June 20, 2011 Company Report

Hyundai E&C (000720 KS) Construction

Preparing to transform into the world’s top builder Daniel Song +822-768-2122 [email protected]

Reiterate Buy call with TP of W130,000 We reiterate our Buy call on Hyundai E&C with a target price of W130,000. Currently, the company is focusing on cost control and efficient human resource management. Although Hyundai E&C is lowering its earnings and order guidance, we believe that this development is only the temporary result of the companyÊs

efforts to improve its fundamentals. We believe that Hyundai E&CÊs fundamentals will improve dramatically in the long term.

Transforming into a global leader

The Hyundai-Kia Automotive Group (HKAG) has transferred some of its major Buy (Maintain) department heads to Hyundai E&C in order to realign the builderÊs business Target Price (12M, W) 130,000 philosophy with that of the group. Hyundai E&C needs efficient cost and Share Price (06/17/11, W) 83,100 organizational management systems to ensure steady profit margin and continued Expected Return (%) 56.4 growth. Therefore, the company is introducing efficiency measures with the aim to EPS Growth (11F, %) 10.3 become a leading builder in the global construction market. Market EPS Growth (11F, %) 23.4 P/E (11F, x) 15.8 Lately, some investors have been worrying that Hyundai E&CÊs personnel Market P/E (11F, x) 10.3 reshuffling may hurt its competitiveness, and that the companyÊs corporate value KOSPI 2,031.93 could be weakened through a potential merger with Hyundai Amco (even though Market Cap (Wbn) 9,254 Hyundai E&C has publicly stated that rumors about the M&A deal are unfounded). Shares Outstanding (mn) 111 However, we believe that the planned changes are necessary for HKAG to apply its Avg Trading Volume (60D, '000) 1,273 successful formula to Hyundai E&C. Avg Trading Value (60D, Wbn) 105 Dividend Yield (11F, %) 0.8 Higher margins to be followed by higher growth potential Free Float (%) 65.1 52-Week Low 55,600 The introduction of efficient cost and organizational management systems will 52-Week High 91,800 likely improve Hyundai E&CÊs COGS-to-sales ratio, boosting its profit margins. The Beta (12M, Daily Rate of Return) 1.1 impacts of these changes will likely be confirmed by quarterly margin trends. Price Return Volatility (12M Daily,%,SD) 2.6 Foreign Ownership (%) 19.0 Once margins improve on tighter cost controls, Hyundai E&C should turn to Major Shareholder(s): boosting its growth potential by taking more new orders. Normally, large builders Hyundai Motor et al. (34.91%) enter the growth phase by cutting costs, and then boost their growth momentum NPS (6.95%) by aggressively taking orders. As the companyÊs cost improvement strategy has not been completed, it has yet to begin aggressive order-taking. However, once the Price Performance new cost system takes root, Hyundai E&C is likely to aggressively pursue new (%) 1M 6M 12M Absolute 2.6 19.1 46.6 orders. Relative 5.9 18.8 27.6

§ Earnings & Valuation Metrics Share price 180 KOSPI OP EV/ Sales OP NP EPS EBITDA FCF ROE P/E P/B 160 FY Margin EBITDA (Wbn) (Wbn) (Wbn) (W) (Wbn) (Wbn) (%) (x) (x) 140 (%) (x) 120 12/09 9,279 419 4.5 457 4,107 490 724 15.4 17.3 2.6 15.7 100 12/10 10,005 584 5.8 530 4,759 624 578 16.1 15.2 2.3 11.9 80 12/11F 11,297 631 5.6 585 5,250 646 124 14.4 15.8 2.0 13.2 60 12/12F 13,972 859 6.2 800 7,175 871 639 16.3 11.6 1.8 9.0 40 12/13F 16,042 1,058 6.6 1,000 8,976 1,068 626 17.5 9.3 1.5 6.8 6/10 10/10 2/11 6/11 Source: Company data, Daewoo Securities Research estimates

