Holding companies Growing motivation for holding company conversion 1. End of circular shareholdings Overweight (Maintain) For Korean conglomerates, circular shareholdings are no longer a feasible option for Industry Report maintaining and expanding control over their vast business empires. Under the revision to the Monopoly Regulation and Fair Trade Act (MRFTA), large corporate groups are November 26, 2015 banned from forming new circular shareholdings or strengthening existing one s. Companies are allowed to keep previously established circul ar shareholdings, but are Daewoo Securities CCCo.,Co., Ltd. encouraged to gradually and voluntarily untie their existing shareholdings (which are required to be publicly disclosed). However, we believe there is a possibility tha t existing [Holding Companies/IT Services] circular shareholdings could also be directly regulated, potentially becoming subject to Dae-ro Jeong mandatory removal within a certain period. +822-768-4160 [email protected] Ultimately, the unwinding of circular shareholdings should serve as a major catalyst to convert to a holding comp any. Some of the biggest Korean conglomerates, such as Yoon-seok Seo Samsung, Hyundai Motor Group (HMG), and Lotte, have recently been making great +822-768-4127 efforts to unwind their existing circular shareholdings. By doing so, they may be able to [email protected] avoid potential policy risks whi le also making the transition to a holding company structure easier. In our view, adopting a holding company structure is the best or second-best option for conglomerates looking to tighten their managerial control and ensure ownership succession. 2. Opportune time for holding company conversion The government is introducing various policies to facilitate holding company conversion. If the intermediate financial holding company bill passes into law, large corporate groups will be able to convert to holding structures without being forced to dispose of their stakes in their financial subsidiaries. In addition, under the Special Act for Corporate Vitality Improvement (the so-called “one-shot” act), tax benefits would be provided for corporate groups’ restructu ring plans and restructuring processes will be simplified, albeit for a limited period (five years). Furthermore, through the tax code revision, the statutory grace period for the deferral of taxation on capital gains from the tender offer would be extended by three years, until end-2018. Historically, corporate governance-related pledges tend to increase during presidential campaigns. Accordingly, the environment for holding company conversions is likely to become increasingly unfavorable heading into the next presidential election in end-2017. Meanwhile, it has taken eight months on average from the announcement of holding structure conversions until the tender offers/rights offerings to meet subsidiary stake requirements. Thus, the two-year period from n ow should be the opportune time for holding company conversion. 3. Attention to shift to dividend after completion of holding company structure Currently, controlling families are facing increasingly limited opportunities to expand their wealth through related-party transactions due to strengthening regulations. When circular shareholdings were large corporate groups’ prevailing structure, dividends were considered the outflow of groups’ cash holdings. Going forward, however, corporate groups should be en couraged to increase dividends after completing a holding company structure as they need a legitimate way to acquire funds to pay inheritance and gift tax for the transfer of managerial control. Analysts who prepared this report are registered as research analysts in Korea but not in any other jurisdiction, including t he U.S. PLEASE SEE ANALYST CERTIFICATIONS AND IMPORTANT DISCLOSURES & DISCLAIMERS IN APPENDIX 1 AT THE END OF REPORT. November 26, 2015 Holding companies Opportune time to convert to holding company Source: KDB Daewoo Securities Research Major conglomerates’ circular shareholdings and financial subsidiaries RankRankRank NameNameName HeadHeadHead Circular Financial RankRankRank NameNameName HeadHeadHead Circular Financial 1 Samsung Lee Kun-hee shareholding○ subsidiaries○ 21 Hyosung Cho Seok-lae shareholdingX subsidiaries○ 2 HMG Chung Mong-koo ○ ○ 22 Dongkuk Steel Jang Se-joo X X 3 SK Chey Tae-won Converted to holding company 23 Youngpoong Jang Hyung-jin ○ X 4 LG Koo Bon-moo Converted(Jul to. 3,holding 2007) company 24 Mirae Asset Park Hyun-joo X ○ 5 Lotte Shin Kyuk-ho ○ (Ap r. 3, 2001) ○ 25 Kolon Lee Woong-yul Converted to holding company 6 Hyundai Heavy Chung Mong-joon ○ ○ 26 Hanjin Heavy Cho Nam-ho Converted(Jan. to holding1, 2010) company 7 IndustriesGS Huh Chang-soo Converted to holding company 27 IndustriesKCC Jung Mong-jin X (Aug. 1, 2007) X 8 Hanjin Cho Yang-ho In process of(Jul converting. 