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Chemicals

Sector Report / Chemicals April 19, 2012

Rising on the China momentum


Overweight (Reinstate)
China-led demand recovery an opportunity for Korean players
Company Rating TP (KRW) The petrochemical industry seems to be passing the bottom. Since the
2008 financial crisis, supply growth has slowed as capacity additions were
Honam Petrochem. BUY (Reinstate) 420,000
postponed. Meanwhile, demand is steadily rising. China’s ethylene
LG Chem BUY (Reinstate) 440,000 demand in 2012F should grow 8.1% YoY compared to Asia’s 5.5%. With
Kumho Petrochem. BUY (Reinstate) 160,000
~70% self-sufficiency in petrochemicals, China will continue to depend on
imports from neighboring countries. China’s softer monetary policy could
Hanwha Chem. BUY (Reinstate) 30,000 also be an opportunity for the Korean chemical industry given the two
countries’ mutual dependence in petrochemical trade.
Sector performance (12M)
Monetary loosening and demand stimulus in China to drive
(p) Rel.to KOSPI (%p, RHS) (%p) petrochemical recovery
7,000
Chemicals sector index (p, LHS )
10
Unlike the past when the policy benefits were especially apparent in some
5
6,000
0
segments, we believe China’s economic stimulus measures will boost
5,000
-5 overall petrochemical demand from 2012. Accordingly, we expect naphtha
4,000 -10 cracking centers (NCC) producing basic petrochemicals to deliver
3,000 -15 outstanding growth. By downstream industry, the automotives should see
2,000
-20 the most visible demand growth. As for home appliances, policy
-25
1,000 -30
momentum has weakened but growth potential remains intact with steady
0 -35 domestic demand and promising exports growth in China. The furniture
Apr-11 Jul-11 Oct-11 Jan-12 and home interior segments should also enjoy solid demand with more
construction completions built by the Chinese government’s affordable
Source: WICS provided by WISEfn housing initiative.

Top pick is Honam Petrochemical


We are bullish on Honam Petrochemical, our top pick, for the following
reasons. First, as the petrochemical industry emerges from the trough,
there should be growing demand for synthetic resins such as polyethylene
and polypropylene and the upstream feedstock such as butadiene. Second,
while high naphtha prices were a burden for NCCs, its profitability should
improve as oil prices start easing after having spiked on the political unrest
in the Middle East. Third, the prices and margin for ethylene glycols were
sluggish but the profits should rise benefiting from the peak summer
demand for polyethylene terephthalate, its downstream product.

Petrochemical industry enters a long-term upcycle

(USD/tonne) Cash margin index (L) Crude oil price (R) (USD/bbl)
500 160
7yrs peak-to-peak 10yrs peak-to-peak 10yrs peak-to-peak? 140
400
120
Kiyong Park 300 100
82-2-3276-6177 80
200
kypark@truefriend.com 60
100 40
Nakyung Lee 20
82-2-3276-6241 0
0
nklee@truefriend.com 9yrs bottom-to-bottom 9yrs bottom-to-bottom
-100 -20
1985 1988 1991 1994 1997 2000 2003 2006 2009 2012 2015

Source: Chemsystems, Bloomberg, Korea Investment & Securities


Sector report focus

 What is the report about?  Risks/opportunities


• Review direction of the petrochemical market and possibility of • More construction and utilization of ethane crackers backed by
recovery a sharp drop in natural gas prices should cause price falls for
• Impact of Beijing’s economic stimulus policy on the chemical petrochemicals
industry • As ethane crackers tilt toward ethylene production (77.5%),
• Relationship between the Korean and Chinese chemical NCCs assume an important role in producing wide-ranging
industries petrochemicals for the downstream industries
• Benefits of China’s softer monetary tightening and domestic
economic stimulation on the Korean chemical industry  Sector highlights
1) A decade-long petrochemical cycle
 Key assumptions and valuation • Petrochemicals are used mainly in consumer and durable
goods; Thus, change in demand for petrochemicals is closely
• Assumptions and outlook for crude oil and petrochemical prices correlated with economic growth
and spread • Production capacity is added in phases; A time gap between
demand growth and supply increase can affect the supply-
(USD/bbl, USD/tonne) 1Q12 2Q12F 3Q12F 4Q12F 1Q13F 2Q13F 3Q13F 4Q13F demand dynamics and the industry conditions
Crude oil and naphtha prices • Naphtha derived from oil is the main feedstock for
Dubai crude 117.80 117.90 115.65 117.96 114.73 112.43 110.21 111.31 petrochemicals; Thus, changes in oil prices have a significant
Naphtha 1,000.4 1,026.7 1,013.4 1,037.4 1,005.9 987.1 968.9 977.9 impact on the profitability of a petrochemical business
Basic petrochemical prices • The up and down cycles of the petrochemical margin have
Ethylene 1,174.2 1,216.9 1,201.1 1,229.6 1,192.2 1,169.9 1,148.3 1,159.0
repeated over a 10-year time span
Propylene 1,327.7 1,375.9 1,358.1 1,390.3 1,348.0 1,322.8 1,298.4 1,310.5
Butadiene 3,265.1 3,187.7 3,146.4 3,221.0 3,123.0 3,064.7 3,008.2 3,036.2
BTX (avg.) 1,216.6 1,260.8 1,244.4 1,273.9 1,235.2 1,212.1 1,189.8 1,200.8 Petrochemical industry’s long-term cycle
Spread
Ethylene - naphtha 173.8 190.2 187.7 192.1 186.3 182.8 179.5 181.1 (USD/tonne) (USD/bbl)
Synthetic resin avg. - naphtha 466.5 493.5 487.1 498.6 483.5 474.4 465.7 470.0 500 Cash margin index (L) Crude oil price (R) 160
BTX - naphtha 216.2 234.1 231.0 236.5 229.3 225.0 220.9 222.9 7yrs peak-to-peak 10yrs peak-to-peak 10yrs peak-to-peak? 140
400
120
300 100
 Sensitivity & scenario analysis 80
200
• Korean chemical firms buy and sell products and raw materials 60
in USD terms according to global pricing, even when doing 100 40
business in Korea; This allows firms to hedge against FX risks, 20
0
as long as FX rates that are recognized in sales and costs do 0
not show drastic movements over the short-term 9yrs bottom-to-bottom 9yrs bottom-to-bottom
-100 -20
1985 1988 1991 1994 1997 2000 2003 2006 2009 2012 2015
Honam Kumho Hanwha
(W bn) LG Chem
Petrochem Petrochem Chemical
USD-denominated assets 793.2 2,003.5 516.0 372.6
USD-denominated debt 1,022.5 2,357.3 690.6 695.1
Net exposure 229.3 353.8 174.6 322.4
2) Spread between product and raw material prices is used
2012F NP 1,075.9 2,085.1 480.7 482.2
NP impact from changes in USD value
to gauge profits
NP assuming 10% USD • If demand exceeds supply capacity, product prices rise and
1,053.0 2,049.7 463.3 450.0
appreciation spreads widen  greater profits for petrochemical firms
Chg. (%) (2.1) (1.7) (3.6) (6.7) • Demand for petrochemicals grows gradually while supply
NP assuming 10% USD capacity rises in phases; It is difficult to forecast demand and
1,098.8 2,120.5 498.2 514.5
depreciation
Chg. (%) 2.1 1.7 3.6 6.7 capacity additions take a long time to complete  this creates
a supply/demand imbalance
• An economic downturn similar to the 2008 financial crisis would
• As the oil price has a huge influence on petrochemical prices erode investment and tighten supply after three to four years
and supply/demand dynamics, it is hard to measure earnings
sensitivity to oil prices under controlled conditions
• Typically, a gradual rise in oil prices has a favorable effect on  Peer comparison
spreads due to a time lag with raw materials (naphtha) • Korean petrochemical firms trade at average 11.0x, less than
procurement the Asian peers
• Taiwan 18.7x, Japan 13.0x
• See our global peer valuation on page 4
Contents

I. Investment summary ...................................................................................................................................................................... 2


1. Overweight petrochemicals as business to recover with China’s eased tightening policy
2. Top pick: Honam Petrochemical
3. Peer group valuation
4. Key assumptions and estimates

II. Petrochemical industry in an upcycle .................................................................................................................... 6


1. In the middle of bottom-to-peak business cycle
2. Petrochem firms to ramp up utilization on slower capacity rise
3. China drives global demand growth

III. China’s recovery would provide Korean petrochemicals the


opportunity for growth ..............................................................................................................................................................11
1. China’s recovery would provide Korean petrochemicals the opportunity for growth
2. Interdependent Chinese and Korean petrochemical industries
3. China to stimulate domestic demand to tackle slowing economy
4. Chinese recovery is a boon for the petrochemical industry
5. Most visible demand growth to be seen in car sales
6. Softer monetary tightening to evenly benefit construction, home appliance and
synthetic fiber industries

IV. Growth strategies and competitiveness ......................................................................................................... 19


1. Focus on large capacity and petrochemicals
2. Standing apart from others with unmatched products and high value-added businesses

V. Risk analysis.......................................................................................................................................................................................... 21
Chemicals

I. Investment summary

1. Overweight petrochemicals as business to recover with


China’s eased tightening policy

Recovery of the We recommend Overweight for the chemical sector with the following investment
business cycle; Global points. 1) The sector’s poor performance should soon be over. The petrochemical
demand growing faster sector seems to be passing a trough. Given the 10-year business cycle, the
than capacity; China’s rebound may continue three or four more years. 2) The supply-demand conditions
large demand for should be tight again in 2012. The 2008 financial crisis has delayed investment,
imported products including new and added capacity, in the Middle East (ME) region. As a result, only
1.8mn tonnes of ethylene capacity were added in 2011. While capacity will
increase by only 4.7mn tonnes in 2012, demand growth should be 5.6mn and offer
tight supply conditions. 3) Changes to supply and demand will be led by the usual
player, China. The country’s 2012F ethylene demand should be 17.3mn tonnes, up
8.1% YoY compared to Asia’s 5.5%. At present, China’s production capacity is
similar to its demand level. Any negative impact from additional capacity should be
limited as most additions will be completed in 2H12. With ~70% self-sufficiency in
petrochemicals, China will continue to depend on imports from neighboring
countries. Thus, the Korean petrochemical sector would benefit given Korea’s and
China’s significant mutual dependence in petrochemical trade.

Eased tightening policy We maintain our forecast for Asian demand growth led by China. Since 2011,
to improve the China had maintained a tight monetary policy to address high inflation and an
petrochemical sector overheated economy. However, Beijing has adopted a domestic economy stimulus
related to cars, home policy for 2012 that is expected to spur more demand in the petrochemical industry.
appliances, furniture China has several options including a lower reserves requirement, thanks to the
and home interiors consumer price index (CPI) that has eased since Jul 2011. Indeed, the reserve
rate was lowered already in Jan and Mar 2012. Since China’s economy is sensitive
to policies, the petrochemical sector should improve along with the eased
tightening push. We forecast stronger demand for synthetic resins whose
weighting is the biggest among petrochemicals. More specifically, demand should
be high for polyethylene (PE) and polypropylene (PP) as they are popular in both
the industrial and non-industrial sectors. Downstream, bigger demand in 2012
should be most apparent in the automotive industry. Home appliances should see
steady growth in domestic demand and more exports despite the present
weakened momentum. We are also positive about demand for furniture and home
interiors given the rising completions reported by the affordable housing project.

Changes to China’s petrochemical demand and Asia’s


Petrochemical sector recovering from the 2009 trough
petrochemical spread

(USD/tonne) (USD/bbl) (% YoY) (USD/tonne)


500 160 60 China synthetic resin demand growth (L) 900
Cash margin index (L) Crude oil price (R)
7yrs peak-to-peak 10yrs peak-to-peak 50 Average synthetic resin spread (R)
10yrs peak-to-peak? 140
400 800
120 40

300 100 30 700

80 20
200 600
60 10

100 40 0 500

20 -10
0 400
0 -20
9yrs bottom-to-bottom 9yrs bottom-to-bottom
-100 -20 -30 300
1985 1988 1991 1994 1997 2000 2003 2006 2009 2012 2015 2004 2005 2006 2007 2008 2009 2010 2011 2012

Source: Chemsystems, Bloomberg, Korea Investment & Securities Source: CEIC, Datastream, Korea Investment & Securities

2
Chemicals

2. Top pick: Honam Petrochemical

Slower-than-hoped We recommend Honam Petrochemical with TP of W420,000 (30% upside). Better


business priced in the conditions in the overall petrochemical sector would benefit NCCs. Honam’s sales
1Q12 earnings and are evenly generated by synthetic resin, textile and rubber products; PE/PP 36%,
share prices; Better ethylene glycol (EG)/ethylene oxide (EO) 17% and butadiene/styrene monomer
(SM) 19%. After a rather slow 2011, the profit weighting of the business-sensitive
conditions to bring
PE/PP should expand along with the completion of 1H12 capacity addition backed
upstream benefits
by the recovery of the Chinese and global economies. We peg the 2012F
consolidated OP at W1.4trn, down 9% YoY. It is difficult to expect any significant
OP improvement in1H12, which in turn should pull down the overall annual
earnings. However, the slow market since end-2011 and a consequential drop in
spread have been mostly priced in the 4Q11 and 1Q12 earnings. Thus, we
forecast earnings to pick up after bottoming in 1Q12.

To be no. 1 ethylene We have a positive view of Homan’s long-term growth outlook. Petrochemical
producer in Asia companies’ growth strategies can be largely grouped in two. They pursue
economies of scale and market dominance by expanding sales via continued
capacity addition and M&A. Or they could improve profits via quality differentiation.
Honam is already one of the Asian leaders in terms of production capacity. The
company’s NCC should be the largest in Korea once the addition at the Yeosu
plant is completed in 1H12 as planned. Honam also became Asia’s no. 2 ethylene
producer by acquiring Indonesia-based Titan Chemicals. With the added capacity
at Yeosu, Honam’s domestic production would be 2.0 mn tonnes p.a. and Titan
Chemicals makes 720,000 tonnes p.a. Moreover, the company announced in Mar
a plan to build a plant (ethylene capacity of 1mn tonnes p.a.) in Indonesia by 2016.
Honam should then be the no. 1 Asian petrochemical company as it will beat
Taiwan-based Formosa Petrochemical whose ethylene capacity (2.94mn tonnes
p.a.) is the largest in the continent. Honam is also widening its scope for mid/long-
term growth. Its new businesses include carbon composites, PET films and
batteries for large-scale stationary electrical energy storage. The company has
also finished building an engineering plastics plant in Alabama, US.

