Korea Autos:Marketing feedback,Lost interest vs.valuations

We met 30 clients during our recent marketing trip in Hong Kong and Singapore.

    Taken as a whole, our clients agreed with our view that the sector’s structural growthprospects are clouded by HMC/Kia’s 1) vague market positioning in the US andChina; 2) pricing strategy and 3) EV roadmap. While some believed that in the shortterm a potential sales recovery in China could be a positive, valuations seem to bethe only bright spot for HMC and Kia.

    Lack of structural drivers and weak market positioning: Most investors agreedwith our view that new models under the current product cycle are unlikely to helprestore either volume or profitability for Korean OEMs given: 1) no significantimprovement in powertrain until the next product cycle in 2019; and 2) dwindlingpricing competitiveness (value for money). Despite rising incentive levels in keymarkets, we highlighted their structural issues such as 1) in China, both HMC and Kiahave been losing market shares to local players, and the pricing difference remainsquite high with lack of diverse model line-ups; 2) in the US, weaker brand value andabsence of value for money models continue to depress residual value and profitability;and 3) in Korea, higher GPM (Korea plants) is at risk due to potentially stronger wagehike demands by labour union and declining sales of Grandeur.

    Mixed view on valuation: Investors, however, had a mixed view on Hyundai’svaluation. Some argued that HMC’s stock price has troughed based on PB (0.5x) andSOTP (including its cash positions and affiliates value); however, we think that lowerproduction and inventory are likely to result in a weaker cash balance as well as freecash flows, raising the risk of dividend cuts in 2017. Powertrain replacements expectedin 2019 could create mid-term momentum for the stock, but under the current productcycle and EV roadmap, we believe investors should wait on valuation re-rating on HMCand Kia.

    Maintain Hold on HMC and Kia: We maintain Hold ratings on both HMC and Kiawith unchanged target prices of KRW139,000 and KRW36,000, respectively. Wecontinue to believe their fundamentals are not likely to improve meaningfully undercurrent product cycle with no major powertrain upgrades and weak productcompetitiveness.