Korea's New President Wastes No Time on Corporate Reform

 | May 16, 2017 | 12:00 PM EDT
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South Korea's new president hasn't wasted any time getting stuck in. Moon Jae-in, a former human rights lawyer before entering politics, is a liberal and likely to take a much tougher stance on corporate Korea than the conservative leaders who governed for the previous nine years.

Moon has immediately ordered power plants that are old and coal-fired to shut down temporarily. The move, coming less than a week after he took office, will shutter 10 power plants, all more than 30 years old, for the month of June.

The government also plans to close those same plants for the four months from March to June next year. The aim is to combat the fine-dust smog that often carpets Korea, particularly Seoul, with the closing timed for spring when power demand is lower. 

The 10 plants all belong to the Korea Electric Power Corporation (KEP) , better known as KEPCO, which effectively has a monopoly on coal and nuclear electricity generation, although there are a few tiny suppliers mainly in gas and clean energy. It also has exclusive rights to distribution and sales. But there's been talk for several years of the government breaking up its stranglehold. 

Moon -- who, as I explained when he got elected will take a more reformist approach to the companies that dominate Korea -- wants to cut back on coal power and ultimately eliminate nuclear. Both are negative for KEPCO, which gets 52% of its power generation from coal and another 35% from nuclear, as of the first quarter. The company disappointed drastically for the first quarter, its earnings missing consensus estimates by 44% due to higher-than-expected operating costs. 

Fuel-purchase costs were higher, up 15.8% in a year, mainly due to much higher costs for coal, up 44%. With nuclear generation declining, coal became more important as a revenue source, up 12% in the generation mix.

Five of the company's nuclear generators underwent maintenance in the first quarter. Some of it was as scheduled, but for some there was unexpected corrosion on the units. That depressed nuclear-power capacity by 89% compared with the first quarter of 2016. It also drove up depreciation and maintenance costs by 14%.

The company reported revenue of 15.1 trillion won ($13.5 billion) in the first quarter, down 3% over the same time last year. Operating profit was 1.5 trillion won ($1.3 billion), down a drastic 59% over the first three weeks in 2016.

During his presidential campaign, Moon pledged to cut fine-dust emissions by 30% through the shuttering of coal-fired plants. He has said he'll close old ones permanently during his five-year term, while reassessing the approval of any new coal plant that is less than 10% completed, affecting another nine plants.

He has also pledged to close old nuclear power plants and suspend the construction of new ones. Ultimately, he hopes Korea can become nuclear-free within 40 years.

The plants in question only make up 4.1% of the company's overall coal output. But with the government also pushing increased use of liquefied natural gas, KEPCO's profits are in question. A 5% drop in coal generation and a 6.5% rise in LNG could cause a 6% drop in profits, the investment bank Nomura calculates.

While bad for KEPCO, Moon may well be good for investors.

Korea always plays second-fiddle to China and Japan in the minds of investors. But it's nevertheless the third-largest in Asia, and 11th globally, sandwiched between Canada and Russia. Investors should not, therefore, ignore it.

Korean stocks are at all-time highs. While Moon's moves may hurt individual companies like KEPCO, he is also bidding to reform Korea's powerful chaebol. Those conglomerates account for around 80% of the country's gross domestic product.

Poor governance and self-serving mergers and spinoffs by the founding families have led to the "Korea discount," causing Korean companies to trade at lower multiples than their counterparts in other countries.

Investors should therefore watch for the industries that he targets, while also exploring companies that would benefit from better corporate governance.

Regulation is KEPCO's main risk, in the eyes of Nomura analysts Cindy Park and David Hwang. Any "excessive" earnings growth could cause the government to seek lower electricity tariffs, they say.

Koreans aren't just interested in corporates. Moon himself has been called "the first handsome president of Korea," while his new chief-of-staff, Im Jong-seok, was "popular around women in his 20s," while at Hanyang University, according to a story about Moon's "reign of beauty" in The Korea Times.

First among what's now been dubbed the president's "handsome brigade," though, is his chief bodyguard, Choi Young-jae. A blog of his photos has drawn more than 30,000 views, forcing his office to release a statement that he is "unfortunately" married and has two daughters.

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