Recommendation and TP (W)

Company Recommendation TP Current prices Upside (%)


Honam Petrochemical (011170) BUY 420,000 322,500 30.2
LG Chem (051910) BUY 440,000 356,000 23.6
Kumho Petrochemical (011780) BUY 160,000 129,500 23.6
Hanwha Chemical (009830) BUY 30,000 25,250 18.8
Note: Current prices as of Apr 17, 2012
Source: Korea Investment & Securities

KIS chemical picks and investment points


Company Investment points
- Well-diversified portfolio of pure chemical products; Beneficiary of the petrochemical
cycle turnaround
- Completions of Yeosu NCC’s regular repair and maintenance in 1Q12 and capacity
Honam Petrochemical (011170)
addition in 2Q12 resulting production growth in 2H12
- Economies of scale achieved by continued capacity additions and M&As; Inherent
competitiveness as an NCC
- Little vulnerability to the petrochemical cycles thanks to overall earnings growth from
the high value-added chemical and information & electronic material businesses
- The petrochemical industry’s recovery and overall earnings growth (i.e., NCC and
LG Chem (051910)
high value-added products)
- Stable earnings from mainstay products such as polarizer and photo resist and profit
growth from mid and large-size batteries for hybrid electric vehicles
- Pros: Potential benefits from China’s policy measures to boost automobile sales
Kumho Petrochemical (011780) - Cons: Petrochemical portfolio centered on materials used in automobile and tire
production
- Pros: PE/PVC earnings growth; Equity holding in Yeochon NCC; A China beneficiary
(i.e., from rising consumption of furniture and home interior products and increasing
Hanwha Chemical (009830) move-ins to the public housing built by the Chinese government’s affordable housing
project)
- Cons: Uncertain earnings outlook at subsidiaries
Source: Korea Investment & Securities

3
Chemicals

3. Peer group valuation

Global peer group valuation (x, %)

PE PB EV/EBITDA EPS growth ROE ROA


2012F 2013F 2012F 2013F 2012F 2013F 2012F 2013F 2012F 2013F 2012F 2013F
Korea
LG Chem 12.7 10.2 2.3 1.9 7.2 5.9 (3.9) 24.4 19.7 20.5 12.7 13.8
Honam Petrochemical 11.1 9.0 1.6 1.4 5.9 4.9 (5.0) 22.3 15.7 16.5 9.6 10.8
Hanwha Chemical 7.4 5.2 0.8 0.7 10.6 8.4 90.2 43.5 11.0 14.1 2.6 3.5
Kumho Petrochemical 7.9 6.5 2.4 1.9 6.6 5.5 (34.1) 22.6 27.8 27.6 9.7 10.8
Korea Petrochemical Ind. 10.3 9.4 0.7 0.7 4.9 4.2 88.6 10.5 7.6 7.9 4.5 4.1
Cheil Industries 16.4 12.4 1.4 1.3 9.8 7.9 10.6 32.4 9.0 10.7 5.7 6.7
Taiwan
Formosa Petrochemical 26.3 23.3 3.4 3.2 17.0 17.0 0.0 12.8 13.8 14.1 9.3 10.9
Formosa Plastics 15.2 12.5 2.0 1.9 13.6 10.5 (2.6) 21.4 14.1 15.4 11.3 12.6
Formosa Chemical & Fibre 13.7 12.4 1.7 1.6 11.6 10.2 0.0 9.7 13.1 13.8 9.9 10.7
Nan Ya Plastics 19.4 15.3 1.7 1.6 17.1 15.0 7.2 26.4 8.8 11.1 6.0 8.9
Japan
Sumitomo Chemical 11.5 9.6 1.1 1.0 6.7 6.0 5,127.8 20.1 9.8 11.2 2.6 3.5
Mitsui Chemicals 14.4 9.1 0.6 0.6 6.1 5.2 NM 57.4 4.5 6.7 1.7 2.0
Shin-etsu Chemical 16.2 14.7 1.3 1.2 6.1 5.5 18.9 10.3 7.9 8.3 6.6 7.4
Toray Industries 13.6 12.3 1.4 1.3 7.1 6.4 13.8 10.7 11.0 11.4 4.5 5.1
Kuraray 10.8 10.0 1.0 0.9 3.5 3.1 10.3 7.6 9.7 9.7 6.5 6.7
JSR 12.1 11.0 1.3 1.2 4.7 4.1 20.2 9.7 11.2 11.3 8.4 8.8
Nitto Denko 12.7 11.7 1.2 1.1 3.7 3.3 33.2 8.0 9.6 9.6 6.8 6.5
Others
Dow Chemical 12.3 9.9 1.7 1.5 6.7 5.9 6.4 24.2 15.3 16.6 8.2 7.4
Dupont 12.2 10.9 4.2 3.5 8.0 7.1 8.2 12.4 36.8 35.7 9.2 9.7
Lyondell-Basell 9.0 7.7 2.0 1.7 5.0 4.4 3.9 16.8 23.8 23.0 17.4 17.5
BASF 10.4 9.6 2.2 2.0 5.5 4.9 (5.4) 8.6 21.1 19.7 11.3 11.9
Bayer 10.3 9.1 2.0 1.8 6.2 5.5 1.6 13.0 17.4 18.0 8.9 10.1
SABIC 10.7 10.2 2.0 1.8 5.6 5.1 (1.3) 5.0 20.0 18.7 8.5 8.4
Source: I/B/E/S, Bloomberg, Korea Investment & Securities

4
Chemicals

4. Key assumptions and estimates

The prices for petrochemicals tend to move in line with naphtha. As naphtha is
made from crude oil, the oil price can be a gauge to estimate petrochemical prices.
Thus, we estimate the price for each petrochemical by using the long run elasticity
of oil prices in regard to naphtha and naphtha in regard to petrochemicals. But
having a more significant impact on the product prices are the supply and demand
conditions in the upstream and downstream industries.

Crude oil and petrochemical prices and spread (USD/bbl, USD/tonne)

1Q11 2Q11 3Q11 4Q11 1Q12 2Q12F 3Q12F 4Q12F 1Q13F 2Q13F 3Q13F 4Q13F
Crude oil and naphtha prices
Dubai crude 100.69 110.36 106.94 106.03 117.80 117.90 115.65 117.96 114.73 112.43 110.21 111.31
Naphtha 898.1 967.2 929.8 856.4 1,000.4 1,026.7 1,013.4 1,037.4 1,005.9 987.1 968.9 977.9
Basic petrochemical prices
Ethylene 1,265.4 1,265.8 1,107.7 1,040.8 1,174.2 1,216.9 1,201.1 1,229.6 1,192.2 1,169.9 1,148.3 1,159.0
Propylene 1,405.8 1,516.7 1,484.8 1,266.7 1,327.7 1,375.9 1,358.1 1,390.3 1,348.0 1,322.8 1,298.4 1,310.5
Butadiene 2,311.9 3,412.7 3,785.0 2,082.1 3,265.1 3,187.7 3,146.4 3,221.0 3,123.0 3,064.7 3,008.2 3,036.2
BTX (avg.) 1,066.9 1,158.5 1,181.0 1,094.0 1,216.6 1,260.8 1,244.4 1,273.9 1,235.2 1,212.1 1,189.8 1,200.8
Spread
Ethylene - naphtha 367.3 298.6 177.9 184.5 173.8 190.2 187.7 192.1 186.3 182.8 179.5 181.1
Synthetic resin avg. - naphtha 636.3 588.8 587.2 505.9 466.5 493.5 487.1 498.6 483.5 474.4 465.7 470.0
BTX - naphtha 168.8 191.3 251.1 237.6 216.2 234.1 231.0 236.5 229.3 225.0 220.9 222.9
Source: Cischem, Datastream, Petronet, Korea Investment & Securities

Crude oil and naphtha prices Basic petrochemical prices

(USD/bbl) (USD/tonne) (USD/tonne) Ethylene (L) (USD/tonne)


120 1,050 1,600 4,200
Propylene (L)
Avg. BTX (L)
1,500
3,800
115 1,000 Butadiene (R)

1,400
3,400
110 950
1,300
3,000
1,200
105 900
2,600
1,100
Dubai crude (L)
100 850
2,200
Naphtha (R) 1,000

95 800 900 1,800


1Q11 3Q11 1Q12 3Q12F 1Q13F 3Q13F 1Q11 3Q11 1Q12 3Q12F 1Q13F 3Q13F

Source: Cischem, Datastream, Petronet, Korea Investment & Securities Source: Cischem, Datastream, Petronet, Korea Investment & Securities

Spread: Basic petrochemicals – naphtha Spread: Synthetic resin (avg.) – naphtha

(USD/tonne) (USD/tonne) (USD/tonne)


395 2,000 700
Avg. synthetic resin - naphtha (R)
Ethylene - naphtha
1,800 Avg. synthetic resin (L)
BTX - naphtha Naphtha (L)
345 650
1,600

1,400
295 600
1,200

245 1,000 550

800
195 500
600

400
145 450
200

95 0 400
1Q11 3Q11 1Q12 3Q12F 1Q13F 3Q13F 1Q11 3Q11 1Q12 3Q12F 1Q13F 3Q13F

Source: Cischem, Datastream, Petronet, Korea Investment & Securities Source: Cischem, Datastream, Petronet, Korea Investment & Securities

5
Chemicals

II. Petrochemical industry in an upcycle

1. In the middle of bottom-to-peak business cycle

Business conditions to We believe the current slump in petrochemical business conditions will not last
recover after passing long. Given the industry’s business cycle lasting about 10 years, the recovery
the trough phase that started after 2009 should continue for three or four years. Major drivers
for the industry’s recovery include policy actions to stimulate depressed demand
and corporate strategy to improve profitability. After the 1990s, Asia’s economic
growth pushed up demand for petrochemicals and China played the pivotal role.
China’s policy to stimulate domestic demand has led the industry’s recovery
despite weaker global demand since 2009. China is still the world’s fastest-growing
big economy. Moreover, other emerging Asian economies such as India should
also enjoy steady growth. In that sense, Korea’s petrochemical firms are well-
positioned to benefit from the rise. Their location advantage (closest to China and
belonging to Asian markets) and the ongoing strategic shift to high value-added
products backed on advanced technology should improve profitability.

Petrochemical industry on a recovery phase after passing the trough

(USD/tonne) Cash margin index (L) Crude oil price (R) (USD/bbl)
500 160

7yrs peak-to-peak 10yrs peak-to-peak 10yrs peak-to-peak? 140


400
120

300 100

80
200
60

100 40

20
0
0
9yrs bottom-to-bottom 9yrs bottom-to-bottom
-100 -20
1985 1988 1991 1994 1997 2000 2003 2006 2009 2012 2015

Note: Cash margin is the average cash margin of monomers and polymers of ethylene and propylene
Source: Chemsystems, Bloomberg, Korea Investment & Securities

Business cycle based on OPM at Korea’s major petrochemical firms

(%)
25 NCC OPM Downstream OPM

20

15

10

-5 Korea chemical cy cle 10y rs Korea chemical cy cle 10y rs?


(1995-2004) (2005- )
-10

-15
1990 1995 2000 2005 2010

Note: Four NCC firms (LG Chem, Honam Petrochemical, Korea Petrochemical, Yeochun NCC) and four downstream companies
(Hanwha Chemical, Kumho Petrochemical, KP Chemical, Taekwang Industrial)
Source: DART, Dataguide, Korea Investment & Securities

6
Chemicals

Triggers for petrochemical downcycle and restructuring efforts


Global economic
1974-1975 1980-1983 1991-1993 2001-2002 2008-
recession
Maximization of
Diversification Diversification Maturation Industrial paradigm shift
shareholder value
ᆞ US housing market ᆞ Prolonged recession
crash and the in Japan
ᆞ Financial crisis
subsequent savings and ᆞ Asian currency crisis
ᆞ Second oil shock in sparked by US housing
Cause ᆞ First oil shock in 1973 loan crisis in 1997
1978 market crash
ᆞ Companies’ fragile ᆞ IT bubble burst in
ᆞ Sovereign debt crisis
fiscal position due to 2001
M&A drive ᆞ Sep 11 terror attacks

ᆞ Worldwide ᆞ Worldwide ᆞ Some regions ᆞ Worldwide


ᆞ Worldwide
Economic impact ᆞ Short-term ᆞ Long-term ᆞ Short-term ᆞ Short-term
ᆞ Crisis underway
ᆞ Stagflation ᆞ Stagflation ᆞ Deflation ᆞ Deflation

Petrochemical
ᆞ 1975 ᆞ 1985 ᆞ 1993 ᆞ 2001 ᆞ 2009
downcycle trough
ᆞ Serious oversupply
ᆞ Sharp rise in raw on new facility buildup/
ᆞ Sharp rise in raw
material costs capacity additions and ᆞ Oversupply ᆞ Sharp drop in product
material prices
Industrial impact ᆞ Serious oversupply resumed operation ᆞ Stagnant demand on prices due to rapidly
ᆞ Stagnant demand for
on new facility buildup ᆞ Expansion of business Asia’s economic crisis depressed demand
widely used petrochemicals
and capacity additions scope and weaker
division of labor
ᆞ Diversification beyond ᆞ Diversification beyond
ᆞ Vertical integration or ᆞ Companies in petroleum (environment
petrochemicals ᆞ Securing resources
diversification among advanced nations friendly)
ᆞ Focus on special and markets
Restructuring up/downstream penetrating emerging ᆞ Companies in
products ᆞ Diversification into
direction companies in case of economies emerging economies
ᆞ Companies in advanced high oil prices and low ᆞ Expansion of high value-added
going global and
economies penetrating other growth businesses
business scope expanding high value-
advanced economies added businesses
ᆞ M&As
ᆞ Reinforcing existing ᆞ M&As
ᆞ Business closure ᆞ Focus on internal
Restructuring efforts businesses ᆞ Overseas entry ᆞ M&As
ᆞ Overseas entry management resources
ᆞ M&As through JV
ᆞ Overseas entry

Source: LG Economic Research Institute (content recycled by Korea Petrochemical Industry Association), Korea Investment & Securities

7
Chemicals

2. Petrochem firms to ramp up utilization on slower


capacity rise

Supply growth slower Petrochemical firms are expected to ramp up their utilization rates as the growth of
than demand growth; new capacity will be weaker than the rise of demand in 2012. The biggest variable
Petrochemical firms to that changes the petrochemical cycle is of course supply/demand conditions. All
focus on capacity demand for petrochemicals have linear growth. In contrast, capacity (production
addition in 2H12, plant facilities) tends to go up in phases as demand growth is difficult to predict while
maintenance in 1H12 facility expansion is time consuming. The discrepancy between them typically
leads to an imbalance between supply and demand. Due to the 2008 global
financial crisis, countries in the ME delayed making investment and the pace of
new capacity additions slowed. Accordingly, the capacity for ethylene increased a
mere 1.8mn tonnes in 2011. As supply should grow only 4.7mn tonnes in 2012F
while demand goes up as much as 5.6mn, the supply/demand balance for
ethylene will likely remain tight throughout the year. As a result, petrochemical
firms will ramp up their utilization. Historically, companies in Asia and the ME have
done routine plant maintenance mostly in 1H when demand is relatively weaker, so
this should help maintain a tight supply/demand balance.

Olefin supply/demand estimates and utilization rate changes

(mn tonnes) (%)


350 Ethy lene (L) Propy lene (L) Butadiene (L) 94
Utilization (R) Total capacity (L)
300 92

250 90

200 88

150 86

100 84

50 82

0 80
2004 2006 2008 2010 2012F 2014F 2016F

Source: Chemsystems, Korea Investment & Securities

Plants scheduled for maintenance in Asia and ME:


Global ethylene supply/demand changes
Mostly in 1H

('000 tonnes) (maintenance shutdowns)


15,000 12
Ethylene capacity increase 2010

Ethylene demand increase 2011


10 2012
10,000

8
5,000

0
4

-5,000
2

-10,000 0
2007 2008 2009 2010 2011 2012F 2013F Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec

Source: CMAI, Chemsystems, KPIA, Korea Investment & Securities Source: Bloomberg, KPIA, Korea Investment & Securities

8
Chemicals

Estimated petrochemical capacity additions in Asia and ME (‘000 tonnes/yr)

Ethylene production
Scheduled startup Country Company Remarks
capacity
1Q12 Iran Ilam PC 458
1Q12 China Sichuan PC 800 Completed production line at end-2011
1Q12 India Gail 450 Construction
2Q12 Iran Kavian PC 1,000 Engineering
2Q12 China Fushun PC 800 Complete production line
2Q12 Korea Honam Petrochem. 250 Yeosu plant (750→1,000)
4Q12 Singapore ExxonMobil 1,000 Construction
2012 4,758
1Q13 China Yulin Energy and Chemical 570 Engineering
1Q13 China Wison Nanjing Chemical 295 Construction
1Q13 India ONGC Petro 1,100 Construction
1Q13 Iran Kavian Petrochemical 1,200 Engineering
2Q13 China Daqing Petrochemical 600 Engineering
3Q13 India Brahmaputra Cracker and Polymers 220 Engineering
3Q13 China Shanghai Petrochemical 450
2013 4,435
1Q14 Iran Gachsaran Petrochemical 1,000 Construction
2Q14 China Shanxi Coking 300 Construction
2Q14 UAE Abu Dhabi Polymers 1,500 Construction
4Q14 Iran Ilam Petrochemical 500 Construction
2014 3,300
Source: Industry data, Korea Investment & Securities

9
Chemicals

3. China drives global demand growth

In 2012, ethylene We expect to see better supply-demand conditions for petrochemicals in 2012.
demand to rise 4.3% Global ethylene demand should total 135mn tonnes, up 4.3% YoY and outpacing
YoY globally compared 3.1% capacity growth. Changes to the supply-demand scenario will be led by
to 8.1% in China China that exerts an enormous influence on the demand side. Chinese demand for
petrochemicals should be 17.3mn tonnes, up 8.1% YoY and exceeding 5.5%
greater demand across Asia. Although China will boost petrochemicals capacity in
line with demand, any supply-side shock should be limited as most of the capacity
additions are scheduled in 2H12.

