Ugly ducklings: Double-digit EV growth, plenty of … See report end for details of Nomura’s...

Hedge your inflation risk

Ugly ducklings: Double-digit EV growth, plenty of upside trading at ex-growth multiples

Korean lifers have greatly underperformed the KOSPI since listing due to flattening of the yield curve.

But we expect the long end of the yield curve to rise slowly but surely, starting in 2H11.

Meanwhile, we expect Korean lifers to deliver double-digit EV growth for the next four years.

BUY at the bottom of the rate cycle.

Key analyses in this anchor report include:

• Four-year projection of embedded value.

• Long-term industry growth outlook – longevity market developing

• SOTP valuation of Samsung Life – we think this is more accurate and our target price is top of the Street.

EQUITY RESEARCH

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See Appendix A-1 for analyst certification and important disclosures. Analysts employed by non-US affiliates are not registered or qualified as research analysts with FINRA in the US.

May 16, 2011

Research analysts

Korea Insurance

Michael Na [email protected] +82 2 3783 2334

Young Kwon Kim [email protected] +82 2 3783 2339

Korea life insurance

Rating: See report end for details of Nomura’s rating system.

Korea Life Insurance

Insurance

EQUITY RESEARCH

Hedge your inflation risk

Ugly ducklings: Double-digit EV growth, plus plenty of potential upside at ex-growth multiples

May 16, 2011

Action: Initiating with BUY We initiate coverage of Korean lifers, Samsung Life, Korea Life and Tong Yang Life with BUY calls and PTs of KRW150,000, KRW9,400 and KRW21,000, respectively. Korean lifers have underperformed the KOSPI since their IPOs due to the flattening yield curve. A flatter yield curve could continue to put pressure on the sector in the near term, but we would recommend accumulating on any weakness as we expect the long end of the yield curve to pick up slowly but surely from 2H11F.

Catalysts: Interest rate cycle to turn Our economist expects long-dated bond yields to rise from 2H11F at a measured pace on continued BOK rate hikes. We also look for rising inflation expectations, ECB tightening and the close of QE2 to lift pressure on the long end of the yield curve. The benefit of rising interest rates is clear for Korean lifers, which have significant exposure to fixed-rate liabilities (60% for Samsung Life, 70% for Korea Life and 56% for Tong Yang Life).

Korea can deliver double-digit EV growth We expect Samsung Life (ex-affiliate stakes), Korea Life and Tong Yang Life to deliver average EV growth of 16%, 12% and 15% over the next four years, driven by strong growth in value of in-force (VIF) business and improvement in the profitability of in-force business.

Priced ex-growth We believe the Korean lifers are priced ex-growth, despite having strong EV growth profiles. Samsung Life (ex-affiliate stakes), Korea Life and Tong Yang Life are trading at 0.8x, 0.8x and 0.7x FY11F P/EV, respectively.

Most upside for Samsung Life and Tong Yang Life, in our view We like Samsung Life for its strong EV growth and given our bullish stance on Samsung Electronics and Samsung Card. We also like Tong Yang Life, as we see a cheap entry point considering its solid growth profile and the likelihood that it will be the first of the lifers to be free of negative spread legacy issues; thus, it is more than just a rate cycle play.

Upside potential for Korea Life from faster-than-expected rate hikes We expect the least upside for Korea Life (26%, vs. 53% for Samsung and 62% for Tong Yang) due to its slower EV growth, and it will likely take time to rebuild a profitable in-force book. But in a hyper inflation scenario, it would be good to own, given it is the most exposed to fixed-rate liabilities.

Fig. 1: Korea life insurance coverage summary

Note: As of 11 May 2011

Anchor themes

Korean lifers, in our view, can del ver double-digit EV growth. While they trade like ex-growth companies due to a flatter yield curve, we believe the long-end of the yield curve will start to rise in 2H11F.

Nomura vs consensus

Our PTs for SLI and TYL are 11% and 27%, respectively higher than consensus, the highest on the Street. Our FY11F net profit estimate for KLI is 16% lower than consensus.

Research analysts

Korea Insurance

Michael Na - NFIK [email protected] +82 2 3783 2334

Young Kwon Kim - NFIK [email protected] +82 2 3783 2339

Stock Rating Price (W) Target Price (W)

Samsung Lif e [032830 KS] BUY 98,000 150,000

Korea Lif e [088350 KS] BUY 7,460 9,400

Tongy ang Lif e [082640 KS] BUY 12,950 21,000

See Appendix A-1 for analyst certification and important disclosures. Analysts employed by non US affiliates are not registered or qualified as research analysts with FINRA in the US.

Nomura | AEJ Korea Life Insurance May 16, 2011

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Contents

4 Initiating coverage with BUY

4 Priced ex-growth

4 Long end likely to pick up

5 Korea can deliver double-digit EV growth, in our view

5 Samsung Life outpacing peers

5 Long-term positive industry outlook

6 Addressing concerns on PF loans

7 Risk factors

8 Valuation

8 Samsung Life: PT of W150,000 implies 53% potential upside

10 Korea Life: PT of W9,400 implies 26% potential upside

11 Tong Yang Life: PT of W21,000 implies 62% potential upside

12 Valuation would be higher using appraisal valuation method

14 Valuation sensitivity

15 Changes in PT assuming a 50bp increase in NIER

17 Valuation comps

18 Buying at the bottom of a rate cycle

18 Flatter yield curve putting pressure on insurers

19 Long-end should be lifted

21 Benefits from rising rates

23 Long-term positive industry outlook

23 Now entering the longevity market

24 Korean retirees not prepared for longevity risk


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26 Plenty of room for growth

29 Wealth accumulation products to drive growth

32 Corporate pension market to grow rapidly

35 Embedded profitability to improve

35 Loading margin to improve

36 Spread on savings premium to improve gradually

39 Risk margin to stabilise

40 Second tiers gaining market share

40 The Big Three losing market share

41 Second tiers gaining market share

41 Tong Yang benefiting from financial crisis

43 Appendix 1: Calculating EV

46 Appendix 2: Life insurer M&A landscape

47 Samsung Life

81 Korea Life

102 Tong Yang Life Insurance

128 Appendix A-1


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Initiating coverage with BUY We initiate coverage of Korean life insurers with BUY ratings and target prices of W150,000 for Samsung Life (53% potential upside), W9,400 for Korea Life (26% potential upside), and W21,000 (62% potential upside) for Tong Yang Life.

Priced ex-growth

Korean lifers have significantly underperformed Korean life insurers have significantly underperformed the KOSPI since their IPOs (Samsung Life by 45%, Korea Life 46% and Tong Yang Life 56%).

Korea can deliver double-digit EV growth We expect the Korean lifers to deliver double-digit EV growth over the next four years. However, despite the prospects of strong EV growth, we believe the Korean lifers are priced ex-growth. In our view, the depressed valuations are attributable to a flattening yield curve.

Long end of the yield curve sinking despite BOK rate hikes Despite a 100bp rate hike by the central bank, Bank of Korea (BOK), since July 2010, the three-year treasury yield has dropped by 22bp to 3.68%. During the same period, the five-year treasury yield has fallen by 51bp to 4.1%.

Lifers extremely sensitive to interest rates Korean lifers' valuation depends heavily on interest rates, given their significant exposure to fixed-rate policies. The reserve for fixed-rate policies as a proportion of the total interest-bearing reserve is 60% for Samsung Life, 70% for Korea Life and 56% for Tong Yang Life. Of note, a 50bp increase in our investment yield assumption boosts the EV by 8% for Samsung Life, 14% for Korea Life and 9% for Tong Yang Life.

Long end likely to pick up

Rate hike campaign to continue Nomura Korea economist Mr Young Sun Kwon expects two more rate hikes in May and July, and another two in 1H12F, which would lift the terminal policy rate of the current cycle to 4.0% by 2Q12F. Meanwhile, he expects real policy rates to remain negative, doing little to limit inflationary pressure unless it is combined with won appreciation.

Bond market will eventually react to growing concerns on inflation Mr Kwon forecasts CPI inflation will rise above 4% in 2011F, exceeding the BOK's target band. Interest rate hikes coupled with a stronger local currency and price controls should partly offset cost-push inflation pressures from higher oil prices, but rising nominal wages and housing rents are also fueling inflation. Mr Kwon forecasts CPI inflation will rise from 2.9% in 2010 to 4.4% in 2011F, before easing to 3.6% in 2012F. Thus, we think the long end of the bond market will eventually react to growing concerns on inflation.

Foreign capital inflow to slow Whether hunting for better yields or anticipating Korean won appreciation, the inflow of foreign capital has been adding pressure on the long end since 2H09. However, with the European Central Bank (ECB) turning hawkish and the US Federal Reserve's QE2 programme winding down, we expect the foreign capital inflow to slow and possibly even turn into an outflow going forward. We think that the long end of the yield curve could rise on interest rate hikes in developed markets, as we had seen in 4Q10. In addition, recent won appreciation could hinder foreign capital inflow lured in by market anticipation of a further rise in the Korean won, which would further ease pressure on the long end.

Long end to rise slowly Our Korea economist forecasts the five-year treasury yield to start to pick up in 3Q11F and reach 4.5% by end-1H12F (from the current 4.1%), and the three-year treasury yield to edge up to 4.2% by end-1H12F (from the current 3.6%).


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Korea can deliver double-digit EV growth, in our view

Starting from a low base Up until 1998, government regulations required life insurers to pay 9% on non-participating policies and 7.5% on participating policies. The Korean government lowered the crediting rate by 100bp in 1999 and fully deregulated in 2000. Meanwhile, the Korean bond market has experienced a secular bull market over the past two decades. In 1995, the average rate on the three-year treasury was 13%, compared with the current rate of 3.6%. Consequently, Korean lifers are stuck with huge negative spread books that make their value of in-force (VIF) business extremely small relative to their business volume.

Fast rebuilding in-force book The VIF business only recently turned positive for most of the Korean life insurers. Hence, the value of new business (VNB) makes up a significant proportion of the VIF book. The VNB as a proportion of the VIF was 29% for Samsung Life, 52% for Korea Life and 29% for Tong Yang Life as of March 2011.

Plenty of new business We note that the three-year average 25th-month lapse ratio for Korean lifers stands at 39%. This means that nearly four out of 10 contracts are no longer in-force after two years. Although a higher lapse ratio has a negative impact on the VIF, it would have a positive impact on new business volumes. Currently, the reported VIFs by Korean lifers already reflect such high lapse ratios. That said, we see little downside to new business volumes for the Korean lifers.

Samsung Life outpacing peers

Samsung Life: average EV growth of 16% for next four years We expect Samsung Life to deliver RoEV of 16.7% and 16.1% for FY11F and FY12F, respectively, driven by strong growth in the VIF business and the unwinding of profitable in-force book. We forecast 25% and 22% growth in VIF for FY11F and FY12F, respectively. Growth contributions from VNB will likely be significant as it makes up 30% of VIF. We also expect solid VNB growth as the company starts its hiring cycle and ventures into non-traditional channels.

Korea Life: average EV growth of 12% for next four years We expect Korea Life to deliver RoEV of 12.6% for FY11F and FY12F, driven by strong growth in VIF business. We forecast 49% and 33% growth in VIF for FY11F and FY12F, respectively. The growth contribution from VNB is likely to be significant, as it made up 52% of VIF as of March 2011. However, our EV growth forecasts for Korea Life are slower than for its peers, to reflect the company’s lack of profitable in-force book and statutory earnings will likely be depressed in the near term.

Tong Yang Life: average EV growth of 15% for next four years We also expect Tong Yang Life to deliver strong EV growth. We forecast RoEV of 15.6% and 14.4% for FY11F and FY12F, respectively, driven by new business growth and the unwinding of its profitable in-force book. We expect VNB growth of 5% for each of FY11F and FY12F. Tong Yang looks set to deliver solid VNB growth given its relatively small size, increasing market share and improving profitability on the back of increasing operating leverage.

Long-term positive industry outlook

Insurance density is relatively low The Korean life insurance sector may seem mature based on insurance penetration levels (premium/GDP), which rank Korea the tenth most penetrated life insurance market globally. However, we note that based on insurance density (premium per capita), Korea ranks 24th after Austria.

Demographic changes to have positive impact We expect strong growth in demand for products that manage longevity risk (eg, income annuities and long-term care insurance) as the first 8mn baby boomers (16% of total


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population, born in 1955–1964) start to retire this year. In our opinion, the boomers will seek sources of lifetime income and long-term care insurance given limited pension and healthcare support from the government and corporations. We also expect the second group of baby boomers (14% of total population, born in 1968–1975) to be a continued source of demand for death insurance and wealth accumulation products.

Separate account business to drive growth We believe separate accounts, which include investment-linked insurance and corporate pension, will remain the main growth driver for the Korean life insurers. The life insurance industry is uniquely positioned as the only sector that can provide protection against longevity risk. Life insurers can provide guaranteed streams of income with potential for upside with investment-linked insurance to retirees. Growth in the corporate pension market has been somewhat disappointing, but we expect to see meaningful growth starting this year, given tax benefits on retirement insurance.

General account profitability normalisation to continue The spread on savings premiums should improve as high-yield guarantee policies continue to expire and new low-yield floating-rate policies dilute the in-force book.

Separate account growth to improve capital efficiency ROE should improve as we expect separate account premium growth to outpace general account premium growth given that separate accounts require less capital.

Addressing concerns on PF loans

Court receivership / workout of construction companies Earlier this year, we witnessed the court receivership / workout cases of several construction companies ranked in the Top 100 by building capacity. The names include World Construction, Jin Heung Corp, LIG E&C, Dongyang E&C and Sambu Construction.

Restructuring of construction sector winding down However, exposure for the insurance sector remains limited with a smaller project financing (PF) loan balance of KRW4.9tn, which translates to only 7% of the total KRW67tn in PF loans remaining in the system. In addition, almost 40 constructors previously ranked in the Top 100 have entered court receivership / workout programmes. That said, the possibility of more firms following suit remains low, in our view.

Fig. 2: Constructors ranked in Top 50 that have entered workout / court receivership

Source: Edaily, MLTM, Nomura research

Limited downside risk Going forward, we expect default from the construction sector to be largely mitigated, given: 1) continuing signs of recovery in the domestic housing market; and 2) high likelihood for major shareholders to make capital injections to free up liquidity. According to local press (Korea Economic Daily, 3 May, 2011), Doosan Group announced a capital injection of KRW500bn to its affiliate Doosan E&C. Hyosung, STX Group and Daelim Industrial have followed suit with similar capital injections to free up liquidity for affiliates in the construction sector.

Rank Construction Firm Rank Construction Firm

12 Kumho Industrial 38 Namkw ang Corp

17 Kyeongnam Corp 39 Hanil Construction

22 Halla E&C 40 Jinheung Corp.

25 Poonglim Industrial 47 Samho

26 Byucksan E&C 46 Kumkw ang Corp

31 Shindongah Construction 44 Dongyang E&C

35 Namyang E&C


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Risk factors

Asset allocation Shinsegae and CJ Group own a combined 16.6% of Samsung Life. KDIC and Daewoo International own a combined 24.8% of Korea Life. Given that all the aforementioned parties have expressed interest to off-load their stakes and the lock-up period is over, we see potential risk from an asset allocation perspective.

IFRS phase II implementation Although implementation looks to be a few years away, the liability adequacy test required by IFRS phase II could have a material impact on Korean life insurers. If the test identifies that the insurance liability is inadequate, the entire deficiency would be recognised in the P&L immediately. Insurers may have to reserve for "negative spread books", which would significantly lower book values and capital adequacy ratios. Lifers may have to raise additional capital if the liability adequacy test uses risk-free rates.

Solvency II implementation Given that Korea only recently implemented the Risk Based Capital (RBC) evaluation system, we think that Solvency II implementation will be many years away. However, to prepare insurers for Solvency II, the regulator could tighten the Korean RBC system, which is currently far less strict than the international RBC system.


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Valuation We believe Korean lifers are priced like ex-growth stocks, despite offering prospects of double-digit EV growth for the next three years.

Samsung Life: PT of W150,000 implies 53% potential upside

Value of affiliate stakes is one of the key share price drivers In our view, Samsung Life share price is driven by three key factors: 1) EV growth, 2) market rates, and 3) value of affiliate stakes. The first two factors should be the same for all life insurers. However, given that affiliate stakes amounts to half of its book value, we cannot treat it like other equity investments, especially when one single stock (Samsung Electronics) represents 68% of the total affiliate stakes.

Yes, Samsung Electronics' share price performance affects Samsung Life Samsung Life outperformed Korea Life by 8.2% when Samsung Electronics outperformed the KOSPI by 28% from 3 November 2010 to 28 January 2011. However, when the outperformance of Samsung Electronics halted, Samsung Life moved in tandem with Korea Life. This means that we have to take a view on Samsung Electronics when analyzing Samsung Life.

Valuation attractive, trading at 0.8x forward P/EV We subtract the value of affiliate stakes in order to obtain an appropriate EV multiple. Based on our analysis, Samsung Life's insurance business is currently trading at 0.8x forward P/EV. The implied multiple appears to be attractive given that we expect average EV growth of 16% a year through FY14F.

Insurance business: W100,000 per share We value Samsung Life's insurance business on an embedded-value basis, applying a P/EV multiple of 1.5x forward EV. We have assumed a sustainable RoEV of 15%, a COE of 11% and a growth rate of 3%. Of note, we expect EV growth of 17.5% and 16.4% for FY11F and FY12F, respectively. We have assumed lower net investment earnings rate (NIER) for the purpose of our EV forecast. Samsung Life uses NIER of 5.2% for its FY10 EV calculation. In comparison, we assume 5.0% (20bps lower than Samsung Life's assumption). In addition, we used risk discount rate of 11% (50bps higher than Samsung Life’s assumption of 10.5%).

