(034730 KS) Five growth strategies to drive up NAV Holding companies Company Update November 23, 2015 (Maintain) Buy Target Price (12M, W) 330,000 Share Price (11/20/15, W) 243,000 Expected Return 36% OP (15F, Wbn) 1,827 Consensus OP (15F, Wbn) - EPS Growth (15F, %) 2,929.5 Market EPS Growth (15F, %) 21.0 P/E (15F, x) 3.2 Market P/E (15F, x) 11.5 KOSPI 1,989.86 Market Cap (Wbn) 17,098 Shares Outstanding (mn) 71 Free Float (%) 48.4 Foreign Ownership (%) 24.2 Beta (12M) 0.87 52-Week Low 196,500 52-Week High 320,500 (%) 1M 6M 12M Absolute -10.0-3.0 11.0 Relative -7.8 4.3 9.2 150 130 110 90 Daewoo Securities Co., Ltd. [Holding Companies/IT Services] Dae-ro Jeong +822-768-4160 daero.jeong@dwsec.com Yoon-seok Seo +822-768-4127 yoonseok.seo@dwsec.com KOSPI 70 11.14 3.15 7.15 11.15 Retain Buy and TP of W330,000; Our top pick for 2016 As an operating holding company, is focusing on five key areas it believes are essential to ensuring sustainable growth. We believe the company is well positioned to implement its vision given its ample cash flow and ICT capabilities. As the company executes its growth strategies, we expect the value of the operating business and subsidiary stakes to increase, supporting a potential upward revision in our target price. We maintain our Buy call on with a target price of W330,000. Five growth strategies to drive up NAV 1) IT services (in-house): The company is seeking to raise its IT services capabilities to global top-tier levels, using cloud, big data, and IoT technologies. As part of such efforts, the company established a joint venture called F with Taiwanese firm Foxconn (Hon Hai Precision Industry). Through the joint venture (70% owned by Foxconn and 30% by ), the company plans to acquire Daiwa Associate Holdings, a Hong Kong-based manufacturer of smart sensors and parts for the Internet of Things (IoT). Looking forward, we expect the company to gain various opportunities related to smart factory projects for Foxconn s Chongqing plants. 2) ICT security convergence and smart logistics (in-house): The company is aiming to establish a security convergence platform (information security and physical security) and expand into security devices (sensors, etc.), as well as biometrics- and video surveillance-related software. The company is also looking to enter the business of smart logistics using big data and IoT. The company will initially focus on bolstering its capabilities on the back of captive (affiliate) demand until 2016 and then work on broadening its global presence, especially in China through its partnership with Hon Hai, from 2017. 3) Bio/pharmaceuticals (SK Biopharmaceuticals and SK Biotek): SK Group plans to fully integrate its value chain (R&D, manufacturing, and marketing) by 2018. After this, SK Biopharmaceuticals will consider going public and acquire developers with strong potential. Currently, SK Biopharmaceuticals is focusing its resources on developing central nervous system agents and seeking licensing-out deals with global companies. In particular, the drug company has successfully completed the phase 2b clinical trial for its lead epilepsy treatment (YKP3089) and is expected to move onto the phase 3 trial. Assuming manufacturing and sales begin in 2018, we estimate annual revenue to reach W1tr. SK Biotek, which was spun off from SK Biopharmaceuticals in April, manufactures and sells active pharmaceutical ingredients (API) and intermediates to multinational drug companies. The company plans to invest W70.1bn to expand its API capacity by 2019 with the aim of increasing its annual revenue to W100bn by 2020. 