Ethylene demand and supply capacity additions by


Global ethylene demand and supply capacity changes
region in 2012
(mn tonnes) (%) (mn tonnes)
160 89 6
Demand (L) China Other Asia
Capacity (L)
150 Middle East Others
Utilization (R) 5
88
140
4
130
87

120 3

86
110
2
100
85
1
90

80 84 0
2009 2010 2011 2012F Demand increase Capacity increase

Source: KPIA, Korea Investment & Securities Source: KPIA, Korea Investment & Securities

China’s monetary China also provides an important demand base for propylene and its derivatives as
easing should lead to well as ethylene. Chinese demand for polyolefin represented 18% of global
bigger demand in 2012 demand in 2004 and the portion expanded to 23% in 2011, attributed mainly to its
strong economic growth. In 2011, global demand growth was a bit slow due to the
debt crises in Europe and the US. Chinese demand growth was also less than its
GDP growth but we expect the robust demand seen in 2009 to return in 2012. As
the Chinese government reverses monetary tightening implemented since 2H11,
the policy effects should lead to a big rise in polyolefin demand as was the case in
2009.

Polyolefin consumption breakdown by region (2011) China: GDP growth vs. polyolefin demand growth

('000 tonnes) (%)


China polyolefin demand change (L)
2,500 16
Asia (ex-China)
Americas China GDP (YoY, R)
21%
23%
2,000 14

1,500 12

IMF forecast
1,000 10

500 8

China
0 6
23% Europe
22%
-500 4
China government target
Middle
-1,000 2
East/Africa
2005 2006 2007 2008 2009 2010 2011 2012F
11%

Source: Chemsystems, Korea Investment & Securities Source: Chemsystems, Korea Investment & Securities

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Chemicals

III. China’s recovery would provide Korean


petrochemicals the opportunity for growth

1. China’s government policies drive the global


petrochemical industry’s growth

China’s petrochemical Rising demand for petrochemicals in China is driving the growth of the global
industrial policies have petrochemical industry. Moreover, China’s government policies are guiding its
a huge influence on petrochemical industry’s growth. To meet the soaring demand for petrochemicals,
global demand China has turned toward securing production capacity and technological ability,
while lifting its self-sufficiency. Since the global financial crisis, the country has
been busy nurturing homegrown companies and focusing on domestic growth.
However, China will continue to depend on imports from neighboring countries as it
has ~70% self-sufficiency. And the Korean petrochemical industry is in a state of
significant mutual dependence with its Chinese counterpart.

Annual polyolefin demand growth by region


('000 tonnes)
3,000 Americas Europe Middle East/Af rica China Asia (ex-China)
2,000

1,000

-1,000

-2,000

-3,000
2005 2006 2007 2008 2009 2010 2011

Source: Chemsystems, Korea Investment & Securities

Synthetic resin production volume and self-sufficiency during each Chinese


government initiative for the petrochemical industry
('000 tonnes) (%)
50,000 Sy nthetic resin production (L) 90

40,000 Sy nthetic resin self -suf f iciency (R) 80


70
30,000
60
20,000
50
10,000 40

0 30
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010

Eighth and ninth five-year plans 10th five-year plan 11th five-year plan
(1991-2000) (2001-2005) (2006-2010)
Despite economic growth and greater Self-sufficiency lifted
Synthetic demand for petrochemicals, financial on massive capacity Self-sufficiency lifted on
resin self- and technological limitations dragged additions attributed to massive capacity additions by
sufficiency down self-sufficiency; Relied on JVs with overseas oil domestic firms
imports majors
- Acquired technology
- Vertical integration,
- Attempted to attract overseas capital and skills through JVs
expansion, advancement
Government and technology with overseas oil
- Product diversification
policy - Focused on expanding capacity at majors
-Selectively attracted foreign-
small production facilities - Restructured small
funded firms
production facilities
Capacity - 6.3mn tonnes (2006-2010)
6.7mn tonnes (2000-
addition 2.9mn tonnes (1995-2000) - 2.2mn tonnes (2011-2012,
2005)
(ethylene) est.)
Source: Korea Institute for Industrial Economics & Trade, CMAI, KPIA, Korea Investment & Securities

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Chemicals

2. Interdependent Chinese and Korean petrochemical industries

Growing Chinese import The Chinese and Korean petrochemical industries are very dependent on each
demand provides other. Korea is the biggest exporter of petrochemicals to China, while China is the
opportunity for Korean biggest importer of petrochemicals from Korea. China’s polyolefin demand growth
exports to grow represents 48% of the increase in Asia and its self-sufficiency for synthetic resin
remains at a little more than 70%. As China is an enormous consumer market as
well as an export market, the Korean petrochemical industry that exports 50% of
its domestic production volume has no choice but to depend on China. Among
Korea’s synthetic resin export destinations, China accounted for an average 42%
in 2011. With Korea’s overall export volume rising in tandem with the portion of
exports to China, we can say China-bound exports undoubtedly have a significant
effect on the Korean petrochemical industry’s earnings.

China’s synthetic resin imports vs. Korea’s synthetic Korea’s synthetic resin exports growth and
resin exports dependency on China
(USD mn) (USD mn) (%) Korea's synthetic resin export growth (L) (%)
China's synthetic resin imports (L)
5,000 1,300 80 55
Korea's synthetic resin export dependency on China (R)
Korea's synthetic resin exports (R)
4,500 1,200
60
50
1,100
4,000
40
1,000
3,500
45
900 20
3,000
800 0
40
2,500
700
-20
2,000
600
35
1,500 -40
500

1,000 400 -60 30


Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-08 Jul-08 Jan-09 Jul-09 Jan-10 Jul-10 Jan-11 Jul-11 Jan-12

Note: The synthetic resin data is the total of five types – polyethylene , polypropylene, Note: The synthetic resin data is the total of five types – polyethylene , polypropylene,
polyvinyl chloride, polystyrene and acrylonitrile butadiene styrene polyvinyl chloride, polystyrene and acrylonitrile butadiene styrene
Source: CEIC, KITA, Korea Investment & Securities Source: CEIC, KITA, Korea Investment & Securities

China’s industrial production growth and Korean Coupled growth of China’s M2 and synthetic resins and
chemical players’ share prices synthetic rubber imports
(% YoY) (2005.1.31=100) (% YoY) (% YoY)
China synthetic resin imports (L)
25 1200 200 35
China industrial production increase (L) China synthetic rubber imports (L)
Korean chemical company stock price index (R) China M2 growth (R)
1000 150 30
20

800 100 25
15

600 50 20

10
400 0 15

5
200 -50 10

0 0 -100 5
Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 07 08 09 10 11 12

Note: The Korean petrochemical players’ share prices are the combined market cap Source: CEIC, Korea Investment & Securities
of LG Chem, Honam Petrochemical, Hanhwa Chem and Kumho Petrochemical
Source: Datastream, Korea Investment & Securities

China sources a To China, Korea is an important source of petrochemicals. China imports 30% of
significant portion of domestic demand for synthetic resin and 24% of the imports come from Korea, the
petrochemicals from biggest for any country. China’s most-imported petrochemicals from Korea include
Korea 1) high-density polyethylene (HDPE), PP and acrylonitrile butadiene styrene (ABS)
for synthetic resin, 2) butadiene rubber (BR) for synthetic rubber and 3)
paraxylene (PX) and terephthalic acid (TPA) for synthetic fiber. To Korea, China is
the biggest importer of synthetic resin, synthetic rubber and synthetic fiber.

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Chemicals

China’s synthetic resin imports by country (2011) Korea’s synthetic resin exports by country (2011)

Korea
24%

Others China
50% 42%

Others
59%
Taiwan
17%

Vietnam
India
4%
4%

Source: KITA, Korea Investment & Securities Source: KITA, Korea Investment & Securities

China’s synthetic rubber imports by country (2011) Korea’s synthetic rubber exports by country (2011)

China
26%

Others Korea
30% 38%
Others
44%

Indonesia
12%
US
10%

Taiwan Japan
11% US
11% India
6%
12%

Source: KITA, Korea Investment & Securities Source: KITA, Korea Investment & Securities

China’s synthetic fiber imports by country (2011) Korea’s synthetic fiber exports by country (2011)

Korea Others
23% 11%

Taiwan
10%
Others
52%

Saudi Arabia
15%

China
79%
Japan
10%

Source: KITA, Korea Investment & Securities Source: KITA, Korea Investment & Securities

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Chemicals

3. China to stimulate domestic demand to tackle slowing


economy

China eases monetary Anticipation that demand will pick up in Asia, led by China, remains valid. China
tightening and vows to maintained monetary tightening since 2011 to tame its overheated economy and
stimulate domestic inflation. But the Chinese government has vowed to stimulate domestic demand in
demand 2012 and onward, which should lead to greater demand for the petrochemical
industry as well. China is expected to introduce various policy measures including
the central bank cutting its reserve requirement rate (RRR) as its CPI has
stabilized after peaking in Jul 2011. China already cut the RRR in Jan and Mar.
Given the time gap between implementation of monetary policy and its effects on
the real economy, we forecast demand growth backed by the Chinese policy
changes will be seen gradually.

Report delivered at the National People’s Congress (NPC): 2009 vs. 2012
2009 2012
Goal
Stimulate domestic demand via aggressive fiscal
Improve people’s lives and restructure industry
expansion and monetary easing
Details
- GDP growth 8%, CPI rise 4%, unemployment 4.6% - GDP growth 7.5%, CPI rise 4%, unemployment 4.6%
- M2 growth 17%, new loans RMB5trn - M2 growth 14% (no comment on new loans)
- Fiscal expenditure RMB7.62trn (budget deficit - Increase in fiscal expenditure and neutral monetary
RMB950bn) policy with easing bias
- Economic stimulus packages worth RMB4trn - Introduction of domestic consumption stimulus
- Investment of W716.1bn in rural area support measures
- More employment (create 9mn jobs with RMB42bn - Greater supply and better distribution to stabilize
budget) prices
- RMB500bn tax cuts - Shift to new growth pattern, industry restructuring,
energy saving and environmental protection
- More spending on science, technology and education
(education spending growth to match 4% of GDP)
- Improve people’s lives, create 9mn jobs, better social
security and supply 7mn units of public housing
Source: China NPC, Korea Investment & Securities

Slower CPI inflation rate hints at the release of Time gap exists for the effects of monetary policy to
additional monetary easing materialize in the real economy
(PY=100) (%) (% YoY)
115 CPI (L) 23 35 China industrial production growth
PPI (L)
21 China M2 growth
Required reserve ratio (R) 30
110 19
25
17
105
15 20

13 15
100
11
10
9
95
5
7

90 5 0
Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12

Source: National Bureau of Statistics of China, Korea Investment & Securities Source: National Bureau of Statistics of China, Korea Investment & Securities

Anticipated additional According to the KIS Emerging Market team, there could be an increase in China’s
monetary easing in benchmark rate as early as in 2Q12. The yield on one-year bills issued by the
2Q12 at the earliest People’s Bank of China (PBC) typically leads the central bank’s benchmark rate.
As the yield turned downward in Nov 2011, the benchmark rate would follow suit in
the near future. The policy event likely to occur first would be the central bank
cutting its RRR for banks. The KIS Emerging Market team expects at least two
cuts in 2Q12. The foreign exchange equalization fund increased only RMB25.1bn

14
Chemicals

in Feb, much less than the RMB140.9bn rise a month earlier. Given the outlook for
an accelerating economic slowdown in China and a weaker RMB, chances are the
foreign currency inflow to the fund will continue to slow, which may in turn trigger
monetary easing. The purchasing managers index (PMI), an important sentiment
reading, and the leading economic index rose for a second straight month. With
additional monetary easing, the indexes should continue to rise. Consumers’
growing inclination to spend, as shown in some survey results, also leads us to
expect much from China’s policy to stimulate domestic demand.

One-year bill yield leads key rate, picked up since Nov China’s actual savings rate entered positive territory
2011 after 25 months as CPI growth turned downward
(%) (%)
5.0 6
1yr deposit rate
Adj. deposit rate
4.5
China 1yr bill yield
4
4.0

3.5
2
3.0

2.5 0

2.0
-2
1.5

1.0
-4
0.5

0.0 -6
04 05 06 07 08 09 10 11 12 07 08 09 10 11 12

Source: CEIC, Korea Investment & Securities Source: National Bureau of Statistics of China, Korea Investment & Securities

OECD leading economic index: China still on a downturn and nearing bottom
(av g.=50) (1996=100)
65 110

60
105
55

50 100

45 95
40
China Federation of Logistics & Purchasing - China composite leading indicator (L) 90
35 National Bureau of Statistics China - China composite leading indicator (R)
OECD - China composite leading indicator (R)
30 85
06 07 08 09 10 11 12

Source: National Bureau of Statistics of China, China Federation of Logistics and Purchasing, OECD

China’s consumer confidence index rallied for three Record weighting of respondents who plan to buy a car
straight months within the next three months
(pt) Consumer confidence index (L) (%) (%) (%)
110 50 24 China urban depositor survey: % plan to buy house in the next 3 16
% of consumption preference (R) months (L)
22
China urban depositor survey: % plan to buy car in the next 3
20 months (R)
45 14
105 18

16
40 12
14

100 12
35 10
10

95 30 6 8
Jan-10 Jul-10 Jan-11 Jul-11 Jan-12 Mar-05 Mar-06 Mar-07 Mar-08 Mar-09 Mar-10 Mar-11 Mar-12

Source: National Bureau of Statistics of China, PBC, Korea Investment & Securities Source: PBC, Korea Investment & Securities

15
Chemicals

4. Chinese recovery is a boon for the petrochemical industry

China easing its Obviously, the change in Chinese demand for petrochemicals has a significant
monetary tightening effect on the industry’s business conditions, particularly in Asia. If the Chinese
should drive demand economy recovers, the demand for petrochemicals would grow and drive up prices
for petrochemicals in the process. As such, better economic conditions in China work to widen the
price spread between products and raw materials. Furthermore, China’s easing of
monetary tightening should be a boon for the industry’s business conditions. In
particular, there should be greater demand for synthetic resins, mainly PE and PP,
consumed in large quantities for industrial and non-industrial uses. By downstream
industry, demand should be healthy particularly from 1) the automotive sector
whose 2012 growth will likely be the most apparent among others, 2) the home
appliance sector backed by steadily growing domestic demand (despite weak
momentum) and 3) the furniture and home interior sectors due to more housing
construction completions.

China’s leading economic index vs. China’s demand for petrochemicals

(% Y oY )
60 China sy nthetic resin demand growth (L) 108

50 China composite leading indicator (R) 106


40 China composite coincident indicator (R)
104
30

20 102

10 100
0
98
-10
96
-20

-30 94
2003 2004 2005 2006 2007 2008 2009 2010 2011 2012

Source: CEIC, Korea Investment & Securities

Chg. in Chinese demand for petrochemicals vs. synthetic resin spread in Asia

(% Y oY ) (USD/tonne)
60 China sy nthetic resin demand growth (L) 900

50 Av erage sy nthetic resin spread (R)


800
40

30 700

20
600
10

0 500
-10
400
-20

-30 300
2004 2005 2006 2007 2008 2009 2010 2011 2012

Source: CEIC, DataStream, Korea Investment & Securities

16
Chemicals

5. Most visible demand growth to be seen in car sales

Base effect for YoY auto Chinese demand growth should be the most pronounced in the automotive
sales growth and industry. Auto sales in China were relatively weak in 2011 but should grow
greater application of substantially in 2012. Beside steel, plastic is the most widely used raw material in
petrochemicals to auto production. The use of plastic should further expand with the growing
lighten vehicles application of reinforced or engineered plastic as automakers are accelerating
vehicle lightening to improve fuel efficiency. With the increase in auto sales, the
demand for tires is growing as well. Moreover, replacement demand is rising as
the number of cars on the road is rising. As such, the demand for synthetic rubber
used to make tires would grow as well.