Fig. 3: Samsung Life: EV projection and PT Sustainable RoEV of 15%-plus through FY14F

Source: Company data, Nomura estimates

(Wbn) FY09 FY10 FY11F FY12F FY13F FY14FAdjusted net worth (ANW) 13,685 16,284 17,136 18,085 19,154 20,529 Affiliate stakes (A) 5,084 8,242 8,242 8,242 8,242 8,242 Insurance business book (ANW-A) 8,601 8,042 8,894 9,843 10,912 12,287 Value of in-force business (VIF) 2,954 4,141 5,058 6,042 7,042 7,997 Embedded value (EV) 11,555 12,183 13,952 15,885 17,954 20,284 Growth of EV (RoEV) 8.9% 17.5% 16.4% 15.5% 15.2%Current mkt cap 19,620 19,620 19,620 19,620 19,620 19,620 Mkt Cap - A 14,536 11,378 11,378 11,378 11,378 11,378 P/EV 1.26 0.93 0.82 0.72 0.63 0.56 VNB 1,070 972 1,015 1,084 1,138 1,188 NBM 2.79 (0.83) (2.54) (4.16) (5.78) (7.50)

Target multiple 1.5 Target mkt cap for insurance business 20,000 TP for insurance business 100,000Implied NBM 6.0


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Holding company: W50,000 per share As shown below, Samsung Life's affiliate stakes amount to W14.6tr as of 31 March. Among its holdings, Samsung Electronics makes up 68% of the total value of the affiliate stakes. The company books valuation gains from affiliate stakes as other comprehensive income net of tax and policyholder proportion (currently at 32.1%). We have applied our PT (or current price for unrated stocks) to derive our target NAV.

Fig. 4: Affiliate stake valuation We see 32% upside for the value of affiliate stakes

Note: * reflects current price as of May 11, 2011

Source: Company data, Nomura research

Shareholders’ proportion rising Unrealised gains from affiliate holdings are split between shareholders and policyholders. The policyholders' proportion is the part of reserve relating participating policies to total reserve. Currently, the policyholders’ and shareholders’ proportions are 32% and 68%, respectively. We expect the shareholders’ proportion to increase by 1.0-1.4pp in a year’s time as the reserve relating to participating policies as a proportion of the total reserve declines.

Fig. 5: Shareholders’ proportion of unrealised gains on AFS Shareholders' proportion should increase by 1.0-1.4pp per annum


Accounting # of Shares % holdingMar11Price

Mar11(Wbn)

TP orCurrent

price

Mar12F(Wbn)

Samsung Electronics Cost 10,622,814 7% 932,000 9,900 1,350,000 14,341

Samsung Card Equity 32,468,868 26% 55,500 1,802 67,000 2,175

Samsung F&M Cost 4,905,718 10% 242,500 1,190 223,000 * 1,094

Samsung Securities Cost 7,603,659 11% 80,600 613 83,800 * 637

Samsung C&T Cost 7,476,102 5% 71,800 537 85,000 635

Samsung Heavy Cost 7,800,000 3% 39,900 311 45,300 * 353

S1 Cost 2,030,476 5% 56,300 114 50,900 * 103

Hotel Shilla Cost 2,865,158 7% 25,550 73 27,100 * 78

Samsung Techw in Cost 289,800 1% 79,800 23 95,000 28

Samsung SDI Cost 10,155 0% 168,000 2 160,000 2

Cheil Industries Cost 6,871 0% 116,500 1 160,000 1

Samsung Futures Equity 1,025,000 41% 41 41

Samsung Asset Management Cost 1,024,000 5% 21 21

Samsung Economic Research Institute Cost 1,776,000 15% 10 10

Samsung Corning Precision Glass Cost 2,176 0% 2 2

Total Value 14,639 19,521

Net of holding company discount (27%) 10,687 14,250

Shareholders' proportion (69.6%) 7,438 9,918

Per share (Won) 38,000 50,000

39.1% 36.4% 34.5% 33.3% 32.1% 30.7%

60.9% 63.6% 65.5% 66.7% 67.9% 69.3%

Mar07 Mar08 Mar09 Mar10 Mar11 Mar12F

Policyholders' proportion Shareholders' equity


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We apply a 27% holding company discount Theoretically, we think the holding company discount should be the corporate tax rate (22%). However, in reality, the holding company discount varies based on the performance of its holdings and market liquidity. The holding company discount narrows when its holdings outperform the market and vice versa. In addition, abundant market liquidity lowers the discount. Given that we are bullish on Samsung Group, the holding company discount could be lower than the tax rate. However, for the purpose of our valuation, we apply a 27% discount, which is the five-year average NAV discount for LG Corp. We select LG Corp as our benchmark as we believe it is one of the purest holding companies in Korea with most of its holdings being listed.

Fig. 6: LG Corp discount to NAV Average discount to NAV for the past five years of 27%

Source: Nomura research

Korea Life: PT of W9,400 implies 26% potential upside

Our PT is based on 1.0x P/EV We forecast EV growth of 12.6% for each of FY11F and FY12F. We believe Korea Life can sustain 11.5%-plus RoEV for the next four years. Our PT of KRW9,400 is based on 1.0x forward P/EV. We assume a sustainable medium-term RoEV of 11.5%, a COE of 11.5% and a growth rate of 3%. Of note, we assume a lower net investment earnings rate (NIER) of 5.0% for the purpose of our EV forecast, compared with the 5.25% used by Korea Life in its FY09 EV calculation.

Priced ex-growth Korea Life is trading at 0.8x forward P/EV. We think the current valuation is attractive as we expect sustainable RoEV of 11.5% in the medium term. The current implied NBM (new business multiple) is in negative territory despite the company’s solid growth profile and potential upside from rising interest rates.

Fig. 7: Korea Life: EV projection and PT Sustainable RoEV of 11.5%-plus through FY14F


-20%

-10%

0%

10%

20%

30%

40%

50%

2-May-06 2-May-07 2-May-08 2-May-09 2-May-10 2-May-11

NAV Discount Average St Dev +1 St Dev -1

(Wbn) FY09 FY10F FY11F FY12F FY13F FY14FAdjusted net worth (ANW) 6,100 6,601 7,055 7,569 8,112 8,737 Value of in-force business (VIF) 408 795 1,187 1,580 1,973 2,365 Embedded value (EV) 6,508 7,396 8,242 9,150 10,085 11,102 Growth of EV (RoEV) 15.0% 12.6% 12.6% 11.6% 11.8%Current mkt cap 6,418 6,418 6,418 6,418 6,418 6,418 P/EV 0.99 0.87 0.78 0.70 0.64 0.58 VNB 410 411 422 430 436 439 NBM (0.22) (2.38) (4.32) (6.35) (8.41) (10.66)

Target multiple 1.0 Target mkt cap 8,242 Target price 9,400 Implied NBM -


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Tong Yang Life: PT of W21,000 implies 62% potential upside

Our PT is based on 1.2x P/EV We expect Tong Yang Life (TYL) to deliver EV growth of 15.5% and 14.6% for FY11F and FY12F, respectively. We also expect TYL to sustain RoEV of 14%-plus through FY14F. Our PT of W21,000 is based on 1.2x forward P/EV. We assume a sustainable RoEV of 14.0%, a COE of 12.5% and a growth rate of 3%. We assume a higher COE than for other life insurers given Korea Life’s relatively smaller size and liquidity. Of note, we assume a lower net investment earnings rate (NIER) of 5.0% for the purpose of our EV forecast, compared with the 5.25% used by TYL in its FY09 EV calculation.

TYL looks attractive even on a PBR methodology… As more profitable new business continues to flow into in-force book, we think the return on shareholders' equity will improve and reach a sustainable level of 15% in the medium term. A PBR valuation derives a valuation of W15,000, implying 18% potential upside.

…but PBR could be misleading Given the long-tail nature of life insurance, we think current earnings and book value do not capture the value of current in-force book, especially if there is a significant difference in profitability between in-force book and new business (which is the case for Korean lifers who have been suffering from negative spread on legacy products). That said, investor should not miss out on TYL who looks attractive even on PBR.

Fig. 8: Tong Yang Life: EV projection and PT Sustainable RoEV of 14%-plus through FY14F


(Wbn) FY09 FY10F FY11F FY12F FY13F FY14FAdjusted net worth (ANW) 1,019 1,127 1,260 1,400 1,559 1,750 Value of in-force business (VIF) 472 546 635 728 837 953 Embedded value (EV) 1,491 1,673 1,895 2,128 2,396 2,703 Growth of EV (RoEV) 14.4% 15.5% 14.6% 14.9% 14.8%Current mkt cap 1,334 1,334 1,334 1,334 1,334 1,334 P/EV 0.9 0.8 0.7 0.6 0.6 0.5 VNB 142 154 161 169 179 190 NBM (1.1) (2.2) (3.5) (4.7) (5.9) (7.2)

Target multiple 1.2 Target mkt cap 2,274 Target price 21,000Implied NBM 2.4


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Valuation would be higher using appraisal valuation method

We calculate an even higher valuation using 10-year DCF model Using an appraisal valuation method we calculate an even higher valuation for TYL, as its VNB is the largest as a percentage of EV. In addition, we believe that NBM will increase, as we expect the company to continue to gain market share. Of note, we only reflect a 10-year projection in our NBM calculation. Typically, a 30-year DCF model is used in the region to drive NBM. However, due to the infancy of the EV valuation methodology in Korea, we do not want to pay for more than 10 years.

Samsung Life insurance business at KRW109,000 per share if using the appraisal valuation method For Samsung Life, the implied NBM is 6.0x our PT. However, if we were to use the appraisal value methodology, we could justify up to a 7.7x NBM.

Fig. 9: Samsung Life: target NBM based on appraisal valuation method

Source: Nomura estimates

Korea Life valuation at KRW12,800 if using the appraisal valuation method For Korea Life, the implied NBM is 0x at our PT. However, using the appraisal value methodology, we could justify up to a 6.9x NBM.

Fig. 10: Korea Life: target NBM based on appraisal valuation method


Tong Yang Life PT at KRW30,000 if using the appraisal valuation method For TYL, the implied NBM is 2.3x our PT. However, using the appraisal value method, we could justify up to 8.0x NBM.

Fig. 11: Tong Yang Life: target NBM based on appraisal valuation method


But we think it is more appropriate to use the P/EV methodology While there is upside potential to our PTs using the appraisal value methodology, we think it is more appropriate to use P/EV for the Korea life insurers given some variances we encountered in EV, which may not be captured in the NBM technique. In addition, we think the appraisal valuation method ignores near-term EV growth profile changes that companies may face such as Korea Life who may take a while to rebuild profitable VIF.

(Wbn) FY11F FY12F FY13F FY14F FY15F FY16F FY17F FY18F FY19F FY20FAnnualized premium equivalent (APE) 3,773 4,075 4,319 4,535 4,716 4,905 5,052 5,153 5,256 5,362 New business margin 26.9% 26.6% 26.4% 26.2% 26.1% 25.9% 25.8% 25.7% 25.6% 25.4%Value of new business (VNB) 1,015 1,084 1,138 1,188 1,230 1,272 1,304 1,323 1,343 1,363 Discount factor 1.0 1.1 1.2 1.4 1.5 1.7 1.9 2.1 2.3 2.6 PV of VNB 1,015 976 924 869 810 755 697 637 583 533 Sum of PV 7,799 Implied multiple 7.7

(Wbn) FY11F FY12F FY13F FY14F FY15F FY16F FY17F FY18F FY19F FY20FAnnualized premium equivalent (APE) 2,271 2,351 2,421 2,482 2,531 2,582 2,634 2,686 2,740 2,795 New business margin 18.6% 18.3% 18.0% 17.7% 17.5% 17.4% 17.4% 17.3% 17.3% 17.3%Value of new business (VNB) 422 430 436 439 443 450 458 466 475 484 Discount factor 1.0 1.1 1.2 1.4 1.5 1.7 1.9 2.1 2.3 2.6 PV of VNB 422 388 354 321 292 267 245 224 206 189 Sum of PV 2,908 Implied multiple 6.9

(Wbn) FY11F FY12F FY13F FY14F FY15F FY16F FY17F FY18F FY19F FY20FAnnualized premium equivalent (APE) 992 1,062 1,136 1,210 1,282 1,353 1,421 1,477 1,536 1,598 New business margin 16.2% 15.9% 15.8% 15.7% 15.7% 15.6% 15.5% 15.5% 15.5% 15.5%Value of new business (VNB) 161 169 179 190 201 211 221 229 238 248 Discount factor 1.0 1.1 1.2 1.4 1.5 1.7 1.9 2.1 2.3 2.6 PV of VNB 161 152 145 139 132 125 118 110 103 97 Sum of PV 1,283 Implied multiple 8.0


13

Appraisal value methodology may work in good times Samsung F&M's NBM expanded to 18.2x at the peak of the market in 2007. NBM of 18.2x could be explained only if we were to use the appraisal value methodology with a 30-year DCF model. We would derive NBM of 18.5x if we assume a sustainable VNB growth of 7% and a risk discount rate of 11% for next 30 years. That said, we think that our implied NBM of 6.0x at our PT based on P/EV valuation methodology is not overstretched.

Fig. 12: Samsung F&M P/EV trend Five-year average P/EV of 1.6x


Fig. 13: Samsung F&M NBM trend Five-year average NBM of 8.3x


Ex-affiliate multiples much higher We subtracted out the value of Samsung Electronics from both EV and market cap for Samsung F&M. Of note, Samsung F&M owns 1.2% in Samsung Electronics. Our analysis shows that Samsung F&M traded at much higher multiples excluding its Samsung Electronics stake. Currently, Samsung F&M is trading at an ex-affiliate stake trailing NBM of 5x. Again, we think our implied NBM of 6.0x is not overstretched.

Fig. 14: Samsung F&M ex-affiliate stake P/EV trend Five-year average P/EV of 2.0x


Fig. 15: Samsung F&M ex-affiliate stake NBM trend Five-year average NBM of 9.9x


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14

Valuation sensitivity

Korea Life is most sensitive to interest rates Korea Life has the highest EV sensitivity to the net interest earnings rate (NIER) assumption as the company has the highest proportion of fixed-rate liabilities at 70% compared to 60% for Samsung Life and 56% for TYL. We estimate a 50bp increase in the NIER assumption would increase Korea Life’s EV by 13.8%, Samsung Life’s by 13.5% and TYL’s by 9.5%.

A 50bp increase in NIER assumption to increase Samsung Life’s EV by 12.8% Samsung Life used an NIER assumption of 5.2% for its FY10 EV calculation. We believe Samsung’s assumption is aggressive given current market rates. For the purpose of our analysis, we adjust the NIER to 5.0%. Note that Samsung Life’s EV is also sensitive to changes in the claims ratio.

Fig. 16: Samsung Life: EV sensitivity (KRW)


Fig. 17: Samsung Life: EV sensitivity (%)


A 50bp increase in NIER assumption to increase Korea Life’s EV by 13.8% Korea Life used an NIER assumption of 5.25% for its FY09 EV calculation. We believe Korea Life’s assumption is aggressive given the current market rates. For the purpose of our analysis, we adjust the NIER to 5.0%. We note that Korea Life is less sensitive to changes in the claims ratio, unlike Samsung Life.

Fig. 18: Korea Life’s EV sensitivity (KRW)


Fig. 19: Korea Life’s EV sensitivity (%)


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15

A 50bp increase in NIER assumption to increase TYL’s EV by 9.5% TYL used an NIER assumption of 5.25% for its FY09 EV calculation. We believe TYL’s assumption is aggressive given current market rates. For the purpose of our analysis we adjusted the NIER to 5.0%. We note that TYL is least sensitive to the NIER assumption, given that it has the lowest proportion of fixed-rate liabilities.

Fig. 20: Tong Yang Life’s EV sensitivity (KRW)


Fig. 21: Tong Yang Life’s EV sensitivity (%)


Changes in PT assuming a 50bp increase in NIER

PT change would be minimal Our PTs would not change in a meaningful way even if we were to assume a higher NIER, as it would result in a lower RoEV eliminating low base effect. In addition, it would take time for higher market rates to flow through the fixed income portfolio.

A 50bp rise in NIER would increase Samsung’s PT by 2% In effect, a 50bp increase in the NIER would see our PT for Samsung Life rise by 2%. While we could lower our target multiple from 1.5x to 1.4x to reflect a lower RoEV in the near term, we believe the RoEV is likely to pick up in the medium term as higher market rates flow through its fixed income portfolio.

Fig. 22: Samsung EV projection and PT assuming 50bp increase in NIER


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16

A 50bp rise in NIER would increase Korea Life’s PT by 3% In effect, a 50bp increase in the NIER would see our PT for Korea Life rise by 3%. While we could lower our target multiple from 1.0x to 0.9x to reflect a lower RoEV in near term, we think the RoEV is likely to pick up in the medium term as higher market rates flow through its fixed income portfolio. Eventually, we may be able to apply a higher target multiple.

Fig. 23: Korea Life’s EV projection and PT assuming 50bp increase in NIER


TYL’s PT unchanged despite higher NEIR assumption For TYL, our target price would remain largely unchanged even if we were to assume a higher NIER assumption. While we could lower our target multiple from 1.2x to 1.1x to reflect a lower RoEV in the near term, we think the RoEV is likely to pick up in the medium term as higher market rates flow through its fixed income portfolio. Eventually, we should be able to apply higher target multiple.