Please read carefully important disclosures at the end of this report. June 20, 2011 Hyundai E&C

Preparing to transform into the world’s top builder

Enhancing engineering Despite Hyundai E&CÊs strong construction capabilities, the companyÊs weak engineering and human resource capabilities and inefficient human resource management have kept it from successfully management capabilities completing long-term plans. But, with the addition of major department heads from the to help the builder Hyundai-Kia Automotive Group (HKAG), these weaknesses will likely be resolved gradually. emerge as a global top Traditionally, Hyundai E&C has focused more on construction than on engineering player (designing). In fact, in domestic projects (such as housing construction and civil works), this construction-focused strategy can be effective, since buildersÊ engineering capabilities in these projects tend not to show any differentiation. However, with overseas plant projects, a construction-focused strategy can lead to faulty designs and thus can cause delays, which could result in margin fluctuations.

In order to stabilize its margins and sustain growth, Hyundai E&C needs to enhance its engineering capacity, tighten cost control, and improve its human resource management. This is why the company is currently working to implement efficient systems.

Lately, some investors have been worrying that Hyundai E&CÊs personnel reshuffling may hurt its competitiveness, and that the companyÊs corporate value could be weakened through a potential merger with Hyundai Amco (even though Hyundai E&C has publicly stated that rumors about the M&A deal are unfounded). However, we believe that the planned changes are necessary for HKAG to apply its successful formula to Hyundai E&C.

Figure 1. Hyundai E&C Âs SWOT analysis

Strength Weakness

• Various construction experiences • Weak engineering capabilities (power, gas, infrastructure, plants) • Inefficient human resource management • Strong project capabilities • Significant fluctuations of quarterly margins • Excellent human capital • Lack of experience for building refining and petrochemical plants

SWOT Opportunity Threat

• Favorable investment cycle for energy sector over the next decade • Oil prices falling below US$70/bbl • Abundant oil money in Middle East • Falling oil income in the Middle East • Massive investments in infrastructure and plants • Margin erosion from competition • Indian/Middle Eastern rivals with price • Growing South American and South East Asian economies competitiveness • Strengthening competitiveness (higher global MS)

Source: Daewoo Securities Research

Daewoo Securities Research 2 June 20, 2011 Hyundai E&C

First step: Improving margins through tighter cost control

The largest weakness of Hyundai E&C is the significant and unpredictable fluctuations of quarterly margins. This problem exists because some of the companyÊs projects have posted losses during their completion phases due to a lack of checks-and-balances systems enabling communication between construction sites and the head office.

Indeed, given that most of the companyÊs managers (including heads of construction sites and the heads of major departments) have traditionally been engineers (who share a certain camaraderie), reports about construction projectsÊ potential losses are not always given immediately to the head office. For example, even if the margin of a construction project is forecast to fall shy of the companyÊs estimate of 10% and reach only 8%, the head office sometimes isnÊt notified until the completion phase. As these practices have been repeated, quarterly margins have fluctuated considerably and been unpredictable. In particular, the margins of overseas construction projects have been more volatile than those of domestic projects.

Going forward, We expect that, going forward, Hyundai E&C will be able to improve its margins, as: 1) Hyundai E&C will be Hyundai E&CÊs head office plans to procure construction materials for all projects, and 2) the able to improve its companyÊs purchasing power is likely to increase under the management of HKAG, and 3) margins efficient communication should enable site managers and the head office to keep each other in check.

The impacts of these changes will likely be confirmed by quarterly margin trends. Given that construction projects take three to four years, improved cost management systems will be applied to projects that are already underway. We believe that growing concerns about Hyundai E&C should ease with quarterly COGS-to-sales ratio reductions.