China’s car sales volume up from 2011

('000 units) (%)


Vehicles sold (L)
25,000 50
Vehicle sales growth (R)
45.5 45
20,000 40.5 40
37.4 35
32.3
15,000 30
25.3 25
21.8
10,000 20
14.2 13.8
11.1 15
13.3 13.5
5,000 10
6.7 7.0
5
2.5
0 0
1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012F
Source: CEIC, China Association of Automobile Manufacturers, Korea Investment & Securities

Petrochemicals have Greater demand for automobiles fuels demand for petrochemicals. While there are
wide applications from various materials used in automobiles, PP is the most widely used synthetic resin.
synthetic resin, fiber As light-weight plastic has seen increasing application to lighten vehicles and
and rubber to other improve fuel efficiency, the use of plastic parts instead of metal should further
products expand. Moreover, growing auto sales will drive up demand for tires, leading to
greater synthetic rubber demand in the process. As such, there will likely be an
increase in demand for butadiene, the main raw material of synthetic rubber.

Breakdown of main materials used


Breakdown of automotive plastics Breakdown of butadiene demand
in auto production
Phenol
Others 1.2% Others
Others, 8%
PE 3.7% 19%
Rubber,Glass, 3%
4.9% SB rubber
4% ABS
31%
4.9%
Non-
Functional
ferrous
resin SB latex
metal, 10%
12.2% PP 11%
48.8%

Plastic, Steel, 63%


12% PU ABS
12.2% Butadiene
11%
rubber
28%
PVC
12.2%

Source: KPIA, Korea Investment & Securities Source: KPIA, Korea Investment & Securities Source: Nexant, Korea Investment & Securities

17
Chemicals

6. Softer monetary tightening to evenly benefit


construction, home appliance and synthetic fiber industries

Focus of stimulus Meanwhile, Beijing is shifting the focus of its stimulus policy to perk up domestic
policy shifted to demand from automobiles and home appliances to furniture and home interior
furniture and home goods. The Chinese government will likely expand its furniture trade-in program so
interior goods far implemented in some regions as a pilot project. Under the government’s
affordable housing scheme, the number of housing starts reached 10mn in 2011,
with an additional 7mn planned and targeting 5mn housing completions in 2012.
Interior-related industries should grow as the demand for interior products rises in
proportion to housing completions and move-ins. More demand is expected for
products such as polyvinyl chloride (PVC; wallpaper, flooring and window frames)
and polyurethane (PU; sofa and bed cushions), synthetic leathers (finishing
materials for furniture) and synthetic fabrics.

Policy momentum for Before the policy focus was shifted, the home appliance sector was the prime
home appliances has beneficiary of China’s massive stimulus package to perk up domestic demand.
weakened but demand Most home appliances use plastic for inner and outer materials and they also
should pick up on require various synthetic resins including PP, polystyrene (PS), polycarbonate
economic recovery (PC), PU, PVC and ABS. The Chinese electronics industry with a heavy exposure
to exports has tried to overcome dampened buying from advanced economies
post the 2008 financial crisis by stimulating domestic demand. With the
implementation of a subsidy program for rural areas and customers who trade in
old products for new, the demand for TVs, refrigerators and other consumer
electronics soared. Going forward, the Chinese government may also expand
subsidies for environmentally friendly goods or products sold to households
moving into homes built by the affordable housing initiative. With the global
economic recovery looming large, exports demand should pick up, albeit at a
modest pace.

Weakened effect of stimulus for home appliances since


More investment in affordable home construction in
mid-2010; Domestic sales growth of major appliances
2011 with completions mostly planned in 2012
slowed
(% YTD) (%)
50 120 TV
Residential building investment
100 Washing machine
Economic house building investment
40
Refrigerator
80
30 Air conditioner
60
20 40

10 20

0
0
-20
-10
-40
Strong impact from Fading impact from policy
-20 -60 policy
2008 2009 2010 2011 2012 Jan-08 Aug-08 Mar-09 Oct-09 May-10 Dec-10 Jul-11

Source: CEIC, Korea Investment & Securities Source: ChinaIOL, Korea Investment & Securities

Synthetic textiles production capacity by country (‘000 tonnes/yr)

Country 2009 2010 2011 YoY chg. in 2011


Japan 1,202 981 946 (35)
China 30,307 31,151 32,776 1,625
Korea 1,639 1,675 1,620 (55)
Taiwan 2,277 2,222 1,961 (261)
India 3,747 4,221 4,551 330
Other Asian countries 3,766 4,036 4,253 217
Non-Asian countries 7,335 6,636 6,700 64
Total 50,273 50,922 52,807 1,885
Source: Fiber Organon (content recycled by Chemlocus), Korea Investment & Securities

18
Chemicals

IV. Growth strategies and competitiveness

1. Focus on large capacity and petrochemicals

Large facility needed to Korean chemical players have secured economies of scale and improved
respond to stronger efficiency via M&A and cooperation. For example, LG Chem merged with LG
petrochemical demand Daesan Petrochemical and LG Petrochemical; SK Innovation acquired SK
Petrochemical in line with its vertical integration strategy; Honam Petrochemical
merged with Lotte Daesan Petrochemical and plans to re-try a merger with KP
Chemical. Strategic affiliation was also pursued among companies and industries.
In the petrochemical industry, competitiveness is determined by high efficiency on
a large scale. Small-scale plants were built when petrochemical product demand
was low in the past. Now, aged plants are losing their efficiency and their units are
too small to respond to a new trend of cost reduction via mass production. Korean
chemical players boast competitive raw material costs as the relatively young
companies have built large-scale unit plants. They also enjoy a geographical
advantage in the growing Asian market, especially neighboring China with the
world’s greatest petrochemical appetite. Thus, their top lines will likely expand in
tandem with market growth. Moreover, their margins should be favorable without
securing cheap raw materials thanks to tight supply-demand conditions.

Production capacity of global ethylene manufacturers (2011) (‘000 tonnes/yr)

Production Average
Ranking Company Production site
capacity capacity/site
1 Saudi Basic Industries 15 13,392 893
2 Dow Chemical 21 13,045 621
3 ExxonMobil Chemical 19 12,515 659
4 Royal Dutch Shell 13 9,358 720
5 Sinopec 13 7,575 583
6 Total 11 5,933 539
7 Chevron Philips Chemical 8 5,607 701
8 Lyondell Basell 8 5,200 650
9 National Petrochemical 7 4,734 676
10 Ineos 6 4,656 776
Korean players Honam Petrochemical 2 2,000 1,000
LG Chem 2 1,930 965
Yeonchun NCC 1 1,910 1,910
Samsung Total Petrochemicals 1 1,000 1,000
Korea Petrochemical Ind. 1 470 470
Note: 1. Lyondell Basell includes subsidiary Equistar Chemicals
2. Honam Petrochemical’s capacity includes annual capacity of 250,000 tonnes to be added in Apr 20112
Source: Oil & Gas Journal, Korea Investment & Securities

Korean players’ OP favorable compared to global competitors


(%)
35
30 2007 2008 2009 2010 2011
25
20
15
10
5
0
-5
Dow Chemical

Sumitomo

Formosa
Chemical

Petrochemical

Petrochemical

Chemical
SABIC
BASF

LG Chem
Chemical

Hanwha
Plastics
Mitsui

Formosa

Honam

Source: Bloomberg, Korea Investment & Securities

19
Chemicals

2. Standing apart from others with unmatched products


and high value-added businesses

Maintaining sound The prices and margins for petrochemicals are very susceptible to changing
financials is essential to external variables and thus are difficult to foresee. Existing producers face
secure fresh growth competition from emerging-market firms armed with economies of scale. To tackle
drivers the challenges and ensure sustainable growth and profit sources, petrochemical
companies are filling them with “unmatched” businesses that allow them to stand
apart from rivals, such as high-end, upgraded petrochemicals and new products
such as electronic materials and optical materials. Petrochemical companies have
sought fresh growth drivers in diverse fields across pharmaceuticals, electronics
and new materials. In particular, Japanese firms have developed various electronic
materials in line with the country’s thriving IT industry and still command an
unrivaled position in many chemical segments. To fund continued investment in
new businesses, it is essential for a company to have strong earnings power and
maintain a grip on sound financials. Korean companies rely on a limited amount of
borrowings to fund their operating and investment activities, which we believe
demonstrates their fundamental strengths can grow further.

Global chemical firms’ sales contribution by division (2011) (%)

Company Country Petrochemicals Specialty chemicals and others


% of total % of total
sales sales
Performance materials (24.4), agricultural sciences (12.0), corporate
Feedstock & energy (18.8), performance
Dow Chemical US 45.9 (0.5), coatings & infrastructure solutions (7.7), electronic & functional 54.1
plastics (27.1)
materials (9.4)
Agriculture (24.1), performance materials (17.7), performance coatings
DuPont E.I. US Performance chemicals (19.9) 19.9 (11.3), safety & protection (10.3), electronic & communication 80.1
technologies (8.3), nutrition & health (6.5), other chemicals (1.9)
Performance products (21.4), oil & gas (16.4), functional solutions
BASF Germany Chemicals (17.6), plastics (15.0) 32.6 67.4
(15.5), agricultural solutions (5.7), other chemicals (8.5)
Healthcare (38.8), crop science (19.9), diagnostic & devices (5.0), other
Bayer Germany Materials science (29.7) 29.7 70.3
chemicals (6.7)
Saudi
SABIC Chemicals (83.8) 83.8 Metals (6.0), fertilizer (3.3), corporate (6.9) 16.2
Arabia
Petrochemicals (30.8), basic chemicals PU (9.0), fabricated products (9.2), functional polymeric materials (7.7),
Mitsui Chemical Japan 64.5 35.5
(33.7) functional chemicals (8.3), other chemicals (1.3)
Designed materials (21.1), healthcare (15.9), electronic applications
Mitsubishi Chemical Japan Chemicals (29.6),polymers (22.4) 51.9 48.1
(4.4), other chemicals (6.6)
Petrochemicals (33.9), basic chemicals Pharmaceuticals (19.6), IT-related chemicals (15.1), agricultural
Sumitomo Chemical Japan 48.2 51.8
(14.4) chemicals (12.9), other chemicals (4.1)
Plastics (35.4), PE (20.6), chemicals (17.6),
Formosa Plastics Taiwan 97.9 Electronics special project (0.3), plastic processing (0.2), others (1.6) 2.1
acrylic (15.6), PP (8.7)
Source: Company data, Korea Investment & Securities

Korean chemical firms’ relatively low net debt-to-equity to global peers

(%)
140
120 2007 2008 2009 2010 2011
100
80
60
40
20
0
-20
-40
Dow Chemical

Sumitomo

Formosa
Chemical

Petrochemical

Petrochemical

Chemical
BASF

SABIC

LG Chem
Chemical

Hanwha
Plastics
Mitsui

Formosa

Honam

Source: Bloomberg, Korea Investment & Securities

20
Chemicals

V. Risk analysis

Capacity growth at low-cost ethane crackers may threaten


price competitiveness

Despite the cost edge, Feedstock in the petrochemical industry can be roughly divided into naphtha and
ethane crackers cannot ethane. Naphtha is a refined light distillate from crude oil. Thus, the naphtha
replace naphtha production cost includes the cost incurred from the operation of refineries.
crackers’ diverse However, ethane can be procured at much lower prices as it is a by-product of
petrochemicals petroleum refining. With lower shale gas production costs led by the US,
supplied to downstream petrochemical facilities using ethane as feedstock are improving their cost
industries competitiveness. Despite the cost edge, ethane crackers are not a perfect
substitute for naphtha crackers that have wide-ranging production of ethylene,
propylene, C4 (feedstock for butadiene) and pyrolysis gas (feedstock for benzene,
toluene and xylene or BTX). In comparison, ethane crackers tilt toward ethylene
production (77.5%). As such, ethane crackers alone cannot supply many
petrochemicals to downstream industries. Furthermore, ethane crackers should
soon face a supply issue as petroleum production is necessary for additional
ethane production in the ME where ethane cracker capacity additions are already
active. Given the needed time to secure ethane and complete capex, it will be
quite a while before seeing actual capacity growth. Indeed, ethane crackers’
capacity weighting grew a mere 3%p over the past four to five years.

Feedstock breakdown by region Capacity: Naphtha vs. ethane crackers


(%) Ethane Propane Butane Naphtha Gas Oil ('000 tonnes) (%)
100 180 51
Naphtha cracker (L)
90 160 Ethane cracker (L)
% ethane cracker (R) 50
80 140
70
120
60 49
100
50
80
40 48
60
30
40
20 47

10 20

0 0 46
North America Western Europe Middle East Asia Pacific Global 2006 2007 2008 2009 2010 2011 2012F 2013F 2014F

Source: Industry data, Korea Investment & Securities Source: Industry data, Korea Investment & Securities

Cash cost curve for ethylene production Basic petrochemicals: Naphtha vs. ethane crackers
(USD/tonne) (%) Ethylene Propylene C4 Pyrolysis gas Others
1,200 100

90
1,000 Northeast Asia
Western Europe avg. 80
avg.
800 70
Ethylene cash cost

Southeast Asia 60
600 avg.
US avg. 50

400 US ethane 40 77.5


30
Middle East avg.
200
Middle East 20
(mn tonne) 33.6
ethane 10
0
0 20 40 60 80 100 120 140
0
Cumulative ethylene capacity Naphtha cracker Ethane cracker

Source: CMAI (content recycled by Dow Chemical), Korea Investment & Securities Source: KPIA, Korea Investment & Securities

21
Chemicals

VI. Sensitivity & scenario analysis

1. FX sensitivity

Chemical firms maintain Korean chemical firms buy and sell products and raw materials in USD terms
an amount of net FX according to global pricing, even when doing business in Korea. This allows firms
debt to offset risks to to hedge against FX risks on OP and EBT, as long as FX rates that are recognized
OP and EBT in sales and costs do not show drastic movements over the short-term. However,
as most chemical firms have more USD-denominated debt than assets, if all other
conditions are equal, USD appreciation typically harms their NP. The effects that
net exposure (USD-denominated debt minus USD-denominated assets) based on
FX rate movements have on the NP for each company are shown below.

NP impact from changes in USD value (W bn)

Honam Kumho Hanwha


LG Chem
Petrochem Petrochem Chemical
USD-denominated assets 793.2 2,003.5 516.0 372.6
USD-denominated debt 1,022.5 2,357.3 690.6 695.1
Net exposure 229.3 353.8 174.6 322.4
2012F NP 1,075.9 2,085.1 480.7 482.2
NP impact from changes in USD value
NP assuming 10% USD
1,053.0 2,049.7 463.3 450.0
appreciation
Chg. (%) (2.1) (1.7) (3.6) (6.7)
NP assuming 10% USD
1,098.8 2,120.5 498.2 514.5
depreciation
Chg. (%) 2.1 1.7 3.6 6.7
Note: USD-denominated assets and debt as of end-2011; Based on W1,152/USD; Hanwha Chemical is parent only, the rest are
consolidated
Source: Company data, Korea Investment & Securities

2. Petrochemical prices, spreads change as oil prices move

Rising oil prices As the petrochemical industry uses naphtha obtained from crude oil distillation as a
typically favor margins raw material, the changes in crude oil and naphtha prices determine costs.
However, oil prices typically rise due to an increase in demand for crude, which is
driven by greater demand for refined petroleum and petrochemicals. Thus, higher
oil prices do not create a unilateral burden on costs and it is not possible to fully
pass oil price rises on to product prices. Typically, rising oil prices have a favorable
effect on the petrochemical industry’s margins. It is partly because product prices
move up in tandem with oil price hikes. However, the more direct reason is when
oil prices are rising, the crude price recognized in costs for petrochemical
production was lower one or two months earlier. In contrast, when oil prices are
falling, higher oil prices from the previous one or two months are reflected in the
costs, which erodes profits. But overall, a moderate movement in oil prices is more
favorable than a sharp rise or fall.