4) LNG (SK E&S): SK E&S is aiming to integrate its LNG value chain and expand its LNG capacity to 5mn tonnes by 2020. The LNG business enjoys cost advantages due to direct access to cheap gas in the US and Australia. SK E&S is also expected to secure new business opportunities in China through partnerships with local companies like Huadian Group and China Gas Holdings. 5) Semiconductor module (Essencore) and materials (M&A, JV, etc.): The semiconductor module business (Essencore) aims to achieve W1.5tr in revenue by 2019. The semiconductor materials business is looking to acquire or form a joint venture with a company with global technology in order to tap into the fast-growing materials market. FY (Dec.) 12/11 12/12 12/13 12/14F 12/15F 12/16F Revenue (Wbn) 1,702 2,242 2,302 2,426 41,476 99,362 OP (Wbn) 176 201 225 272 1,827 5,842 OP margin (%) 10.3 9.0 9.8 11.2 4.4 5.9 NP (Wbn) 438 356 189 127 5,427 1,513 EPS (W) 8,765 7,122 3,777 2,546 77,130 21,498 ROE (%) 25.3 15.8 8.4 5.5 41.2 9.3 P/E (x) 13.3 14.5 35.7 83.9 3.2 11.3 P/B (x) 2.4 1.9 2.4 3.6 1.3 1.3 Notes: All figures are based on consolidated K-IFRS; NP refers to net profit attributable to controlling interests Source: Company data, estimates Analysts who prepared this report are registered as research analysts in Korea but not in any other jurisdiction, including the t U.S. PLEASE SEE ANALYST CERTIFICATIONS AND IMPORTANT DISCLOSURES & DISCLAIMERS IN APPENDIX 1 AT THE END OF REPORT.
Table 1. SK Group s growth framework ICT New growth portfolio Growth areas Related companies (1) IT services SK C&C, etc. (2) ICT convergence (3) Bio/ pharmaceuticals (4) LNG SK E&S SK C&C, Infosec, NSOK, etc. SK Biopharmaceuticals Details - Extend the coverage of IT services, establish overseas footholds through business partnerships, and broaden cloud-based offerings - Security convergence platform (information security and physical security) - Expand into security devices (sensors, etc.) as well as biometrics- and video surveillance - related software - Integrate the pharmaceuticals value chain, including R&D, manufacturing, and marketing, by 2018 - Take SK Biopharmaceuticals public in 2018 and acquire drug developers with strong potential - Integrate and expand LNG value chain in the group; expand the capacity of LNG business to 5mn tonnes by 2020 - Benefiting from cost advantages (due to direct access to cheap gas in the US and Australia) and captive demand - Expected to partner with a Chinese firm in the near future to secure new business opportunities (5) Semiconductor modules/materials SK C&C, Essencore, SK Hynix, etc. - Semiconductor module business (Essencore) aims to achieve W1.5tr in revenue by 2019 - Plans to acquire a firm with global technology to secure stable footing in the market Source: Company data, Figure 1. SK Group roup s s corporate governance and current business portfolio Chey Tae-won and related parties Chey Chang-won and related parties major shareholders CheyTae-won23.4% CheyGi-won7.5% Treasury shares15.7% 30.9% 99.4% Infosec SKChem smajor shareholders CheyChang-won14.7% CheyShin-won0.1% Treasury shares15.5% 17.3% SK C&C+ [034730 KS] 50.0% 10.0% Encar SKSecurities [001510 KS] 28.2% SK Chemicals [006120 KS] 25.2% 33.4% 41.8% 39.1% 100% 83.1% 100% 100% 44.5% 25.4% SK Telecom [017670 KS] SK Innovation [096770 KS] SKC [011790 KS] SKNetworks [001740 KS] SKForest SK Shipping SK E&S SK Biophram SK E&C 100% 20.1% 48.9% 64.5% 83.5% 100% 100% 66.0% 50.0% 44.0% 45.6% SK SK Broadband SKHynix iriver Communications [000660 KS] [060570 