Korea/Asia, Events, IPOs, Douglas Research Advisory

Douglas Kim

Korea/Asia, Events, IPOs

Event-Driven

Hyundai Construction Equipment / Event-Driven

It was announced on 10 December that Hyundai Heavy Industries Group has been selected as the <a href="https://finance.naver.com/news/news_read.nhn?article_id=0004805146&amp;office_id=018&amp;mode=LSS2D&amp;type=0&amp;section_id=101&amp;section_id2=258&amp;section_id3=&amp;date=20201210&amp;page=2" target="_blank" rel="noopener">preferred bidder</a> to acquire the 35.4% controlling stake of <a href="https://www.smartkarma.com/entities/doosan-infracore-co-ltd" target="_blank" data-smartkarma-citation="entities:3982:1" rel="noopener">Doosan Infracore (042670 KS), </a>held by <a href="https://www.smartkarma.com/entities/doosan-heavy-industries-construction" target="_blank" data-smartkarma-citation="entities:7389:1" rel="noopener">Doosan Heavy Industries &amp; Construction (034020 KS)</a>. Doosan Infracore currently has a market cap of 1.9 trillion won. Hence, a 35.4% stake in the company would be worth 663 billion won. It has been reported that the consortium led by Hyundai Heavy Industries and KDB Investment bid about 900 billion won for Doosan Infracore. Hence, the potential acquisition price would be about 36% premium to current price of Doosan Infracore (8,670 won). The final acquisition price is not yet determined so this is subject to change. <div class="content-highlight">In our view, there may be a bigger positive impact on Hyundai Construction Equipment if the HHI Group ends up acquiring Doosan Infracore. There are two major reasons. First, there are expected to some synergies between Doosan Infracore and Hyundai Construction Equipment that could have a bigger positive impact on Hyundai Construction Equipment. Second, the valuation gap between Doosan Infracore and Hyundai Construction Equipment may be reduced.</div>

It was announced on 10 December that Hyundai Heavy Industries Group has been selected as the preferred bidder to acquire the 35.4% controlling stake of Doosan Infracore (042670 KS), held by Doosan Heavy Industries &amp; Construction (034020 KS). Doosan Infracore currently has a market cap of 1.9 trillion won. Hence, a 35.4% stake in the company would be worth 663 billion won. It has been reported that the consortium led by Hyundai Heavy Industries and KDB Investment bid about 900 billion won for Doosan Infracore. Hence, the potential acquisition price would be about 36% premium to current price of Doosan Infracore (8,670 won). The final acquisition price is not yet determined so this is subject to change. In our view, there may be a bigger positive impact on Hyundai Construction Equipment if the HHI Group ends up acquiring Doosan Infracore. There are two major reasons. First, there are expected to some synergies between Doosan Infracore and Hyundai Construction Equipment that could have a bigger positive impact on Hyundai Construction Equipment. Second, the valuation gap between Doosan Infracore and Hyundai Construction Equipment may be reduced.

Korea M&A Spotlight: HHI Group Selected As Preferred Bidder for Doosan Infracore

<a href="https://www.smartkarma.com/entities/daelim-industrial-co-ltd" target="_blank" data-smartkarma-citation="entities:18095:1" rel="noopener">Daelim Industrial (000210 KS)</a> first announced its decision to form a holding company structure on 10 September 2020. Since then, Daelim Industrial's share price is down 9.2% in this period, underperforming KOSPI which is up 9.2% in the same period. On 4 December, Daelim Industrial's shareholders vote on this deal. We think the shareholders will confirm this formation of Holdco/spin-off. Over the years of following the Korean stock market, we have found that the shareholders sometimes do not like the initial spin-off story which knocks the price downwards but later on the share price makes a positive turnaround. In our view, Daelim Industrial could be one of these spin-off related turnaround plays that could outperform the market over the next 6 to 12 months.  Daelim Industrial is one of the largest construction companies in Korea. It makes some of the finest apartments in Korea. The housing business (mostly apartments construction) accounted for 54% of total sales and 78% of the total operating profit of the company in 1Q-3Q 2020. The company has one of the most profitable and best E&amp;C business (especially housing/apartments construction) in Korea.What are the appropriate comps for DL E&amp;C? Hyundai E&amp;C, GS E&amp;C, and Daewoo E&amp;C are the most appropriate comps to DL E&amp;C. These three comps are currently trading at P/E ratios of 11.5x, 6.7x, and 7.6x, respectively. The average of these three multiples would be 8.6x. If we take a more conservative view and take just the lowest P/E of the comps (6.7x) and use this multiple to apply to the estimated annual net profit of 660 billion for the E&amp;C business, it would result in an implied market cap of 4.4 trillion won, which would exceed Daelim Industrial's current market cap of 2.9 trillion won. So essentially, you would be getting the other businesses for free.