22
Company

Honam Petrochemical (011170) ......................................................................................................................................... 24

LG Chem (051910)............................................................................................................................................................................... 29

Kumho Petrochemical (011780) ......................................................................................................................................... 34

Hanwha Chemical (009830) .................................................................................................................................................... 38


Chemicals

Honam Petrochemical (011170)


BUY (Reinstate), TP: W420,000

Stock price (Apr 17, KRW) 322,500 Yr to Sales OP EBT NP EPS % chg EBITDA P/E EV/EBITDA P/B ROE

Market cap (USD mn) 9,031 Dec (W bn) (W bn) (W bn) (W bn) (KRW) (YoY) (W bn) (x) (x) (x) (%)
Shares outstanding (mn) 32 2010A 10,635 1,178 1,190 791 24,817 (0.9) 1,485 10.8 6.4 1.9 19.2
52W High/Low (KRW) 458,000/229,500 2011A 15,700 1,491 1,526 978 30,701 23.7 1,870 9.7 5.5 1.7 19.6
6M avg. daily turnover (USD mn) 70.7 2012F 16,799 1,361 1,416 929 29,166 (5.0) 1,822 11.1 5.9 1.6 15.7
Free float (%) 42.7 2013F 17,639 1,658 1,731 1,136 35,670 22.3 2,157 9.0 4.9 1.4 16.5
Foreign ownership (%) 22.5 2014F 18,521 1,963 2,063 1,354 42,506 19.2 2,532 7.6 4.0 1.2 16.7

Ready to seize an opportunity with good basics

Performance
Attractive with operating value of basic chemicals alone: We resume our
1M 6M 12M
analysis of Honam Petrochemical with BUY and SotP-derived TP of W420,000
Absolute (%) 0.3 4.0 (15.6)
based on the values of business divisions and investment assets. For the divisions’
Rel. to Kospi (%p) 2.7 (2.4) (8.3)
value, we used 2012F EBITDA (consolidated) and the average EV/EBITDA of the
KIS Universe manufacturing sector. Book values were used for the valuation of
12MF PE trend partners and joint ventures that are not subject to consolidated accounting. Honam
14.0 (X) 12MF PER (LHS) (W' 000) 500 and its subordinates Titan Chemicals and KP Chemical, makers of basic chemicals,
price (RHS) 450
12.0
400 are clearly undervalued based on their operating values alone. As the chemical
industry has bottomed, demand will grow stronger for synthetic resins (e.g.,
10.0 350

8.0 300

6.0
250
200
polyethylene or PE/polypropylene or PP) and upstream products (e.g., butadiene).
4.0 150 We also believe naphtha cracking centers (NCC) that have been burdened by high
100
2.0
50 naphtha prices can now be more profitable as oil prices eased after soaring on ME
0.0
2007 2008 2009 2010 2011
0
political instability.

TP calculation (W bn, x)
Kiyong Park
EBITDA(2012F) Multiple Fair value Note
82-2-3276-6177
Division value 1,821.6 7.4 13,479.7 Avg. multiple of KIS Universe manufacturing sector
kypark@truefriend.com
Investment assets 1,085.1 End-2011 book value
Lotte Engineering &
Na Kyung Lee Construction
733.4
82-2-3276-6241 Seetech 148.0
nklee@truefriend.com Daesan MMA 140.1
Others 63.6
Net borrowings (329.6) 2012F net borrowings
Non-controlling
1,581.7
interest stake
Divisions’ value + investment assets value - net
Enterprise value 13,312.7
borrowings -non-controlling interest shares
Outstanding shares (‘000) 31,860 Common shares issued
TP (W) 420,000
Source: Korea Investment & Securities

PE band EV/EBITDA band PB band


(KRW) (KRW) (KRW)
15.0x
500,000 600,000 600,000
450,000
8.0x 2.8x
12.0x 500,000 500,000
400,000
7.0x
2.3x
350,000
400,000 6.0x 400,000
300,000

250,000 9.0x 300,000 300,000


5.0x 1.8x
200,000
200,000 4.0x 200,000
150,000 6.0x 1.3x

100,000 0.8x
100,000 100,000
50,000 3.0x

0 0 0
Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12

Source: Korea Investment & Securities Source: Korea Investment & Securities Source: Korea Investment & Securities

24
Chemicals

NCC that sticks to basics: As of 2011, Honam’s sales quite evenly comprise
synthetic resins, textiles and rubber (PE/PP 36%, ethylene glycol or EG/ethylene
oxide or EO 17% and butadiene/styrene monomer 19%). Given their sensitivity to
business conditions, the profit weighting of PE/PP, for which the market was quite
poor in 2011, should expand along with the completion of 1H12 capacity addition
backed by the recovery of the Chinese and global economies. The market and
profits should improve beginning in 2H12. We peg the 2012F consolidated OP at
W1.4trn, down 9% YoY. It is difficult to expect any significant OP improvement
in1H12, which in turn should pull down the overall annual earnings. However, the
slow market since end-2011 and a consequential drop in spread have been mostly
priced in the 4Q11 and 1Q12 earnings. Thus, we forecast earnings to pick up after
bottoming in 1Q12.

Honam’s 2011 sales by product Honam’s consolidated annual sales and OP outlook
(W bn) Titan Chemical sales (L) (W bn)
PP EO/EG
20,000 KP Chemical sales (L) 2,500
18% 17%
18,000 Honam Petrochemical sales (L)
Consolidated OP (R)
16,000 2,000

14,000

12,000 1,500

BD/SM 10,000
PE
19%
18% 8,000 1,000

6,000

4,000 500

Others 2,000
10% NC/BTX
0 0
18%
2010 2011 2012F 2013F 2014F

Source: Company data, Korea Investment & Securities Source: Company data, Korea Investment & Securities

Less MEG profit, more butadiene profit: The monoethylene glycol (MEG)
spread has been falling since Jan 2012. China has imported MEG from outside the
region based on a strong 1Q12 demand forecast and is now left with piled up
inventory. Large-scale capacity additions are planned in the region for TPA, which
is KP Chemical’s main product. Thus, a dull market is inevitable for polyester
products for a while. Meanwhile, butadiene supply-demand conditions are tight
with a series of regular maintenance shutdowns at NCCs in the region. Since
butadiene prices will likely remain at the current level, it should significantly
contribute to Honam’s OP.

EG spread Butadiene spread

(USD/tonne) (USD/tonne) (USD/tonne)


2,500 800 5,000
EG-ethylene spread (R) BD-naphtha spread
EG (L) 700 Butadiene (Europe)
Ethylene (L) 4,000
2,000 Naphtha
600
3,000
500
1,500

400 2,000

1,000
300
1,000
200
500
0
100

0 0 -1,000
Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12

Source: Datastream, Korea Investment & Securities Source: Datastream, Korea Investment & Securities

25
Chemicals

Long-term growth potential backed by steady top-line growth: We have a


positive view of Homan’s long-term growth outlook. Petrochemical companies’
growth strategies can be largely grouped in two. They pursue economies of scale
and market dominance by expanding sales via continued capacity additions and
M&A. Or they could improve profits via quality differentiation. Honam is already
one of Asia’s leaders in terms of production capacity. The company’s NCC would
be the largest in Korea once the addition at the Yeosu plant is completed in 1H12
as planned. Honam also became Asia’s no. 2 ethylene producer by acquiring
Indonesia-based Titan Chemicals. With the added capacity at Yeosu, Honam’s
domestic production would be 2.0 mn tonnes p.a. and Titan Chemicals makes
720,000 tonnes p.a. Moreover, the company announced in Mar a plan to build a
plant (ethylene capacity of 1mn tonnes p.a.) in Indonesia by 2016. Honam would
then be the no. 1 Asian petrochemical company as it will beat Taiwan-based
Formosa Petrochemical whose ethylene capacity (2.94mn tonnes p.a.) is the
continent’s largest. Honam is also widening its scope for mid/long-term growth. Its
new businesses include carbon composites, polyethylene terephthalate (PET) film
and batteries for large-scale stationary electrical energy storage. The company has
also finished building an engineering plastics plant in Alabama, US.

26
Chemicals

Honam Petrochemical’s capex in progress or plans (tonnes/yr)

Product Size Note


Chemicals Yeosu NCC To be completed in Apr 2012
Ethylene 250,000
Propylene 125,000
Butadiene 20,000
High-density polyethylene (HDPE) 250,000
PP 200,000
Glycol ether 50,000 To be completed in Jul 2012
High-purity ethylene oxide (HPEO) 100,000 To be completed in Jul 2012
Optical PET films 20,000 To be completed in 2H12
To be completed in 2H12, jointly with China Sanjiang Fine
HPEO 100,000
Chemicals (CSFC) in Jiaxiang
Ethanolamine 50,000 To be completed in 2H12, jointly with CSFC
Methoxy-polyethylene glycol 50,000 To be completed in 2H12, jointly with CSFC
Daesan MMA Methyl methacrylate (MMA) 99,000 To be completed in 2Q13
Poly-MMA 60,000 To be completed in 2Q13
2-hydroxyethyl methacrylate 11,000 To be completed in 2Q13
Uzbekistan Ethylene 400,000 Surgil gas field development project to start in 1H15 (24.5% stake)
HDPE 387,000 Surgil gas field development project to start in 1H15 (24.5% stake)
PP 80,000 Surgil gas field development project to start in 1H15 (24.5% stake)
Titan Chemicals Ethylene 280,000 (unconfirmed) Malaysian plant
Ethylene 1,000,000 Indonesian plant to be completed by 2016
Propylene 550,000 Indonesian plant to be completed by 2016
Butadiene 140,000 Indonesian plant to be completed by 2016
PE 600,000 (unconfirmed) Indonesian plant to be completed by 2016
PP 600,000 (unconfirmed) Indonesian plant to be completed by 2016
Consulting PTA capacity addition at Lotte Pakistan
KP Chemical Purified terephthalic acid (PTA) 1,000,000
(from current 500,000 tonnes/yr to 1.5mn tonnes/year)
PET 150,000 To be completed at Lotte Chemical UK by 3Q13
New businesses Carbon composites Aircraft parts, wind turbine blades and automotive parts
Jointly developing large-scale batteries (500kW zinc-bromine energy
Large-scale batteries
storage battery systems) with US-based ZBB Energy
Engineering plastics Built an engineering plastics plant in Alabama, US
Source: Company data, Korea Investment & Securities

27
Chemicals

Balance sheet Income statement


FY-ending Dec. (W bn) 2010A 2011A 2012F 2013F 2014F FY-ending Dec. (W bn) 2010A 2011A 2012F 2013F 2014F
Current assets 3,744 4,889 5,272 6,100 6,854 Sales 10,635 15,700 16,799 17,639 18,521
Cash & cash equivalents 530 1,251 1,344 1,588 1,852
Gross profit 1,526 1,893 1,848 2,205 2,500
Accounts & other receivables 1,300 1,682 1,764 2,152 2,445
SG&A expenses 327 425 504 529 556
Inventory 1,104 1,267 1,428 1,588 1,667
Non-current assets 5,048 5,858 6,366 6,649 7,238 Other operating gains (22) 23 17 (18) 19
Investment assets 973 1,226 1,312 1,377 1,648 Operating profit 1,178 1,491 1,361 1,658 1,963
Tangible assets 3,733 4,308 4,708 4,908 5,208
Financial income 138 95 106 112 122
Intangible assets 62 39 42 44 47
Total assets 8,793 10,747 11,639 12,750 14,092 Interest income 51 48 59 65 75

Current liabilities 2,323 2,728 2,774 2,688 2,681 Financial expenses 130 114 114 106 98
Accounts & other payables 1,555 2,177 2,167 2,205 2,223 Interest expenses 53 79 79 70 63
ST debt & bonds 133 178 148 128 118
Other non-operating profit (0) 0 0 0 0
Current portion of LT debt 390 125 125 125 125
Gains (Losses) in associates,
Non-current liabilities 1,402 1,860 1,667 1,583 1,400 6 55 63 67 76
subsidiaries and JV
Debentures 979 1,384 1,184 1,084 884 Earnings before tax 1,190 1,526 1,416 1,731 2,063
LT debt & financial liabilities 133 172 157 157 157
Income taxes 290 394 340 416 495
Total liabilities 3,725 4,589 4,441 4,271 4,081
Controlling interest 4,519 5,463 6,353 7,452 8,768 Net profit 900 1,133 1,076 1,316 1,568
Capital stock 159 159 159 159 159 Net profit of controlling interest 791 978 929 1,136 1,354
Capital surplus 17 15 15 15 15
Other comprehensive profit (4) 20 20 20 20
Capital adjustments 0 0 0 0 0
Total comprehensive profit 896 1,153 1,096 1,336 1,588
Retained earnings 4,274 5,188 6,062 7,142 8,441
Total comprehensive profit of
Minority interest 548 695 845 1,027 1,243 789 1,001 947 1,154 1,372
controlling interest
Shareholders' equity 5,067 6,158 7,198 8,478 10,011 EBITDA 1,485 1,870 1,822 2,157 2,532

Cash flow Key financial data


FY-ending Dec. (W bn) 2010A 2011A 2012F 2013F 2014F FY-ending Dec. 2010A 2011A 2012F 2013F 2014F
C/F from operations 1,054 1,618 1,311 1,140 1,696 Per-share data (KRW)
EPS 24,817 30,701 29,166 35,670 42,506
Net profit 900 1,133 1,076 1,316 1,568
BPS 141,840 171,456 199,419 233,887 275,190
Depreciation 304 376 458 497 566 DPS 1,750 1,750 1,750 1,750 1,750
Amortization 4 3 2 3 3 Growth (%)
Sales growth 23.7 47.6 7.0 5.0 5.0
Net incr. in W/C (358) (3) (167) (613) (369)
OP growth 19.0 26.6 (8.7) 21.9 18.4
Others 204 109 (58) (63) (72) NP growth (0.9) 23.7 (5.0) 22.3 19.2
C/F from investing (1,651) (960) (918) (720) (1,166) EPS growth (0.9) 23.7 (5.0) 22.3 19.2
EBITDA growth 14.1 25.9 (2.6) 18.4 17.4
Capex (415) (933) (878) (717) (886)
Profitability (%)
Decr. in fixed assets 33 20 20 20 20
OP margin 11.1 9.5 8.1 9.4 10.6
Incr. in investment 178 (126) (5) 19 (177) NP margin 7.4 6.2 5.5 6.4 7.3
EBITDA margin 14.0 11.9 10.8 12.2 13.7
Net incr. in intangible assets (1) (4) (5) (5) (5)
ROA 11.7 11.6 9.6 10.8 11.7
Others (1,446) 83 (50) (37) (118)
ROE 19.2 19.6 15.7 16.5 16.7
C/F from financing 439 49 (301) (176) (266) Dividend yield 0.7 0.6 0.5 0.5 0.5

Incr. in equity 0 0 0 0 0 Stability


Net debt (W bn) 380 47 (330) (723) (1,308)
Incr. in debt 540 192 (245) (120) (210)
Debt/equity ratio (%) 32.3 30.2 22.4 17.6 12.8
Dividends (57) (65) (56) (56) (56) Valuation (x)

Others (44) (78) 0 0 0 PE 10.8 9.7 11.1 9.0 7.6


PB 1.9 1.7 1.6 1.4 1.2
C/F from others (4) 14 0 0 0
PS 0.8 0.6 0.6 0.6 0.6
Increase in cash (162) 721 93 244 265 EV/EBITDA 6.4 5.5 5.9 4.9 4.0
Note: K-IFRS (consolidated)

28
Chemicals

LG Chem (051910)
BUY (Reinstate), TP: W440,000

Stock price (Apr 17, KRW) 356,000 Yr to Sales OP EBT NP EPS % chg EBITDA P/E EV/EBITDA P/B ROE

Market cap (USD mn) 20,739 Dec (W bn) (W bn) (W bn) (W bn) (KRW) (YoY) (W bn) (x) (x) (x) (%)
Shares outstanding (mn) 66 2010A 19,471 2,821 2,818 2,158 29,345 47.9 3,493 13.3 8.0 3.7 31.9
52W High/Low (KRW) 567,000/285,000 2011A 22,676 2,835 2,797 2,138 29,069 (0.9) 3,592 10.9 6.4 2.5 24.8
6M avg. daily turnover (USD mn) 125.0 2012F 24,639 2,735 2,688 2,055 27,947 (3.9) 3,605 12.7 7.2 2.3 19.7
Free float (%) 65.9 2013F 27,157 3,395 3,344 2,556 34,769 24.4 4,395 10.2 5.9 1.9 20.5
Foreign ownership (%) 36.6 2014F 30,011 4,112 4,064 3,107 42,261 21.5 5,262 8.4 4.9 1.6 20.7