KQ] SK Telink SKPlanet [066270 KQ] SK Syntec Initz Entis UBcare [032620 KQ] SK Gas [018670 KS] 32.8% SKD&D [210980 KS] Source: Table 2. major shareholders Name Number of shares Ownership Value Chey Tae-won 16,465,472 23.4 4,001 Noh So-young 8,616 0.0 2 Chey Gi-won 5,250,000 7.5 1,276 Chey Shin-won 5,736 0.0 1 Total of related parties 21,729,824 30.9 5,280 Notes Best Leap Enterprises 2,450,000 3.5 595 100% subsidiary of Foxconn Holdings Other 31,644,533 45.0 7,690 (%, Wbn) Total treasury shares 14,535,940 20.7 3,532 Original 11,021,664 15.7 stake in SK C&C (31.8%) became treasury shares after 2,678 merger Newly acquired 3,514,276 5.0 854 Share buyback completed (9/11/2015 11/11/2015) Total number of issued shares 70,360,297 100.0 17,098 Notes: Based on Nov 20 th, 2015 closing price Source: Dart, 2
Table 4. quarterly and annual earnings Table 3. 15 earnings review (Wbn, %) 15 Growth 14 15 (Former SK (Former SK Former SK Former SK C&C) C&C) Results C&C Holdings QoQ YoY (Jul-Sep) (Aug Aug-Sep Sep) Revenue 613 678 15,358 679 14,679 2,164.5 2,403.7 Operating profit 71 78 478 75 403 511.8 572.0 Net profit 112 160 4,910 - - 2,976.7 4,295.7 OP margin 11.6 11.5 3.1 11.1 2.7-8.4-8.5 Net margin 18.2 23.5 32.0 - - 8.4 13.8 Notes: Net profit attributable to controlling interests; merged with SK C&C on August 3 rd, 2015; 15 results refer to the sum of the former SK C&C s results (July-September) and the former August and September results Source: 2014 2015F 4Q Annual 4QF Annual (Wbn) 2016F Revenue 29,169 27,833 27,967 28,069 110,666 24,035 24,350 23,496 24,798 96,679 99,362 Operating profit 833 837 794 176 2,396 1,144 1,628 1,064 1,194 5,030 5,842 Equity-method income 210 225 299 316 1,050 275 262 243 225 1,005 875 Pretax profit 795 797 794-1,185 988 1,295 1,590 6,058 643 9,586 5,501 Net profit 513 562 565-1,243 370 985 1,101 5,825 427 8,339 3,718 Net profit attributable to controlling interests 225 204 197-1,131-506 431 384 5,283 149 6,248 1,393 Notes: Bargain purchase gains of W4.99tr recognized as other non-operating income in 15 through merger Source: estimates Table 5. Quarterly and annual earnings of former SK C&C (IT services) and major subsidiaries 2014 2015F 4Q Annual 4QF Annual (Wbn) 2016F Revenue 524 608 613 681 2,426 641 678 679 764 2,762 3,289 IT services 294 350 335 390 1,368 313 322 310 405 1,350 1,723 Non-IT 230 258 279 291 1,058 329 356 369 359 1,412 1,566 Distribution (Encar) 171 172 178 159 680 166 170 180 164 679 742 Semiconductor modules (Essencore) 40 64 75 102 280 144 157 158 162 622 707 Security services (Infosec) 19 23 26 30 98 19 28 31 33 112 117 Operating profit 55 66 71 79 272 77 78 75 92 323 797 Source: estimates 3
Table 6. Earnings of SK Group s s major consolidated subsidiaries SK Innovation (33.4%) SK K Telecom (25.2%) SK Networks (39.1%) SKC (42.5%) SK E&S (100 100%) SK E&C (parent parent) (44.5%) SK Shipping (83.1%) 2014 2015F 4Q Annual 4QF Annual (Wbn) 2016F Revenue 16,878 16,261 16,609 16,117 65,865 12,046 12,998 12,447 12,036 49,528 51,678 Operating profit 232-50 49-463 -231 321 988 364 323 1,995 1,892 OP margin 1.4-0.3 0.3-2.9-0.4 2.7 7.6 2.9 2.7 4.0 3.7 Revenue 4,202 4,305 4,367 4,289 17,164 4,240 4,256 4,261 4,327 17,084 17,558 Operating profit 252 546 537 490 1,825 403 413 491 507 1,813 2,153 OP margin 6.0 12.7 12.3 11.4 10.6 9.5 9.7 11.5 11.7 10.6 12.3 Revenue 6,089 5,506 5,443 5,370 22,408 4,859 5,160 5,101 5,366 20,486 21,135 Operating profit 41 45 53 62 201 32 38 59 86 216 253 OP margin 0.7 0.8 1.0 1.2 0.9 0.7 0.7 1.2 1.6 1.1 1.2 Revenue 668 746 682 803 2,899 701 632 632 632 2,597 