7, 2004) to holding 28 Halla Jung Mong-won In process of converting to holding 9 Hanwha Kim Seung-yeon companyX (Aug. 1, 2013)○ 29 Hankook Tire Cho Yang-lae Convertedcompany to holding (Sep. 2,company 2014) (Jul. 10 Doosan Park Yong-gon Converted to holding company 30 Taekwang Lee Ho-jin X 6, 2013) ○ 11 Shinsegae Lee Myung-hee X (Jan. 1, 2009) X 31 Daesung Kim Young-dae Converted to holding company 12 CJ Lee Jae-hyun Converted to holding company 32 Hyundai Jung Mong-kyu ○ (Jan. 1, 2011) ○ 13 LS Ku Tae-hoi Converted (Sep.to holding 4, 2007) company (Jul. 33 DevelopmentKyobo Life - Shin Chang-jae X ○ 14 Kumho Asiana Park Sam-gu ○ 2, 2008) X 34 InsuranceSeAH Lee Soon-hyung Converted to holding company (Jul. 15 Dongbu Kim Joon-gi X ○ 35 E-Land Park Sung-su X 3, 2001) ○ 16 Daelim Lee Joon-young ○ X 36 Taeyoung Yoon Sae-young X X 17 Booyoung Lee Joong-geun Converted to holding company 37 HiteJinro Park Moon-deok Converted to holding company (Jul. 18 Hyundai Hyun Jeong-eun ○ (Dec. 30, 2009)○ 38 AmorePacific Seo Kyung-bae Converted to 3,holding 2008) company (Jul. 19 OCI Lee Soo-young X X 39 Samchully Lee Man-deuk X 1, 2007) ○ 20 Hyundai Jeong Jee-sun ○ X 40 Hansol Lee In-hee In process of converting to holding Note: ExcludesDepartment government-owned companies company (Jan. 1, 2015) Source: FTC, KDB Daewoo Securities Research KDB Daewoo Securities Research 2 November 26, 2015 Holding companies C O N T E N T S I. Corporate governance improved sharply in 2015 4 1. For stronger competitiveness and managerial control 4 2. Holding company conversions to increase 5 II. Changes in corporate governance-related policies 7 1. Restrictions on circular shareholding 8 2. Regulations on related-party transactions 9 3. Introduction of intermediate financial holding companies 11 4. Introduction of“one shot” law 12 III. Holding company conversion A to Z 13 1. Method of transition to a holding company 13 2. Requirements for conversion to holding company 14 3. Tax benefits to boost holding company conversion 15 4. Investment opportunities in holding company conversions 16 IV. Group ownership restructuring scenarios 18 1. Samsung Group 18 2. Hyundai Motor Group (HMG) 22 3. Lotte 24 V. Top Picks 27 SK Holdings (034730 KS) 28 LG (003550 KS) 31 KDB Daewoo Securities Research 3 November 26, 2015 Holding companies I. Corporate governance improved sharply in 2015 1. For stronger competitiveness and managerial control Corporate groups’ efforts for improving governance were one of the greatest issues in the Korean stock market this year. In 2015, major corporate groups have made various efforts to optimize their business portfolios. Faced with increasing need to concentrate on selected business areas, corporate groups are seeking to streamline their businesses and improve efficiency of each business via spin-offs/split-offs and mergers. Samsung Group and SK Group were the most prominent in this effort. They have optimized their business portfolios to improve competiveness and strengthen controlling families’ managerial control. These efforts will likely continue through 2016, with medium-sized corporate groups following suit. TableTableTable 111.1... Major groupsgroups’’’’ restructuring in 2015 RankRankRank GroupGroupGroup Details RankRankRank GroupGroupGroup Details Samsung C&T and Cheil Industries merge (Sep. 2015) CJ Systems and CJ Olive Young merge (Dec. 2014) Samsung group announces disposal of Samsung SDI’s 1 Samsung 20 CJ chemical unit and Samsung Fine Chemicals to Lotte Announces sale of CJ HelloVision to SK Group (Nov. 2015) Group (Oct . 201 5) Sells families’ 13.39% controlling stake in Hyundai Glovis Hyundai (Feb . 20 15) 3 26 Daelim Daelim Corporation and Daelim I&S merge (Jul. 2015) Motor Hyundai Steel and Hyundai Hysco merge (Jul. 2015); INNOCEAN Worldwide IPO (Jul . 20 15) SK and SK C&C merge (Aug. 2015) 5 SK 28 Dongbu Announces sale of Dongbu Farm Hannong (Mar. 2015) SK Telecom to acquire CJ HelloVision (Nov. 2015) LG Int’l acquires 51% of Pantos’s outstanding shares 6 LG (Jan . 20 15) 29 Hyundai Sells stake in Hyundai Logistics (Oct. 2014) Pantos fully acquires Hi Business Logistics (Oct. 2015) Announces IPO of Hotel Lotte (Aug. 2015) 7 Lotte Unwinds 84% of Lotte Group’s total cross-shareholdings 33 Hyosung Galaxia Communications and Infohub merge (Jul. 2015) (Aug .2015 ) Hanjin KAL Holdings acquires Jungseok Enterprise’s Dongkuk 14 Hanjin investment unit (Jun . 20 15) 39 Dongkuk Steel and and Union Steel merge (Jan. 2015) Steel Hanjin sells entire stake in Korean Air (Jul. 2015) Hanwha Q Cells and Hawha Solar One merge (Feb. 2015) 15 Hanwha Acquires Samsung group’s affiliates (Techwin, Thales, 42 Halla Halla Holdings and Halla Meister merge (Jul. 2015) General Chemical s, etc .) ( Jun . 2015 ) Hankook Tire acquires 19.5% stake in Halla Visteon Climate Oricom fully acquires HAN COMM. (Aug. 2015) Control (Jun . 201 5) 17 Doosan 43 Hankook Tire Announces split-off of Doosan Infracore’s machine tool Hankook Tire and Hanyang Tire Sales merge (Jul. 2015) division and s ell partial stake in the division (Oct 2015 ) Hansol Holdings and Hansol Logistics’s investment unit merge (Mar . 201 5) 18 Shinsegae Shinsegae Food and Shinsegae SVN merge (Dec.