Optical materials to stay solid and batteries grow in earnest

Performance I&E materials’ growth potential merits high valuation: We reinstate coverage of
1M 6M 12M LG Chem with BUY and a TP of W440,000, the sum of enterprise value (EV) and
Absolute (%) (4.6) 2.3 (29.9) investment asset value. For the petrochemical division, we apply 2012F
Rel. to Kospi (%p) (2.1) (4.1) (22.7) EV/EBITDA of 7.4x, the average of the KIS Universe manufacturing sector. For the
information and electronic (I&E) materials unit, we apply 2012F EV/EBITDA of
12MF PER trend
12.0x that is on par with the average of global battery makers (Samsung SDI,
(X) (W' 000)
Johnson Controls, GS Yuasa and BYD). We view the multiple as justified as there
16.0 12MF PER (LHS) 600
price (RHS)
14.0
500
12.0 should be a growing profit contribution from batteries at the I&E division. The
400
10.0
optical materials such as polarizer and photo resist have steadily generated lofty
8.0 300

6.0
200
profits. Now is the turn for mid and large-size batteries for hybrid electric vehicles
4.0
100
(HEV), which are expected to break even and show full-fledged growth of OP
2.0

0.0 0
beginning in 2012. The I&E materials’ EBITDA should grow 29% YoY in 2012F.
2007 2008 2009 2010 2011

TP calculation (W bn, x)

Kiyong Park 2012F EBITDA


EV/EBTI Fair
Remarks
82-2-3276-6177 DA value
kypark@truefriend.com Operating value (A) 3,605.1 31,318.2
Petrochemicals 2,589.1 7.4 19,159.1 KIS Universe manufacturing sector average
Na Kyung Lee Global battery makers’ average (Samsung SDI, Johnson
I&E materials 1,016.0 12.0 12,159.2
Controls, GS Yuasa and BYD)
82-2-3276-6241
Investment asset value (B) 328.4 End-2011 BV
nklee@truefriend.com
Net debt I 1,471.9 2012F net debt
Non-controlling
503.0
interest stake (D)
Market cap of
831.6 Apr 13 close
preferred stocks (E)
Enterprise value 28,840.1 A+B-C-D-E
Outstanding shares (‘000) 65,911 Common shares issued - treasury shares
TP (KRW) 440,000
Source: Korea Investment & Securities

PE band EV/EBITDA band PB band


(KRW) (KRW) (KRW)
700,000 700,000 700,000
4.7x
11.0x
600,000 19.0x 600,000 600,000
9.0x 3.7x
500,000 500,000 500,000
15.0x
400,000 7.0x
400,000 400,000

300,000 300,000 300,000 2.7x


11.0x

200,000 5.0x
200,000 200,000 1.7x
7.0x
100,000 100,000 3.0x 100,000
3.0x 0.7x
0 0 0
Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12

Source: Korea Investment & Securities Source: Korea Investment & Securities Source: Korea Investment & Securities

29
Chemicals

Diverse product portfolio and stable profitability: LG Chem’s OP comprise


83% petrochemicals and 17% I&E materials. The company’s petrochemical
business is split into naphtha cracking centers (NCC)/polyolefin (PO), polyvinyl
chloride (PVC), acrylonitrile-butadiene-styrene (ABS)/engineering plastics (EP),
acrylates/plasticizers and synthetic rubber/specialty polymer and the division has
generated stable profits with an average OPM of 14.5% for the past three years. In
particular, the ABS/EP (30% of petrochemical sales) division should boast
profitability growth as the downstream IT industry recovers. The IT sector’s
recovery would also help improve profitability at the I&E materials division when
the capacity additions for polymer batteries and cylindrical batteries are completed.
LG Chem’s OP should drop 3.5% YoY to W2.74trn in 2012F. Although the
petrochemical business is sluggish at present, it should be offset by full-bore sales
growth of mid and large-size batteries for HEV.

Sales breakdown by product (consolidated, 2011) Annual sales and OP

Battery (W bn) (W bn)


35,000 4,500
9% I&E materials (L)
NCC/PO
21% Petrochemical sales (L)
Optical/electronic 30,000
materials Consolidated OP (R) 4,000
15% 25,000

3,500
20,000

Acrylate/plasticiz Rubber/specialty 15,000


er 3,000
polymer
9% 15% 10,000
2,500
5,000
PVC
ABS/EP
9% 0 2,000
22%
2009 2010 2011 2012F 2013F 2014F

Source: Company data, Korea Investment & Securities Source: Company data, Korea Investment & Securities

New businesses on the right track: LG Chem’s new businesses such as mid
and large-size batteries and glass substrates are poised to deliver visible results.
The mid and large-size battery operation turned to profit in 3Q11. In the HEV
market, GM has seen the sales of its plug-in hybrid Chevrolet Volt surge after a
sluggish start. In preparation for the HEV market’s growth, LG Chem plans to add
HEV battery capacity to supply 100,000 vehicles every year. For glass substrates,
LG Chem will start volume production beginning in Jun as scheduled, aiming to
stabilize the production yield at the 40% level in 2012. We believe the glass
substrates will generate a stable, high-margin revenue stream because LG Chem
has a captive customer, LG Electronics. LG Chem will improve its glass substrate
OPM to match rivals by achieving economies of scale through constant capacity
additions into 2015 and securing advanced production technology.

30
Chemicals

Monthly sales of Chevrolet Volt and US HEV sales OPM of glass substrate makers

(units) (units) (%)


70 2006 2007 2008 2009 2010
4,500 60,000
GM Chevrolet Volt (L)
4,000 US plug-in cars (L)
50,000 60
US hybrids (R)
3,500

3,000 40,000
50
LG Chem
2,500
30,000 target OPM
2,000 40

1,500 20,000
30
1,000
10,000
500
20
0 0 Samsung Corning Precision Asahi Glass - LCD
Dec-10 Mar-11 Jun-11 Sep-11 Dec-11 Mar-12 Materials - LCD

Source: HybridCars.com, Korea Investment & Securities HybridCars.com Source: Company data, Korea Investment & Securities

Stable operation and strong growth potential: LG Chem has diversified its
capex in core businesses that ensure stable profitability and in new businesses set
to become growth drivers. In 2012, LG Chem plans to inject 42% of its capex in
adding capacity to the production facilities of petrochemicals such as acrylates,
superabsorbent polymer (SAP), caustic soda, ethylene dichloride (EDC) and
synthetic rubber to build economies of scale and a dominant market position. LG
Chem will also make a preemptive move in promising I&E materials such as glass
substrates and 3D film-type patterned retarders (FPR), and in mid and large-size
batteries. By investing ~W1.01trn or 58% of the full-year capex in 2012 in I&E
materials and new businesses, LG Chem should be able to secure long-term
growth and to lessen its vulnerability to the petrochemical cycles.

LG Chem’s capex in progress or plans


Businesses Products Scale Remarks
Chemicals ABS 150,000 tonnes/year ABS capacity addition in South China in 1Q12
150,000 tonnes/year Capacity addition scheduled by mid/end 2013
Ethylene 70,000 tonnes/year Daesan NCC revamp scheduled by end -3Q12
Acrylic acid 160,000 tonnes/year Capacity addition to be completed by end-2Q12
SAP 72,000 tonnes/year To be completed by end-2Q12
Phenol 300,000 tonnes/year To be completed by end-4Q12
BPA 150,000 tonnes/year To be completed by end-4Q12
SBL 80,000 tonnes/year To be completed by end-3Q12
Caustic soda 275,000 tonnes/year To be completed by end-1Q13
EDC 300,000 tonnes/year To be completed by end-1Q13
SSBR 60,000 tonnes/year To be completed by end-1Q13
EVA 100,000 tonnes/year Commercial production scheduled in 2013
Joint project with Kazakhstan’s state-owned KPI;
Ethylene 840,000 tonnes/year
Commercial production scheduled in 2016
PE 800,000 tonnes/year
I&E materials Polymer batteries 4mn cells/month Completed in 1Q12; Capacity addition scheduled in 2013
Cylindrical Li-ion batteries 8mn cells/month Completed in 1Q12
No. 1 line (13mn sheets/year) completed; Add no. 2-3 lines
3D FPR 13mn sheets/year
by 2013
Membrane Unknown Commercial production scheduled in Aug 2012
Increase capacity from the current 100,000 units/year to
New businesses Mid and large-size batteries 100,000 units/year
200,000 units/year by end-2012
Capacity addition scheduled by end-2013
100,000 units/year
(to add 100,000/year by 2015)
Operation started at no. 1 plant in 1Q12; Volume
LCD glass substrates 5mn ㎡
production scheduled in Jun
45mn ㎡ Add seven lines by 2015 (with total capacity of 50mn ㎡)
Source: Company data, Korea Investment & Securities

31
Chemicals

Capex trend 2012 capex breakdown

(W bn)
3,000

2,500 Batteries Petrochemicals


(polymer, (acrylate, SAP,
automotive) CA/EDC,
2,000
27% synthetic rubber,
elastomer)
1,500 42%

1,000 I&E materials


(LCD glass
substrates, 3D
500 FPR, separator,
ITO film, etc.)
31%
0
2007 2008 2009 2010 2011 2012F

Source: Company data, Korea Investment & Securities Source: Company data, Korea Investment & Securities

32
Chemicals

Balance sheet Income statement


FY-ending Dec. (W bn) 2010A 2011A 2012F 2013F 2014F FY-ending Dec. (W bn) 2010A 2011A 2012F 2013F 2014F
Current assets 6,292 7,256 7,762 8,555 9,969 Sales 19,471 22,676 24,639 27,157 30,011
Cash & cash equivalents 1,368 1,379 1,232 1,358 1,801
Gross profit 3,999 4,081 4,263 5,078 5,972
Accounts & other receivables 2,602 3,239 3,519 3,879 4,352
SG&A expenses 1,159 1,264 1,478 1,629 1,801
Inventory 2,182 2,475 2,833 3,123 3,601
Non-current assets 6,382 8,029 9,786 11,558 13,341 Other operating gains (19) 19 (49) (54) (60)
Investment assets 219 335 364 401 444 Operating profit 2,821 2,835 2,735 3,395 4,112
Tangible assets 5,872 7,376 9,076 10,776 12,476
Financial income 137 195 194 193 199
Intangible assets 180 207 225 248 274
Total assets 12,673 15,286 17,547 20,113 23,310 Interest income 27 27 26 26 32

Current liabilities 4,277 4,724 5,063 5,283 5,453 Financial expenses 183 218 226 229 229
Accounts & other payables 2,161 2,499 2,716 2,993 3,308 Interest expenses 61 67 76 78 78
ST debt & bonds 1,260 1,452 1,522 1,472 1,412
Other non-operating profit (13) (31) (34) (37) (41)
Current portion of LT debt 361 386 406 396 411
Gains (Losses) in associates,
Non-current liabilities 552 854 968 997 1,147 55 15 19 21 23
subsidiaries and JV
Debentures 150 299 349 399 499 Earnings before tax 2,818 2,797 2,688 3,344 4,064
LT debt & financial liabilities 333 390 440 400 430
Income taxes 619 627 602 750 911
Total liabilities 4,830 5,578 6,031 6,280 6,600
Controlling interest 7,703 9,553 11,331 13,611 16,441 Net profit 2,200 2,170 2,085 2,594 3,153
Capital stock 370 370 370 370 370 Net profit of controlling interest 2,158 2,138 2,055 2,556 3,107
Capital surplus 1,158 1,158 1,158 1,158 1,158
Other comprehensive profit (3) 18 18 18 18
Capital adjustments (16) (16) (16) (16) (16)
Total comprehensive profit 2,197 2,188 2,103 2,612 3,171
Retained earnings 6,254 8,053 9,813 12,075 14,887
Total comprehensive profit of
Minority interest 140 154 185 223 270 2,155 2,148 2,072 2,574 3,124
controlling interest
Shareholders' equity 7,844 9,708 11,516 13,834 16,710 EBITDA 3,493 3,592 3,605 4,395 5,262

Cash flow Key financial data


FY-ending Dec. (W bn) 2010A 2011A 2012F 2013F 2014F FY-ending Dec. 2010A 2011A 2012F 2013F 2014F
C/F from operations 2,507 2,240 2,542 3,199 3,538 Per-share data (KRW)
EPS 29,345 29,069 27,947 34,769 42,261
Net profit 2,200 2,170 2,085 2,594 3,153
BPS 104,451 129,485 153,543 184,386 222,680
Depreciation 654 741 852 981 1,129 DPS 4,000 4,000 4,000 4,000 4,000
Amortization 18 16 18 20 22 Growth (%)
Sales growth 25.5 16.5 8.7 10.2 10.5
Net incr. in W/C (528) (656) (399) (382) (751)
OP growth 34.5 0.5 (3.5) 24.1 21.1
Others 163 (31) (14) (14) (15) NP growth 43.1 (0.9) (3.9) 24.4 21.5
C/F from investing (1,622) (2,280) (2,585) (2,729) (2,885) EPS growth 47.9 (0.9) (3.9) 24.4 21.5
EBITDA growth 30.2 2.8 0.4 21.9 19.7
Capex (1,617) (2,195) (2,557) (2,686) (2,834)
Profitability (%)
Decr. in fixed assets 5 5 5 5 5
OP margin 14.5 12.5 11.1 12.5 13.7
Incr. in investment (14) (43) 8 2 (1) NP margin 11.1 9.4 8.3 9.4 10.4
EBITDA margin 17.9 15.8 14.6 16.2 17.5
Net incr. in intangible assets (24) (27) (36) (43) (48)
ROA 19.0 15.5 12.7 13.8 14.5
Others 28 (20) (5) (7) (7)
ROE 31.9 24.8 19.7 20.5 20.7
C/F from financing (624) 63 (105) (345) (210) Dividend yield 1.0 1.3 1.1 1.1 1.1

Incr. in equity 3 0 0 0 0 Stability


Net debt (W bn) 747 1,136 1,472 1,295 935
Incr. in debt (348) 389 190 (50) 85
Debt/equity ratio (%) 27.1 26.0 23.6 19.3 16.5
Dividends (280) (319) (295) (295) (295) Valuation (x)

Others 1 (7) 0 0 0 PE 13.3 10.9 12.7 10.2 8.4


PB 3.7 2.5 2.3 1.9 1.6
C/F from others 1 (12) 0 0 0
PS 1.5 1.0 1.1 1.0 0.9
Increase in cash 261 11 (147) 126 443 EV/EBITDA 8.0 6.4 7.2 5.9 4.9
Note: K-IFRS (consolidated)

33
Chemicals

Kumho Petrochemical (011780)


BUY (Reinstate), TP: W160,000

Stock price (Apr 17, KRW) 129,500 Yr to Sales OP EBT NP EPS % chg EBITDA P/E EV/EBITDA P/B ROE

Market cap (USD mn) 3,468 Dec (W bn) (W bn) (W bn) (W bn) (KRW) (YoY) (W bn) (x) (x) (x) (%)
Shares outstanding (mn) 30 2010A 4,957 571 483 316 15,814 0.0 720 5.7 6.6 3.0 49.1
52W High/Low (KRW) 253,000/129,500 2011A 6,457 842 758 506 24,723 56.3 997 6.8 7.1 3.8 44.5
6M avg. daily turnover (USD mn) 41.5 2012F 6,957 737 670 447 16,302 (34.1) 904 7.9 6.6 2.4 27.8
Free float (%) 42.3 2013F 7,496 885 821 548 19,984 22.6 1,064 6.5 5.5 1.9 27.6
Foreign ownership (%) 12.0 2014F 8,078 937 880 586 21,401 7.1 1,130 6.1 5.1 1.6 24.2

Earnings determinant rubber

Performance
Heavy exposure to automotive presents both chances and challenges: We
1M 6M 12M
reinstate coverage of Kumho Petrochemical (Kumho) with BUY and TP of
Absolute (%) (15.9) (41.1) (32.2) W160,000. The price is based on the sum of operating value and investment asset
Rel. to Kospi (%p) (13.5) (47.6) (24.9) values (SotP). For the operating value, we applied a 10% discount to the KIS
Universe manufacturing average EV/EBITDA given the concentrated focus on
12MF PE trend synthetic rubber and phenol derivatives compared to upstream companies such as
14.0 (X) 12MF PER (LHS)
price (RHS)
(W' 000) 300
NCCs. The reliance on the automotive and tire industries and the high price
volatility of butadiene (synthetic rubber feedstock) are risks. We believe
12.0 250

10.0

8.0
200
supply/demand conditions for butadiene will improve given the typical heightened
demand prior to NCCs’ regular maintenance in 1H. With greater car sales in China,
150
6.0
100
4.0
synthetic rubber inventories there should rapidly wind down. Conditions for
50
synthetic resin (i.e., acrylonitrile-butadiene-styrene) and phenol derivatives should
2.0

0.0 0
2007 2008 2009 2010 2011
also improve.

