Search Seeing Flywheel Effect, but Global Still Needs Momentum

NAVER (035420 KS) Search seeing flywheel effect, but global still needs momentum Internet 2Q18 review: Revenue beats consensus, but OP misses; NP boosted by one-off gain For 2Q18, NAVER’s revenue came in above the consensus, but operating profit missed. Results Comment July 27, 2018 Positives: Revenue from the business platform segment (which includes the core search ad business) was stronger than expected, growing 17% YoY and surpassing W600bn for the first time on a quarterly basis. Ad performance improved, due to increased options for a mobile search ad offering, while shopping search ads also contributed to growth. LINE’s ad revenue also jumped 42% YoY. (Maintain) Buy 1,000,000 751,000 33% At the parent IT platform and content services segments, revenue grew a robust 74% and 27% YoY, respectively. The IT platform segment was helped by NAVER Pay’s increased transaction volume, while the content services segment was supported by traction in webtoons and V LIVE. Meanwhile, net profit was temporarily boosted by a W112.7bn gain from the disposal of subsidiary investments caused by the exclusion of LINE Mobile (a Japan-based MVNO subsidiary) from consolidation, as a result of Softbank’s investment. TargetPrice(12M, W) Share Price(07/26/18, W) Expected Return Negatives: The ad segment (which includes display ads) grew a weaker-than-expected 11% YoY. The ad segment bears close watching, as it could be affected by NAVER’s mobile app overhaul planned in 3Q18. Agent/partner commissions and marketing expenses were higher than anticipated, mainly due to NAVER Pay. OP (18F, Wbn) ConsensusOP (18F, Wbn) 1,106 1,108 EPS Growth (18F, %) Market EPS Growth (18F, %) P/E(18F, x) Market P/E(18F, x) KOSPI 7.8 10.4 29.7 Nstore’s merger with NAVER Webtoon part of global content expansion Original premium content: We expect NAVER Webtoon to play an important role in NAVER’s original premium content. NAVER plans to spin off its Nstore business, which handles digital content distribution (VOD, e-books, etc.), and merge it with NAVER Webtoon. NAVER has so far invested a total of W210bn in NAVER Webtoon this year. As for content, NAVER has spent W400bn since 2017 and intends to spend another W200bn by 2019. We expect the global platform business and the intellectual property (IP)-based drama/film investment and production to gain traction. 9.0 2,289.06 MarketCap (Wbn) Shares Outstanding (mn) Free Float(%) 24,755 33 78.4 ForeignOwnership (%) Beta (12M) 52-WeekLow 59.9 0.80 652,000 950,000 UGC: We believe Apollo will lead NAVER’s user-generated content (UGC) operations. Apollo, a company-in-company (CIC) created in May that operates and develops NAVER services, like blogs, posts, and Knowledge IN, plans to revamp domestic blogs with a focus on videos, and later launch a global UGC service. 52-Week High We view NAVER’s efforts to expand its content business as part of its move to catch up with global video providers like Netflix (premium content) and YouTube (user content). We note that a growing number of Chinese internet firms have recently boosted their enterprise value by separately listing their content and video businesses. (%) Absolute Relative 1M 2.2 4.9 6M -19.0 -8.9 12M -9.0 -3.2 120 110 100 90 <ul style="display: flex;"><li style="flex:1">NAVER </li><li style="flex:1">KOSPI </li></ul>Maintain Buy and TP of W1,000,000 (not adjusting for October stock split) We maintain our Buy rating on NAVER. We believe the search business is in the “running on its own” stage of the ‘flywheel effect’ (spinning a heavy flywheel takes significant effort, but once momentum builds the mechanism can eventually run by itself without additional fuel). The commerce business, meanwhile, is in the “momentum building” stage. Meanwhile, LINE, NAVER Webtoon, and Apollo are still in the stage where the company needs to make considerable efforts in order to achieve its medium/long-term growth objective of global expansion. 