Fig. 24: TYL’s EV projection and PT assuming 50bp increase in NIER


(Wbn) FY09 FY10F FY11F FY12F FY13F FY14FAdjusted net worth (ANW) 6,100 6,651 7,127 7,679 8,324 8,992 Value of in-force business (VIF) 1,436 1,823 2,222 2,630 3,052 3,487 Embedded value (EV) 7,536 8,474 9,348 10,309 11,375 12,478 Growth of EV (RoEV) 13.6% 11.3% 11.2% 11.6% 10.8%Current mkt cap 6,418 6,418 6,418 6,418 6,418 6,418 P/EV 0.9 0.8 0.7 0.6 0.6 0.5 VNB 410 423 441 458 477 498 NBM (2.7) (4.9) (6.6) (8.5) (10.4) (12.2)

Target multiple 0.9 Target mkt cap 8,413 Target price 9,700 Implied NBM (2.1)


Target multiple 1.1 Target mkt cap for insurance business 2,161 Target price 21,000 Implied NBM 1.2


17

Valuation comps

Fig. 25: Insurance Valuation Comps

Note: *Represents Bloomberg estimates, pricing as of 11 May 2011

Source: Bloomberg, Nomura estimates

SamsungLife

KoreaLife

TongYang Life

SamsungF&M*

HyundaiF&M*

DongbuInsurance*

Ping AnLife

ChinaLife

Bloomgberg Ticker 032830 KS 088350 KS 082640 KS 000810 KS 001450 KS 005830 KS 2318 HK 2628 HKRecommendation BUY BUY BUY n.a n.a n.a Neutral BUYLocal Currency KRW KRW KRW KRW KRW KRW CNY CNYShare price (W) 98,000 7,460 12,950 220500 27450 48800 81.4 26.5Target price (W) 150,000 9,400 21,000 n.a n.a n.a 90.0 40.0Implied upside (downside) (%) 53% 26% 62% n.a n.a n.a 11% 51%Shares outstanding (mn) 200 869 108 47.375 89.4 70.8 7,640 28,260Market Cap. (bn) 19,600 6,479 1,393 10,446 2,454 3,455 622 749Market Cap. (US$mn) 18,095 5,982 1,286 9,644 2,266 3,190 7,640 28,260

Current MultiplesP/BV (x) FY09A 1.6 1.1 1.4 2.7 2.9 4.1 8.3 3.5

FY10A 1.3 1.1 1.2 2.1 2.3 2.9 6.1 3.6FY11E 1.2 1.0 1.1 1.4 1.4 1.5 4.9 2.9FY12E 1.1 0.9 1.0 1.3 1.2 1.3 3.9 2.4

P/E (x) FY09A 21.6 15.5 13.3 17.4 21.3 14.9 42.8 22.8FY10A 10.1 13.5 8.6 19.9 13.3 15.3 34.5 22.3FY11E 16.7 12.1 8.5 12.9 8.4 8.8 21.9 16.9FY12E 15.0 10.8 7.5 11.1 7.0 7.3 15.6 13.9

P/EV (x) FY09A 1.2 1.0 0.9 n.a. n.a. n.a. 3.8 2.6FY10A 1.0 0.9 0.8 n.a. n.a. n.a. 3.3 2.4FY11E 0.9 0.8 0.7 n.a. n.a. n.a. 2.6 2.0FY12E 0.8 0.7 0.7 n.a. n.a. n.a. 2.0 1.6

P/EV (ex. aff ilates) (x) FY09A 1.3 n.a. n.a. n.a. n.a. n.a. n.a. n.a.FY10A 0.9 n.a. n.a. n.a. n.a. n.a. n.a. n.a.FY11E 0.8 n.a. n.a. n.a. n.a. n.a. n.a. n.a.FY12E 0.7 n.a. n.a. n.a. n.a. n.a. n.a. n.a.

ProfitabilityROE (%) FY09A 9.3 9.0 12.6 15.5 13.8 27.6 19.0 15.5

FY10A 14.1 8.1 15.0 10.6 17.3 19.3 18.0 16.0FY11E 7.4 8.4 13.7 12.2 19.4 19.2 25.0 18.6FY12E 7.9 8.8 13.9 13.0 20.9 20.0 28.0 18.8

ROEV (%) FY09A 34.6 30.1 32.1 n.a. n.a. n.a. 9.0 11.5FY10A 25.2 15.0 14.4 n.a. n.a. n.a. 9.5 10.6FY11E 10.4 12.6 15.5 n.a. n.a. n.a. 11.8 11.7FY12E 10.3 12.6 14.6 n.a. n.a. n.a. 13.0 11.8

ROEV (ex. aff iliates) (%) FY09A 13.1 n.a. n.a. n.a. n.a. n.a. n.a. n.a.FY10A 8.9 n.a. n.a. n.a. n.a. n.a. n.a. n.a.FY11E 17.5 n.a. n.a. n.a. n.a. n.a. n.a. n.a.FY12E 16.4 n.a. n.a. n.a. n.a. n.a. n.a. n.a.

Per Share DataEPS FY09A 4,530 482 977 12,638 1,288 3,270 1.9 1.2

FY10A 9,669 554 1,502 11,071 2,063 3,197 2.4 1.2FY11E 5,859 616 1,529 17,049 3,265 5,523 3.7 1.6FY12E 6,547 692 1,731 19,838 3,929 6,652 5.2 1.9

BVPS FY09A 60,664 6,540 9,494 81,540 9,343 11,867 9.8 7.5FY10A 76,950 7,098 10,495 104,281 11,923 16,574 13.3 7.4FY11E 81,009 7,620 11,767 154,100 19,027 32,341 16.5 9.2FY12E 85,755 8,162 13,099 167,986 22,202 36,994 21.0 11.0

EVPS FY09A 83,194 7,493 13,864 n.a. n.a. n.a. 21.1 10.1FY10A 102,125 8,516 15,555 n.a. n.a. n.a. 25.0 11.2FY11E 110,968 9,489 17,618 n.a. n.a. n.a. 31.6 13.4FY12E 120,635 10,535 19,782 n.a. n.a. n.a. 40.3 16.1


18

Buying at the bottom of a rate cycle We believe the BOK will continue with its rate hike campaign, taking the key policy rate to 4.0% by 2Q11F. We expect the long-end of yield curve to rise slowly along with rising policy rates. Korean lifers should benefit from rising interest rates given their large exposure to fixed-rate liabilities.

Flatter yield curve putting pressure on insurers

Long-end of the yield curve has been falling despite rate hikes by the BOK Despite hikes of 100bp by the BOK since July 2010, the three-year treasury yield fell by 22bp to 3.68%. During the same period, the five-year treasury yield fell by 15bp. The phenomenon happened in the early part of 2006, but it normalized thereafter.

Fig. 26: Interest rate trend

Source: CEIC, Nomura research

Lifers extremely sensitive to interest rates Korean lifers' valuation depends heavily on interest rates due to significant exposure to fixed-rate policies. The reserve for fixed rate policies as a proportion of total interest-bearing reserve amounts to 60% for Samsung Life, 70% for Korea Life, and 56% for Tong Yang Life. Of note, a 50bp increase in investment yield assumption would boost EV by 8% for Samsung Life, 14% for Korea Life and 9% for Tong Yang Life, according to our sensitivity analysis.

Fig. 27: Samsung Life share price vs. 3yr and 5yr treasury


Fig. 28: Korea Life share price vs. 3yr and 5yr treasury


Fig. 29: Tong Yang Life share price vs. 3yr and 5yr treasury


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Long-end should be lifted

Policy rate to reach 4.0% by 2Q12F Our economist Young Sun Kwon expects two more rate hikes for the rest of 2011, and another two in 1H 2012, lifting the terminal policy rate of the current cycle to 4.0% by 2Q12F. Meanwhile, he thinks that real policy rates should remain negative, doing little to limit inflationary pressure unless it is combined with KRW appreciation.

Fig. 30: Nomura policy rate KTB forecast


Fig. 31: Nomura vs. consensus

Source: Bloomberg, Nomura research

Bond market will eventually react to growing concerns on inflation Our economist Young Sun notes that CPI inflation should rise above 4% in 2011F, exceeding the BOK's target band. Interest rate hikes coupled with a stronger KRW (we forecast KRW/USD to appreciate to 1,020 by end-2011F) and some administrative measures (such as curbing hikes in public services and freezing college tuition fees) should partly offset cost-push inflation pressures from higher oil prices. However, rising nominal wages and housing rents are also adding to inflation. Young Sun forecasts Korea’s CPI inflation to rise from 2.9% in 2010 to 4.4% in 2011F before easing to 3.6% in 2012F. We think that the long end of the bond market will eventually react to growing concerns on inflation.

Fig. 32: Inflationary pressure on the rise

Source: BOK, Nomura research

Fig. 33: Real interest rate to remain negative


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Foreign capital inflow putting pressure on the long-end We believe that foreign capital inflow (especially from dollar block economies) into Korea has been putting pressure on the long end of the yield curve. We think that exceptionally low rates in developed countries and expectation for KRW appreciation are the primary reasons for capital inflow into Korea.

Fig. 34: 5-year KTB vs. foreign net bond buy Foreigners appetite for KTB has been strong


Fig. 35: Net bond buy by origin of capital The US and China money main source of capital inflow


Fig. 36: KRW vs. foreign net bond buy Foreign capital inflow betting on KRW appreciation?


Fig. 37: Flattening of Yield curve Long-end falling despite the rise in policy rate


Foreign capital inflow to slow Whether hunting for better yields or expecting KRW appreciation, foreign capital inflows have been adding pressure on the long-end since 2H09. However, with the ECB turning hawkish and the Fed's QE2 programme winding down, foreign capital inflows may slow and we may even witness outflows going forward. We think that the long-end of the yield curve could be lifted with rising interest rates in developed markets, as we have seen in 4Q10. In addition, the recent strengthening of KRW could hinder foreign capital inflows (funds pouring into Korea on expectations of KRW appreciation), further lifting pressure on the long-end.

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Fig. 38: Foreign net bond buy vs. US rate

Source: FSS, KOFIA, Nomura research

Fig. 39: US rate vs. KTB rate

Source: FSS, KOFIA, Nomura research

Long-end expected to rise slowly but surely Young Sun forecasts that the five-year treasury yield will start to rise in 3Q11F and reach 4.5% by the end of 1H12F from the current yield of 4.0%, and the three-year treasury will reach 4.2% by the end of 1H12F from the current yield of 3.6%.

Fig. 40: Nomura interest rate forecast


Benefits from rising rates

Korean lifers have significant exposure to fixed-rate policies The benefit from rising rates is clearly evident for life insurers with large exposure to fixed-rate policies, in our view. The reserve for fixed-rate policies as a proportion of interest-bearing reserve amounts to 60% for Samsung Life, 70% for Korea Life and 56% for Tong Yang Life.

Valuation sensitivity highest for Korea Life Our valuation sensitivity is the highest for Korea Life given that it has the largest exposure to fixed rate policies. Korea Life has the highest exposure to fixed-rate policies given the company’s focus on variable insurance. Although we think it is the right strategy for the company given its capital constraints, the approach has resulted in a larger duration gap than its peers. Variable products require less capital than traditional

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products, but as savings premium gets booked to a separate account, it would not have dilutive effect in terms of general account crediting rate.

But Korea Life also has the highest hurdle Although Korea Life is most sensitive to rising rates, we do not think the stock will outperform its peers given that its hurdle rate is the highest among the Korean Lifers and we expect a slow rise in the long-end of the yield curve.

Fig. 41: % of fixed rate liabilities (December 2010)


Fig. 42: Proportion of high yield guarantee policies yielding 6% and over


70%

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Korea Life Samsung Life TYL

5.4%

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Jun09 Sep09 Dec09 Mar10 Jun10 Sep10 Dec10

Korea Life Samsung Life Tong Yang Life


23

Long-term positive industry outlook We believe the Korean life insurance market still has room to grow, given relatively low insurance density. We expect investment-linked products and corporate pension to continue to provide growth opportunities. We also believe the profitability of lifers will likely improve as negative spread books mature and new low-yield floating rate policies dilute their in-force book.

Now entering the longevity market

Second baby boomers the source of traditional life insurance Traditional life insurance (eg, whole life and term life) started to grow meaningfully only in early 2000s. Demand for traditional life insurance could fall as baby boomers start to retire, in our view. However, Korea has the second group of 7mn baby boomers (14% of total population, born in 1968–1976) that could be a continued source of demand for traditional life insurance. The ‘second baby boomers’ are now having families and are seeking protection for their family in case of death or critical illness.

Demand for wealth accumulation products still rising Investment-linked insurance in Korea, introduced only in recent years, started to show a meaningful growth only in late 2000s. Although new business volume fell sharply due to the global credit crisis, the volume has been picking up again as the market recovers. We remain positive on the long-term demand for investment linked insurance given that they could provide guaranteed stream of income for life with potential for upside and tax advantages (e.g., variable annuity).

First baby boomers now looking for protection against longevity risk We expect strong growth in demand for products that manage longevity risk (eg, income annuities and long-term care insurance) as the first group of 8mn baby boomers (16% of total population, born in 1946-1964) start to retire this year. People are healthier and living longer, and are fearful of outliving their assets (ie, longevity risk). Hence, boomers will seek sources of lifetime income and long-term care insurance given limited pension and healthcare support from the government and corporations.

Fig. 43: Life insurance product migration Korea now entering the third stage "longevity market"


PROTECTION2000 ~

ACCUMULATION2005 ~

LONGEVITY2010 ~

Mortality Risk

Morbidity Risk

Asset Accumulation

Tax Avoidance

Estate Planning

Asset Protection

Longevity Risk

Quality of Life


24

Korean retirees not prepared for longevity risk

Rapidly changing demographic to support life industry We expect a rapid change in demographics for the next ten years. In 2020, all of the first baby boomers will be in retirement, and all of the second baby boomers will face retirement. However, it seems like both the first and second baby boomers are not fully prepared for retirement. That said, we think demand for wealth accumulation and longevity products should remain healthy for the next 10 years.

Fig. 44: 2010 demographic First baby boomers about to retire

Source: KOSIS, Nomura research

Fig. 45: 2020 demographic Demand for wealth accumulation & longevity products to increase


Retirees don’t have enough income from insurance and annuities… The first baby boomers are about to retire. However, retirees are not fully prepared for life after retirement. Insurance and annuities only make up a small proportion of Korean retirees' income. In addition, government pension only makes up 7% of retirees' income. Therefore, most of retirees in Korea are still dependant heavily on family support, or have to work even after retirement.

Fig. 46: US retirees’ income breakdown

Source: Korea Institute for Health and Social Affairs, Nomura research

Fig. 47: Korea retirees’ income breakdown

Source: Korea Institute for Health and Social Affairs, Nomura research

3,000 2,000 1,000 0 1,000 2,000 3,000

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25

…because Koreans depend heavily on real estate for wealth accumulation We think that one of the key reasons is a heavy dependence on real estate for wealth accumulation and a reluctance to cash out of real estate due to expectation of capital gains. However, we think that as expected returns from real estate investment decline, the proportion of insurance and pension as a percentage of total household assets will likely increase going forward.

Fig. 48: Household asset breakdown (2006) Koreans depends heavily on real estate for wealth accumulation

Source: BOK, CEIC, Nomura research

Fig. 49: Household financial asset breakdown (2009) Koreans have most of their financial assets in bank deposits

Source: BOK, CEIC, Nomura research

Family support may not be an option anymore In our view, retirees will soon realise that they cannot depend on family support for retirement income any more. A demographic transition is in progress in Korea. Decreasing fertility along with lengthening life expectancy is reshaping the age structure of the population. According to the Korean Statistical Information Service (KOSIS), Korea recorded a birth rate of 1.15 in 2009, which is the lowest globally. This means that support from kids can no longer serve as a substitute for insurance and pensions.

National pension system is not reliable In addition, the change in demographic will likely put pressure on national pension system. National Pension System Chairman warned that due to the change in demographic, the national pension fund could be depleted by year 2064. This means that the payout scheme could be changed to preserve the fund, and so Koreans cannot rely on national pension as a primary source of income after retirement.

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Fig. 50: Koreans are having fewer kids Korean retirees cannot rely on family support anymore


Fig. 51: Korean population aging fast Age 60 and over as a proportion of population to reach 30% by 2030


Plenty of room for growth

Korean life insurance market appears to be a mature market Korea is already one of the largest life insurance markets globally. Korea is the eighth-largest life insurance market after Italy and the third-largest in Asia after China by premium volume. In addition, the penetration ratio (premium as % of GDP) of life insurance is fairly high at 6.5%. Note that as Korean non-life insurers are multi-liners that participate in the life business, the actual penetration ratio should be even higher.

Fig. 52: Korea is eighth-largest life insurance market (2009)

Source: Swiss re sigma

Fig. 53: Korea is 10th most penetrated market (2009)


Survey says most households already own life insurance According to a survey conducted by Korea Life Insurance Association (KLIA) in 2009, most of Korea’s households (with an exception of poor and uneducated) already own life insurance.

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Fig. 54: Percentage of households owning life insurance by income level (2009) 84.5% of households already have life Insurance


Fig. 55: Percentage of households owning life insurance by education level (2009)


But insurance density shows a different picture However, based on insurance density it appears that the Korean market is still underdeveloped. We think that one of the key reasons is due to fewer females in Korea participating in the workforce than more developed countries (and lower wage level than that of males). In addition, the insurance penetration ratio, which is measured based on the GDP figure, could be overstated given that the Korean economy is more trade oriented.