Daelim Industrial (000210 KS) first announced its decision to form a holding company structure on 10 September 2020. Since then, Daelim Industrial's share price is down 9.2% in this period, underperforming KOSPI which is up 9.2% in the same period. On 4 December, Daelim Industrial's shareholders vote on this deal. We think the shareholders will confirm this formation of Holdco/spin-off. Over the years of following the Korean stock market, we have found that the shareholders sometimes do not like the initial spin-off story which knocks the price downwards but later on the share price makes a positive turnaround. In our view, Daelim Industrial could be one of these spin-off related turnaround plays that could outperform the market over the next 6 to 12 months.  Daelim Industrial is one of the largest construction companies in Korea. It makes some of the finest apartments in Korea. The housing business (mostly apartments construction) accounted for 54% of total sales and 78% of the total operating profit of the company in 1Q-3Q 2020. The company has one of the most profitable and best E&amp;C business (especially housing/apartments construction) in Korea.What are the appropriate comps for DL E&amp;C? Hyundai E&amp;C, GS E&amp;C, and Daewoo E&amp;C are the most appropriate comps to DL E&amp;C. These three comps are currently trading at P/E ratios of 11.5x, 6.7x, and 7.6x, respectively. The average of these three multiples would be 8.6x. If we take a more conservative view and take just the lowest P/E of the comps (6.7x) and use this multiple to apply to the estimated annual net profit of 660 billion for the E&amp;C business, it would result in an implied market cap of 4.4 trillion won, which would exceed Daelim Industrial's current market cap of 2.9 trillion won. So essentially, you would be getting the other businesses for free.

Daelim Industrial: Unlocking Higher Value Through A Holdco & Spin-Off (Voting on 4 December)

Global Special Situations & Strategy, SR Services Ltd

David Lepper

Global Special Situations & Strategy

SR Services Ltd

SR Services provides Strategic Knowledge and Solutions services for Family Offices and Corporate Business. 

We deliver this via advisory services, strategic planning, opportunity analysis/sourcing, as well as solution implementation. 

Whilst, we create intellectual discipline and operational leverage for your projects or daily activities, our ultimate objective is to empower whilst enhancing your decision making. 

Strategic Knowledge and Solutions

Cross Asset Strategy

Q3 delivered marked underperformanceOur Q3-2020 Small-Mid Cap High-Risk list of stocks produced an average price increase of 0.3%. In comparison, the MSCI Asia Pacific Index posted an increase of 6.3% over the same period. 15 stocks appear in our Q4 2020 screen, versus 21 in Q3 2020. As we highlighted in the previous three quarters, we are specifically on the watch for the risk of deteriorating credit metrics during 2020. This screen presents names which are worthy of investigation as they present with fundamentals which are at risk.

Q3 delivered marked underperformanceOur Q3-2020 Small-Mid Cap High-Risk list of stocks produced an average price increase of 0.3%. In comparison, the MSCI Asia Pacific Index posted an increase of 6.3% over the same period. 15 stocks appear in our Q4 2020 screen, versus 21 in Q3 2020. As we highlighted in the previous three quarters, we are specifically on the watch for the risk of deteriorating credit metrics during 2020. This screen presents names which are worthy of investigation as they present with fundamentals which are at risk.

Screening the Silk Road: Q4 2020 High Risk Names to Avoid

Time to remove the upper market cap limit as risk increases.<ul>
<li>
Our screen from this quarter onwards is for all stocks<a href="applewebdata://17FB2464-550F-48C5-BBBA-E248B1412D29#_ftn1" target="_blank" rel="noopener">[1]</a> above a market capitalisation of US$500m as we now encounter possibly one of the riskier periods in our market history. With this in mind, we have removed our Small-Mid Cap focus (US$500m-US$10bn market capitalisation) from our screens. </li>
<li>
21 stocks appear in our Q3 2020 screen. The average stock rank in our list has maintained a ranking of 63.5 points compared to 68 in Q2 2020 placing the stocks lower in the second quartile of the market, suggesting deteriorating fundamentals and a strong possibility of lagging performance.</li>
<li>
As we highlighted in Q1, watch for the risk of deteriorating credit metrics over 2020: In Q3, the Altman Z score is at a market-cap-weighted 1.44 times, versus 1.31 in Q2. Whilst marginally improved, since earnings continue to be adjusted by analysts and there is limited visibility of their bottoming, the potential for a lower Z score in Q4 2020 and H1 2021is increased.</li>
</ul>

Time to remove the upper market cap limit as risk increases.