TP calculation of W160,000 (W bn, x)

Kiyong Park EBITDA


Multiple Amount Remarks
82-2-3276-6177 (2012F)
kypark@truefriend.com 10% discount to the KIS Universe
Operating value (A) 903.9 6.7 6,020.0
manufacturing average EV/EBITDA
Investment asset values (B) 270.5 Book value at end-2011
Na Kyung Lee Kumho Polychem 111.6 EPDM production
82-2-3276-6241 Kumho Mitsui Chemicals 70.9 MDI production
nklee@truefriend.com Others 88.0 Four subsidiaries in China
Net debt I 1,802.1 As of 2012
Non-controlling interest stake (D) 435.1
Market cap of preferred stocks (E) 103.7 Apr 13 closing price
Enterprise value 3,949.5 A+B-C-D-E
Outstanding shares (‘000) 24,875 Common - treasury stocks
TP (KRW) 160,000
Source: Korea Investment & Securities

PE band EV/EBITDA band PB band

(KRW) (KRW) (KRW)


350,000 300,000 350,000
6.5x
300,000 250,000 300,000
9.0x
5.1x
250,000 250,000
200,000 8.0x
12.0x
200,000 7.0x 200,000
3.7x
150,000
150,000 150,000
9.0x 6.0x
100,000
100,000 100,000
5.0x 2.3x
6.0x
50,000 50,000 50,000
3.0x 0.9x
0 0 0
Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12

Source: Korea Investment & Securities Source: Korea Investment & Securities Source: Korea Investment & Securities

34
Chemicals

Tighter market grip on synthetic rubber capacity additions: Kumho generates


sales from synthetic rubber (55%), synthetic resins (20%), phenol derivatives,
cogeneration and fine chemicals (25%). Its earnings largely depend on synthetic
rubber business conditions. The recent spike in butadiene prices substantially
eroded earnings. We expect sales growth from 3Q12 backed by synthetic rubber
capacity additions of 170,000 tonnes (110,000 tonnes for styrene-butadiene rubber,
SBR, and 60,000 tonnes for solution styrene-butadiene rubber, SSBR). Margins for
synthetic resin have narrowed due to slow demand but are set to pick up in line
with China’s economic recovery (China-bound exports weighting of 45%).

Sales breakdown (2011, consolidated) Synthetic rubber production capacity

('000 tonnes/yr)
Synthetic resin
1,400
19% SBR BR NBR SB latex SBS HSR SSBR

1,200

1,000

Synthetic rubber 800


55%

Phenol 600
derivatives
19% 400

Fine chemicals 200


3%
Energy
Others 0
2%
2% 2008 2009 2010 2011 2012F

Source: Company data, Korea Investment & Securities Source: Company data, Korea Investment & Securities

Well-positioned to raise butadiene self-sufficiency: The biggest variable for the


recent synthetic rubber margins is the price for butadiene. While demand for
synthetic rubber is steadily mounting, NCC capacity additions are not active, which
leads to a structural tight supply of butadiene. The price for the feedstock spiked to
USD4,475/tonne in 2Q11, plunged to USD1,575/tonne at end-2011 and jumped
again to USD3,950/tonne as of Mar. Against such severe volatility, Kumho hopes
to raise self-sufficiency for butadiene over the long-term and achieve stable raw
material prices. By 2015, it plans to add 80,000 tonnes from a JV with JGSPC
(Philippines) and 150,000 tonnes via a new production process using butane. We
expect Kumho’s self-sufficiency for butadiene to reach 40% by then and help it
achieve stable margins.

Synthetic rubber price and spread Self-sufficiency expansion for butadiene

(USD/tonne) (USD/tonne) ('000 tonnes/yr)


5,000 1,600 500
BR-BD spread (R)
4,500 BR (L) 1,400 450
Butadiene (L) New process
4,000 400 150 using Butene
1,200
3,500 350
1,000 JV with JGSPC,
3,000 300
80 Philippines
2,500 800 250

2,000 200
600
1,500 150
400 237 237
1,000 100
200
500 50

0 0 0
Jan-09 Jul-09 Jan-10 Jul-10 Jan-11 Jul-11 Jan-12 as of 2012 2015

Source: KITA, Korea Investment & Securities Source: Company data, Korea Investment & Securities

35
Chemicals

Focus on capacity additions for synthetic rubber and at subsidiaries: The key
strategy for Kumho’s tighter market grip is capacity additions at existing
businesses rather than entry to new areas. Kumho should post better earnings in
2H12 on capacity additions for synthetic rubber (combined 170,000 tonnes for
SBR and SSBR) and phenol derivatives (150,000 tonnes for bisphenol A, BPA).
Kumho’s SBR capex project, slated for completion in Sep, expanded from the
initially planned 80,000 tonnes to 110,000 tonnes without a significant cost
increase. The capacity addition of 60,000 tonnes for SSBR should also be
completed in Nov. Kumho’s combined capacity for SBR and BR should amount to
955,000 tonnes per year at end-2012, ranking at the top above Sinopec and
Lanxess. Subsidiary capex projects should also continue into 2013. Kumho P&B is
scheduled to add capacity for BPA by 150,000 tonnes at end-2012, phenol
300,000 tonnes and acetone 185,000 tonnes by end-2013. Kumho Polychem
plans to add capacity for EPDM by 60,000 tonnes to meet growing demand for
cars. Kumho Mitsui Chemicals should also contribute to Kumho’s growth by adding
50,000 tonnes for methylene diphenyl diisocyante (MDI), feedstock for
polyurethane used in cars and home appliances.

Kumho Petrochemical’s capex in progress and plans


Capacity
Category Product Remarks
(tonne per year)
Synthetic rubber SBR 80,000 Completion scheduled Sep 2012
SSBR 60,000 Completion scheduled Nov 2012
Production to start sometime between late 2014
BD 80,000
and early 2015 in a JV with JGSPC
Production process using butane to begin
BD 150,000
operation in early 2015
Kumho P&B BPA 150,000 Completion scheduled end-2012
Phenol 300,000 Completion scheduled end-2013
Acetone 185,000 Completion scheduled end-2013
Kumho Polychem EPDM 60,000 Completion scheduled 2Q13
Kumho Mitsui Chemicals MDI 50,000 Completion scheduled 2Q12
Source: Company data, Korea Investment & Securities

36
Chemicals

Balance sheet Income statement


FY-ending Dec. (W bn) 2010A 2011A 2012F 2013F 2014F FY-ending Dec. (W bn) 2010A 2011A 2012F 2013F 2014F
Current assets 1,403 2,058 2,217 2,389 2,575 Sales 4,957 6,457 6,957 7,496 8,078
Cash & cash equivalents 151 505 544 586 632
Gross profit 723 1,047 974 1,139 1,212
Accounts & other receivables 742 921 992 1,069 1,152
SG&A expenses 163 208 243 262 283
Inventory 450 582 627 675 728
Non-current assets 2,718 2,656 2,993 3,304 3,570 Other operating gains 11 3 7 7 8
Investment assets 777 683 735 793 854 Operating profit 571 842 737 885 937
Tangible assets 1,774 1,922 2,202 2,452 2,652
Financial income 68 62 66 67 68
Intangible assets 46 35 38 41 44
Total assets 4,121 4,714 5,210 5,693 6,145 Interest income 5 9 14 15 16

Current liabilities 2,240 2,713 2,652 2,579 2,435 Financial expenses 195 218 213 214 210
Accounts & other payables 560 721 777 837 902 Interest expenses 144 140 135 136 132
ST debt & bonds 716 813 763 713 613
Other non-operating profit 0 0 0 0 0
Current portion of LT debt 821 1,123 1,053 973 873
Gains (Losses) in associates,
Non-current liabilities 988 444 650 746 840 39 73 80 84 84
subsidiaries and JV
Debentures 452 100 230 240 227 Earnings before tax 483 758 670 821 880
LT debt & financial liabilities 502 267 337 417 517
Income taxes 137 215 190 232 249
Total liabilities 3,228 3,157 3,302 3,325 3,275
Controlling interest 826 1,448 1,771 2,194 2,657 Net profit 346 544 481 589 631
Capital stock 142 167 167 167 167 Net profit of controlling interest 316 506 447 548 586
Capital surplus 79 265 265 265 265
Other comprehensive profit 25 (73) (73) (73) (73)
Capital adjustments (40) (40) (40) (40) (40)
Total comprehensive profit 371 470 407 516 557
Retained earnings 572 1,047 1,438 1,930 2,460
Total comprehensive profit of
Minority interest 68 109 138 174 213 340 434 379 480 518
controlling interest
Shareholders' equity 893 1,557 1,909 2,368 2,870 EBITDA 720 997 904 1,064 1,130

Cash flow Key financial data


FY-ending Dec. (W bn) 2010A 2011A 2012F 2013F 2014F FY-ending Dec. 2010A 2011A 2012F 2013F 2014F
C/F from operations 445 670 509 615 661 Per-share data (KRW)
EPS 15,814 24,723 16,302 19,984 21,401
Net profit 346 544 481 589 631
BPS 30,427 44,423 54,064 66,712 80,517
Depreciation 138 146 159 171 184 DPS 1,000 2,000 2,000 2,000 2,000
Amortization 11 9 8 9 9 Growth (%)
Sales growth (28.1) 30.3 7.7 7.8 7.8
Net incr. in W/C (132) (196) (56) (66) (77)
OP growth 417.4 47.5 (12.4) 19.9 5.9
Others 82 167 (83) (88) (86) NP growth 0.0 60.0 (11.6) 22.5 7.1
C/F from investing (115) (246) (494) (477) (446) EPS growth 0.0 56.3 (34.1) 22.6 7.1
EBITDA growth 47.3 38.4 (9.3) 17.7 6.3
Capex (230) (291) (439) (421) (384)
Profitability (%)
Decr. in fixed assets 0 0 0 0 0
OP margin 11.5 13.0 10.6 11.8 11.6
Incr. in investment 118 50 (41) (41) (46) NP margin 6.4 7.8 6.4 7.3 7.3
EBITDA margin 14.5 15.4 13.0 14.2 14.0
Net incr. in intangible assets (1) (4) (11) (12) (12)
ROA 5.3 12.3 9.7 10.8 10.7
Others (2) (1) (3) (3) (4)
ROE 49.1 44.5 27.8 27.6 24.2
C/F from financing (285) (69) 24 (96) (169) Dividend yield 1.1 1.2 1.5 1.5 1.5

Incr. in equity 1 5 0 0 0 Stability


Net debt (W bn) 2,356 1,764 1,802 1,717 1,556
Incr. in debt (286) (51) 80 (40) (113)
Debt/equity ratio (%) 285.9 147.8 124.8 98.9 77.7
Dividends 0 (23) (56) (56) (56) Valuation (x)

Others 0 0 0 0 0 PE 5.7 6.8 7.9 6.5 6.1


PR 3.0 3.8 2.4 1.9 1.6
C/F from others 0 (0) 0 0 0
SR 0.5 0.7 0.6 0.6 0.5
Increase in cash 45 354 39 42 46 EV/EBITDA 6.6 7.1 6.6 5.5 5.1
Note: K-IFRS (consolidated)

37
Chemicals

Hanwha Chemical (009830)


BUY (Reinstate), TP: W30,000

Stock price (Apr 17, KRW) 25,250 Yr to Sales OP EBT NP EPS % chg EBITDA P/E EV/EBITDA P/B ROE

Market cap (USD mn) 3,110 Dec (W bn) (W bn) (W bn) (W bn) (KRW) (YoY) (W bn) (x) (x) (x) (%)
Shares outstanding (mn) 140 2010A 6,341 655 705 446 3,155 29.9 882 9.8 9.6 1.1 13.4
52W High/Low (KRW) 54,300/22,000 2011A 7,943 326 281 254 1,793 (43.2) 621 13.7 12.2 0.8 6.2
6M avg. daily turnover (USD mn) 55.7 2012F 8,071 404 434 482 3,410 90.2 751 7.4 10.6 0.8 11.0
Free float (%) 56.9 2013F 8,592 601 623 692 4,892 43.5 994 5.2 8.4 0.7 14.1
Foreign ownership (%) 15.9 2014F 9,099 773 794 881 6,231 27.4 1,217 4.1 6.7 0.6 15.6

Take note of chemical business value

Performance
High hopes for recovering PVC demand and robust earnings at YNCC: We
1M 6M 12M
recommend BUY on Hanwha Chemical and TP of W30,000. Our SotP-based TP is
Absolute (%) (7.5) (10.5) (49.5)
a combination of operating value and investment asset value. The parent company
Rel. to Kospi (%p) (5.1) (16.9) (42.2)
earnings will likely improve as the soft demand for polyvinyl chloride (PVC) should
recover. We believe the demand for PVC used as an interior building material will
12MF PER trend pick up on rising demand in China attributed to greater completions and move-ins
14.0 (X) 12MF PER (LHS) (KRW) 60,000 of the affordable housing scheme, the government’s furniture subsidy program and
price (RHS)
12.0 50,000 subsidy payouts for interior products. Instead of book value, we used the operating
value to calculate the fair value of Yeochun Naphtha Cracking Center (YNCC),
10.0
40,000
8.0

6.0
30,000
which should benefit from the petrochemical industry’s recovery. With the demand
4.0
20,000
for pure chemicals remaining solid, the sharp rise in oil prices has eased, which
2.0 10,000
should help improve margins at the NCC operator. The uncertain profit outlook at
0.0
2007 2008 2009 2010 2011
0
Hanwha SolarOne and some of the other subsidiaries is a risk factor.

TP calculation (W bn, x)
Kiyong Park EBITDA (2012F) Multiple Fair value Remark
82-2-3276-6177 Operating value (A) 931.4 6,460.7
kypark@truefriend.com KIS Universe manufacturing sector average multiple
Parent 643.7 7.4 4,763.2
applied
Na Kyung Lee Others 287.7 5.9 1,697.5 KIS Universe average multiple applied
82-2-3276-6241 Investment asset value (B) 2,258.4
nklee@truefriend.com KIS Universe manufacturing sector average multiple
YNCC 474.2 7.4 1,484.3
applied; Recognized 50% ownership
Others 774.1 Applied book value as of end-2011
Net debt (C) 3,988.6 2012F net debt based on Hanwha Chemical consolidated
Minority interest (D) 584.2
Market cap of preferred
9.8 Apr 13 closing prices
shares (E)
Enterprise Value 4,136.5 A+B-C-D-E
Free-float shares (‘000) 140,284 Common shares outstanding
TP (KRW) 30,000
Source: Korea Investment & Securities

PE band EV/EBITDA band PB band


(KRW) (KRW) (KRW)
90,000 90,000 60,000
1.8x
20.0x
80,000 80,000
50,000
1.5x
70,000 70,000 16.0x
16.0x
60,000 60,000 40,000 1.2x
14.0x
50,000 12.0x 50,000
30,000 0.9x
12.0x
40,000 40,000
8.0x
30,000 30,000 20,000 0.6x

20,000 20,000 10.0x


10,000
10,000 10,000 8.0x
4.0x
0 0 0
Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12

Source: Korea Investment & Securities Source: Korea Investment & Securities Source: Korea Investment & Securities

38
Chemicals

PVC spread to improve from 2Q12: Hanwha Chemical’s OP comprise 38%


polyethylene (PE), 27% PVC and 41% chlor-alkali (CA). As such, the company is
geared toward the chemical fiber business that makes PVC, ethylene dichloride
(EDC), vinyl chloride monomer (VCM), plasticizers, caustic soda, chlorine,
epichlorohydrin (ECH), etc. Although the PVC spread has narrowed considerably
as prices weakened due to volume inflow from abroad and soft demand in 2H11,
the spread improved slightly after Japanese petrochemical firm Tosoh halting its
VCM plant led to tighter PVC supply/demand conditions. We expect PVC business
conditions to pick up on China’s economic recovery and the peak-demand season
in 2Q12. Of note, the Ningbo PVC plant in China (annual oxy EDC capacity
500,000 tonnes, annual VCM capacity 300,000 tonnes and annual PVC capacity
300,000 tonnes) that was completed in 2011 should generate greater margins.