Fig. 56: Proportion of female in workforce trend (Korea) Female employment rising continuously


Fig. 57: Proportion of female in workforce by country (2009)Fewer Korean females participate in workforce


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~W12m 12~24m 24~36m 36~48m 48~60m W60m~

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Fig. 58: Insurance density: premium per capita in USD (2009)


Further study by KLIA survey shows a different picture According to KLIA’s survey, 84.5% of households surveyed own life insurance. However, a breakdown of insurance products shows that most of the households have healthcare and casualty policies with low monthly payments and a large proportion of the households acknowledge that their current insurance assets seem insufficient.

Fig. 59: Most households that own life insurance have very little exposure to wealth accumulation products (2009) Current ownership is skewed to healthcare and casualty products with low monthly payments

Source: KLIA, Nomura research

Fig. 60: More households that already own life insurance feel their insurance assets are insufficient (2009) Even among the households that already own wealth accumulation products feel the need for more


Ranking Country Life business Non-life Total

1 Denmark 3,816 1,713 5,529

2 UK 3,528 1,051 4,579

3 Ireland 3,437 1,079 4,516

4 Sw itzerland 3,405 2,853 6,258

5 Finland 3,380 873 4,253

6 Luxembourg 3,229 1,998 5,227

7 Japan 3,139 840 3,979

8 France 2,980 1,289 4,269

9 Hong Kong 2,887 417 3,304

10 Sw eden 2,690 850 3,540

11 Liechtenstein 2,350 23 2,373

12 Belgium 2,323 1,171 3,494

13 Taiw an 2,257 495 2,752

14 Norw ay 2,074 1,351 3,425

15 Netherlands 2,046 4,508 6,554

16 Singapore 1,912 645 2,557

17 Italy 1,878 851 2,729

18 US 1,603 2,107 3,710

19 Autralia 1,525 1,307 2,832

20 Germany 1,360 1,518 2,878

21 Portugal 1,357 549 1,906

22 Canada 1,300 1,644 2,944

23 Austria 1,236 1,507 2,743

24 Korea 1,180 710 1,890

25 Spain 853 949 1,802

26 New Zealand 249 1,318 1,567

27 Malaysia 207 115 322

28 Thailand 92 62 154

29 India 48 6 54

30 Indonesia 22 10 32

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Plenty of new business We should note that Korean lifers' average 25th month lapse ratio for the past seven years has stood at 36%. This means that nearly four out of ten contracts are no longer in-force after two years. Although a higher lapse ratio has a negative impact on VIF, it tends to have a positive impact on new business volume. Currently reported VIF by Korean lifers already reflect such a high lapse ratio. That said, we think there is little downside to new business volume for Korean lifers.

Fig. 61: Current 13th month persistency ratio is 76%

Source: FSS, Nomura research



Underdeveloped compared to the banking sector The banking sector has gone through several rounds of restructuring since 1998 at the onset of the Asian Financial Crisis. As a result, the banking sector has emerged significantly healthier and profitable, in our view. We think that there are too many players with very little capital in the life insurance sector. We expect the government to introduce initiatives (such as a transition to risk-based capital) as part of its ongoing effort to restructure the financial sector.

Fig. 63: Total assets by sector (FY10)

Source: FISIS, Nomura research

Fig. 64: Shareholders' equity by sector (FY10)


Wealth accumulation products to drive growth

Death insurance growth slowing but not over yet Until late 1990s, Korean life insurers sold mostly savings type policies that have a very limited risk premium. We think savings type policies are mere substitutes for deposits. In addition, savings type policies have been a money-losing business for most of the life

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insurers. That said, we think growth of protection type policies that has a higher embedded margin is better than what we could infer from the insurance penetration rate.

Fig. 65: Premium growth by product (general account)


Fig. 66: Premium income by function


Separate account to derive growth We expect separate accounts, which include investment-linked insurance and corporate pension, to remain as the main growth driver for the Korean life insurers. The separate account business will increase insurers’ commission income with a minimum charge of capital cost, as investment risks transfer to policyholders of separate account products. The demand for variable insurance and pension products should increase with need for wealth accumulation and financial security, in our view.

Investment linked policies at infancy stage Investment-linked products were introduced in 2003 and started to show meaningful growth starting in 2006. Given its infant stage, we are positive on the long-term growth prospect of investment-linked products. Investment-linked products could provide a guaranteed stream of income with potential upside.

Fig. 67: Total premium growth by product


Fig. 68: Separate account growth


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We expect the recovery to continue Variable insurance initial premium volume fell sharply with the market crash in 2008. However, investors are coming back to variable insurance now as the economy rebounds. We think that this trend will likely continue, especially considering that insurers are now adopting a “step-up” guarantee option, which provides downside protection when the market is in a downturn.

Fig. 69: Variable premium vs. KOSPI

Note: Units represent monthly increase, Based as of April, 2005

Source: Wisenet, KLIA, INSIS, Nomura research

Fig. 70: Initial premium trend (Wtr)


Fig. 71: Separate account initial premium trend


Variable insurance as wealth accumulation and transfer vehicle Aside from financial security after retirement, we believe demand for investment-linked insurance should increase as an estate planning tool. Variable life insurance could provide a solution to wealthier individuals who are looking to accumulate and transfer wealth to the next generation with tax advantages, in our opinion.

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Fig. 72: Wealth transfer is one of the key driver for insurance demand Percent indicating top or major reason (by amount of life insurance owned)

Source: LIMRA, Nomura Research; Note: in USD

Survey shows that Koreans are interested in variable insurance As seen in the table below, the penetration rate for retirement pension, investment accounts and variable annuities is still relatively low in Korea. Moreover, we can infer from the survey conducted by KLIA that demand for insurance is shifting to investment-linked and retirement products. That said, we think that insurers who align their corporate strategy to meet changing consumer needs will likely outperform their peers.

Fig. 73: Penetration rate by products


Fig. 74: KLIA survey showing demand is shifting to investment linked and retirement products


Corporate pension market to grow rapidly

Corporate pension market now set to take off Corporate pension business growth in Korea has been somewhat disappointing. However, we expect the growth rate to pick up, given that recognition of provisions for severance pay as an expense for tax purposes will be phased out. In addition, the retirement insurance system has been discontinued. That said, we believe that corporate pension growth will likely accelerate. The Korea Capital Market Institute forecasts that the corporate pension market will grow to KRW330tn by 2020 from KRW28tr in 2010.

ReasonTotal

affluent<$100k $100-$500k

$500k-$999k

$1million+

Financial security 62% 36% 68% 83% 76%

Wealth transfer 44% 29% 54% 50% 47%

Final expenses 41% 61% 43% 28% 22%

Retirement 21% 16% 22% 17% 29%

Mortgage 14% 4% 17% 15% 16%

Estate tax 14% 9% 14% 11% 20%

Investment 8% 1% 8% 15% 16%

Charity 4% 1% 5% 7% 2%

Business 1% 0% 1% 2% 2%

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Fig. 75: Corporate pension M/S by institution


Fig. 76: Korean corporate pension market forecast

Source: KCMI, Nomura research

Lifers should do well Although banks have been leading in the corporate pension business, we think that life insurers will grab a fair share of the market considering their extensive experience in defined benefit plans, which have been the most popular plans so far. According to Korea Capital Market Institute, the defined benefit (DB) plan should lead growth in Korea. So far, Life insurers have shown strength in defined benefit plan.

Fig. 77: DB forecasted to lead growth till FY20F Defined benefit (DB) plan and Individual retirement account (IRA) to drive growth (vs. defined contribution (DC)

Source: KCMI, Nomura estimates

Fig. 78: Corporate pension M/S by product Lifers have shown strength in DB


Samsung Life leading the pack Samsung currently has a 15% share of the corporate pension market. We expect the company to maintain its leading position given that it has a captive market. Although the profitability of corporate pension is questionable with so many players in the market, we think that when the industry normalizes, it should be able to generate 50bp on the assets (Samsung Life believes 60bp is possible). Theoretically, if Samsung Life maintains a 15% market share, the company should be able to generate net profit of KRW117bn (compared to net profit of KRW1,200bn in FY11F) by FY20F.

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Fig. 79: Samsung Life has 15% corporate pension market share


0% 2% 4% 6% 8% 10% 12% 14% 16%

Samsung Life

Kookmin Bank

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Tong Yang Securities


35

Embedded profitability to improve We expect all three profit sources (risk margin, loading margin, and savings margin) to improve or stop deteriorating going forward. Loading margin should improve as lifers gain scale and technical pressure when the deferred acquisition cost (DAC) accounting change is lifted. Savings margin should improve as low-yield floating rate policies replace high-yield fixed policies. In addition, we think further deterioration in risk margin is unlikely given that there will be no additional increase in IBNR reserve requirements.

Understanding profit sources There are three different profit sources for traditional life products: 1) mortality and morbidity margin (difference between assumed claims and actual claims); 2) loading margin (difference between assumed operating expense and actual operating expense); and 3) savings margin (spread between investment yield and interest paid to policyholders). For investment-linked insurance, the investment risk is transferred to policyholders and insurers earn commission income for managing the account. Mortality and morbidity margin can be improved by better risk management, loading margin can be improved by increasing the scale and savings margin can be improved by taking in greater risk with investment assets. However, protecting the spread is of higher priority for insurers given the long-tail nature of the business. Hence, asset and liability duration gap management is critical for insurers.

Policy mix change in favour of lifers We expect a continued shift in policy mix toward higher-margin policies. Underwriting profitability should improve as low-yield floating rate policies replace high-yield fixed rate policies and higher-margin protection type policies replace lower-margin savings type policies. We expect continued growth in protection type policies due to increased demand for living benefits. Savings type policies have lower embedded margins due to a higher proportion of saving premiums that carry thin margins.

Loading margin to improve

Loading margin is the main profit source for Korean lifers The loading margin has been the main profit source for the Korean insurers over the years. We think that the loading margin has been relatively high since insurers still have control over distribution channels, and the regulator allows it to a certain degree to compensate for negative spreads on savings premiums.

Fig. 80: Industry loading margin in KRW amount


Fig. 81: Industry loading margin in %


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Actual margin should be higher Note that a proportion of loading premium that relates to the separate account is captured in fees from the separate account. Meanwhile, the entire expense is captured in the general account. Hence, we believe that loading margin expansion has already started.

Loading margin has been under technical pressure The loading margin has been under technical pressure due to the change in accounting for acquisition costs in 2004. Prior to the accounting change, insurers capitalized estimated acquisition costs into a deferred acquisition cost (DAC) account, then amortized over seven years. Therefore, the entire loading margin was recognized upfront. However, after the change, insurers now defer the actual amount, recognizing the loading margin evenly for seven years. Given that we are six years into the new accounting method, we think that additional pressure from the accounting change will be limited.

Increase in upfront payment proportion added pressure on loading margin We should note that the recent downward trend of loading margin does not indicate deterioration in profitability. The loading margin fell as the industry increased the upfront proportion of sales commission. However, total commission paid out remained the same. That said, we think the loading margin should improve going forward.

Spread on savings premium to improve gradually

Regulator created negative spread books The regulator required life insurers to pay 9% on non-participating policies and 7.5% on participating policies until 1998. The Korean government lowered the crediting rate by 100bp in 1999 and deregulated in 2000. Meanwhile, the Korean bond market has experienced a secular bull market over the past two decades, taking the three-year treasury yield down to 3.6% from 13% in 1995. Consequently, Korean lifers are stuck with huge negative spread books.

Fig. 82: Fixed yield book breakdown by crediting rate


Fig. 83: Crediting rate trend


Unwinding of legacy issue will take time 67% of negative spread policies have remaining maturity of 20 years and longer. In addition, the lapse ratio for these policies is extremely low given their attractive yields.

0102030405060708090

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37

Fig. 84: Fixed yield book breakdown by maturity


Fig. 85: Average crediting rate by company


But dilution effect likely to bring down the average crediting rate Although high-yield guarantee products will remain in-force for quite some time, we think their spreads are likely to improve given that insurers have been selling low-yield floating rate products. As high-yield guarantee products mature and new low-yield floating rate products dilute the existing pool, saving spreads should improve. In addition, we think that rising market rates should further improve the spread.

Fig. 86: Proportion of high yield guarantee policies yielding 6% and over Proportion of high yield guarantee policies declining steadily for all three companies


Fig. 87: Average crediting rate Average crediting rate falling steadily for all three companies


But recovery should take longer than expected due to RBC transition However, we note that the recovery in savings margin should take longer than expected. Life insurers have been increasing the long-dated bond proportion of investment (with an exception of Tong Yang Life) in order to improve their RBC ratio. The RBC ratio, which is a stricter measure of capital adequacy, assesses interest rate risk based on the asset and liability duration gap. As a result, the proportions of loans have declined. Given their loan books generate 300bp-400bp more in investment returns than those of bond portfolio, we believe improvement in the investment yield will take longer than expected. In addition, adding long-dated bonds at the bottom of interest cycle will not help the cause either.

Tong Yang relatively unaffected by RBC Tong Yang Life actually increased its loan proportion while its peers lowered it. In our opinion, Tong Yang, which had a relatively narrower asset and liability duration gap, was less affected by the RBC transition.

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38

Fig. 88: Change in investment asset mix Lifers have been adding more long-dated bonds in order to lower the asset liability duration gap


Fig. 89: Duration gap narrowing Lifers lowered the duration gap by increasing asset duration which will have an adverse affect on investment returns


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Samsung Korea Tong Yang

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Samsung Korea Tong Yang


39

Risk margin to stabilise

The fall is mostly due to timing The mortality and morbidity margin has been falling continuously over the years after peaking at 32% in 2002. We think that further downside risk to the margin is limited.

The high margin in the early-2000s was attributable to rapid growth in death insurance that was introduced in 1997. Given that policies in the early stage had lower claims, the rapid growth in death insurance resulted in margin expansion. However, the trend reverses when growth slows and claims rise on in-force policies. We think that further downside to the mortality and morbidity margin is limited, given that premium growth for death insurance has been stagnant over the past three to four years, and the margin fell for six years after peaking in 2002.

No additional increase in IBNR reserve requirement The Implementation of incurred but not reported (IBNR) in 2004 also played a part in the mortality and morbidity margin squeeze. Life insurers started to reserve for IBNR in FY04. The reserve rate was increased every year to 10% in FY06. We think the pressure from the IBNR reserve is limited, given that there will be no additional increase in IBNR reserve requirements.

Lifers now have more flexibility in pricing Life insurers secured flexibility in terms of pricing for risk starting with the fifth mortality table in April 2006. The regulator allowed insurers to reflect their own mortality risk assumptions for pricing. We think the flexibility gives insurers room to manage the mortality margin and to improve it in the long term.

Fig. 90: Industry risk margin in KRW


Fig. 91: Industry risk margin in %


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Second tiers gaining market share

The Big Three losing market share

Big three gained market share at the wrong time The Big Three (Samsung Life, Korea Life and Kyobo Life) gained market share in the late 1990s due to industry consolidation. However, their market share gain during this period was a short-lived positive, as during this period, the crediting rate was still regulated and fixed at 9% for non-participating and 7.5% for participating policies. In addition, when the crediting rate was deregulated, the Big Three lost most of the gains in the late 1990s. As a result, the Big Three have proportionally larger negative spread books. We think that this legacy issue will continue to impose constraints on their channel and pricing strategy.

Fig. 92: M/S in terms of total premium


Fig. 93: M/S in terms of initial premium


The Big Three slow to adopt non-traditional channels Since the turn of the century, the Big Three have started to lose market share with the proliferation of non-traditional distribution channels such as bancassurance, independent distribution channels and direct marketing channels (e.g., home shopping networks, telemarketing and the Internet). We think that the Big Three have been reluctant to adopt the non-traditional channels due to channel conflicts. The Big Three had large forces of exclusive solicitors who did not welcome the newly developing channels.

Fig. 94: Industry distribution channels


Fig. 95: Big 3’s distribution channel


Big Three focus on shifting to variable insurance The Big Three were quick to introduce investment-linked products when they started to lose market share in the traditional insurance product market. We think this was an inevitable strategy for the Big Three, given that their combined solvency margin fell below 200% in the early 2000s. Due to capital constraints, the Big Three had to shift their focus to variable insurance, which requires less capital than traditional products.

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41

Fig. 96: Big 3 vs industry average solvency ratio (%)


Fig. 97: Big 3 Solvency ratio (%)


Second tiers gaining market share

Multi-channel strategy working nicely Second-tier insurers have been gaining market share lead by Tong Yang Life and Shinhan Life. The second tiers have been taking advantage of newly developed distribution channels. In our opinion, they have been able to take on new channels without much conflict with the exclusive solicitors due to their weak solicitor base before the emergence of non-traditional channels.

Second tiers have more flexibility in pricing We think the Big Three have built in a higher risk and loading margin into their products to make up for their loss-making legacy books. However, second-tier insurers who are relatively free from the legacy issue are able to price their products more attractively.

Fig. 98: Whole life pricing by company (male)

Note: 40 year old, KRW300mn death benefit, payment period of 20years

Source: Hankyoreh, Nomura research

Fig. 99: Whole life pricing by company (women)

Note: 40 year old, KRW300mn death benefit, payment period of 20years

Source: Hankyoreh, Nomura research

Tong Yang benefiting from financial crisis

Foreign players damaged heavily during the crisis In our opinion, Tong Yang Life should benefit from foreign life insurers (namely ING Life and PCA Life) that lost a large number of exclusive solicitors during the financial crisis. We have not seen foreign lifers rebuilding their sales force yet.