Figure 2. Hyundai E&CÊs quarterly gross and overseas profit margin outlooks

(%) Gross profit margin 20 Overseas profit margin

15

10

5

0

-5 1Q05 1Q06 1Q07 1Q08 1Q09 1Q10 1Q11 1Q12

Source: Company data, Daewoo Securities Research estimates

Daewoo Securities Research 3 June 20, 2011 Hyundai E&C

Second step: Securing growth potential through new orders

Hyundai E&C should Once margins improve on tighter cost controls, Hyundai E&C should turn to boosting its turn to boosting its growth potential by taking more new orders. Normally, large builders enter the growth phase growth potential by by cutting costs, and then boost their growth momentum by aggressively taking orders. As taking more new orders the companyÊs cost improvement strategy has not been completed, it has yet to begin aggressive order-taking. However, once the new cost system takes root, Hyundai E&C is likely to aggressively pursue new orders.

Considering that global energy-related investments are expected to stay robust over the next decade, the company has enough time to improve its internal processes (cost and human resource management) before turning to order-taking. Hyundai E&CÊs new orders are forecast to fall below expectations until end-2Q. However, given that the companyÊs 2011 quarterly orders are forecast to be concentrated in 2H (20.1% in 1Q; 8.2% in 2Q; 26.2% in 3Q; and 45.5% in 4Q), Hyundai E&C is likely to generate overseas momentum in 2H (when new systems are forecast to take root).

Figure 2. Hyundai E&CÊs new order outlook

(Wtr) 28 Overseas Domestic plants Architecture 21 Civil engineering

14

7

0 00 01 02 03 04 05 06 07 08 09 10 11F 12F 13F

Source: Company data, Daewoo Securities Research estimates

Figure 3. Hyundai E&CÊs sales and operating profit outlooks

(Wtr) (Wbn) 18 Civil engineering (L) Architecture (L) 1,200 Domestic plants (L) Others (L) 15 Overseas (L) Operating profit (R) 800 12

9 400

6 0 3

0 -400 00 01 02 03 04 05 06 07 08 09 10 11F 12F 13F

Source: Company data, Daewoo Securities Research estimates

Daewoo Securities Research 4 June 20, 2011 Hyundai E&C

Adjusting our 2011~2012F earnings to reflect the company’s lowered guidance

We are lowering our 2011 sales, operating profit, and net profit estimates by 7.1% to W11.297tr, 13.8% to W631bn, and 12.3% to W585.1bn, respectively. Since Hyundai E&CÊs new management is focusing on improving fundamentals by improving its cost and human resource management (rather than boosting near-term earnings), the companyÊs sales are likely to contract in the near term due to weak new orders.

Hyundai E&C is making efforts to cut costs by W400bn per year and make up for its drawbacks through SWOT analysis (comparing itself with a global top engineering company). As these organizational changes and new system introductions are anticipated to be completed by year-end, we are edging up our 2012 sales estimate by 2% to W13.972tr. Still, we are lowering our 2012 operating profit and net profit estimates by 7.4% to W859bn and 11.6% to W799.6bn, respectively.

Since we believe that Hyundai E&C is in a transitional period (before it takes a leap forward), we recommend that investors overweight the companyÊs shares whenever its share price drops on concerns over corporate value.

Table 1. Hyundai E&CÊs quarterly earnings outlook (Wbn) 2011F 2012F YoY (%) 1QF 2QF 3QF 4QF Annual 1QF 2QF 3QF 4QF Annual Annual Sales 2,018 2,806 2,833 3,640 11,297 2,708 3,566 3,414 4,284 13,972 23.7 Operating profit 117 154 157 203 631 142 220 206 291 859 36.1 Pretax profit 116 187 190 236 728 181 258 245 329 1,012 39.0 Net profit 101 148 151 186 585 143 204 193 260 800 36.7 OP margin (%) 5.8 5.5 5.5 5.6 5.6 5.2 6.2 6.0 6.8 6.1 Net margin (%) 5.0 5.3 5.3 5.1 5.2 5.3 5.7 5.7 6.1 5.7 Source: Company data, Daewoo Securities Research estimates