Our screen from this quarter onwards is for all stocks[1] above a market capitalisation of US$500m as we now encounter possibly one of the riskier periods in our market history. With this in mind, we have removed our Small-Mid Cap focus (US$500m-US$10bn market capitalisation) from our screens. 

21 stocks appear in our Q3 2020 screen. The average stock rank in our list has maintained a ranking of 63.5 points compared to 68 in Q2 2020 placing the stocks lower in the second quartile of the market, suggesting deteriorating fundamentals and a strong possibility of lagging performance.

As we highlighted in Q1, watch for the risk of deteriorating credit metrics over 2020: In Q3, the Altman Z score is at a market-cap-weighted 1.44 times, versus 1.31 in Q2. Whilst marginally improved, since earnings continue to be adjusted by analysts and there is limited visibility of their bottoming, the potential for a lower Z score in Q4 2020 and H1 2021is increased.


Screening the Silk Road: Q3 2020 High Risk Names to Avoid

<ul>
<li>
Deteriorating credit metrics continue to support our view that the level of risk is increasing within the small-mid cap universe. </li>
<li>
Our screen looks for high valuation multiples presented by candidates with significant earnings growth forecasts, as well as financial indicators that suggest balance sheet distress. Therefore, with the credit markets pointing towards high yield stress, this screen becomes highly relevant.</li>
<li>
15 stocks appear in our Q2 2020 screen. The average stock rank in our list has decreased to 67.5 from 72.1 points since early March 2019. The reduction reflects some of the continued bearish moves in recent weeks within the Asian Universe. We, therefore, feel, as highlighted in other recent commentary, that the market is currently undergoing a defined separation of Quality, Value and relative Momentum.</li>
</ul>



Deteriorating credit metrics continue to support our view that the level of risk is increasing within the small-mid cap universe. 

Our screen looks for high valuation multiples presented by candidates with significant earnings growth forecasts, as well as financial indicators that suggest balance sheet distress. Therefore, with the credit markets pointing towards high yield stress, this screen becomes highly relevant.

15 stocks appear in our Q2 2020 screen. The average stock rank in our list has decreased to 67.5 from 72.1 points since early March 2019. The reduction reflects some of the continued bearish moves in recent weeks within the Asian Universe. We, therefore, feel, as highlighted in other recent commentary, that the market is currently undergoing a defined separation of Quality, Value and relative Momentum.


Screening the Silk Road: Q2 2020 Small-Mid Cap High Risk Names to Avoid

South Korea

GS Engineering & Construction Corp. contracts civil engineering and architectural works, residential and commercial building constructions, and plant installations.  The Company also builds educational, leisure, distribution, and environmental facilities.

GS Engineering & Construction (006360 KS)

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GS Engineering & Construction (006360 KS)

Korea M&A Spotlight: HHI Group Selected As Preferred Bidder for Doosan Infracore

It was announced on 10 December that Hyundai Heavy Industries Group has been selected as the preferred bidder to acquire the 35.4% controlling...

Douglas Kim

Daelim Industrial: Unlocking Higher Value Through A Holdco & Spin-Off (Voting on 4 December)

Daelim Industrial is one of the cheapest stocks in Korea. The company could unlock greater shareholder value through the spin-off of the...

Douglas Kim

Screening the Silk Road: Q4 2020 High Risk Names to Avoid

Our Q3 screen delivered 600bps of under performance. With volatility is set to increase as we head into H1 2020, which stocks are most at risk in...

David Lepper

Screening the Silk Road: Q3 2020 High Risk Names to Avoid

Time to remove the upper market cap limit as risk increases. Our screen from this quarter onwards is for all stocks[1] above a market...

David Lepper

Screening the Silk Road: Q2 2020 Small-Mid Cap High Risk Names to Avoid

Deteriorating credit metrics continue to support our view that the level of risk is increasing within the small-mid cap universe. Our screen...

David Lepper

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