Other medium size local players were also damaged heavily In addition, we note that Tong Yang Life’s domestic competitor KDB Life (unlisted) has had deployed a similar distribution strategy but it weakened during the financial crisis. KDB Life, formerly Kumho Life, incurred significant investment losses during the financial crisis, which has dragged down its solvency margin to only 30%. The company was later sold to Korea Development Bank. Mirae Asset Life (unlisted) also lost a large number of

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42

solicitors during the crisis. Mirae Asset Life had grown fast on the back of growing demand for investment linked insurance and its reputation as a leading asset manager. However, during the crisis, its new business volume for investment linked products fell sharply and so did the solicitors.

Fig. 100: ING Life & PCA Life solicitor trend ING Life and PCA Life lost 38% of their solicitors


Fig. 101: KDB Life & Mirae Asset Life solicitor trend KDB and Mirae Asset Life lost 33% of their solicitors


Fig. 102: Initial premium market share Foreign lifers losing out


Fig. 103: Medium size lifers' market share Mirae Asset and KDB losing out


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43

Appendix 1: Calculating EV

Embedded value and appraisal value Embedded and appraisal values are the most widespread method of valuing life insurance companies outside the US, and are of increasing importance as investors pay attention to the published appraisal values of listed life insurance companies. We expect the use of embedded/appraisal values to increase in Asian markets. The purpose of this Appendix is to provide basic definitions and key drivers of embedded and appraisal values. An appraisal value is derived by developing a detailed model to project the future distributable cash flows arising from the underlying business (ie, the insurance and savings policies and supporting capital) of a life insurance company. These cash flows are discounted at a risk adjusted rate of return, known as the risk discount rate (RDR), to give a value for the company.

An appraisal value can be broken down into three components: net worth, value of in-force business and value of future new business. The net worth and value of in-force business are added together, and is referred to as the embedded value. The following chart shows how the three components come together.

Fig. 104: Components of appraisal value


Net worth For regulatory reasons, life insurance companies must hold capital in excess of their current policy liabilities. This capital is intended to protect policyholders against the potentially detrimental effects of random economic shocks or fluctuations in the underlying operational experience of the portfolio. The excess capital must at least cover a ‘capital adequacy’ level specified by the regulator. Otherwise, the company is not allowed to pay dividends to shareholders. For this reason, it is usual for life insurance companies to hold capital in excess of the capital adequacy level. The net worth, or shareholders’ net worth, is the value of the shareholders’ interest in the capital held in excess of the policy liabilities. Some of this capital is ‘locked-in’, since it must cover the capital adequacy level. The locked-in capital is valued at a discount to face value, reflecting the fact that it will earn a lower rate of interest than that at which it is discounted. The capital, which does not need to be locked-in, is valued at face value, reflecting the fact that it is available for distribution or other uses. Usually the discount applied to the locked-in capital is taken off the value of in-force business, leaving the entire net worth at face value.

Value of in-force business Life insurance is a long-term business, with some policies extending over 50 years into the future. The valuation of each policy on a life insurance company’s books is performed by constructing a model to project cash flows from the policy into the future under a set of assumptions. The main cash flows projected can be separated into two categories: income and outgoings. The sources of future income are the regular

Shareholders net worth

(Shareholder funds + shareholders interest in life funds)

+

Value of in-force business

(value of future profit margins accruing to shareholders from policies in-force at date

of the valuation)

= Embedded value

+

Value of new business

(value of 1 year's new business X new business multiplier)

= Appraisal value


44

premiums payable on the policy (if any), the investment return on the assets backing the policy liability reserves, and any charges levied on funds under management. The sources of future outgoings are expenses and commission, policy-related claims, surrender and maturity payments, and taxation.

The value of in-force business is the value of all policies that a life insurance company has on its books at the balance date, to which the appraisal value relates. Often a policy-by-policy valuation will be carried out to project the cash flows and discount the shareholders’ share of the profits to the balance date.

Value of future new business The two components of the appraisal value mentioned above relate to the business already written by the life insurer and the capital supporting it. However, to value the company properly, one should also account for products that the company has already developed, and the distribution systems that it has in-place to sell them. The value of future new business attempts to encapsulate the value of the above, and is often referred to as the ‘goodwill’ component in the appraisal value.

The value of future new business can be calculated in one of two main ways. Both use a model to project future cash flows on a set of assumptions, i.e., a similar method to that used to value in-force business.

The simplest way to value future new business is to calculate the value of one year’s sales using the projection model, and then applying a multiple to it. The multiple used would implicitly reflect the discount rate, the assumed growth rate in new business volumes and any assumed ‘profit squeeze’ in the future. The ‘profit squeeze’ is a conservative adjustment that reflects:

An assumption that over time, competitive forces will erode some of the margins on profitable new business.

The extra uncertainty involved in making assumptions about the profitability of new business, the further into the future one looks.

The other method involves making explicit assumptions about sales volumes in each future year (by product), and then projecting these sales into the future. The cash flows from each year’s sales are overlaid on one another, and the combined cash flows are discounted at the risk discount rate.

Calculation of implied valuation metrics • Price/EV = (Price - value of other operations per share) / EV per share

• New business multiple = (Price - EV per share - value of other operations per share) / Value of one year’s new business per share.

Limitations of EV valuation methodology • Embedded value could fail to warn investors of the impact on insurers from falling

markets via asset/liability mismatch and costly options and guarantees.

• Embedded value could fail to track changes in the risk profile of an individual company.

• Embedded value capitalizes asset risk premiums before actual value creation.

Therefore, the limitations of the embedded value method become more apparent when interest is low and credit quality is poor.

Evolution of EV Leading life insurance firms in Europe have disclosed a form of embedded value dubbed EEV, European embedded value, since May 2004 when EEV principles were published by the CFO Forum. These principles attempted to address criticisms to the old methodology, TEV, traditional embedded value, and facilitated the implementation of market consistent valuation methods, which led many leading insurance companies in Europe to disclose EEV based on market-consistent approaches.

Many insurance companies in Europe disclose MCEV as part of their financial reports and use it as an internal management tool, so the CFO Forum published MCEV Principles in June 2008 in order to make EV information effective and appropriate for investors by streamlining MCEV disclosure standards for international use.


45

Fig. 105: MCEV vs TEV- Differences


MCEV TEV

Total net assets section Total net assets section

Reserv e f or price f luctuations (excluding net unrealised gains/losses on bonds)

Contingency reserv e Reserv e f or price f luctuations

Reserv e f or possible loan losses Contingency reserv e

Net unrealised gains/losses on land and buildings Reserv e f or possible loan losses

Unf unded pension liability (deducting item) Net unrealised gains/losses on land

Intangible f ixed assets (deducting item) Unf unded pension liability (deducting item)

PV of certainty -equiv alent prof it

(discount rate: risk f ree rate)

Time v alue of options and guarantees

(deducting items)

(The dif f erence between the presetn v alue of certainty equiv alent

prof it and the present v alue of stochastic f uture prof its)

Present v alue of f uture af ter tax-prof its

(discount rate: risk f ree rate + risk premiums)

Cost of capital (deducting item) Cost of capital (decuting item)

Frictional costs (deducting item) Cost of minimum guarantee f or existing v ariable

(The present v alue of inv estment cost and taxes on assets backing

the required capital at each point of time in the f uture

lif e insurance (deducting item)

Cost of non-hedeable risks (deducting item)

(allowance f or the uncertainty of non-economic assumptions, the cost

of non-hedgeable economic risks as well as other risks that are not

ref lected on the other assumptions

Adjusted net worth

Value of existing

business


46

Appendix 2: Life insurer M&A landscape

Fig. 106: Korea life insurance M&A history


Key company data: See page 2 for company data, and detailed price/index chart. Rating: See report end for details of Nomura’s rating system.

Samsung Life 032830.KS 032830 KS

INSURANCE

EQUITY RESEARCH

Meet Korea's fastest-growing life insurer

16% EV growth for next four years, trading at 0.8x P/EV; bullish on Samsung Group

May 16, 2011

Rating Starts at

Buy

Target price Starts at150,000 KRW 150,000

Closing price May 12, 2011 KRW 98,000

Potential upside +53.1%

Initiating coverage with BUY We initiate coverage of Samsung Life with a Buy rating and a PT of W150,000, implying 53% upside potential. Samsung Life is the largest life insurer in Korea and the quasi holding company of Samsung Group.

16% EV growth for next four years We expect Samsung’s EV (ex-affiliate stakes) to grow on average 16% a year for the next four years, driven by strong growth in the value of in-force (VIF) business and the unwinding of its profitable in-force book. We also expect solid value of new business (VNB) growth as its hiring cycle starts and ventures out to non-traditional channels.

Buying at the bottom of rate cycle Samsung’s insurance business (ex-affiliate stakes) is trading at 0.8x forward P/EV despite its strong growth profile. We think the stock is trading at a depressed level due to a flatter yield curve. However, we expect the long-end to be lifted starting in 2H10 with 1) continuous rate hikes by the BOK, 2) rising expected inflation, and 3) tightening by ECB and QE2 ending.

We are bullish on Samsung Group Our technology analyst CW Chung is bullish on Samsung Electronics (33% of Samsung Life's book value) with a PT of W1,350,000 (53% upside). Our financial services analyst Gil Hyung Kim is also bullish on Samsung Card (6% of Samsung Life's book value) with a PT of W67,000 (26% upside).

31 Mar FY10 FY11F FY12F FY13F

Currency (KRW) Actual Old New Old New Old New

Net premium (bn) 14,862 0 14,898 0 15,017 0 15,167

Reported net profit (bn) 1,934 1,172 1,309 1,509

Normalised net profit (bn) 1,934 1,172 1,309 1,509

Normalised EPS 9,668.9 5,859.0 6,546.7 7,544.6

Norm. EPS growth (%) 113.4 -39.4 11.7 15.2

Norm. P/E (x) 10.1 N/A 16.7 N/A 15.0 N/A 13.0

Price/EV (x) 1.0 N/A 0.9 N/A 0.8 N/A 0.7

Price/implied VNB (x) -0.8 N/A -2.6 N/A -4.2 N/A -5.8

Dividend yield (%) 2.0 N/A 2.0 N/A 2.0 N/A 2.6

ROE (%) 14.1 7.4 7.9 8.6

ROA (%) 1.4 0.0 0.8 0.0 0.8 0.0 0.9


Anchor themes

Korean lifers, in our view, can deliver double-digit EV growth. While they trade like ex-growth companies due to a flatter yield curve, we believe the long-end of the yield curve will start to rise in 2H11F.

Nomura vs consensus

Our price target, 11% higher than consensus, is the highest on the Street.

Research analysts

Korea Insurance




Nomura | ASIA Samsung Life May 16, 2011

48

Key data on Samsung Life Profit and Loss (KRWbn) Year-end 31 Mar FY09 FY10 FY11F FY12F FY13FGross premiums 14,515 14,883 14,912 15,032 15,182Government charges

Reinsurance ceded -21 -21 -15 -15 -15Net written premium 14,494 14,862 14,898 15,017 15,167Change in unearned premium reserves

Net earned premium 14,494 14,862 14,898 15,017 15,167Claims and benefit payments -11,586 -10,374 -11,255 -11,327 -11,422Change in reserves -4,485 -6,548 -5,696 -5,697 -5,709Commission and DAC expenses -1,903 -1,657 -1,768 -1,851 -1,916Other expenses -1,341 -1,594 -1,474 -1,395 -1,341Underwriting surplus -4,821 -5,311 -5,295 -5,253 -5,221Recurrent investment income 5,501 6,584 6,227 6,286 6,484Realised and unrealised gains

Investment income 5,501 6,584 6,227 6,286 6,484Other income

Employee share expense

Operating profit 681 1,273 932 1,033 1,263Amortisation

Other non-operating income 488 1,237 614 646 671Associates and JCEs

Pre-tax profit 1,169 2,510 1,546 1,679 1,935Income tax -263 -576 -374 -369 -426Net profit after tax 906 1,934 1,172 1,309 1,509Minority interests

Other items

Preferred dividends

Normalised NPAT 906 1,934 1,172 1,309 1,509Extraordinary items

Reported NPAT 906 1,934 1,172 1,309 1,509Dividends -225 -400 -400 -400 -500Transfer to retained earnings 681 1,534 772 909 1,009

Valuation and ratio analysis

FD normalised P/E (x) 21.6 10.1 16.7 15.0 13.0FD normalised P/E at price target (x) 33.3 15.6 25.8 23.1 20.0Reported P/E (x) 21.6 10.1 16.7 15.0 13.0Dividend yield (%) 1.1 2.0 2.0 2.0 2.6Price/book (x) 1.6 1.3 1.2 1.1 1.1Investment return (%) 5.33 5.82 5.11 4.92 4.83Recurrent investment return (%) 5.33 5.82 5.11 4.92 4.83Non-recurrent return/invt. return (%) 0.0 0.0 0.0 0.0 0.0Price/EV (x) 1.2 1.0 0.9 0.8 0.7Price/implied VNB (x) 2.8 -0.8 -2.6 -4.2 -5.8Loss ratio (%)

Combined ratio (%)

Effective tax rate (%) 22.5 23.0 24.2 22.0 22.0Dividend payout (%) 24.8 20.7 34.1 30.5 33.1ROE (%) 9.3 14.1 7.4 7.9 8.6ROA (%) 0.71 1.38 0.78 0.83 0.91ROR (%) na na na na na

Growth (%)

Life premiums 2.5 0.2 0.8 1.0Non life premiums na na na naNet profit 113.4 -39.4 11.7 15.2Normalised EPS 113.4 -39.4 11.7 15.2Normalised FDEPS 113.4 -39.4 11.7 15.2Source: Nomura estimates

Notes

No more significant variances expected going forward.

Price and price relative chart (one year)

(%) 1M 3M 12M

Absolute (KRW) -1.3 -4.9 -14.0

Absolute (USD) -1.5 -1.5 -10.4

Relative to index -3.1 -12.6 -42.8

Market cap (USDmn) 17,916.2

Estimated free float (%) 52-week range (KRW)

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Major shareholders (%) Lee, Gun hee 20.8

Samsung Everland 19.3

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Balance Sheet (KRWbn) As at 31 Mar FY09 FY10 FY11F FY12F FY13FCash and deposits 3,545 4,909 5,176 5,448 5,720Bonds 44,224 49,319 52,763 54,279 55,784Equities 12,833 15,678 16,091 16,524 16,950Unit trusts

Loans and mortgages 24,530 24,360 25,447 26,607 27,803Foreign investments 12,544 12,680 14,058 15,560 17,171Real estate 5,124 5,242 5,413 5,593 5,774Other investments 4,486 6,757 5,791 6,928 8,164Total investments 107,285 118,944 124,738 130,939 137,367Deferred acquisition costs 3,907 3,903 4,166 4,362 4,514Prepaid and unearned prem. reserves

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Goodwill

Separate account assets 19,536 21,083 22,757 24,537 26,403Other assets 2,316 2,409 2,414 2,434 2,458Total assets 133,045 146,340 154,075 162,271 170,741Insurance reserves 92,025 98,086 103,430 108,856 114,298Catastrophe reserves

Insurance protection fund

Deposit and investment contracts

Separate account liabilities 19,637 21,083 22,757 24,537 26,403Provision for Unearned Premiums

Provision for Outstanding Claims

Interest bearing liabilities

Other liabilities 9,250 11,781 11,726 11,808 11,960Total liabilities 120,912 130,950 137,913 145,200 152,661Minority interest

Common stock 106 107 107 107 107Preferred stock

Retained earnings 6,078 7,197 7,969 8,879 9,887Proposed dividends

Other equity 5,949 8,085 8,085 8,085 8,085Shareholders' equity 12,133 15,390 16,162 17,071 18,080Total liabilities and equity 133,045 146,340 154,075 162,271 170,741

Balance sheet ratios (%)

Life solvency margin na na na na naNon-life solvency margin

Net premiums/equity 119.5 96.6 92.2 88.0 83.9Tech. reserves/total premiums 634.0 659.1 693.6 724.2 752.8

Investment portfolio mix (%)

Cash and deposits 3.3 4.1 4.1 4.2 4.2Bonds 41.2 41.5 42.3 41.5 40.6Equities 12.0 13.2 12.9 12.6 12.3Unit trusts 0.0 0.0 0.0 0.0 0.0Loans and mortgages 22.9 20.5 20.4 20.3 20.2Foreign investments 11.7 10.7 11.3 11.9 12.5Real estate 4.8 4.4 4.3 4.3 4.2Other investments 4.2 5.7 4.6 5.3 5.9

Per share

Reported EPS (KRW) 4,530.48 9,668.87 5,859.02 6,546.66 7,544.57Norm EPS (KRW) 4,530.48 9,668.87 5,859.02 6,546.66 7,544.57Fully diluted norm EPS (KRW) 4,530.48 9,668.87 5,859.02 6,546.66 7,544.57DPS (KRW) 1,125.00 2,000.00 2,000.00 2,000.00 2,500.00BVPS (KRW) 60,664.10 76,949.51 80,808.53 85,355.18 90,399.75Life/LT EVPS (KRW) 83,194.10 102,124.51 110,967.75 120,634.74 130,979.93Life/LT VNBPS (KRW) 5,350.00 4,860.00 5,074.44 5,419.28 5,690.45Value of non-life bus. PS (KRW) 0.00 0.00 0.00 0.00 0.00Source: Nomura estimates

Notes

Strong adjusted net worth (ANW) growth driven by unwinding of profitable in-force book.