80 70 <ul style="display: flex;"><li style="flex:1">7.17 </li><li style="flex:1">11.17 </li><li style="flex:1">3.18 </li><li style="flex:1">7.18 </li></ul>Mirae Asset Daewoo Co., Ltd. [Internet/Game/Advertising] FY (Dec.) Revenue (Wbn) OP (Wbn) OP margin(%) NP (Wbn) EPS (W) ROE(%) P/E(x) P/B(x) 12/15 3,254 830 25.5 519 15,737 26.5 41.8 6.8 12/16 4,023 1,102 27.4 749 22,732 26.2 12/17 4,678 1,179 25.2 773 23,447 18.5 12/18F 5,665 1,106 19.5 834 25,287 16.3 12/19F 6,830 1,674 24.5 1,069 32,441 18.0 12/20F 8,070 2,061 25.5 1,320 40,058 18.6 Jee-hyun Moon +822-3774-1640 <a href="mailto:[email protected]" target="_blank">[email protected] </a>34.1 5.2 37.1 4.8 29.7 3.7 23.1 3.2 18.7 2.7 <ul style="display: flex;"><li style="flex:1">Dividend yield (%) </li><li style="flex:1">0.2 </li><li style="flex:1">0.1 </li><li style="flex:1">0.2 </li><li style="flex:1">0.2 </li><li style="flex:1">0.2 </li><li style="flex:1">0.3 </li></ul>Note: Allfigures are basedon consolidated K-IFRS;NP refers to net profit attributable to controllinginterests Source: Company data, Mirae Asset Daewoo Research estimates <ul style="display: flex;"><li style="flex:1">July 27, 2018 </li><li style="flex:1">NAVER </li></ul>Earnings review and forecasts Table 1. 2Q18 review (Wbn, %) 2Q18P MiraeAsset Daewoo Growth YoY <ul style="display: flex;"><li style="flex:1">2Q17 </li><li style="flex:1">1Q18 </li></ul><ul style="display: flex;"><li style="flex:1">Preliminary </li><li style="flex:1">Consensus </li><li style="flex:1">QoQ </li></ul><ul style="display: flex;"><li style="flex:1">Revenue </li><li style="flex:1">1,130 </li></ul>285 1,309 257 1,364 251 1,363 266 1,351 267 <ul style="display: flex;"><li style="flex:1">20.7 </li><li style="flex:1">4.2 </li></ul>Operating profit OP margin(%) Net profit <ul style="display: flex;"><li style="flex:1">-12.1 </li><li style="flex:1">-2.5 </li></ul>25.2 171 19.6 154 18.4 314 19.5 159 19.8 <ul style="display: flex;"><li style="flex:1">184 </li><li style="flex:1">83.1 </li><li style="flex:1">104.0 </li></ul>Note: Allfigures are basedon consolidated K-IFRS;net profit is attributable to controllingandnon-controllinginterests Source: Company data, FnGuide, Mirae Asset Daewoo Research estimates Table 2. Quarterly and annual earnings (Wbn, %) 1Q17 1,082 112 511 43 2Q17 1,130 134 522 49 3Q17 1,201 133 550 59 4Q17 1,266 151 586 66 1Q18 1,309 133 593 73 2Q18P 1,364 149 612 86 3Q18F 1,442 148 643 96 4Q18F 1,550 169 2017 4,678 529 <ul style="display: flex;"><li style="flex:1">2018F </li><li style="flex:1">2019F </li></ul>6,830 676 <ul style="display: flex;"><li style="flex:1">Revenue </li><li style="flex:1">5,665 </li></ul><ul style="display: flex;"><li style="flex:1">598 </li><li style="flex:1">Ads </li></ul>Businessplatform ITplatform <ul style="display: flex;"><li style="flex:1">667 </li><li style="flex:1">2,168 </li></ul>218 2,515 370 2,867 <ul style="display: flex;"><li style="flex:1">592 </li><li style="flex:1">116 </li></ul>Contentservices LINE and otherplatforms Operating profit OP margin <ul style="display: flex;"><li style="flex:1">25 </li><li style="flex:1">25 </li><li style="flex:1">27 </li><li style="flex:1">28 </li><li style="flex:1">30 </li><li style="flex:1">32 </li><li style="flex:1">33 </li><li style="flex:1">36 </li><li