Hankook Tire (161390 KS ) Margin improvement and revenue growth expected in 2018 Tire 4Q17 review: OP plunges on fixed-cost pressures and operation suspension Results Comment For 4Q17, Hankook Tire’s consolidated revenue and operating profit came in at February 9, 2018 W1.68tr and W139.8bn, respectively. Operating profit contracted 41.6% YoY, with OP margin falling sharply to 8.3%. Key factors impacting 4Q17 operating earnings were as follows: 1) Consolidated revenue was much weaker than anticipated, declining materially QoQ (Maintain) Buy due to a 7.7% drop in sales volume. Revenue was negatively affected by the end of the peak season for winter tires in 3Q17, but we believe the suspension of the Geumsan Target Price(12M, W) ▼ 67,000 plant following a fatal accident also led to a loss in revenue and a commensurate decline in operating profit. Share Price (02/08/18, W) 53,500 2) Delays to the operational normalization of the new Tennessee plant caused a W20bn operating loss, though the size of the loss narrowed markedly QoQ. Expected Return 25% 3) Higher raw material input costs, as well as an increase in the SG&A expense ratio (advertising and logistics expenses), further weighed on earnings. OP (17P, Wbn) 794 Consensus OP (17F, Wbn) 850 2018 outlook: 1) Revenue growth, 2) reduced fixed cost burden, and 3) wider margin spreads EPS Growth (17P, %) -28.3 We are now taking a more conservative view on revenue growth, the Tennessee plant’s Market EPS Growth (17F, %) 45.3 profit normalization, and raw material input costs for 2018. We modestly lowered our P/E (17P, x) 10.8 expectations for original equipment (OE) sales to Hyundai Motor Group (HMG), as well Market P/E (17F, x) 9.8 as replacement equipment (RE) sales across major markets. Meanwhile, we think the KOSPI 2,407.62 Tennessee plant will normalize in 4Q18, later than our previous expectation . As for Market Cap (Wbn) 6,627 major raw materials, including rubber, market prices have been stable, but we note Shares Outstanding (mn) 124 that raw material prices tend to lag oil prices, which are currently strengthening. Free Float (%) 57.4 Nevertheless, we still expect operating profit to improve visibly YoY, backed by: 1) the Foreign Ownership (%) 39.9 company’s expanding position in major markets (Europe, the US, and China); 2) Beta (12M) 0.40 product mix improvements driven by ultra-high-performance tires (UHPT) ; 3) 52-Week Low 52,700 continued normalization in global utilization; 4) dissipation of temporary fixe d cost 52-Week High 66,700 pressures; and 5) margin spread expansion resulting from a decline in average raw (%) 1M 6M 12M material input prices. Absolute -1.1 -15.1 -4.8 Cut TP by 6.2% to W67,000 on more conservative earnings outlook Relative 3.2 -15.5 -18.3 We adjusted down our 2018 operating profit forecast by 9.4%. Despite our lowered 130 Hankook Tire KOSPI earnings outlook, we still think the overall picture remains positive, with revenue 120 growth and visible margin improvements expected in 2018. Our 2018 revenue 110 forecasts are modeled on sales volume growth and ASP gains of more than 5%, similar 100 to management’s guidance. We cut our target price on Hankook Tire by 6.2% to 90 W67,000, based on a 2018F EV/EBITDA of 5.1x and P/E of 10x. We think valuation could 80 expand by more than 20% fro m current share prices, given large capex cuts, operating 70 2.17 6.17 10.17 2.18 cash flow improvements, and net debt reductions. Mirae Asset Daewoo Co., Ltd. [ Auto/Tire ] FY (Dec.) 12/14 12/15 12/16 12/17P 12/18F 12/19F Revenue (Wbn) 6,681 6,428 6,622 6,813 7,419 8,062 Young -ho Park +822 -3774 -1743 OP (Wbn) 1,032 885 1,103 794 1,099 1,243 [email protected] OP margin (%) 15.4 13.8 16.7 11.7 14.8 15.4 NP (Wbn) 700 655 873 626 833 947 EPS (W) 5,654 5,291 7,046 5,051 6,727 7,645 ROE (%) 16.6 13.6 15.8 10.2 12.1 12.1 P/E (x) 9.3 8.9 8.2 10.8 8.0 7.0 P/B (x) 1.4 1.1 1.2 1.1 0.9 0.8 Dividend yield (%) 0.8 0.9 0.7 0.7 0.9 0.9 Note: All figures are based on consolidated K-IFRS; NP refers to net profit attributable to controlling interests Source: Company data, Mirae Asset Daewoo Research estimates February 9, 2018 Hankook Tire Table 1. 