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Korea’s fastest-growing life insurer Samsung Life is the largest life insurance company in Korea and the quasi holding company of Samsung Group. We expect its insurance business to deliver strong EV growth in the medium term. In addition, we are bullish on Samsung Electronics, which makes up 33% of its shareholders’ equity.

Strong EV growth

RoEV of 17.5% and 16.4% for FY11F and FY12F We expect Samsung’s insurance business (ex-affiliate stakes) to deliver RoEV of 17.5% and 16.4% for FY11F and FY12F, respectively, driven by strong growth in the value of in-force (VIF) business and the unwinding of its profitable in-force book.

Quality growth driven by new business We think that new business (VNB) contribution to EV growth should be significant, as it makes up 24% of VIF. In our view, growth driven by new business is healthier and deserves higher valuation. We expect 52% and 51% of RoEV should come from new business for FY11F and FY12F, respectively.

Solid VNB growth We expect VNB growth of 4.4% and 6.8% for FY11F and FY12F, respectively. Although, we expect new business margin to fall due to an increase in wealth accumulation products, the volume growth should be more than enough to offset margin compression as the company aggressively ramps up its traditional solicitor channel and ventures out to non-traditional channels. In terms of the solicitor restructuring cycle, we think the company is passing through a trough. The company noted that the number of exclusive solicitors dropped due to layoffs of ineffective solicitors.

Long-term growth opportunity from corporate pension Although, it may not contribute to the bottom line in a meaningful way in the near term, the rapidly growing corporate pension market should be positive for Samsung Life, which has the largest captive market. If Samsung Life maintains its current market share of 15.2% and earns 60bps on pension assets, as it expects, then the company should generate W142bn in operating profit by FY20F, when the corporate pension market is expected to reach W156tr in assets according to Korea Capital Market Institute.

Holding company value to rise

Bullish on Samsung Group Samsung Life is a quasi holding company of Samsung Group. Major stakes include 7.21% in Samsung Electronics, 26.41% in Samsung Card, 10.36% in Samsung F&M and 11.38% in Samsung Securities. Our technology analyst CW Chung is bullish on Samsung Electronics and has a PT of W1,350,000 (52% upside). Our financial analyst Gil Hyung Kim is also positive on Samsung Card and has a PT of W67,000 (28% upside).

Shareholders’ proportion rising Currently, unrealized gains from affiliate holdings are split between shareholders and policyholders. We should also note that the shareholders’ proportion should increase by 1.4ppt a year going forward as reserve relating to participating policies as a proportion of total reserve declines.

Buying at the bottom of rate cycle

A 50bps increase in investment yield assumption should boost EV by 12.8% The benefit from rising interest rates is clearly evident for Samsung Life given that fixed-rate policies make up 60% of its in-force book. A 50bps increase in investment yield assumption should boost EV by 12.8%.


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Trading at 0.8x P/EV Samsung Life (ex-affiliate stakes) is trading at 0.8x forward P/EV. We think that the stock is trading at a depressed level due to a flatter yield curve. Although the BOK has raised the key policy rate by 100bps since July 2010, the long-end of the yield curve has been falling continuously. However, we believe the long-end should be lifted starting in 2H11.

Rate hike campaign to continue Our economist Young Sun Kwon expects two more rate hikes for the rest of 2011, and another two in 1H12, lifting the terminal policy rate of the current cycle to 4.0% by 2Q12. Meanwhile, he thinks that real policy rates should remain negative, doing little to limit inflationary pressure, unless it is combined with KRW appreciation.

Bond market will eventually react to growing concerns on inflation Young Sun noted that CPI inflation should rise above 4% in 2011, exceeding the BOK's target band. Interest rate hikes coupled with a stronger KRW and price controls should partly offset cost-push inflation pressures from higher oil prices. But rising nominal wages and housing rents are also adding to inflation. Young Sun forecasts CPI inflation to rise from 2.9% in 2010 to 4.4% in 2011, before easing to 3.6% in 2012. We think that the long-end of the bond market will eventually react to growing concerns on inflation.

Foreign capital inflow to slow Whether hunting for better yields or betting on KRW appreciation, inflow of foreign capital has been adding pressure on the long-end since 2H09. However, with ECB turning hawkish and the US Fed's QE2 program winding down, we may see foreign capital inflow slowing down and may even see outflow going forward. We think that the long-end of the yield curve could be lifted with rising interest rates in developed markets, as we have seen in 4Q10. In addition, the recent KRW appreciation could hinder foreign capital inflow that is betting on KRW appreciation, putting further pressure on the long-end.

Long-end to rise slowly, but surely Young Sun forecasts the five-year treasury to rise starting in 3Q11 and to reach 4.5% by the end of 1H12 from a current yield of 4.0%, and 4.2% for the three-year treasury from a current yield of 3.6%.

Risk factors

Prolonged low interest environment As market rates fall, the disparity between portfolio rates and new money rates has been widening. In addition to valuation risk, we believe a prolonged low interest environment will impose operational risks: 1) continued reliance on new sales to subsidize in-force business, 2) possible fall into the minimum guarantees zone, 3) negative impact on new business volume due to lower crediting rate, and 4) companies possibly compromising risk management standards in order to pick up additional yield.

Technology industry downturn Samsung Life owns 7.21% of Samsung Electronics, representing 33% of its book value.

Share overhang The combined ownership of Samsung Life by Shinsegae and CJ Group stands at 16.6%. The lock-up period for Shinsegae should end on 12 May 2011. The lock-up period for CJ Group already ended on 12 November 2010. Both parties have shown interest in liquidating their stakes and investing into their core operations or M&A.


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Valuation We derive our PT of W150,000 based on SOTP methodology. We value the insurance business using P/EV methodology, and the affiliate stakes applying a 27% holding company discount to our PT on individual stocks (or current market value for unrated stock).

Samsung Life should be valued on SOTP

Value of affiliate stakes is one of the key share price drivers In our view, Samsung Life share price is driven by three key factors: 1) EV growth, 2) market rates, and 3) value of affiliate stakes. The first two factors should be the same for all life insurers. However, given that affiliate stakes amounts to half of its book value, we cannot treat it like any other equity investments, especially when one single stock (Samsung Electronics) represents 68% of the total affiliate stakes.

Yes, Samsung Electronics' share price performance affects Samsung Life Samsung Life outperformed Korea Life by 8.2% when Samsung Electronics outperformed the KOSPI by 28% from 3 November 2010 to 28 January 2011. However, when the outperformance of Samsung Electronics was halted, Samsung Life moved in tandem with Korea Life. This means that we have to take a view on Samsung Electronics when analyzing Samsung Life.

Fig. 107: Samsung Electronics outperformed the KOSPI from 3 Nov 2010 through 28 Jan 2011

Source: Quantiwise, Nomura research

Fig. 108: Samsung Life outperformed Korea Life from 3 Nov 2010 through 28 Jan 2011


Fig. 109: Share price from 3 Nov 2010 through 28 Jan 2011 Samsung Life outperformed Korea Life by 8.2%


Fig. 110: Share price from 28 Jan 2011 through now Samsung Life share price moved in tandem with Korea Life


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Insurance business: W100,000 per share

Valuation attractive, trading at 0.8x forward P/EV We subtract out the value of affiliate stakes in order to obtain an appropriate EV multiple. Based on our analysis, Samsung Life's insurance business is currently trading at 0.8x forward P/EV. The implied multiple appears to be attractive given that we expect average EV growth of 16% a year through FY14F.

Samsung to sustain EV growth of 15%-plus through FY14F We value Samsung Life's insurance business on an embedded-value basis, applying a P/EV multiple of 1.5x forward EV. We have assumed a sustainable RoEV of 15%, a COE of 11% and a growth rate of 3%. Of note, we expect EV growth of 17.5% and 16.4% for FY11F and FY12F, respectively.

EV adjusted to reflect lower market rates We have assumed lower net investment earnings rate (NIER) for the purpose of our EV forecast. Samsung Life uses NIER of 5.2% for its FY10 EV calculation. In comparison, we assume 5.0% (20bps lower than Samsung Life's assumption). In addition, we used risk discount rate of 11% (50bps higher than Samsung Life’s assumption of 10.5%).

Fig. 111: Embedded value projection and PT computation Samsung should be able to sustain EV growth of 15%-plus through FY14F


We could justify W109,000 per share using appraisal value method The implied NBM is 6.0x at our PT. However, if we were to use the appraisal value methodology, we could justify up to a 7.7x NBM. Of note, we have only reflected a 10-year projection in our NBM calculation. Typically, a 30-year DCF model is used in the region to drive NBM. However, due to the infancy of the EV valuation methodology in Korea, we do not want to pay for more than 10 years.

More appropriate to use P/EV methodology There is upside potential to our PT using the appraisal value methodology. However, we think it is more appropriate to use P/EV methodology for Samsung Life given some negative variance we encountered in EV, which may not be captured in the NBM technique. In addition, the technique ignores near-term changes in the EV growth profile.

Fig. 112: VNB projection and target NBM using appraisal valuation method Our PT would be W109,000 using appraisal valuation method




(Wbn) FY11F FY12F FY13F FY14F FY15F FY16F FY17F FY18F FY19F FY20FAnnualized premium equivalent (APE) 3,773 4,075 4,319 4,535 4,716 4,905 5,052 5,153 5,256 5,362 New business margin 26.9% 26.6% 26.4% 26.2% 26.1% 25.9% 25.8% 25.7% 25.6% 25.4%Value of new business (VNB) 1,015 1,084 1,138 1,188 1,230 1,272 1,304 1,323 1,343 1,363 Discount factor 1.0 1.1 1.2 1.4 1.5 1.7 1.9 2.1 2.3 2.6 PV of VNB 1,015 976 924 869 810 755 697 637 583 533 Sum of PV 7,799 Implied multiple 7.7


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Appraisal valuation method may work in good times Samsung F&M's NBM expanded to 18.2x at the peak of the market in 2007. NBM of 18.2x could be explained only if we were to use the appraisal value methodology with a 30-year DCF model. We would derive NBM of 18.5x if we assume a sustainable VNB growth of 7% and a risk discount rate of 11% for next 30 years. That said, we think that our implied NBM of 6.0x at our PT based on P/EV valuation methodology is not overstretched.

Fig. 113: Samsung F&M P/EV trend Five year average P/EV was 1.6x


Fig. 114: Samsung F&M NBM trend Five year average NBM was 8.3x


Samsung F&M’s ex-affiliate stakes multiples much higher We subtracted out the value of Samsung Electronics from both EV and market cap for Samsung F&M. Of note, Samsung F&M owns 1.2% in Samsung Electronics. Our analysis shows that Samsung F&M traded at much higher multiples excluding its Samsung Electronics stake. Currently, Samsung F&M is trading at an ex-affiliate stake trailing NBM of 5x. Again, we think our implied NBM of 6.0x is not overstretched.

Fig. 115: Samsung F&M ex-affiliate stake P/EV trend Five year average P/EV was 2.0x


Fig. 116: Samsung F&M ex-affiliate stake NBM trend Five year average NBM was 9.9x


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Holding company: W50,000 per share

Samsung Life's affiliate stakes amount to W14.6tr As shown below, Samsung Life's affiliate stakes amount to W14.6tr as of 31 March. Among its holdings, Samsung Electronics makes up 68% of the total value of the affiliate stakes. The company books valuation gains from affiliate stakes as other comprehensive income net of tax and policyholder proportion (currently at 32.1%). We have applied our PT (or current price for unrated stocks) to derive our target NAV.

Fig. 117: Affiliate stake value projection We see 32% upside for the value of affiliate holdings

Note: * reflects current price as of May 11, 2011


Shareholders’ proportion rising Unrealized gains from affiliate holdings are split between shareholders and policyholders. The policyholders' proportion is the proportion of reserve relating participating policies to total reserve. Currently, policyholders and shareholders proportions are 32% and 68%, respectively. We should note that the shareholders’ proportion should increase by 1.0ppt to 1.4ppt a year going forward, as reserve relating to participating policies as a proportion of total reserve declines.

Accounting # of Shares % holdingMar11 Price

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price

Mar12F (Wbn)

Samsung Electronics Cost 10,622,814 7.21% 932,000 9,900 1,350,000 14,341

Samsung Card Equity 32,468,868 26.41% 55,500 1,802 67,000 2,175

Samsung F&M Cost 4,905,718 10.36% 242,500 1,190 223,000 * 1,094

Samsung Securities Cost 7,603,659 11.38% 80,600 613 83,800 * 637

Samsung C&T Cost 7,476,102 4.79% 71,800 537 85,000 635

Samsung Heavy Cost 7,800,000 3.38% 39,900 311 45,300 * 353

S1 Cost 2,030,476 5.34% 56,300 114 50,900 * 103

Hotel Shilla Cost 2,865,158 7.30% 25,550 73 27,100 * 78

Samsung Techwin Cost 289,800 0.55% 79,800 23 95,000 28

Samsung SDI Cost 10,155 0.02% 168,000 2 160,000 2

Cheil Industries Cost 6,871 0.01% 116,500 1 160,000 1

Samsung Futures Equity 1,025,000 41.00% 41 41

Samsung Asset Management Cost 1,024,000 5.49% 21 21

Samsung Economic Research Institute Cost 1,776,000 14.80% 10 10

Samsung Corning Precision Glass Cost 2,176 0.01% 2 2

Total Value 14,639 19,521

Net of holding company discount (27%) 10,687 14,250

Shareholders' proportion (69.3%) 7,406 9,875

Per share (Won) 38,000 50,000


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Fig. 118: Shareholders' proportion of unrealized gains on AFS Shareholders' proportion should increase by 1~1.4ppt every year


We apply 27% holding company discount Theoretically, we think the holding company discount should be the corporate tax rate (22%). However, in reality the holding company discount varies based on the performance of its holdings and market liquidity. The holding company discount narrows when its holdings outperform the market and vice versa. In addition, abundant market liquidity lowers the discount as well. Given that we are bullish on Samsung Group, the holding company discount could be lower than the tax rate. However, for the purpose of our valuation, we have used 27%, which is the five-year average discount to NAV for LG Corp. We selected LG Corp as a benchmark as we believe it is one of the purest holding companies in Korea, with most of its holdings being listed.

Fig. 119: LG Corp discount to NAV Average discount rate to NAV for the past five years is 27%


We are bullish on Samsung Electronics Our technology sector analyst CW Chung is bullish on Samsung Electronics with a PT of W1,350,000, implying 52% upside potential. CW believes that earnings will bottom out in 1Q11 and recover thereafter. All four major divisions (Memory, Panels, Handsets and Digital Media) should see earnings improvement going into 2H11 after bottoming out either in 1Q11 or 2Q11. CW derives his PT applying a target P/BV multiple of 2.0x (ROE of 17-18% from 2H11F-FY12F).

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Fig. 120: Samsung Electronics EPS vs. share price


We are also bullish on Samsung Card Our financial sector analyst Gil Hyung Kim is bullish on Samsung Card (the second-largest affiliate holding after Samsung Electronics). Gil Hyung expects a one-off adjusted EPS CAGR of 20% over the next two years for Samsung Card. He expects system card purchase volume to advance in the double digits on the back of 1) migration of consumers to online from offline, 2) inflationary pressure, and 3) extended tax benefits. In addition, funding cost should decline as the company refinance W1.2tn legacy high-yield (=6% annually) debentures issued during the global financial crisis.

Fig. 121: Online sales growth outpacing offline Online purchase requires use of credit card


Fig. 122: Funding cost to fall Average funding cost should normalize at around 5%

Source: DART, KOIFA, Nomura research


EV sensitive to investment yield and claims ratio assumptions The following chart shows the sensitivity in the EV to changes in some of Samsung Life's key assumptions. A key variable is the investment return assumption. For Samsung Life, this is currently 5.2%, which we believe is aggressive given current market rates. However, our EV forecast already reflects lower market rates. In addition, we believe that we are going through a trough in terms of the interest rate cycle.

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Fig. 123: EV sensitivity (Wbn)


Fig. 124: EV sensitivity (%)


A 50bps increase in investment yield assumption to boost the EV by 12.8%... The sensitivity analysis indicates a 50bps increase in investment yield assumption would boost the EV by 12.8% (ex-affiliate stakes).

…but would only increase our PT by 4% In effect, that would increase our PT by 4%. We should note that the affect on VNB from changing investment yield assumption is limited, since most of new businesses are floating rate policies. That said, higher EV due to an increase in investment yield assumptions would eliminate the base effect and should result in a lower RoEV. Hence, our target multiple would have to be lowered to 1.4x. However, we think RoEV should pick up in the longer term as higher market rates flow through its fixed income portfolio.

Fig. 125: EV projection and PT assuming 50bps increase in NIER Our PT would increase by 4% assuming 50bps increase in NIER


VNB sensitive to discount rate and lapse ratio VNB is not sensitive to interest rates given that most of new businesses are floating rate policies. VNB is rather sensitive to the lapse ratio since most cancellations occur in the first 25 months, and by definition new business include policies acquired in the past year.