style="flex:1">105 </li><li style="flex:1">130 </li><li style="flex:1">149 </li></ul>391 291 26.9 211 19.5 400 285 25.2 171 15.2 432 312 26.0 216 18.0 446 291 23.0 172 13.6 481 257 19.6 154 11.7 486 251 18.4 314 23.0 523 270 18.7 184 12.7 <ul style="display: flex;"><li style="flex:1">563 </li><li style="flex:1">1,669 </li></ul>1,179 25.2 770 2,053 1,106 19.5 863 2,546 1,674 24.5 329 21.2 <ul style="display: flex;"><li style="flex:1">212 </li><li style="flex:1">Net profit </li><li style="flex:1">1,099 </li></ul><ul style="display: flex;"><li style="flex:1">16.1 </li><li style="flex:1">Net margin </li><li style="flex:1">13.7 </li><li style="flex:1">16.5 </li><li style="flex:1">15.2 </li></ul>YoYgrowth <ul style="display: flex;"><li style="flex:1">Revenue </li><li style="flex:1">15.5 </li></ul>37.7 13.5 92.0 -19.8 11.0 13.2 27.8 14.4 38.5 12.9 75.8 -8.8 7.2 18.5 35.1 18.9 90.3 20.9 8.3 16.7 22.4 19.2 70.3 22.7 8.9 21.0 18.6 16.1 67.1 19.8 22.9 -11.6 -27.1 20.7 11.1 17.2 73.5 26.8 21.6 -12.1 83.1 20.1 11.0 17.0 64.0 20.0 21.0 -13.6 -14.9 22.5 12.2 13.9 74.6 29.1 26.2 13.0 23.1 16.3 32.5 16.2 80.7 1.3 21.1 13.0 16.0 70.0 24.0 23.0 -6.2 20.5 13.0 14.0 60.0 15.0 24.0 51.4 27.4 Ads Businessplatform ITplatform Contentservices LINE and otherplatforms Operating profit Net profit 8.8 <ul style="display: flex;"><li style="flex:1">4.6 </li><li style="flex:1">10.6 </li></ul>9.0 <ul style="display: flex;"><li style="flex:1">0.3 </li><li style="flex:1">7.0 </li></ul><ul style="display: flex;"><li style="flex:1">-19.6 </li><li style="flex:1">-6.2 </li><li style="flex:1">1.5 </li><li style="flex:1">12.1 </li></ul>Notes: Allfigures are basedon consolidatedK-IFRS; in 2017, revenue was reclassifiedinto five segments: ads, business platform, IT platform, content services, andLINE andother platforms; ads include generalandshoppingdisplay ads andvideo ads; business platform includes generalandshoppingsearch ads; IT platform includes NAVER Pay, IT services, andcloudservices; content services include music, webtoons, andV Live; LINE andother platforms include LINE andSnow; due to theparent firm’s merger with CampMobile in February 2018, some of the revenue from LINE andother platforms has been reclassifiedfrom 2017 onwards; the YoY revenue comparison for 2017 may have discrepancies due to CampMobile’s reclassification; 2Q18 net profit includes W112.7bn inone-off gains relatedto LINE Mobile; net profit isattributable to controllingand non-controllinginterests Source: Company data, Mirae Asset Daewoo Research estimates Table 3. Earnings forecast revisions (Wbn, W, %) Previous 18F Revised 18F % chg. 18F Notes <ul style="display: flex;"><li style="flex:1">19F </li><li style="flex:1">19F </li><li style="flex:1">19F </li></ul>Businessplatform/ITplatform estimatesrevised upward; ad estimates revised downward <ul style="display: flex;"><li style="flex:1">Revenue </li><li style="flex:1">5,664 </li><li style="flex:1">6,797 </li><li style="flex:1">5,665 </li><li style="flex:1">6,830 </li><li style="flex:1">0.0 </li><li style="flex:1">0.5 </li></ul>Platformdevelopment/operation expensesrevised downward; marketing expensesrevised upward 2.1 Exclusion of LINE Mobilereflected Operating profit Net profit 1,142 738 1,665 1,077 1,106 863 1,674 1,099 -3.1 16.9 9.0 0.6 Profits fromnon-controlling interestsinLINE Mobile reflected;based on existing share count <ul style="display: flex;"><li style="flex:1">EPS (W) </li><li style="flex:1">23,191 </li><li style="flex:1">33,506 </li><li style="flex:1">25,287 </li><li style="flex:1">32,441 </li><li style="flex:1">-3.2 </li></ul>OP margin Net margin 20.2 13.0 24.5 15.8 19.5 15.2 24.5 