2,690 Operating profit 32 45 36 44 157 61 59 55 53 228 240 OP margin 4.7 6.0 5.3 5.5 5.4 8.8 9.4 8.7 8.4 8.8 8.9 Revenue 2,015 1,096 904 1,624 5,639 1,859 879 682 1,608 5,029 5,129 Operating profit 198 94 84 94 470 182 67 23 89 362 373 OP margin 9.8 8.6 9.3 5.8 8.3 9.8 7.7 3.4 5.5 7.2 7.3 Profit from Discontinued Operations 14-4 27-23 14 93-2 0 0 90 0 Revenue 1,680 2,020 2,062 2,716 8,477 2,110 2,148 2,248 2,749 9,255 9,678 Operating profit 11 44 7-20 41 19 12 21 2 54 86 OP margin 0.6 2.2 0.3-0.7 0.5 0.9 0.6 0.9 0.1 0.6 0.9 Revenue 630 550 562 603 2,345 522 500 504 652 2,178 2,314 Operating profit 32 15 6 47 100 58 40 38 42 178 185 OP margin 5.0 2.8 1.1 7.8 4.3 11.0 8.0 7.6 6.4 8.2 8.0 Source: Table 7. SK Biopharmaceuticals major pipeline Sleep-wake disorders (SKL-N05) Epilepsy (YKP3089) Chronic constipation/ Irritable bowel syndrome (YKP10811) Acute seizures (PLUMIAZ) Dementia/ cognitive impairment (SKL 15508) Current stage Details Signed out-licensing deal with Jazz Pharmaceuticals (US); Plan to go on sale in 2018 Will receive engineering fees during clinical Phase 3b clinical trials underway trials (under technology export deal with Jazz) and royalties once drug goes on sale Secured copyright in 12 Asian countries; Plans to engage in direct marketing Phase 3b clinical trials expected to begin in 4Q15 Phase 2b clinical trials underway Global release planned for 2018; Direct Results expected to come out in July revenue (approximately W1tr annually) expected Plans to sign out-licensing deals with global drug companies in 16 Signed out-licensing in 2010 with Acorda Therapeutics (US supplier of drugs for central nervous system disorders) Conducting phase 2a clinical trials independently Source: Phase 2b clinical trials underway Submitted NDA Phase 2a clinical trials underway 4
Table 8. SK Biopharmaceuticals consolidated income statement (Wbn) 2011 2012 2013 2014 Revenue 37.6 51.8 60.5 72.4 CMS 108.1 113.0 Development of new drugs 10.1 16.1 (adjustment) -57.8-56.7 Cost of sales 27.4 37.7 44.4 46.6 Gross profit 10.2 14.1 16.1 25.9 SG&A 32.6 50.1 60.2 65.1 Operating profit -22.3-36.0-44.2-39.2 OP margin -59.4% -69.5% -73.0% -54.2% CMS 4.7 7.8 OP margin 4.4% 6.9% Development of new drugs -48.9-46.7 OP margin -484.9% -289.6% (adjustment) 0.1-0.3 Financial income 4.9 9.2 6.4 6.2 Financial expenses 1.3 1.4 1.9 2.5 Non-operating income 2.6 1.2 0.3 0.6 Non-operating expenses 4.6 3.0 3.2 1.2 Pretax income -20.7-30.0-42.6-36.2 Corporate tax -1.2 0.4-1.6 0.8 Net profit -19.5-30.3-41.0-37.0 Source: Dart, Figure 2. SK Group s bio business value chain Tae-won Chey and related persons 30.9% SK C&C+ (034730 KS) 100% SK Biopharm (New drug development) 100% 100% Figure 3. SK Biopharmaceutical s s global peer UCB (UCB BB Equity) UCB's financial data (US$mn) 2011 2012 2013 2014 Revenue 4,519.8 4,451.7 4,161.6 4,442.5 Cost of sales 1,410.5 1,393.9 1,281.8 1,398.9 Gross profit 3,109.3 3,057.8 2,879.8 3,043.6 Operating profit 484.6 537.5 349.3 362.7 OP margin 10.7% 12.1% 8.4% 8.2% Pretax profit 324.4 338.2 160.7 147.5 Net profit 331.4 320.2 212.5 277.7 ($mn,x) SK Biotech (Supplies pharmaceutical ingredients) Source: SKLife Science (US) Market cap P/E P/B EV/EBITD A 2015F 16,752 39.5 2.9 22.4 Source: Bloomberg, 5
