[Korea] Entertainment SM Entertainment Trading Buy (041510 KQ) (Maintain) Weathering the crisis thanks to strong fan base TP: W42,000 ▲ Upside: 17.0% Mirae Asset Daewoo Co., Ltd. Jeong-yeob Park [email protected] 2Q20 review Consolidated revenue of W135.9bn (-14.9% YoY) and OP of W13.2bn (+240.1% YoY), well ahead of the consensus SM Entertainment’s better-than-expected results were supported by strong growth of lucrative album/digital music sales and cost savings (e.g., reduced fee payments to Like Planning). Non-consolidated operating profit was W16.7bn. While SM Japan posted operating profit of W100mn, Dream Maker, SM C&C, and KeyEast posted operating losses of W900mn, W1.4bn, and W800mn, respectively. Parent-based operating profit expanded 762% YoY, supported by robust album sales (W33.8bn; +154% YoY) amid a huge increase in direct purchases from overseas. In 2Q20, album sales amounted to 2.51mn copies (+137% YoY). From January to July, album sales totaled 4.55mn copies (vs. 4.58mn copies sold in 2019). Subsidiaries posted a combined operating loss of W3bn. Despite the absence of concerts, SM Japan (SMEJ + SMEJ Plus) turned a profit with the IP business alone. However, COVID-19 effects weighed on other subsidiaries (ad market weakness for SM C&C, a content void for KeyEast, and concert cancellations for Dream Maker). Margin expansion driven by Parent-based gross margin improved to 46.4% in 2Q20 (vs. 36.4% in 2019) robust album sales Even when not factoring in cost savings (Like Planning), SM Entertainment still managed to post a gross margin of 40%, aided by increases in direct album sales and digital music consumption. Some solo albums are setting sales records, including the latest mini album of Baekhyun (EXO member; over 1mn copies sold). It remains to be seen whether the absence of concerts will continue to drive consumers to spend more on albums and digital music. Valuation and recommendation Maintain Trading Buy and lift TP to W42,000 Overseas fans are driving up sales of albums/digital music, easing concerns over lost concert revenue. The importance of such fans will be highlighted if overseas direct purchases continue. We lift our target price to W42,000 (from W31,000), as we revised up our album/digital music revenue and margin estimates. We derived our target price by applying a P/E of 27x to our 2021F net profit attributable to owners of the parent of W33.8bn. Key long-term variables include: 1) the expansion of Beyond LIVE (concert streaming service) to include foreign artists; 2) the materialization of fan club/streaming services (in which NAVER [035420 KS/Buy/TP: W430,000/CP: W305,000] invested W100bn); and 3) new artist debuts. Despite the recent share rally, we believe Big Hit Entertainment’s IPO in 2H20 and revenue model expansion should provide downside support to share prices. Key data Current price (8/14/20, W) 35,900 Market cap (Wbn) 842 170 SM Entertainment KOSDAQ 150 OP (20F, Wbn) 30 Shares outstanding (mn) 23 130 Consensus OP (20F, Wbn) 20 