Table 2. Revisions to Hyundai E&CÊs annual earnings forecasts (Wbn) Previous Revised % Chg. 11F 12F 13F 11F 12F 13F 11F 12F 13F Sales 12,165 13,704 15,205 11,297 13,972 16,042 -7.1 2.0 5.5 Operating profit 732 928 1,092 631 859 1,058 -13.8 -7.4 -3.1 Net profit 667 905 1,061 585 800 1,000 -12.3 -11.6 -5.7 OP margin (%) 6.0 6.8 7.2 5.6 6.1 6.6 - - - Net margin (%) 5.5 6.6 7.0 5.2 5.7 6.2 - - - EPS (W) 5,982 8,118 9,516 5,250 7,175 8,976 -12.3 -11.6 -5.7 Source: Company data, Daewoo Securities Research estimates

Reiterate Buy call with TP of W130,000

We reiterate our Buy call on Hyundai E&C with a target price of W130,000. Currently, the company is focusing on cost control and efficient human resource management. Although Hyundai E&C is lowering its earnings and order guidance, we believe that this development is only the temporary result of the companyÊs efforts to improve its fundamentals. We believe that Hyundai E&CÊs fundamentals will improve dramatically in the long term.

Daewoo Securities Research 5 June 20, 2011 Hyundai E&C

Hyundai E&C (000720 KS/Buy/TP: W130,000)

Income Statement (Summarized) Balance Sheet (Summarized) (Wbn) 12/10 12/11F 12/12F 12/13F (Wbn) 12/10 12/11F 12/12F 12/13F Sales 10,005 11,297 13,972 16,042 Current Assets 5,599 7,117 7,767 8,479 Cost of Goods Sold 8,958 10,190 12,589 14,391 Cash and Cash Equivalents 1,413 1,370 1,996 2,562 Gross Profit 1,046 1,106 1,383 1,651 Accounts Receivable 1,724 665 663 651 SG&A 462 475 524 593 Inventories 673 1,237 1,384 1,504 Operating Profit 584 631 859 1,058 Other Current Assets 1,788 3,844 3,725 3,761 Non-Operating Income 122 97 153 193 Non-Current Assets 3,393 3,705 3,690 3,774 Interest Income/Expense 6 16 27 45 Investment Assets 2,985 3,380 3,377 3,472 F/X-Related Gain/Loss -12 -2 0 0 Property, Plant and Equipment 408 301 289 279 Equity Method Gain/Loss 123 105 160 180 Intangible Assets 0 24 24 24 Asset Disposal Gain/Loss -19 0 0 0 Total Assets 8,993 10,821 11,457 12,253 Other Non-Operating Profit/Loss 24 -21 -33 -32 Current Liabilities 4,185 5,013 4,938 4,850 Pretax Profit 707 728 1,012 1,251 Accounts Payable 1,843 1,421 1,541 1,613 Tax 176 143 213 250 Short-Term Debt 261 200 185 185 Profit from Continuing Operation 530 585 800 1,000 Current Long-Term Debt 104 40 -13 -13 Profit from Discontinued Operation 0 0 0 0 Other Current Liabilities 1,976 3,351 3,226 3,066 Tax Effect 0 0 0 0 Non-Current Liabilities 1,252 1,258 1,247 1,219 Net Profit 530 585 800 1,000 Bonds 548 498 478 478 Residual Income 530 585 800 1,000 Long-Term Debt 42 52 83 83 EBITDA 624 646 871 1,068 Other Non-Current Liabilities 661 707 685 657 Free Cash Flow 578 124 639 626 Total Liabilities 5,437 6,271 6,185 6,069 Gross Profit Margin (%) 10.5 9.8 9.9 10.3 Paid-In Capital 557 557 557 557 EBITDA Margin (%) 6.2 5.7 6.2 6.7 Capital Surplus 828 828 828 828 Operating Margin (%) 5.8 5.6 6.2 6.6 Retained Earnings 1,952 2,885 3,607 4,518 Net Margin (%) 5.3 5.2 5.7 6.2 Stockholders' Equity 3,556 4,551 5,272 6,184