Table 9. Valuation of (Wbn, W) Fair value 1. Operating value 9,828 In-house businesses (SK C&C) 7,472 Notes IT services 6,487 - Based on 2016F EBITDA; applied EV/EBITDA of 18.0x Distribution (Encar) Security services (Infosec) Other (semicon. modules, etc.) Brand royalties () Real estate () 2. Value of investment assets Listed subsidiaries Unlisted subsidiaries 456 - Based on 2016F NOPLAT; applied 2015F P/E of 20.0x 207 - Based on 2016F EBITDA; applied P/E of 20.0x 322 - Based on 2016F EBITDA; applied global peer average P/E of 10.9x 2,326 12,865 3. Total asset value (1+2) 22,693 4. Net borrowings (-) 4,697 - As of 15 5. Net asset value 17,996 Number of shares outstanding ( 000 shares) NAV per share 322,369 6. Target price 330,000 - Based on brand royalty rate of 20bps (contract period: 1/1/2015-12/31/2017 30 - Investment properties as of 15 7,800-20% discount based on market price 5,065 - Book value and relative valuation 55,824 - Outstanding shares (excluding treasury stock) Current share price 243,000 - As of Nov. 20, 2015 Upside potential 35.8% Source: Table 10. investment securities (Wbn, W) Listed subsidiaries Stake Book value Current price Valuation SK Innovation 33.40% 3,945 124,000 3,830 SK Telecom 25.20% 3,091 233,000 4,745 SK Networks 39.10% 906 5,900 573 SKC 42.30% 255 36,750 566 SK Securities 10.00% 28 1,140 36 Unlisted subsidiaries Notes 9,749 - As of Nov. 20, 2015 5,065 - Applied book value SK E&S 100.00% 1,315 3,535-2016F P/E of 8.0x SK Biopharm 100.00% 329 329 SK E&C 44.48% 470 267 SK Shipping 83.08% 421 332 SK Forest 100.00% 61 61 Other 541 541 Source: 6
APPENDIX 1 Important Disclosures & Disclaimers 2-Year Rating and Target Price History Company (Code) Date Rating Target Price (034730) 08/30/2015 Buy 330,000 04/27/2015 Buy 290,000 03/08/2015 Buy 270,000 03/07/2014 Buy 170,000 02/06/2014 Buy 150,000 11/01/2013 Buy 140,000 (W) 400,000 300,000 200,000 100,000 0 Nov 13 Nov 14 Nov 15 Stock Ratings Industry Ratings Buy : Relative performance of 20% or greater Overweight : Fundamentals are favorable or improving Trading Buy : Relative performance of 10% or greater, but with volatility Neutral : Fundamentals are steady without any material changes Hold : Relative performance of -10% and 10% Underweight : Fundamentals are unfavorable or worsening Sell : Relative performance of -10% Ratings and Target Price History (Share price ( ), Target price ( ), Not covered ( ), Buy ( ), Trading Buy ( ), Hold ( ), Sell ( )) * Our investment rating is a guide to the relative return of the stock versus the market over the next 12 months. * Although it is not part of the official ratings at Daewoo Securities, we may call a trading opportunity in case there is a technical or short-term material development. * The target price was determined by the research analyst through valuation methods discussed in this report, in part based on the analyst s estimate of future earnings. * The achievement of the target price may be impeded by risks related to the subject securities and companies, as well as general market and economic conditions. Equity Ratings Distribution Buy Trading Buy 72.77% 13.86% 13.37% 0.00% * Based on recommendations in the last 12-months (as of September 30, 2015) Disclosures As of the publication date, Daewoo Securities Co., Ltd and/or its affiliates do not have any special interest with the subject company and do not own 1% or more of the subject company's shares outstanding. Analyst Certification The research analysts who prepared this report (the Analysts ) are registered with the Korea Financial Investment Association and are subject to Korean securities regulations. They are neither registered as research analysts in any other jurisdiction nor subject to the laws and regulations thereof. Opinions expressed in this publication about the subject securities and companies accurately reflect the personal views of the Analysts primarily