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Fig. 126: VNB sensitivity (Won)


Fig. 127: VNB sensitivity (%)


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Fig. 128: Samsung Life financial summary


Profit and Loss StatementsWon billions, Year ending Mar 31 FY07 FY08 FY09 FY10 FY11E FY12E FY13E FY14E FY15ETotal Premium 20,851 19,816 21,094 22,027 22,636 23,335 24,068 24,844 25,674 General Account 15,365 14,664 14,494 14,862 14,898 15,017 15,167 15,364 15,625 Separate Account 5,485 5,152 6,600 7,165 7,738 8,319 8,901 9,480 10,048

Premium Income 15,378 14,676 14,515 14,883 14,912 15,032 15,182 15,379 15,641Risk Premium 2,625 2,681 2,782 2,887 2,957 3,046 3,142 3,250 3,373Loading Premium 3,829 3,473 3,539 3,572 3,579 3,608 3,644 3,691 3,754Savings Premium 8,912 8,510 8,174 8,403 8,376 8,378 8,396 8,438 8,514

Benefits Paid 2,105 2,270 2,374 2,530 2,543 2,614 2,690 2,775 2,874U/W Expenses 3,159 2,888 3,230 3,250 3,257 3,261 3,272 3,292 3,326

Net of Acquisition Costs & DAC Deferral 37 35 40 (0) 0 0 0 0 0Acquisition Cost 1,926 1,739 1,931 1,604 2,031 2,047 2,068 2,095 2,130DAC Deferral (1,889) (1,703) (1,891) (1,605) (2,031) (2,047) (2,068) (2,095) (2,130)

Amortization of DAC 2,112 2,159 1,903 1,657 1,768 1,851 1,916 1,969 2,017Net Increase in DAC (224) (455) (13) (5) 263 196 152 126 113Maintenance Costs 1,233 1,150 1,299 1,599 1,226 1,214 1,204 1,198 1,196

Maturity & Surrender Refund 11,004 10,138 10,136 7,845 8,711 8,713 8,732 8,818 8,897Changes in Premium Reserve 3,427 3,955 3,574 6,548 5,696 5,697 5,709 5,738 5,789Net Investment Income 4,941 4,362 5,501 6,584 6,227 6,286 6,484 6,829 7,229

Risk & Loading Margins 1,190 996 716 678 736 779 824 873 927Savings Margin (578) (1,222) (35) 595 196 254 439 711 1,056Operating Profit 612 (226) 681 1,273 932 1,033 1,263 1,584 1,983Non-operating Profit 351 445 488 1,237 614 646 671 692 707

Commission Income (Separate Account) 440 539 527 602 661 697 734 771 806Others (89) (93) (39) 635 (47) (52) (63) (79) (99)

Pre-tax Profits 963 219 1,169 2,510 1,546 1,679 1,935 2,276 2,690Effective Tax 248 106 263 576 374 369 426 501 592Net Profits 715 113 906 1,934 1,172 1,309 1,509 1,775 2,098

Selective Balance Sheet DataWon billions, Year ending Mar 31 FY07 FY08 FY09 FY10 FY11E FY12E FY13E FY14E FY15ETotal Assets 116,379 121,667 133,045 146,340 154,075 162,271 170,741 179,550 188,809Invested Assets 93,497 99,043 107,229 118,944 124,738 130,939 137,367 144,089 151,219

Cash & Deposits 3,005 5,388 3,545 4,909 5,176 5,448 5,720 5,992 6,267Securities 63,259 64,445 74,087 84,434 88,702 93,291 98,069 103,089 108,436

Stocks 11,027 9,594 12,931 15,678 16,091 16,524 16,950 17,377 17,814Other equity investment 41 78 67 74 68 61 53 44 34Fixed Income Instrument 52,190 54,772 61,089 68,682 72,544 76,707 81,066 85,669 90,588

Net Loans 22,517 24,523 24,530 24,360 25,447 26,607 27,803 29,048 30,365Real Estate 4,716 4,687 5,067 5,242 5,413 5,593 5,774 5,959 6,151

Non-invested Assets 7,421 6,094 6,280 6,312 6,580 6,795 6,971 7,129 7,284DAC 4,375 3,920 3,907 3,903 4,166 4,362 4,514 4,639 4,752Others 3,046 2,174 2,373 2,409 2,414 2,434 2,458 2,490 2,532

Separate Account Assets 15,461 16,531 19,536 21,083 22,757 24,537 26,403 28,332 30,305

Total Liabilities 107,015 114,237 120,912 130,950 137,873 145,120 152,481 159,915 167,475Policy Reserve 83,149 87,286 92,025 98,086 103,430 108,856 114,298 119,734 125,229

Premium Reserve 76,378 81,465 88,119 94,322 99,683 105,045 110,418 115,777 121,183Reserve for Outstanding Claims 5,209 4,381 2,187 2,288 2,300 2,363 2,433 2,510 2,599Reserve for Unearned Premium 32 24 22 15 0 0 0 0 0Reserve for Policyholders' Dividend 1,459 1,374 1,335 1,300 1,300 1,300 1,300 1,300 1,300Excess Reserve for Policyholders' Dividend 77 50 39 154 154 154 154 154 154Reinsurance Premium Reserve 6 7 7 7 7 7 7 7 8

Adjustment of Policyholder 3,688 3,589 4,740 6,466 6,466 6,466 6,466 6,466 6,466Other Liabilities 4,492 6,716 4,510 5,315 5,219 5,261 5,314 5,383 5,474Separate Account Liabilities 15,461 16,531 19,536 21,083 22,757 24,537 26,403 28,332 30,305

Total Shareholders' Equity 9,364 7,431 12,133 15,390 16,202 17,151 18,260 19,635 21,333Paid in Capital 100 100 100 101 101 101 101 101 101Capital Surplus 94 94 6 6 6 6 6 6 6Retained Earnings 5,139 5,212 6,078 7,197 8,009 8,959 10,067 11,442 13,141Capital Adjustment 4,031 2,025 5,949 8,085 8,085 8,085 8,085 8,085 8,085


61

Fig. 129: Samsung Life per share data and performance ratios


Per share dataWon billions, Year ending Mar 31 FY07 FY08 FY09 FY10 FY11E FY12E FY13E FY14E FY15EEarnings Per Share (Won) 35,729 5,651 4,530 9,669 5,859 6,547 7,545 8,875 10,492Book Value Per Share (Won) 468,209 371,526 60,664 76,950 81,009 85,755 91,300 98,175 106,666ROA (%) 0.6 0.1 0.7 1.4 0.8 0.8 0.9 1.0 1.1ROE (%) 7.9 1.3 9.3 14.1 7.4 7.9 8.5 9.4 10.2EPS Growth (%) 38.9 (84.2) (19.8) 113.4 (39.4) 11.7 15.2 17.6 18.2

Gross Dividend 40 40 225 400 360 360 400 400 400DPS (Won) 2,000 2,000 1,125 2,000 1,800 1,800 2,000 2,000 2,000Dividend Payout Ratio (%) 5.6 35.4 24.8 6.0 6.0 6.0 5.5 5.5 5.0Issued Shares (million) - Common 20 20 200 200 200 200 200 200 200

Performance ratiosWon billions, Year ending Mar 31 FY07 FY08 FY09 FY10 FY11E FY12E FY13E FY14E FY15EGrowth (%)Total Premium 2.5 (5.0) 6.4 4.4 2.8 3.1 3.1 3.2 3.3 General Account (0.5) (4.6) (1.2) 2.5 0.2 0.8 1.0 1.3 1.7 Separate Account 12.1 (6.1) 28.1 8.6 8.0 7.5 7.0 6.5 6.0Risk Margin 57.5 (21.0) (0.8) (12.4) 16.0 4.5 4.6 4.9 5.2Loading Margin (32.3) (12.7) (47.3) 4.3 0.2 7.5 7.3 7.3 7.3Savings Margin NM NM NM NM (0.7) 0.3 0.7 0.6 0.5Commission Income 39.1 22.4 (2.1) 14.1 9.8 5.6 5.3 5.0 4.6Net Profits 38.9 (84.2) 701.7 113.4 (39.4) 11.7 15.2 17.6 18.2Total Assets 6.9 4.5 9.4 10.0 5.3 5.3 5.2 5.2 5.2Invested Assets 7.9 5.9 8.3 10.9 4.9 5.0 4.9 4.9 4.9Net Loans 18.1 8.9 0.0 (0.7) 4.5 4.6 4.5 4.5 4.5Policy Reserve 4.5 5.0 5.4 6.6 5.4 5.2 5.0 4.8 4.6Shareholders' Equity 7.0 (20.6) 63.3 26.8 5.3 5.9 6.5 7.5 8.6

Premium Income Mix (%)Risk Premium 17.1 18.3 19.2 19.4 19.8 20.3 20.7 21.1 21.6Loading Premium 24.9 23.7 24.4 24.0 24.0 24.0 24.0 24.0 24.0Savings Premium 57.9 58.0 56.3 56.5 56.2 55.7 55.3 54.9 54.4

Margin Analysis (%)Risk Margin / Risk Premium 19.8 15.3 14.7 12.4 14.0 14.2 14.4 14.6 14.8Loading Margin / Loading Premium 17.5 16.8 8.7 9.0 9.0 9.6 10.2 10.8 11.4Savings Margin / Savings Premium (6.5) (14.4) (0.4) 7.1 2.3 3.0 5.2 8.4 12.4Net Investment Yield 5.6 4.6 5.5 6.0 5.2 5.0 5.0 5.0 5.0Net Interest Margin 6.1 6.2 6.0 6.3 5.7 5.4 5.3 5.3 5.3Effective Comm. Rate on Separate Account 3.0 3.4 2.9 3.0 2.9 2.8 2.8 2.7 2.7

Investment Mix (%)Cash & deposits 3.2 5.4 3.3 4.1 4.1 4.2 4.2 4.2 4.1Securities 67.7 65.1 69.1 71.0 71.1 71.2 71.4 71.5 71.7Net loans 24.1 24.8 22.9 20.5 20.4 20.3 20.2 20.2 20.1Real estate 5.0 4.7 4.7 4.4 4.3 4.3 4.2 4.1 4.1

Securities Mix (%)Stock 17.4 14.9 17.5 18.6 18.1 17.7 17.3 16.9 16.4Other equity investment 0.1 0.1 0.1 0.1 0.1 0.1 0.1 0.0 0.0Gov't and public bonds 33.7 32.4 31.7 32.4 34.4 34.2 33.9 33.6 33.3Special bonds 16.1 18.4 21.8 22.5 21.2 20.0 18.7 17.5 16.2Corporate bonds 4.3 4.1 3.6 3.6 3.8 4.0 4.3 4.5 4.8Beneficiary certificates 6.6 6.1 4.9 4.9 5.3 5.6 6.0 6.3 6.7Overseas securities 20.4 20.5 16.9 15.0 15.8 16.7 17.5 18.3 19.2Structured securities 0.0 0.0 0.0 0.0 0.5 1.0 1.5 2.0 2.5Others 1.5 0.7 1.0 0.6 0.7 0.7 0.8 0.9 0.9

Balance Sheet Strucuture (%)Avg Equity/Avg Assets 8.0 7.1 7.7 9.9 10.5 10.5 10.6 10.8 11.1Avg Invested Assets / Avg Asets 80.0 80.9 81.0 81.0 81.1 80.8 80.6 80.3 80.2Avg Separate Account Assets / Avg Asets 12.8 13.4 14.2 14.5 14.6 15.0 15.3 15.6 15.9Policy Reserve / Premium Income 540.7 594.8 634.0 659.1 693.6 724.2 752.8 778.5 800.7Period-End Equity/Assets 8.0 6.1 9.1 10.5 10.5 10.6 10.7 10.9 11.3Avg Equity / Premium Income 58.9 57.2 67.4 92.5 105.9 110.9 116.6 123.2 131.0Solvency Margin Ratio 292.1 238.1 332.8 395.4 411.9 429.2 448.7 472.0 499.6


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Strong EV growth We expect Samsung Life to post average EV (ex-affiliate stakes) growth of 17.5% and 16.4% for FY11F and FY12F, respectively, driven by strong growth in VIF and the unwinding of the profitable in-force book. The contribution from new business should be significant, as VNB makes up 24% of VIF.

VIF growth of 22% and 20% for FY11F and FY12F

Starting from a low base We believe that Samsung Life's VIF is relatively low compared to its size and the volume of its business due to "negative spread" policies. Policies written prior to FY01 carry negative value, mainly due to the high guarantee crediting rates. Total negative value (PV of pre-tax profits) contributed by these legacy policies amounts to W3.1tr as of September 2009. With lower NIER assumption we could safely assume that VIF did not have much value in it until very recently.

Fig. 130: PV of pre-tax profit by policy type (Sep 09) NIER assumption of 5.6% was used for information presented here


Fig. 131: PV of pre-tax profit by contract year (Sep 09) NIER assumption of 5.6% was used for information presented here


Significant contribution from VNB We expect strong VIF growth given that VNB made up 24% of VIF as of 31 March 2011, based on our adjusted numbers. Of note, we have adjusted VIF by lowering NIER to 5% from 5.2% in order to reflect lower market rates. In addition, we used discount rate of 11% compared to 10.5% for Samsung Life. We estimate VIF growth of 22% and 20% for FY11F and FY12F, respectively.

Quality growth driven by new business In our view, growth driven by new business is healthier and deserves higher valuation. We expect 52% and 51% of RoEV to be generated by addition of new business for FY11F and FY12F, respectively.

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Fig. 132: VIF growth profile We expect 22% and 20% VIF growth for FY11 and FY12

Source: Nomura Research

Fig. 133: RoEV contribution breakdown We think EV growth driven by new business is healthier

Source: Nomura Research

VNB growth of 4.4% and 6.8% for FY11F and FY12F

Samsung has better policy mix than its peers Samsung has higher new business margin than its peers due to better policy mix (8.9ppt higher than Korea Life and 12.2ppt higher than Tong Yang Life). The company sells more protection-type policies that its peers.

Fig. 134: Policy mix Samsung vs. Industry


Fig. 135: EV margin by product type


But VNB fell by 9.5% in FY10 VNB fell by 9.5% in FY10. Annualized premium equivalent (APE) fell by 3.6% due to exclusive solicitor channel restructuring. The company noted that number of exclusive solicitors dropped due to layoffs of ineffective solicitors. In addition, new business margin fell sharply to 27.6% from 29.2% in FY09 due to a shift in policy mix to lower-margin investment-linked insurance products and savings-type policies. Of note, our numbers are based on risk discount rate (RDR) of 11% compared to 10.5% for Samsung Life’s assumed RDR.

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Fig. 136: APE trend (Wbn)


Fig. 137: New business margin trend


APE recovering already Samsung Life has shown strong recovery in APE in 4QFY11 as the restructuring of exclusive solicitor channel ends. In addition, the new CEO’s strategic change to increase volume through bancassurance made a positive impact on APE.

Fig. 138: Quarterly APE trend (Wbn)


VNB to rebound in FY11F We expect a sharp recovery of VNB in FY11F growing by 4.4%. Although we expect new business margin to fall due to increase in investment-linked insurance and savings-type policies, the volume growth should be more than enough to offset margin compression, in our view, as the company aggressively ramps up its traditional solicitor channel and ventures out into non-traditional channels.

Fig. 139: Samsung Life’s number of solicitor YoY change


Fig. 140: Number of solicitors by company


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Solid growth to continue in FY12 We estimate 6.8% growth in VNB in FY12F as the positive momentum from solicitor channel restructuring and expansion into non-traditional channels continue. However, we may see a further decline in new business margin due to unfavourable policy mix change and increases in new premiums from lower-margin non-traditional channels.

Fig. 141: APE and NB margin forecast


Higher persistency ratio positive for VNB During the financial crisis, Samsung's persistency ratio fell sharply (but was no worse than its peers). We note that the 25th month persistency ratio is rebounding slower than expected due to solicitor channel restructuring. However, given that the 13th month persistency ratio has recovered already and solicitor channel restructuring has been completed we think that 25th month persistency ratio should improve going forward.

Fig. 142: 13th month persistency ratio


Fig. 143: 25th month persistency ratio


Long-term growth opportunity from corporate pension Although, it may not contribute to the bottom line in a meaningful way in the near term, a rapidly growing corporate pension market should be positive for Samsung Life, which has the largest captive market. If Samsung Life maintains its current market share of 15.2% and earns the 60bps on pension assets as it expects, then the company should generate W142bn in operating profit by FY20, when the corporate pension market will reach W156tr in assets, according to Korea Capital Market Institute.

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Fig. 144: Corporate pension market share as of Jan 2011 Samsung Life believes it could increase Its market share to 20%


Industry shakeout not a question of “if?”, but “when?” Samsung Life believes that it could eventually take 20% of the corporate pension market given its large captive market and eventual industry consolidation. We believe that most market participants are losing money on the corporate pension business due to intense competition. Samsung management has admitted that even with the captive market, it is barely breaking even. We think industry consolidation is not a question of “if?”, but “when?” We think 50bps should be a reasonable level of profitability in the medium term. However, Samsung's target spread of 60bps may not be farfetched post-shakeout.

Fig. 145: Corporate pension market projection


Fig. 146: Lifers showing strength in defined benefits


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ANW growth of 13% for FY11 and FY12

Significant variances unlikely The company posted net profit of W901bn in FY09, an increase of 702% YoY from a low base of W113bn in FY08 amid the global financial crisis. The recovery was fuelled by a pickup in investment yield to 5.3% from 4.5% in FY90. Net profit increased sharply again in FY10 by 118% thanks to one-off gains such as a write-back of Seoul Guarantee ABS loan-loss provisions. We expect a fall in net profits in FY11 to a normal level and steady improvement thereafter.