Free float (%) 80.6 110 EPS growth (20F, %) - Foreign ownership (%) 16.4 90 P/E (20F, x) 157.5 Beta (12M) 0.98 70 50 Market P/E (20F, x) 16.9 52-week low (W) 16,700 8.19 12.19 4.20 8.20 KOSDAQ 835.03 52-week high (W) 39,650 Share performance Earnings and valuation metrics (%) 1M 6M 12M (Dec.) 2016 2017 2018 2019 2020F 2021F Absolute 6.7 5.7 20.5 Revenue (Wbn) 350 365 612 658 549 683 Relative -0.6 -12.8 -13.8 OP (Wbn) 21 11 48 40 30 56 OP margin (%) 6.0 3.0 7.8 6.1 5.5 8.2 NP (Wbn) 4 4 31 -9 5 34 EPS (W) 169 199 1,361 -390 228 1,441 ROE (%) 1.2 1.3 8.0 -2.1 1.2 7.3 P/E (x) 153.0 174.4 38.4 - 157.5 24.9 P/B (x) 1.7 2.2 2.8 2.0 1.9 1.8 Dividend yield (%) 0.0 0.0 0.0 0.0 0.0 0.0 Notes: Under consolidated K-IFRS; NP is attributable to owners of the parent Source: Company data, Mirae Asset Daewoo Research estimates Analysts who prepared this report are registered as research analysts in Korea but not in any other jurisdiction, including the US. PLEASE SEE ANALYST CERTIFICATIONS AND IMPORTANT DISCLOSURES AND DISCLAIMERS IN APPENDIX 1 AT THE END OF REPORT. August 18, 2020 SM Entertainment Earning forecasts and valuation Table 1. Valuation (Wbn, x, %) Valuation - P/E 19 20F 21F Fair market cap 933 933 933 NP -9 5 35 Target P/E (x) -102.5 174.5 27.0 Fair price (W) 42,867 42,867 42,867 Expected return (%) 19.4 19.4 19.4 Source: Mirae Asset Daewoo Research Table 2. Quarterly and annual earnings (Wbn, %, mn, %p) 1Q19 2Q19 3Q19 4Q19 1Q20 2Q20P 3Q20F 4Q20F 2019 2020F 2021F Revenue 131 160 173 194 145 136 124 144 658 549 683 SM Entertainment 57 65 84 102 68 75 58 73 307 274 343 SM Japan 15 16 20 28 14 8 5 5 79 32 65 Dream Maker 16 14 29 20 5 5 4 5 80 20 53 SM C&C 35 43 40 49 34 27 33 36 167 129 142 KeyEast 23 33 22 22 31 20 22 23 100 96 106 OP 2.8 3.9 19.9 13.8 1.7 13.2 6.6 8.7 40 30 56 OP margin (%) 2.1 2.4 11.5 7.1 1.2 9.7 5.3 6.1 6.1 5.5 8.2 Pretax profit 3 4 22 -18 5 9 6 -1 11 19 47 NP -4 1 9 -23 -2 -0 5 -1 -16 1 36 Net margin (%) -2.8 0.4 5.4 -11.6 -1.3 -0.1 3.8 -0.8 -2.5 0.3 5.3 NP attributable to owners of the parent -1.0 0.5 8.3 -16.9 -0.4 2.3 4.4 -1.0 -9.1 5.3 33.8 YoY Revenue 18.2 28.3 2.8 -7.0 10.7 -14.9 -28.4 -25.7 7.4 -16.6 24.3 SM Entertainment -4.1 6.7 27.4 6.5 19.8 15.5 -30.3 -28.4 9.2 -10.8 25.0 SM Japan -43.3 -1.8 -1.5 -11.0 -4.0 -52.5 -74.8 -81.3 -16.3 -59.4 100.0 Dream Maker 143.3 12.9 64.2 -6.6 -66.9 -61.4 -87.0 -75.1 36.5 -75.4 170.0 SM C&C -6.1 -18.5 -10.5 -21.9 -4.0 -37.8 -18.1 -26.1 -15.4 -22.5 10.0 KeyEast - - - - - - - - 69.2 -4.2 10.0 OP -72.9 -61.3 64.2 -9.4 -40.3 240.1 -67.1 -36.5 -15.4 -25.4 86.9 NP TTR -82.8 28.3 TTR RR TTR -50.0 RR TTR TTB 2,369.3 Key assumptions Record sales in Korea 0.1 0.7 1.5 1.9 1.1 2.7 1.4 1.7 4.2 6.7 7.5 Concert ticket sales in Japan 0.3 0.3 0.3 0.4 0.4 0.0 0.0 0.0 1.4 0.4 1.5 Notes: Under consolidated K-IFRS; concert ticket sales volume is based on the actual timing of each concert and includes our estimates Source: Company data, Mirae Asset Daewoo Research estimates Mirae Asset Daewoo Research 2 August 18, 2020 SM Entertainment