16.1 Notes: Net profit is attributable to controllingandnon-controllinginterests; EPS is attributable tocontrollinginterests Source: Mirae Asset Daewoo Research estimates Mirae Asset Daewoo Research 2<ul style="display: flex;"><li style="flex:1">July 27, 2018 </li><li style="flex:1">NAVER </li></ul>LINE overview Table 4. LINE’s quarterly earnings: Ad revenue grew42% YoY; shares up by 6.8% on the day following 2Q18earnings releases (JPYbn) <ul style="display: flex;"><li style="flex:1">QoQ </li><li style="flex:1">2Q17 </li></ul>41.6 37.2 19.1 7.5 3Q17 44.3 40.1 22.0 7.5 4Q17 47.9 41.4 23.7 7.1 1Q18 48.7 42.7 25.2 7.4 2Q18P 50.6 44.6 27.2 7.3 YoY 22% 20% 42% -3% Revenue 4% <ul style="display: flex;"><li style="flex:1">4% </li><li style="flex:1">1) Corebusiness </li></ul><ul style="display: flex;"><li style="flex:1">Ads </li><li style="flex:1">8% </li></ul>Communication Content -1% 10.1 0.5 <ul style="display: flex;"><li style="flex:1">9.9 </li><li style="flex:1">9.7 </li><li style="flex:1">9.2 </li><li style="flex:1">9.3 </li><li style="flex:1">-7% </li><li style="flex:1">2% </li></ul><ul style="display: flex;"><li style="flex:1">Other </li><li style="flex:1">0.7 </li><li style="flex:1">0.9 </li><li style="flex:1">0.9 </li><li style="flex:1">0.8 </li><li style="flex:1">59% </li></ul>42% 64% 8% -17% <ul style="display: flex;"><li style="flex:1">0% </li><li style="flex:1">2) Strategicbusiness </li></ul>LINEFriends <ul style="display: flex;"><li style="flex:1">4.3 </li><li style="flex:1">4.2 </li><li style="flex:1">6.3 </li><li style="flex:1">6.1 </li><li style="flex:1">6.1 </li></ul><ul style="display: flex;"><li style="flex:1">2.5 </li><li style="flex:1">3.0 </li><li style="flex:1">4.1 </li><li style="flex:1">3.4 </li><li style="flex:1">4.1 </li><li style="flex:1">21% </li></ul>-28% 544% 628% Fintech/AI/commerce/mobile Otheroperating profit Operating profit OP margin <ul style="display: flex;"><li style="flex:1">1.8 </li><li style="flex:1">1.2 </li><li style="flex:1">2.2 </li><li style="flex:1">2.7 </li><li style="flex:1">2.0 </li></ul><ul style="display: flex;"><li style="flex:1">10.7 </li><li style="flex:1">0.5 </li><li style="flex:1">0.5 </li><li style="flex:1">1.5 </li><li style="flex:1">9.7 </li><li style="flex:1">-10% </li></ul><ul style="display: flex;"><li style="flex:1">-38% </li><li style="flex:1">14.6 </li></ul>35.1 5.9 13.2 0.6 1.3 1.2 2.6 9.1 17.9 1) Corebusinessoperating profit 2) Strategicbusinessoperating losses 11.8 -3.8 16.8 -4.3 12.9 -6.9 12.8 -7.1 <ul style="display: flex;"><li style="flex:1">7.0 </li><li style="flex:1">-41% </li></ul>82% -59% -45% <ul style="display: flex;"><li style="flex:1">-3% </li><li style="flex:1">-6.9 </li></ul><ul style="display: flex;"><li style="flex:1">Net profit </li><li style="flex:1">8.9 </li></ul>21.5 1.6 3.7 -4.0 -8.3 -1.8 -3.6 3.7 7.3 -308% Net margin Key indicators Global MAU (mnpersons) Globalpaid officialaccounts (ads) LINEPaytransaction value(JPYbn) Ad platformimpressions (bn) 169 605 105 15 168 631 115 16 168 645 228 16 165 657 173 18 164 672 195 21 -3% 11% 86% 44% -1% 2% 13% 20% Note: 1) NAVER holds a73.28%stake in LINE. LINE’s2018 revenue classification has been changedfromads, communication/content, andother to core businesses (ads, communication/content, other) andstrategic businesses (fintech, AI, commerce, other) 2) In 2Q18, LINE postedaone-off gain on stake sales of JPY9.4bn, resultingfrom Softbank’s investments in LINE Mobile 3) As LINE Mobile has not been includedin LINE’s consolidatedfinancials startingin 2Q18, LINE recognizedearnings from the strategic businesses (fintech/AI/commerce/mobile),in the form of equity-method