How activist Palliser might construct shareholder worth at Korean industrial big Samsung C&T

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Firm: Samsung C&T (028260.KS)

Enterprise: Samsung C&T Corp is a Korea-based firm engaged within the buying and selling of commercial items. The corporate operates its enterprise by way of a bunch of segments. These embody engineering and development, buying and selling and funding, in addition to trend and resorts. Shares of the corporate don’t commerce within the U.S.

Inventory Market Worth: $15.35 billion ($94.71 per share)

Activist: Palliser Capital

What’s occurring

On Dec. 6, Palliser Capital introduced that it took a 0.62% place in Samsung C&T (SCT).

Behind the scenes

Palliser thinks that Samsung C&T (“SCT”) is grossly undervalued by the market attributable to sub-optimal capital allocation, historic company governance points and a posh company construction. The investor advised short- and long-term measures that could possibly be taken to create $25 billion of shareholder worth. On its face, creating $25 billion of shareholder worth at a $15 billion firm appears ridiculous. Nonetheless, diving into Palliser’s thesis one may understand that the agency is conservatively underestimating the worth that may be created right here. SCT is a big industrial South Korean conglomerate managed by the Lee household by way of a number of, cross-owned associates. SCT has a publicly traded market cap of about $15 billion. Its major belongings consist of 5 publicly traded subsidiaries and an working enterprise. The post-tax worth of SCT’s curiosity in these 5 publicly traded subsidiaries are: Samsung Electronics ($13.9 billion), Samsung Biologics ($13.4 billion), Samsung SDS ($1.7 billion), Samsung Life ($1.6 billion) and Samsung Engineering ($300 million). That could be a complete of $30.9 billion of simply ascertainable and realizable worth for a roughly $15 billion firm. This doesn’t even depend the working enterprise, which has $30 billion of income and $1.55 billion of earnings earlier than curiosity, taxes, depreciation and amortization. Utilizing a 5.5 instances EBITDA a number of, Palliser values this enterprise at $8.4 billion. With web money of $1.1 billion, that may be a firm valuation of $40.4 billion.

Why is that this firm buying and selling at a 63% low cost? For 3 causes. First, its capital allocation insurance policies and practices have left shareholders and others with little confidence that a lot of this worth will accrue to them. SCT has roughly $1.5 billion of annual money movement, and solely roughly 25% of that’s returned to shareholders by way of a dividend and as much as 60% is used for capex. Samsung is an iconic and structurally necessary Korean firm that ought to be investing and rising. Palliser is just not debating that. The agency want to see a extra clear and disciplined capex plan that makes use of the backdrop of the return on share buybacks because the benchmark and presents a good return to shareholders. SCT additionally has different alternatives to generate money for capex and shareholder return like taking over some debt (the corporate has $1.1 billion of web money) to decrease its value of capital and probably divesting a few of the disparate and non-synergistic companies that make up the working firm.

Second, SCT’s company governance insurance policies don’t give shareholders confidence that the board is working for them. In South Korea, boards have a duty to the company, to not shareholders. Absent a constitution modification, there are different issues the corporate can do to offer shareholders extra confidence. The present board is 5 unbiased administrators and 4 administration administrators. Whereas Korean firms of this dimension are mandated to have 50% independent directors, “independent” is just not outlined. Which means board independence will not be the way in which traders would count on it to be within the U.S. Furthermore, SCT’s unbiased administrators lack any actual C-suite expertise, related business expertise, confirmed portfolio administration and capital allocation experience. So, refreshing the board with skilled unbiased administrators can be an awesome begin. The board can also be staggered. Three of the 4 administration administrators are co-CEOs of the corporate; these people reply to the board and account for one-third of its composition. If SCT named one CEO to whom the opposite division heads would report, it might simplify determination making. Moreover, extra clear communication with the market and aligning administration’s pursuits with shareholders would additionally go a good distance.

Third, the complicated cross-affiliated possession construction, or “chaebols” as they’re referred to as in South Korea, causes a deep low cost to worth. SCT was fashioned by way of a sequence of M&A transactions that have been designed extra for the aim of the household preserving management than effectivity. These chaebols have adversely affected the valuation of those firms. For that cause, South Korean chaebols have been changing to two-layer holding firm buildings over the previous 20 years. Samsung is certainly one of two massive firms in South Korea that also has the chaebol construction. This chaebol construction low cost permeates the complete organizational construction. Even with the chaebol construction, Palliser estimates a $25 million valuation hole. Changing to a holding firm construction would improve the worth of all of the SCT subsidiaries. Relative to the place the inventory trades right this moment, it might inflate this valuation hole much more.

The undervaluation is just not doubtful right here. The important thing query is what can Palliser, or anybody else, do to shut that valuation hole? All Palliser is doing proper now’s bringing these points to a public debate to place some strain on administration to make shareholder pleasant adjustments. The agency is just not threatening any confrontational actions. Palliser has a historical past of working with administration to impact change. That’s good right here as a result of profitable a proxy struggle in South Korea is extraordinarily uncommon. It has been carried out earlier than, however not by a non-local activist at an iconic firm with a household who owns 30% of the frequent inventory. However the development is on Palliser’s facet as South Korea is getting extra shareholder pleasant yearly. And there’s additionally an excellent cause why the Lee household may assist adjustments that improve shareholder worth. Lee household patriarch and former Samsung chairman, Lee Kun-hee, was South Korea’s richest individual on the time of his loss of life on Oct. 25, 2020. Lee’s loss of life triggered the most important inheritance tax invoice in South Korean historical past, exceeding $10 billion. South Korea’s inheritance tax price of fifty% is the world’s second highest after Japan. His heirs have been given 5 years to pay the inheritance tax, they usually may definitely use greater worth inventory to margin or extra capital returned to shareholders.

Palliser is just not alone in its considering. Shareholder Metropolis of London Funding Administration Firm has made two proposals for the 2024 annual assembly: a dividend of roughly $3.42 per extraordinary share and a buyback program of $380 million to run till the top of 2024. In South Korea, shareholder proposals are binding if accredited by a majority of shareholders, however they hardly ever are accredited. On the very least, sufficient votes may put strain on administration to do one thing. A great begin can be to retire the 13% of excellent shares held as treasury shares, which depend in the direction of excellent shares in South Korea and which administration has already promised to retire inside 5 years. Doing this might instantly improve earnings per share by 14.4%.

Ken Squire is the founder and president of 13D Monitor, an institutional analysis service on shareholder activism, and the founder and portfolio supervisor of the 13D Activist Fund, a mutual fund that invests in a portfolio of activist 13D investments.