Figure 1. Concert attendance to fall sharply (mn persons) 2.5 SM TOWN NCT 127 Red Velvet EXO f(x) Super Junior SHINee Girls' Generation TVXQ 2.0 BoA 1.5 1.0 0.5 0.0 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020F Source: Mirae Asset Daewoo Research estimates Figure 2. Overseas fans are driving up sales of albums/digital music, easing concerns over lost concert revenue (mn units) 8 BoA f(x) TVXQ Girls' Generation SHINee Super Junior SuperM EXO (total) Red Velvet 6 NCT (total) WayV Taeyeon 4 2 0 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020F Source: Mirae Asset Daewoo Research estimates Figure 3. Key variable: New revenue model based on collaboration between platforms and content providers Source: Company materials, Mirae Asset Daewoo Research Mirae Asset Daewoo Research 3 August 18, 2020 SM Entertainment SM Entertainment (041510 KQ) Income statement (summarized) Balance sheet (summarized) (Wbn) 2018 2019 2020F 2021F (Wbn) 2018 2019 2020F 2021F Revenue 612 658 549 683 Current assets 537 629 564 673 Cost of revenue 410 442 360 444 Cash & equivalents 237 285 306 353 Gross profit 202 216 189 239 AR & other receivables 124 129 96 120 SG&A expenses 155 175 158 182 Inventory 12 15 11 14 OP (adj.) 48 40 30 56 Other current assets 164 200 151 186 OP 48 40 30 56 Non-current assets 465 487 442 407 Non-operating profit -2 -29 -11 -9 Investments in associates 101 65 49 60 Net financial income 0 0 -1 0 PP&E 93 106 85 63 Net income from associates -6 -11 -2 0 Intangible assets 186 199 166 135 Pretax profit 46 11 19 47 Total assets 1,002 1,116 1,007 1,080 Income tax 23 27 17 11 Current liabilities 394 437 337 371 Profit from continuing operations 23 -16 1 36 AP & other payables 266 289 215 267 Profit from discontinued operations 0 0 0 0 Short-term financial liabilities 44 67 61 29 NP 23 -16 1 36 Other current liabilities 84 81 61 75 Attributable to owners 31 -9 5 34 Non-current liabilities 32 46 39 42 Attributable to minority interests -7 -7 -4 2 Long-term financial liabilities 10 28 25 25 Total comprehensive income 27 -12 7 36 Other non-current liabilities 22 18 14 17 Attributable to owners 35 -6 5 26 Total liabilities 426 483 375 413 Attributable to minority interests -8 -6 2 10 Equity attributable to owners 424 444 446 480 EBITDA 88 104 99 110 Capital stock 12 12 12 12 FCF 110 78 33 114 Capital surplus 219 245 245 245 EBITDA margin (%) 14.4 15.8 18.0 16.1 Retained earnings 174 165 170 204 OP margin (%) 7.8 6.1 5.5 8.2 Minority interests 152 189 185 187 Net margin (%) 5.1 -1.4 0.9 5.0 Shareholders' equity 576 633 631 667 Cash flow statement (summarized) Key valuation metrics/ratios (Wbn) 2018 2019 2020F 2021F 2018 2019 2020F 2021F Operating cash flow 120 92 35 114 P/E (x) 38.4 - 157.5 24.9 NP 23 -16 1 36 P/CF (x) 11.1 7.4 9.5 8.3 Non-cash income/expenses 83 138 87 65 P/B (x) 2.8 2.0 1.9 1.8 Depreciation 13 26 30 22 EV/EBITDA (x) 12.9 7.8 7.4 5.8 Amortization 27 38 39 32 EPS (W) 1,361 -390 228 1,441 Other 43 74 18 11 CFPS (W) 4,725 5,220 3,774 4,312 Chg.