responsible for this report. Daewoo Securities Co., Ltd. policy prohibits its Analysts and members of their households from owning securities of any company in the Analyst s area of coverage, and the Analysts do not serve as an officer, director or advisory board member of the subject companies. Except as otherwise specified herein, the Analysts have not received any compensation or any other benefits from the subject companies in the past 12 months and have not been promised the same in connection with this report. No part of the compensation of the Analysts was, is, or will be directly or indirectly related to the specific recommendations or views contained in this report but, like all employees of Daewoo Securities, the Analysts receive compensation that is impacted by overall firm profitability, which includes revenues from, among other business units, the institutional equities, investment banking, proprietary trading and private client division. At the time of publication of this report, the Analysts do not know or have reason to know of any actual, material conflict of interest of the Analyst or Daewoo Securities Co., Ltd. except as otherwise stated herein. Disclaimers This report is published by Daewoo Securities Co., Ltd. ( Daewoo ), a broker-dealer registered in the Republic of Korea and a member of the Korea Exchange. Information and opinions contained herein have been compiled from sources believed to be reliable and in good faith, but such information has not been independently verified and Daewoo makes no guarantee, representation or warranty, express or implied, as to the fairness, accuracy, completeness or correctness of the information and opinions contained herein or of any translation into English from the Korean language. If this report is an English translation of a report prepared in the Korean language, the original Korean language report may have been made available to investors in advance of this report. Daewoo, its affiliates and their directors, officers, employees and agents do not accept any liability for any loss arising from the use hereof. This report is for general information purposes only and it is not and should not be construed as an offer or a solicitation of an offer to effect transactions in any securities or other financial instruments. The intended recipients of this report are sophisticated institutional investors who have substantial knowledge of the local business environment, its common practices, laws and accounting principles and no person whose receipt or use of this report would violate any laws and regulations or subject Daewoo and its affiliates to registration or licensing requirements in any jurisdiction should receive or make any use hereof. Information and opinions contained herein are subject to change without notice and no part of this document may be copied or reproduced in any manner or form or redistributed or published, in whole or in part, without the prior written consent of Daewoo. Daewoo, its affiliates and their directors, officers, employees and agents may have long or short positions in any of the subject securities at any time and may make a purchase or sale, or offer to make a purchase or sale, of any such securities or other financial instruments from time to time in the open market or otherwise, in each case either as principals or agents. Daewoo and its affiliates may have had, or may be expecting to enter into, business relationships with the subject companies to provide investment Hold Sell 7
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