4Q17 review (Wbn, %) 4Q17P 4Q16 3Q17 YoY QoQ Preliminary Mirae Asset Daewoo Consensus Revenue 1,611 1,824 1,683 1,732 1,716 4.5 -7.8 Operating profit 239 217 140 196 192 -41.6 -35.6 OP margin 14.9 11.9 8.3 11.3 11.2 Pretax profit 264 225 111 206 200 -57.8 -50.4 Net profit 207 171 112 155 151 -45.7 -34.2 Notes: Net profit is attributable to controlling interests Source: Mirae Asset Daewoo Research estimates Table 2. Quarterly earnings and forecasts (Wbn, %) 1Q18F 1Q18F 1Q16 2Q16 3Q16 4Q16 1Q17 2Q17 3Q17 4Q17P 1Q18F 2Q18F 3Q18F 4Q18F YoY QoQ Revenue 1,626 1,727 1,658 1,611 1,639 1,667 1,824 1,683 1,752 1,877 1,832 1,959 6.9 4.1 Operating profit 251 310 303 239 232 205 217 140 269 264 291 275 15.8 92.4 OP margin 15.4 18.0 18.3 14.9 14.2 12.3 11.9 8.3 15.4 14.1 15.9 14.0 Pretax profit 247 311 271 264 207 213 225 111 272 256 285 280 31.6 144.4 Net profit 196 264 207 207 167 176 171 112 210 201 216 207 25.2 87.0 Notes: Net profit is attributable to controlling interests Source: Mirae Asset Daewoo Research estimates Table 3. Earnings forecast revisions (Wbn, W, %) Previous Revised % chg. Notes 2017F 2018F 2019F 2017P 2018F 2019F 2017P 2018F 2019F Revenue 6,863 7,647 8,234 6,813 7,419 8,062 -0.7 -3.0 -2.1 - Reflected 4Q17 operating earnings Operating profit 850 1,213 1,349 794 1,099 1,243 -6.6 -9.4 -7.8 - Revised down OE/RE revenue and ASP estimates Pretax profit 845 1,224 1,372 755 1,093 1,245 -10.6 -10.6 -9.2 Net profit 664 933 1,043 626 833 947 -5.8 -10.7 -9.2 - Raised raw material input cost forecasts EPS 5,360 7,533 8,420 5,051 6,727 7,645 -5.8 -10.7 -9.2 - Lowered Tennessee plant profit estimates OP margin 12.4 15.9 16.4 11.7 14.8 15.4 - Lowered US$/W assumption Net margin 9.7 12.2 12.7 9.2 11.2 11.7 Note: Net profit is attributable to controlling interests Source: Mirae Asset Daewoo Research estimates Table 4. Earnings forecast revisions by region (Wbn, %) Previous Revised % chg. 2017F 2018F 2019F 2017P 2018F 2019F 2017P 2018F 2019F Revenue Korea 3,289 3,512 3,582 3,257 3,489 3,573 -1.0 -0.7 -0.3 China 1,759 1,886 1,976 1,747 1,775 1,889 -0.7 -5.9 -4.4 Hungary 1,047 1,085 1,125 1,047 1,053 1,113 0.0 -3.0 -1.1 Indonesia 623 734 775 618 699 751 -0.7 -4.8 -3.2 US 73 345 688 72 320 649 -1.5 -7.3 -5.7 Total 6,863 7,647 8,234 6,813 7,419 8,062 -0.7 -3.0 -2.1 Operating profit Korea 168 381 426 126 354 402 -24.8 -7.1 -5.5 China 161 210 224 160 182 205 -0.9 -13.3 -8.4 Hungary 260 280 291 260 266 285 0.0 -4.8 -1.9 Indonesia 87 115 121 86 109 118 -0.8 -4.8 -3.2 US -79 25 107 -78 -14 100 - - -6.3 Total 850 1,213 1,349 794 1,099 1,243 -6.6 -9.4 -7.8 OP margin Korea 5.1 10.8 11.9 3.9 10.1 11.3 China 9.2 11.1 11.3 9.1 10.2 10.9 Hungary 24.8 25.8 25.9 24.8 25.3 25.6 Indonesia 14.0 15.6 15.7 14.0 15.6 15.7 US -107.8 7.2 15.6 -108.7 -4.3 15.5 Total 12.4 15.9 16.4 11.7 14.8 15.4 Note: Excluding adjustments Source: Mirae Asset Daewoo Research estimates Mirae Asset Daewoo Research 2 February 9, 2018 Hankook Tire Figure 1. Tire sector index and RE demand growth to be Figure 2. OE demand growth deteriorated in 4Q17 sluggish in short term (%, YoY) (1/05=100) (%, YoY) 40 Europe RE (L) 800 40 Europe North America RE (L) North America 30 30 China RE (L) China Tire index (R) 600 20 20 10 10 400 0 0 -10 200 -10 -20 -20 -30 0 -30 05 06 07 08 09 10 11 12 13 14 15 16 17 18 05 06 07 08 09 10 11 12 13 14 15 16 17 18 Note: The tire sector index includes Hankook Tire, Hankook Tire Worldwide, Nexen Tire Source: Thomson Reuters, Michelin, Mirae Asset Daewoo Research and Kumho Tire Source: Thomson Reuters, Michelin, Mirae Asset Daewoo Research Figure 3.