Cash Flow (Summarized) Forecasts/Valuations (Summarized) (Wbn) 12/10 12/11F 12/12F 12/13F 12/10 12/11F 12/12F 12/13F Cash Flow from Operating Activities 596 135 639 626 P/E (x) 15.2 15.8 11.6 9.3 Net Profit 530 585 800 1,000 P/CF (x) 14.1 15.3 11.3 9.1 Non-Cash Income and Expense 169 -57 -147 -168 P/B (x) 2.3 2.0 1.8 1.5 Tangible Assets Depreciation 40 14 12 11 EV/EBITDA (x) 11.9 13.2 9.0 6.8 Intangible Assets Depreciation 0 0 0 0 EPS (W) 4,759 5,250 7,175 8,976 Others 129 -72 -159 -179 CFPS (W) 5,115 5,380 7,282 9,072 Chg in Working Capital -104 -394 -14 -206 BPS (W) 31,904 40,618 47,093 55,269 Chg in Accounts Receivable 0 -28 1 10 DPS (W) 700 700 800 800 Chg in Inventories 37 -101 -146 -120 Payout Ratio (%) 14.7 13.3 11.2 8.9 Chg in Accounts Payable 578 11 119 72 Dividend Yield (%) 1.0 0.8 1.0 1.0 Others -718 -276 11 -168 Sales Growth (%) 7.8 12.9 23.7 14.8 Cash Flow from Investment Activities -157 -34 146 56 EBITDA Growth (%) 27.3 3.5 34.9 22.7 Chg in Tangible Assets -18 -11 0 0 Operating Profit Growth (%) 39.5 8.0 36.1 23.1 Chg in Intangible Assets 0 0 0 0 EPS Growth (%) 15.9 10.3 36.7 25.1 Chg in Investment Assets -128 -9 163 85 Accounts Receivable Turnover (x) 6.1 9.5 21.0 24.4 Others -11 -14 -17 -29 Inventory Turnover (x) 14.2 11.8 10.7 11.1 Cash Flow from Financing Activities -73 -146 -158 -117 Accounts Payable Turnover (x) 6.4 6.9 9.4 10.2 Chg in Borrowings -5 -146 -80 -28 ROA (%) 6.2 5.9 7.2 8.4 Chg in Equity -67 0 -78 -89 ROE (%) 16.1 14.4 16.3 17.5 Dividends -67 0 -78 -89 ROIC (%) 54.5 27.4 25.5 31.1 Others -2 0 0 0 Liability to Equity Ratio (%) 152.9 137.8 117.3 98.2 Chg in Cash 366 -43 626 566 Current Ratio (%) 133.8 142.0 157.3 174.8 Beginning Cash Balance 1,048 1,413 1,370 1,996 Net Debt to Equity Ratio (%) -17.1 -16.4 -27.5 -33.0 Ending Cash Balance 1,413 1,370 1,996 2,562 Interest Coverage Ratio (x) 13.6 20.1 31.0 39.6 Source: Company data, Daewoo Securities Research estimates

Daewoo Securities Research 6 June 20, 2011 Hyundai E&C

Important Disclosures & Disclaimers As of the publication date, Daewoo Securities Co., Ltd. has acted as a liquidity provider for equity-linked warrants backed by shares of Hyundai Engineering & Construction as an underlying asset, and other than this, Daewoo Securities has no other special interests in the covered companies. As of the publication date, Daewoo Securities Co., Ltd. issued equity-linked warrants with Hyundai Engineering & Construction as an underlying asset, and other than this, Daewoo Securities has no other special interests in the covered companies. Analyst of the subject company or member of the analyst's household does not have any financial interest in the securities of the subject company and the nature of the financial interest (including without limitation, whether it consists of any option, right, warrant, future, long or short position). This report reflects the sole opinion of the analyst without any external influences by third parties.

