8 2Q8 3Q8 4Q8 1Q9 2Q9 3Q9 4Q9 1Q1 Source: Ministry of Knowledge and Economy, BofA Merrill Lynch Global Research estimates 15

16 17 June 21 Financial forecasts and analysis Income statement Table 5: KIC income statement projection (W bn) 21E 211E 212E Revenues Industrial materials Chemicals Film Fashion Others Net revenues 2,88 3,36 3,241 Operating profits Industrial materials Chemicals Film Fashion Others (4) (4) (4) Group operating profits EBITDA Industrial materials Chemicals Film Fashion Others Group EBITDA Depreciation Industrial materials Chemicals Film Fashion Others Group depreciation Sales contribution by division (%) Industrial materials Chemicals Film Fashion Others Operating profits contribution by division (%) Industrial materials Chemicals Film Fashion Others (1.7) (1.5) (1.3) Operating margins by division (%) Industrial materials Chemicals Film Fashion Others (1.) (1.) (1.) Group Operating margin Group EBITDA margin Source: BofA Merrill Lynch Global Research estimates 16

17 17 June 21 Balance sheet Table 6: KIC s balance sheet 21E 211E 212E Assets Cash and cash equivalent Short-term financial instruments Accounts receivable Inventories Others Total current assets ,43 Net PP&E Investments Intangible assets Total assets 2,674 2,751 2,917 Liabilities and shareholders equity Short-term borrowings Accounts payable Dividends payable Accrued expenses/withholdings Income taxes payable Others Total current liabilities 1,173 1,162 1,151 Long-term debt Allowance for severance pay Deferred tax liabilities Other long-term liabilities Total liabilities 1,889 1,874 1,852 Shareholders equity ,65 Total liabilities and shareholders equity 2,674 2,751 2,917 Key ratios (%) Net debt/equity Total debt/equity Total liabilities/equity Gross debt 1,148 1, Cash and cash equivalent Net debt 1,127 1, Source: BofA Merill Lynch Global Research estimates Chart 27: KIC s Net debt/ebitda, 1E-12E W bn Net debt 1,2 Net debt/ebitda EBITDA 3.5 1, E 211E 212E. Source: BofA Merrill Lynch Global Research estimates 17

18 17 June 21 Cash flow Table 7: KIC s cash flow 21E 211E 212E Operating cash flow Net profits Equity income from affiliates (51) (64) (81) DD&A Disposal gains/(losses) Forex gains/(losses) Provision for severance pay Others Working capital changes (55) (24) (15) Cash flow from operations Investing cash flow Capital expenditure (15) (14) (9) Disposal of PP&E (Inc)/Dec in long term investments (Inc)/Dec in short term investments (Inc)/Dec in intangible assets Others Cash flows from investments (15) (14) (9) Financing cash flow Inc (Dec) in borrowings (3) (7) (8) Inc (Dec) in shareholders' equity Dividends (29) (39) Others Cash flow from financing (3) (99) (119) Net cash flow (11) (17) 49 Beginning cash Ending cash Gross cash flow Free cash flow Free cash flow (excluding WC change) Source: BofA Merill Lynch Global Research estimates Chart 28: Free cash flow (excluding working capital change), E W bn 2 Free cash flow E 211E 212E (5) (28) (44) (68) (1) Source: Company data, BofA Merrill Lynch Global Research estimates 18