gains Source: Company data, Mirae Asset Daewoo Research Figure 1. LINE shares have been rising sharply since June, giving a boost to NAVER shares Figure 2. LINE’s annual earnings consensus: Profit to rebound in 2019, amid continued strong revenue growth Revenue (L) Operating profit (R) Net profit (R) (18.1=100) (Wbn) 3,000 (Wbn) 300 120 110 100 90 LINE NAVER 2,500 2,000 1,500 1,000 500 250 200 150 100 50 80 70 <ul style="display: flex;"><li style="flex:1">0</li><li style="flex:1">0</li></ul><ul style="display: flex;"><li style="flex:1">1/18 </li><li style="flex:1">2/18 </li><li style="flex:1">3/18 </li><li style="flex:1">4/18 </li><li style="flex:1">5/18 </li><li style="flex:1">6/18 </li><li style="flex:1">7/18 </li></ul><ul style="display: flex;"><li style="flex:1">2017 </li><li style="flex:1">2018F </li><li style="flex:1">2019F </li></ul><ul style="display: flex;"><li style="flex:1">Source: Thomson Reuters, Mirae Asset Daewoo Research </li><li style="flex:1">Note: Allfigures are basedon won-basedvalue </li></ul>Source: Bloomberg, Mirae Asset Daewoo Research estimates Mirae Asset Daewoo Research 3<ul style="display: flex;"><li style="flex:1">July 27, 2018 </li><li style="flex:1">NAVER </li></ul>Stock split; Nstore to merge with NAVER Webtoon Table 5. Following 5:1 stock split, NAVER to list shareson October 12th; any impact on EV to be marginal <ul style="display: flex;"><li style="flex:1">Beforestock split </li><li style="flex:1">Afterstock split </li></ul><ul style="display: flex;"><li style="flex:1">Per-sharevalue (W) </li><li style="flex:1">500 </li><li style="flex:1">100 </li></ul><ul style="display: flex;"><li style="flex:1">No. oftotalissued shares </li><li style="flex:1">32,962,679 </li><li style="flex:1">164,813,395 </li></ul>General shareholders ’<ul style="display: flex;"><li style="flex:1">meeting </li><li style="flex:1">Sep. 7th </li></ul>Existing share submission Suspension of trading Registry closure Sep. 10th – Oct. 10th Oct. 8 ,10th, 11th (three businessdays) th Oct. 11th – 18th <ul style="display: flex;"><li style="flex:1">Listing ofnew shares </li><li style="flex:1">Oct. 12th </li></ul><ul style="display: flex;"><li style="flex:1">Objective </li><li style="flex:1">Expansionofoutstanding shares </li></ul>Source: Company data, Mirae Asset Daewoo Research Table 6. NAVER to spin off its Nstore business andmerge it with NAVER Webtoon NAVER Webtoon (wholly-owned subsidiary) Nstore Decision Value Spunoff from NAVER W391,138,693 Set to acquire the spun-offNstorebusiness W473,594 2017revenue of W34.1bn, and netlossofW36.5bn <ul style="display: flex;"><li style="flex:1">Key financials </li><li style="flex:1">-</li></ul>Spin-off/mergerratios Spin-off/merger contractdate Record date 1:0.0000000 [0.0000003(spinoff ratio)×0.0012108(mergerratio)] Jul. 25th Aug. 10th <ul style="display: flex;"><li style="flex:1">Registry closure </li><li style="flex:1">Aug. 13th – 16th </li></ul>Notice of shareholder intent to exercise appraisal rights Shareholders’ meeting Exercise ofappraisalrights Effective date of merger Merger registration Aug. 23rd – Sep.6th Sep. 7th Sep. 8th – 27th Nov. 1st Nov. 5th Increaseinthenumberoforiginal content (webtoons/web novels) users via contentdistributiononVODapps Major expected benefits Note: Merger value is basedon Han Kyung AccountingCorp’s data Source: Company data, Mirae Asset Daewoo Research Figure 4. Cases of content subsidiary spin-off:Shares of relevant Chinese players Figure 3. Cases of stock-split: SEC’s 50:1 stock split

Search Seeing Flywheel Effect, but Global Still Needs Momentum

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