Buy Relative performance of 20% or greater (W) HyundaiEng&Const Stock Trading Buy Relative performance of 10% or greater, but with volatility 150,000 Ratings Hold Relative performance of -10% and 10% 100,000 Sell Relative performance of -10% Overweight Fundamentals are favorable or improving 50,000 Industry Neutral Fundamentals are steady without any material changes Ratings 0 6/09 12/09 6/10 12/10 6/11 Underweight Fundamentals are unfavorable or worsening * 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.

This report has been provided by the research division of Daewoo Securities Co., Ltd. The stock ratings, target prices, estimates and overall viewpoints are from the research division of Daewoo Securities. Investors can access Daewoo SecuritiesÊ research directly through our website (www.bestez.com), FirstCall Research, Reuters, FnGuide, WiseFn, FactSet and Bloomberg (DWIR). This document was prepared by Daewoo Securities Co., Ltd. („Daewoo‰). Information and opinions contained herein have been compiled from sources believed to be reliable and in good faith. The information has not been independently verified. Daewoo makes no guarantee, representation or warranty, express or implied, is made as to the fairness, accuracy or completeness of the information and opinions contained in this document. Daewoo accepts no responsibility or liability whatsoever for any loss arising from the use of this document or its contents or otherwise arising in connection therewith. Information and opinions contained herein are subject to change without notice. This document is for information purposes only. It is not and should not be construed as an offer or solicitation of an offer to purchase or sell any securities or other financial instruments. This document may not be reproduced, further distributed or published in whole or in part for any purpose. Daewoo and/or other affiliate companies, their directors, representatives, or employees may have long or short positions in any of the securities or other financial instruments mentioned in this document or issuers described herein at any time and may purchase and/or sale, or offer to purchase and/or sale such securities or other financial instruments in the open market or otherwise, in each case either as principal or agent. This document is for distribution within the United Kingdom to persons authorized under the Financial Services Act 1986. Daewoo Securities is the sole provider of information contained in this document. DaewooÊs U.S. affiliate, Daewoo Securities (America) Inc., a member of FINRA/SIPC, is the sole distributor of this document within the U.S. This document may be distributed in the U.S. only to major U.S. institutional investors as defined in Rule 15a-6 of the U.S. Securities Exchange Act of 1934. Any U.S. recipient of this document wishing to effect any transactions in any securities discussed herein should contact and place orders with Daewoo Securities (America) Inc.

Daewoo Securities International Network

Daewoo Securities Co. Ltd. (Seoul) Daewoo Securities (Hong Kong) Ltd. Daewoo Securities (America) Inc. Head Office Two International Finance Centre 600 Lexington Avenue 31-3 Yeouido-dong, Yeengdeungpo-gu Suites 2005-2012 Suite 301 Seoul 150-716 8 Finance Street, Central New York, NY 10022 Korea Hong Kong United States Tel: 82-2-768-3026 Tel: 85-2-2514-1304 Tel: 1-212-407-1022

Daewoo Securities (Europe) Ltd. Tokyo Representative Office Beijing Representative Office Tower 42, Level 41 7th Floor, Yusen Building Suite 2602, Twin Towers (East) 25 Old Broad Street 2-3-2 Marunouchi, Chiyoda-ku B-12 Jianguomenwai Avenue London EC2N 1HQ Tokyo 100-0005 Chaoyang District, Beijing 100022 United Kingdom Japan China Tel: 44-20-7982-8016 Tel: 81-3- 3211-5511 Tel: 86-10-6567-9699

Shanghai Representative Office Ho Chi Minh Representative Office Unit 13, 28th Floor, Hang Seng Bank Tower Centec Tower 1000 Lujiazui Ring Road 72-74 Nguyen Thi Minh Khai Street Pudong New Area, Shanghai 200120 Ward 6, District 3, Ho Chi Minh City China Vietnam Tel: 86-21-5013-6392 Tel: 84-8-3910-6000

Daewoo Securities Research 7