Sales breakdown (2011, parent-only) PVC spread

(USD/tonne) (USD/tonne)
2,500 800
PVC PVC-ethylene spread (R)
27% PVC (L) 700
2,000 Ethylene (L)
600
PE
46% 500
1,500

400

1,000
300

200
500

CA 100
Others 25%
2% 0 0
Jan-08 Jan-09 Jan-10 Jan-11 Jan-12

Source: Company data, Korea Investment & Securities Source: DataStream, Korea Investment & Securities

Expand the high value-added product mix: Hanwha Chemical’s petrochemical


division produces low-density polyethylene (LDPE), linear LDPE (LLDPE) and
ethylene vinyl acetate (EVA). The business has adopted a high value-added
strategy by gradually increasing the weighting of specialty and differentiated
products with stable demand and big margins from 30% in 2005 to 60% in 2011.
Moreover, Hanwha Chemical plans to add 40,000 tonnes of EVA capacity in 2H12,
which will lead to better earnings. And in 2013, Hanwha Chemical plans to
establish a joint venture with Saudi International Chemical (Sipchem) in Saudi
Arabia to expand EVA and LDPE capacity by 200,000 tonnes.

Specialized/differentiated PE product sales Secure low-priced base materials via JV with Sipchem

('000 tonnes) Specialty products (L) (%)


900 General products (L) 80
% specialty products (R)
800 70
Jubail, Saudi Arabia
700 · JV: International Polymers Co. (IPC)
60
· Stake: Hanwha 25%, Sipchem 75%
600
50 · Capacity: EVA/LDPE 200,000 tonnes/yr
500 · Raw material: ethane-base ethylene (SABIC)
40 · Schedule: start operation in 3Q13
400
30
300
20
200

100 10

0 0
2005 2006 2007 2008 2009 2010 2011P 2015F

Source: Company data, Korea Investment & Securities Source: Company data, Korea Investment & Securities

39
Chemicals

Aggressive investment in new businesses: On top of adding value to existing


products, Hanwha Chemical’s new businesses have advanced on various sectors
and are delivering results. Its battery materials unit will soon complete a pilot plant
to expand annual lithium ferric phosphate (LFP) cathode capacity by 2,000 tonnes.
Its bio business has entered an exclusive agreement with US pharmaceutical giant
Merck to develop and commercialize HD203, a biosimilar version of Enbrel. Of
note, the Hanwha Group is determined to foster solar energy as a main growth
driver. Hanwha Chemical plans to build a new plant with annual polysilicon
capacity of 10,000 tonnes by 2013. Moreover, the company aims to strengthen
vertical integration from ingots and wafers to cells and modules by expanding
facilities at Hanwha SolarOne (acquired in 2010). Recently, Hanwha SolarOne has
been making losses due to the slumping solar PV value chain and this harmed
Hanwha Chemical’s earnings. However, when the solar PV industry restructuring
wraps up and prices stabilize, the business is expected to secure better margins
through vertical integration and achieve economies of scale through sustainable
capacity additions.

Hanwha Chemical’s capex in progress or plans


Product Capacity Remarks
Complete capacity addition in 2Q12; Come on-
Chemical EVA 40,000 tonnes p.a.
stream from 2H12
Complete capacity addition in 3Q12; Come on-
PVC 40,000 tonnes p.a.
stream from 4Q12
EVA/LDPE 200,000 tonnes p.a. JV with Sipchem; Come on-stream from 2013
Expand LFP cathode capacity from 1,000 tonnes to
Electronic material Cathode 2,000 tonnes p.a.
3,000 tonnes by 2H13
Currently in phase III trial in Korea; To be
Biosimilar HD203 7,000 tonnes p.a.
completed in mid-2012
Targeting commercial production in 2013; Complete
(arthritis therapy)
production capacity of 7,000L by end-2012
Solar PV Polysilicon 10,000 tonnes p.a. Complete capacity addition in 2013
Hanwha SolarOne plans to expand module capacity
Modules 1GW
from 1.5GW to 2.5GW by end-2012
Expand capacity to 3.5GW (unconfirmed) by end-
1GW
2013
Source: Company data, Korea Investment & Securities

40
Chemicals

Balance sheet Income statement


FY-ending Dec. (W bn) 2010A 2011A 2012F 2013F 2014F FY-ending Dec. (W bn) 2010A 2011A 2012F 2013F 2014F
Current assets 3,434 3,672 3,433 3,569 3,780 Sales 6,341 7,943 8,071 8,592 9,099
Cash & cash equivalents 458 849 565 515 546
Gross profit 1,477 1,380 1,453 1,718 1,956
Accounts & other receivables 1,275 1,248 1,269 1,350 1,430
SG&A expenses 822 1,054 1,049 1,117 1,183
Inventory 1,315 1,126 1,144 1,218 1,290
Non-current assets 7,543 8,182 8,927 9,858 10,436 Other operating gains 0 0 0 0 0
Investment assets 1,661 1,686 1,713 1,824 1,931 Operating profit 655 326 404 601 773
Tangible assets 4,558 5,410 6,110 6,860 7,260
Financial income 13 18 20 18 18
Intangible assets 342 368 374 398 422
Total assets 10,977 11,854 12,360 13,427 14,215 Interest income 10 11 12 10 11

Current liabilities 3,355 4,109 4,198 4,479 4,656 Financial expenses 140 192 211 228 244
Accounts & other payables 1,305 1,552 1,577 1,679 1,778 Interest expenses 140 192 211 228 244
ST debt & bonds 1,604 2,262 2,312 2,512 2,612
Other non-operating profit (32) 33 33 35 37
Current portion of LT debt 0 0 0 0 0
Gains (Losses) in associates,
Non-current liabilities 2,920 2,947 3,107 3,498 3,589 209 96 189 196 208
subsidiaries and JV
Debentures 1,203 1,004 1,104 1,304 1,304 Earnings before tax 705 281 434 623 794
LT debt & financial liabilities 1,114 1,311 1,361 1,511 1,561
Income taxes 217 114 117 168 214
Total liabilities 6,275 7,056 7,305 7,977 8,245
Controlling interest 3,993 4,173 4,598 5,233 6,056 Net profit 487 167 317 455 579
Capital stock 707 707 707 707 707 Net profit of controlling interest 446 254 482 692 881
Capital surplus 483 489 489 489 489
Other comprehensive profit (92) 4 4 4 4
Capital adjustments (4) (3) (3) (3) (3)
Total comprehensive profit 395 171 321 459 583
Retained earnings 2,646 2,794 3,213 3,841 4,659
Total comprehensive profit of
Minority interest 709 624 457 218 (86) 357 236 489 698 887
controlling interest
Shareholders' equity 4,702 4,798 5,055 5,451 5,970 EBITDA 882 621 751 994 1,217

Cash flow Key financial data


FY-ending Dec. (W bn) 2010A 2011A 2012F 2013F 2014F FY-ending Dec. 2010A 2011A 2012F 2013F 2014F
C/F from operations 679 799 480 597 761 Per-share data (KRW)
EPS 3,155 1,793 3,410 4,892 6,231
Net profit 487 167 317 455 579
BPS 28,239 29,513 32,517 37,003 42,829
Depreciation 222 282 335 379 429 DPS 450 450 450 450 450
Amortization 5 12 13 14 15 Growth (%)
Sales growth 18.7 25.3 1.6 6.5 5.9
Net incr. in W/C (237) 131 2 (67) (66)
OP growth 12.4 (50.3) 23.8 49.0 28.6
Others 202 207 (187) (184) (196) NP growth 30.0 (43.2) 90.2 43.5 27.4
C/F from investing (1,231) (664) (900) (1,133) (817) EPS growth 29.9 (43.2) 90.2 43.5 27.4
EBITDA growth 13.3 (29.7) 21.1 32.4 22.4
Capex (1,086) (826) (1,035) (1,129) (829)
Profitability (%)
Decr. in fixed assets 0 0 0 0 0
OP margin 10.3 4.1 5.0 7.0 8.5
Incr. in investment 77 (258) 168 92 107 NP margin 7.0 3.2 6.0 8.1 9.7
EBITDA margin 13.9 7.8 9.3 11.6 13.4
Net incr. in intangible assets (149) (38) (19) (38) (38)
ROA 5.4 1.5 2.6 3.5 4.2
Others (73) 458 (14) (58) (57)
ROE 13.4 6.2 11.0 14.1 15.6
C/F from financing 743 293 136 486 86 Dividend yield 1.5 1.8 1.7 1.7 1.7

Incr. in equity 0 0 0 0 0 Stability


Net debt (W bn) 3,380 3,509 3,989 4,572 4,677
Incr. in debt 893 545 200 550 150
Debt/equity ratio (%) 83.9 95.8 94.9 98.1 92.1
Dividends (69) (84) (64) (64) (64) Valuation (x)

Others (81) (168) 0 0 0 PE 9.8 13.7 7.4 5.2 4.1


PB 1.1 0.8 0.8 0.7 0.6
C/F from others 55 (38) 0 0 0
PS 0.7 0.4 0.4 0.4 0.4
Increase in cash 245 390 (284) (49) 30 EV/EBITDA 9.6 12.2 10.6 8.4 6.7
Note: K-IFRS (consolidated)

41
Chemicals

Glossary

Acronyms & abbreviations Full


ABS acrylonitrile-butadiene-styrene
BPA bisphenol A
BR butadiene rubber
BTX benzene-toluene-xylene
CA chlor-alkali
ECH epichlorohydrin
EDC ethylene dichloride
EG ethylene glycol
EO ethylene oxide
EP engineering plastics
EPDM ethylene propylene diene monomer
EVA ethylene vinyl acetate
FPR film-type patterned retarders
HDPE high-density polyethylene
HEV hybrid electric vehicle
HPEO high-purity ethylene oxide
LDPE low-density polyethylene
LFP lithium ferric phosphate
LLDPE linear low-density polyethylene
MDI methylene diphenyl diisocyante
MEG monoethylene glycol
MMA methyl methacrylate
NCC naphtha cracking center
PC polycarbonate
PE polyethylene
PET polyethylene terephthalate
PO polyolefin
PP polypropylene
PS polystyrene
PTA purified terephthalic acid
PU polyurethane
PVC polyvinyl chloride
PX paraxylene
SAP superabsorbent polymer
SBR styrene-butadiene rubber
SM styrene monomer
SSBR solution styrene-butadiene rubber
TPA terephthalic acid
VCM vinyl chloride monomer

42
Chemicals

Changes to recommendation and price target


Company (Code) Date Recommendation Price target Company (Code) Date Recommendation Price target
Hanwha Chemical
03-17-11 NM W0 04-18-12 BUY W160,000
(009830)
04-25-11 BUY W66,000 LG Chem (051910) 04-21-10 BUY W290,000
04-18-12 BUY W30,000 05-19-10 BUY W320,000
Honam Petrochemical
07-18-10 Hold W148,000 07-21-10 BUY W380,000
(011170)
03-17-11 NM W0 03-17-11 NM W0
04-25-11 BUY W550,000 04-01-11 BUY W570,000
04-18-12 BUY W420,000 04-20-11 BUY W660,000
Kumho Petro
08-06-10 BUY W75,000 07-21-11 BUY W610,000
Chemical (011780)
09-28-10 BUY W90,000 10-21-11 BUY W440,000
02-15-11 NM W0

Hanwha Chemical(009830) Honam Petrochemical(011170)

70,000 600,000

60,000
500,000

50,000
400,000
40,000
300,000
30,000
200,000
20,000

100,000
10,000

0 0
Apr-10 Aug-10 Dec-10 Apr-11 Aug-11 Dec-11 Apr-10 Aug-10 Dec-10 Apr-11 Aug-11 Dec-11

Kumho Petro Chemical(011780) LG Chem(051910)

300,000 700,000

250,000 600,000

500,000
200,000

400,000
150,000
300,000

100,000
200,000

50,000 100,000

0 0
Apr-10 Aug-10 Dec-10 Apr-11 Aug-11 Dec-11 Apr-10 Aug-10 Dec-10 Apr-11 Aug-11 Dec-11

43
■ Guide to Korea Investment & Securities Co., Ltd. stock ratings based on absolute 12-month forward share price performance
 BUY: Expected to give a return of +15% or more
 Hold: Expected to give a return between -15% and +15%
 Underweight: Expected to give a return of -15% or less

■ Guide to Korea Investment & Securities Co., Ltd. sector ratings for the next 12 months
 Overweight: Recommend increasing the sector’s weighting in the portfolio compared to its respective weighting in the Kospi (Kosdaq) based on market
capitalization.
 Neutral: Recommend maintaining the sector’s weighting in the portfolio in line with its respective weighting in the Kospi (Kosdaq) based on market capitalization.
 Underweight: Recommend reducing the sector’s weighting in the portfolio compared to its respective weighting in the Kospi (Kosdaq) based on market

capitalization.

■ Analyst Certification
I/We, as the research analyst/analysts who prepared this report, do hereby certify that the views expressed in this research report accurately reflect my/our personal
views about the subject securities and issuers discussed in this report. I/We do hereby also certify that no part of my/our compensation was, is, or will be directly or
indirectly related to the specific recommendations or views contained in this research report.

■ Important Disclosures
As of the end of the month immediately preceding the date of publication of the research report or the public appearance (or the end of the second most recent
month if the publication date is less than 10 calendar days after the end of the most recent month), Korea Investment & Securities Co., Ltd., or its affiliates does
not own 1% or more of any class of common equity securities of the companies mentioned in this report.

There is no actual, material conflict of interest of the research analyst or Korea Investment & Securities Co., Ltd., or its affiliates known at the time of publication of
the research report or at the time of the public appearance.

Korea Investment & Securities Co., Ltd., or its affiliates has not managed or co-managed a public offering of securities for the companies mentioned in this report
in the past 12 months;

Korea Investment & Securities Co., Ltd., or its affiliates has not received compensation for investment banking services from the companies mentioned in this
report in the past 12 months; Korea Investment & Securities Co., Ltd., or its affiliates does not expect to receive or intends to seek compensation for investment
banking services from the companies mentioned in this report in the next 3 months.

Korea Investment & Securities Co., Ltd., or its affiliates was not making a market in securities of the companies mentioned in this report at the time that the research
report was published.

Korea Investment & Securities Co., Ltd. does not own over 1% of Hanwha Chemical,Honam Petrochemical,Kumho Petro Chemical,LG Chem shares as of April 18,
2012.
Korea Investment & Securities Co., Ltd. has not provided this report to various third parties.
Neither the analysts covering these companies nor their associates own any shares of as of April 18, 2012.
Korea Investment & Securities Co., Ltd. has issued ELW with underlying stocks of Hanwha Chemical,Honam Petrochemical,Kumho Petro Chemical,LG Chem and
is the liquidity provider.

Prepared by: Kiyong Park, Na Kyung Lee

This report was written by Korea Investment & Securities Co., Ltd. to help its clients invest in securities. This material is copyrighted and may not be copied, redistributed,
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and is provided for information purposes only. Under no circumstances is it to be used or considered as an offer to sell, or a solicitation of any offer to buy. We make no
representation as to its accuracy or completeness and it should not be relied upon as such. The company accepts no liability whatsoever for any direct or consequential
loss arising from any use of this report or its contents. The final investment decision is based on the client’s judgment, and this report cannot be used as evidence in any
legal dispute related to investment decisions.
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