19 17 June 21 Company profile Core Opco within Kolon Group (Kolon Ind) is a newly-established operating company as of 1 January 21 formed by the de-merger of its previous entity, Kolon Corp (22 KS, not covered). The company took over core operating assets from Kolon Corp consisting of four main business domains: (1) industrial materials; (2) chemicals; (3) films and (4) fashion representing 2%, 26%, 23% and 13% of total revenue in 29, respectively. Kolon Corp now functions as a holding company, primarily cultivating long-term growth engines within the Group involving bio and pharmaceutical (Kolon Life Science, Tissuegene and Kolon Pharm) and water-related environmental businesses through its subsidiary, Environmental Facilities Management and Kolon Engineering and Construction. Table 8: KIC s business snapshot Business division Key products Applications Industrial materials Tire cord Tires Car airbag Automobiles Technical Yarn Automobiles PET SPB Non-woven fabic Aramid Bullet proof weaves, automobile, cables Chamnue Shoes, gloves, car seats Chemicals Hydrocarbon resins Adhesives, paint, tires, hot-melt road marking Phenolic resins Automotive industry, tires, paint, electronic materials, Epoxy resins PU/TPU Athletic tracks, roller blade wheels etc GRP Pipe Water supply and drainage pipes, desalination facilities, gas pipes Film Packaging film Food packaging, shrinkable film Optical film DFR, LDF, Prism reflection film, release film, anti static film IT materials DFR PCB, PDP, semi-conductors LDF TFT-LCD OC TFT-LCD LDP TFT-LCD Prism TFT-LCD Fashion Outdoor & sports, golf & casual, distribution (imported luxury brands) Source: Company data, BofA Merrill Lynch Global Research Equity swap; neutral impact; focus on OpCo Kolon Corp (holding company) is the largest shareholder of with a 2% stake followed by Chairman Lee, Woong-Yul and related family holding a 16% stake in the company. In addition, Mitsui Chemical and Toray have held 2% and 7% stakes, respectively, since the establishment of their strategic partnership with Kolon Group by way of technology transfers in 196s. Given the weak group controlling stake by Kolon Corp (only 19.9% of Kolon Ind), it was announced on 24 May 21 that Kolon Corp will conduct equity swaps of the shares at into Kolon Corp via a stock issuance by 3 June 21. We think the equity swap will have a neutral impact on Kolon Ind s share price, given it is only an ownership transfer in the context of KIC. 19

20 17 June 21 Chart 29: Kolon Ind: shareholding structure, as of end March % 56% 16% 2% 7% Kolon Corp Chairman Lee & related party Toray Mitsui Chemicals Free float Source: Company data, BofA Merrill Lynch Global Research Chart 3: Kolon Group structure: pre-demerger vs. post-demerger Pre demerger Post demerger: Holding company structure Chairman Lee & related Chairman Lee & related 15.8% 15.8% 15.8% Kolon (Treasury share: 19.9%) 7.8% Cambridge Kolon Kolon (Treasury share: 19.9%) 19.9% (Opco) Industrial materials 53.8% Industrial materials 31.7% Chemicals Kolon Glotech Kolon Inet Chemicals Film 67.1% Film 42.5% Fashion Kolon Fashion Materials Kolon Pham Fashion 1% Kolon Plastics 7.5% Kolon Life Science Cambridge Kolon 5% SKC Kolon PI 36.3% Tissuegene Kolon Kolon Glotech 31.7% Kolon Inet 19.9% Kolon E&C Kolon Fashion Materials 42.5% Kolon Pham 99.7% Neoview Kolon Plastics 7.5% Kolon Life Science 6% Environmental Facilities Mgmt SKC Kolon PI 36.3% Tissuegene Kolon 2% Kolon Benit 19.9% 99.7% Kolon E&C 6% Neoview 2% Environmental Facilities Mgmt Kolon Benit Source: Company data, BofA Merrill Lynch Global Research 7.8% 53.8% 67.1% 1% 5% 2

21 17 June 21 Price objective basis & risk (XKLNF) Our 12 month PO of W77, per share is based on a sum-of-the-parts valuation using sector median 21E EV/EBITDA multiples of the peers of its various operations (6X for industrial materials, 7X for film and 5X for fashion) except chemicals, which is valued on 21E EV/EBITDA mid-cycle (6X) multiple of BofAML APR Chemicals. We applied a 3% discount to the current book value of its investment asset, given lack of liquidity and market value for Capro. Downside risks to our PO are: FX rate fluctuations, input cost volatility, and slower-thanexpected demand growth. Link to Definitions Basic Materials Click here for definitions of commonly used terms. Analyst Certification I, Joon Ho Lee, hereby certify that the views expressed in this research report accurately reflect my personal views about the subject securities and issuers. I also certify that no part of my compensation was, is, or will be, directly or indirectly, related to the specific recommendations or view expressed in this research report. Special Disclosures Korea imposes a capital gains tax on non-resident investors in Korean securities of the lesser of 27.5% of the gain or 11% of the sales proceeds unless the investor is either (1) resident in a country which has a double tax treaty with Korea that exempts the investor's capital gains from Korean tax or (2) the shares sold are sold through the Korea Stock exchange or KOSDAQ exchange and the seller (including related parties) has not owned 25% or more of the shares of the company at any time during the year of sale plus the 5 calendar years preceding the year of sale. Investors should seek their own tax advice. 21