Fig. 147: Samsung Life NP trend


Fig. 148: Samsung Life ROE trend


Risk margin to improve Risk margin has been trending down since FY02 and has started to stabilize. Samsung Life enjoyed a hefty risk margin in the early part of the 2000s thanks to rapidly rising death insurance premiums. Given that death insurance policies have lower claims at the early stage, rapid growth resulted in margin expansion. However, with a slowdown in recent years, the trend has reversed. In addition, the implementation of IBNR in 2004 made the falling trend worse. We think that further downside is limited going forward. There will likely be no additional increases in IBNR reserve requirements. Moreover, life insurers have secured flexibility in terms of pricing with the fifth mortality table in April 2006. The industry risk margin already saw some improvement in FY09. We think Samsung's risk margin will probably follow the industry trend going forward.

Risk margin improvement may not be visible We should note that risk premium from variable insurance is captured in fees from separate accounts. Given the recent surge in fees from separate accounts we think that risk margin is already improving. However, due to accounting issue we may not see the exact amount or percentage of improvement.

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Fig. 149: Risk margin in KRW amount


Fig. 150: Risk margin in %


Loading margin has been under technical pressure Loading margin has been falling sharply since FY03. We think that loading margin has been falling due to a change in accounting for acquisition costs in 2004. Prior to the accounting change, insurers capitalized estimated acquisition costs into a deferred acquisition cost (DAC) account, then amortized them over seven years. Therefore, the entire loading margin was recognized upfront. However, after the change, insurers now defer the actual amount, recognizing the loading margin evenly for seven years. Given that we are six years into the new accounting method, we think that additional pressure from the accounting change will be limited.

More recent decline in loading margin triggered by payment change competition We think that the last year's fall in loading margin was triggered by the increase in industry competition. Insurers increased the upfront proportion of sales commission in order to fight off independent agents who were trying to lure solicitors away from insurers. However, we should note that total commission paid out remained the same. We think that the falling trend of loading margin due to the timing issue will eventually normalize and loading margin should improve to the mid-teen level.

Fig. 151: Loading margin in KRW amount


Fig. 152: Loading margin in %


Savings spread to stabilize Despite continued dilution from low-yield floating rate policies saving spread has not seen a significant improvement. We do not expect a drastic improvement in the savings spread given that new money yield has been lower than yield on existing portfolios for over two years now. That said, we may not see an improvement in investment yield for three more years given that it would take more than four years to overturn its bond

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portfolio, and we expect slow recovery in the long bond yield. However, we believe that we are going through a trough in terms of rate cycle and continuous dilution from new low-yield floating rate policies should be enough to stop the worsening trend.

Fig. 153: Proportion of +6% fixed rate reserves


Fig. 154: Savings spread


Improvement will take time Although, we believe that we are going through a trough in terms of interest rate cycle, improvement of savings spread could be slower than expected due to the recently implemented RBC. In order to comply with the more strict capital adequacy requirement, insurers have been adding long-dated bonds to their portfolio to reduce the duration gap. However, the timing was not in favour of insurers, given that the transition to new regulation happened at the bottom of the rate cycle.

Fig. 155: Bond portfolio breakdown by maturity Buying long-dated bonds at the bottom of rate cycle


Fig. 156: Duration gap trend RBC duration gap is lower at 2.4 years


Fees on separate account Separate account assets have grown at a 20% CAGR for the past nine years thanks to the explosive growth of investment-linked insurance. Currently, Samsung Life earns 3% fees on separate account assets, falling from 3.4% in FY08. However, the company noted that actual management fees should be 50-75bps. The difference actually comes from pass-through items such as risk premium, maturity and surrender refunds. We have already noted that the falling trend of risk margin has been stabilized. This means that a fluctuation coming from the pass through of risk premium is now stabilized. For the purpose of our earnings projection, we assume that fees from separate account as a percentage of separate account asset continue downward trend by 6bps, stabilizing at around 2.6% in FY16.

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Fig. 157: Fees on separate accounts trend


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Bullish on Samsung Group Samsung Life's affiliate stakes represent 54% of its book value. Samsung Electronics and Samsung Card make up 80% of affiliate holdings. It appears that taking a view on Samsung Electronics and Samsung Card is an essential part of investing in Samsung Life. Note that we are bullish on both Samsung Electronics and Samsung Card.

Why we are bullish on Samsung Electronics

All cylinders firing Our technology analyst CW Chung expects to see gradual share price appreciation as both earnings improvement from cyclical recovery and new growth engines come into play: 1) The DRAM market, one of the most important catalysts of Samsung’s share performance, is likely to bottom out in 1Q11. 2) We expect continued healthy growth in Telecom and NAND, both of which are direct beneficiaries of Smartphone and tablet PC growth. 3) OLED, Sys-LSI, and Home Appliances, in all of which Samsung has invested heavily, are to begin to contribute meaningfully to both top line and bottom line.

Samsung deserves PBR of 2.0x Considering the constant high-teen ROE that Samsung can generate, CW believes the shares deserve a PBR of 2.0x. CW has a BUY rating on Samsung Electronics and a PT of W1,350,000 (implying 51% upside potential). He has applied a 2.0x of PBR with 12M Fwd BVPS of W672,000.

Fig. 158: EPS vs. share price


Fig. 159: PBR trend


DRAM bottoming out in 1Q11 Off from the high base of 2010, in which the DRAM market enjoyed the historic boom, we are likely to see a decline in earnings in 2011. However, thanks to 1) the market share of as high as 40%+, 2) the technology migration running ahead of the competitors (therefore 20~40ppt margin gap), and 3) the superior application mix (ie, larger exposure to specialty DRAM) and, therefore, higher ASP than its peers, we believe Samsung’s competitiveness in the DRAM market should continue to hold into 2011. We forecast 2011F bit growth of 58% y-y and ASP to fall by 41% y-y. 2011F DRAM operating profit is forecast at W4.5tn, down 41% y-y.

NAND to continue healthy growth Thanks to the rise in demand for smartphones, tablet PCs, and solid-state drives, we forecast benign a market situation in NAND. Though we expect industrywide capex (and accordingly, NAND wafer capacity) to increase quickly, this does not concern us much, as bit supply growth in 2011 should stand at around 80%, at best, similar to the growth in demand. Unlike in DRAM, Samsung’s competitiveness in NAND doesn’t seem as advanced vs its peers. We forecast 2011F NAND operating profit at W2.7tn, up 26% y-y, or OP margin of 28% (up 2ppt y-y).

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72

Fig. 160: SEC- DRAM OP


Fig. 161: SEC- NAND OP


System-LSI to contribute meaningfully from 3Q11 Having spent W3tn in the System-LSI business in 2010, Samsung plans to invest another W4.2tn in 2011. The System-LSI business is building new capacity in Austin (US), which will come online in 2Q11 and is likely to contribute meaningfully to the top line from 3Q11. The major driving factors for S-LSI should be the AP (Accelerated Processors) for tablet PCs and Smartphone. Apple and Samsung itself are key customers for now. Samsung took up 30~40% of market share in the AP space in 2010, and we expect it to grow in line with the demand growth of Smartphone and tablet PCs. We forecast the segment’s 2011F revenue and operating profit at W9.7tn (up 38% y-y) and W800bn (up 136% y-y), respectively.

OLED making up for LCD With TV shipments muddling through and the demand for IT panels falling short of the market’s previous expectations, this segment’s operating profit is forecast to remain flat y-y. However, Samsung’s differentiation against its peer group will continue to increase as the results from the OLED operation contributes more into the whole segment. Regarding the OLED, as two 5.5G lines are planned to commence volume production in 2011, the gap versus the following panel makers should further widen. With around W924bn operating profit from the OLED business included, we forecast the whole display segment operating profit should stand at W2tn, flat y-y.

Revenue contribution from smartphones fast increasing With the revenue contribution from smartphone business fast increasing, Samsung is likely to see continued earnings improvement in the telecom business. While smartphones contributed only 14% of the segment’s 4Q10 handset shipments, the higher-than-feature phone ASP resulted in the revenue contribution proportion of as high as 38%. Operating profit margin of smartphones is estimated at around the high-teen percentage in 4Q10, but may see some downward pressure as competition soars. Still, though, we believe Samsung can manage to retain 10% OP margin from its smartphone business. 2011F shipments of feature phones and smartphones are forecast to grow at down 5% y-y and up 164% y-y, respectively. Thanks to the increased shipment proportion of smartphones, segment operating profit is forecast at W4.7tn, up 10% y-y.

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Fig. 162: OLED to drive panel revenue


Fig. 163: Smart phone to drive telecom revenue


Risks on our view include; 1) Faster-than-expected KRW appreciation. 2) Increasing competition in the smartphone space. 3) Excessive industrywide capex in NAND, which we have seen in the past cycles.

Why we are bullish on Samsung Card

Structural growth coupled with rising expected inflation Our financial sector analyst Gil Hyung Kim is bullish on Samsung Card (the second-largest affiliate holding after Samsung Electronics). Gil expects a one-off adjusted EPS CAGR of 20% over the next two years for Samsung Card. He expects system card purchase volume to advance in the double digits on the back of 1) migration of consumers to online from offline, 2) inflationary pressure, and 3) extended tax benefits. In addition, funding cost should decline as the company refinance W1.2tn legacy high-yield (=6% annually) debentures issued during the global financial crisis.

Structural migration of cash to credit We project Samsung Card’s card payment (lump-sum and installment purchase) volume growth of 17% and 14% y-y in FY11F and FY12F, respectively. This is above our nominal private consumption forecasts of 7.4% and 7.6% for those years. Fast-growing sales at online stores are leading to more consumption on plastic money, as the card settlement portion is over 80% (vs. an average of 63%).

Additionally, under inflation pressure, consumers are expected to purchase more on credit cards than in cash in order to enjoy bonus points and cash-back services. Lastly, tax benefits on credit card purchases encourage more credit card spending and discourage tax evasion. Samsung Card has deeply penetrated into the Korean economy and we believe it would fully benefit from above-GDP growth of the card industry.

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Fig. 164: Sales growth by retail business type (y-y)


Fig. 165: Credit card usage in retail stores

Source: KOSIS, BoK, Nomura research

Funding cost should decline Given that asset yields are almost fixed for the credit card issuers, funding costs are key drivers for net interest margin. Samsung Card, as a mono-line issuer, relies on wholesale funding. In theory, BoK rate hikes, led by inflation pressure, should put upward pressure on the company’s funding costs. However, we believe Samsung Card’s funding costs will continue to shift downward over the next two years, upholding net interest margin.

Yield curve flattening Despite the rate hikes of BoK, we expect the yield curve to flatten, as the long tail would be less sensitive to short-term rates. More than 80% of the total funding has maturity of three years and longer. Hence, the impact of a rising short-term rate would have marginal impact on Samsung Card’s funding costs.

Funding mix change Funding contribution from commercial paper, which is cheaper than long-term debentures, have subsided since the financial woes in 2008. This should provide more room for Samsung Card to lower overall funding costs, in our view.

Refinancing of high costs debentures Deleveraging was hardly evidenced by Samsung Card during the global financial crisis, when the company issued debentures at a high cost. Such legacy high-cost debentures are maturing in 2011 and are likely to be refinanced at a lower cost, reducing funding costs overall.

Fig. 166: Samsung Card funding mix (FY10)


Fig. 167: Samsung Card debentures outstanding by maturity

Source: DART, Company data, KOFIA, Nomura research

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54%39%

22%31%

46%61%

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Large discount stores

Department stores

Supermarkets

Credit card Others

Corporate Bond63%

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%Securitization26%

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Risks to our view: 1) Given high penetration of Korean credit card industry– 4.4 cards per economically active person, we think industry competition could put pressure on marketing expenses. 2) Further tightening of regulations on credit card operation if card issuers exert aggressive competition for asst growth.


76

Addressing concerns There have been concerns on PF loans and further tightening of RBC standard which seems to be very generous in comparison to international standard. However, we think the concerns are overdone. PF loans are guaranteed by either banks or one of the largest constructors. Samsung Life is sufficiently capitalized by any standard.

All PF loans are not created equal

10 projects, W665bn Samsung Life has lent W665bn to ten different projects. W350bn relating to three projects has been guaranteed by a major bank. The rest amount is also guaranteed by major constructors who are in good financial condition. We see limited downside from PF loan exposures. If the stock dips due to concerns on PF loans, it would be a buying opportunity.

Projects in Seoul and metropolitan area Samsung Life indicated that all ten projects are located in Seoul or metropolitan area where housing demand is still healthy. The company further noted that the project that have started have presale ratio of over 90%.

Unsold units falling quickly Constructors have reduced new supply since the financial crisis and unsold units have been declining rapidly. The company has noted that most of its projects are located in Seoul and metropolitan areas where unsold units are minimal.

Fig. 168: Unsold housing unit trend # of unsold units falling sharply after peaking in December 2008

Source: MLTM, Nomura research

Fig. 169: Unsold units by region Most of unsold units are in provincial areas


Tightening of RBC standard

Tightening of RBC unlikely There have been some concerns on capital adequacy of Korean lifers given that Korean RBC is short of being adequate. However, we do not think that the regulator would tighten RBC standard in the medium term. Even if the regulator does decide to make RBC more strict, we believe it would be at a measured pace so that it would not disrupt insurers’ operations. We should note that smaller insurers have barely met the new RBC standard. Further tightening of RBC standards in the near term would disrupt the whole industry.

Samsung Life meets all standards Samsung Life's current Korean RBC stands at 334%. If we were to use 99% confidence level instead of 95% used by the current Korean RBC, the ratio would be 236%, which appears to be adequate.

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If tightened, Samsung Life should benefit However, we cannot fully rule out the possibility of the regulator abruptly tightening the RBC standards. If this were to happen, we think that Samsung Life with a buffer should benefit given the action will likely trigger industry consolidation.

Fig. 170: Samsung's RBC ratio under different standards


Fig. 171: RBC ratio by company


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Risk factors

Prolonged low interest environment

More than valuation risk In addition to valuation risk, prolonged low interest environment could impose operational risks. As the market rates fall the disparity between portfolio rates and new money rates has been widening. As a result, the company could continue to post negative variances. This would undermine credibility of EV valuation would eventually result in lower multiple.

Could trigger minimum guarantees Samsung Life provides guaranteed minimum accumulation benefit (GMAB) on its investment linked products and minimum return guarantees on floating rate policies. If market rates fall below a threshold, these guarantees could be triggered. Once insurers find themselves in this situation, insurers may compromise risk management standards in order to pick up additional yields.

Harder to acquire new business Lower interest rate environment could negatively impact new business volume due to lower crediting rate.

Underperformance of Samsung Electronics

Technology industry downturn A broader technology industry downturn could impose risk on Samsung Life. Samsung Life owns 7.21% in Samsung Electronics representing 33% of its book value.

Other risk factors for Samsung Electronics 1) Faster-than-expected KRW appreciation. 2) Increasing competition in the smart phone space. 3) Excessive industrywide capex in NAND, which we have seen in the past cycles.

Share overhang

Shinsegae owns 11.07% Shinsegae owns 11.07% of Samsung Life. The lock-up period for Shinsegae should end on 12 May 2011. Shinsegae has indicated that Samsung Life stake could be a funding source if they were to invest overseas or find an attractive acquisition target. However, our consumer analyst Cara Song believes that there isn't any attractive acquisition target at the moment.

CJ Group owns 5.49% CJ Group combined ownership of Samsung Life stands at 5.49%. CJ Corp and CJ CheilJedang own 3.2% and 2.3%, respectively. The lock-up period for CJ Group already ended in 12 November 2010. CJ Group is currently in the process of bidding for Korea Express. CJ Group has noted that Samsung Life stake will be a funding source

ESOP owns 3.82% Employee stock ownership program also owns 3.82% of Samsung Life. The lock up period ends on 12 May 2011. We think the chance of ESOP stake coming on to the market is low given the tendency of individual investors waiting until they recover losses.


79

Company Overview Samsung Life is by far the largest life insurer in Korea and quasi holding company of Samsung Group.

Company History Established as Dong bang Life insurance in 1957, the company became part of Samsung Group in 1963. After changing its name to Samsung Life Insurance in 1989, the company has grown to be the largest life insurance company in Korea with W133tn in total assets (Mar, 10). In May, 2010, the company listed on the KRX.

Fig. 172: Key historical milestones

Source: DART, Company data, Nomura research

Fig. 173: Shareholding structure


Fig. 174: Korea life insurers ranking

Source: DART, Nomura research

Policy mix breakdown Samsung Life derives 45% of total premium from protection-type policies. We should note that protection-type policies carry much higher embedded margin than wealth accumulation products such as annuities and savings-type policies. However, demand growth is coming from wealth accumulation products.

Distribution channel In terms of the distribution channel, Samsung Life distributes its products mainly through traditional channels; exclusive solicitors (78%) and exclusive agents (12%). Bancassurance sales account for 8% of distribution (on initial premium basis), but should grow faster than other channels as the company becomes more receptive to the bancassurance channel.

Date History1957. 5 Established Dong Band Life Insurance1963. 7 Incorporates into Samsung Group1989. 9 Changes name to Samsung Life Insurance1993. 12 Establish base in New York1997. 11 Establish JV in Thailand2005. 7 Establish JV in China2006. 4 First non-depository financial institution to supass

W100tn in asset2007. 12 Gain licencse to manage trust assets2008. 7 Establish oversees branch in Vietnam2010. 5 Listed on KRX

20.8%

19.3%

11.1%

5.5%4.7%

4.7%

3.8%

2.3%

27.9%

Lee, Kun-Hee

Samsung Everaland

Shinsegae

CJ Group

Samsung Foundation of CultureSamsung Life Welfare FoundationESOP

Other affiliates

Free float

Company Amount M/S Company Amount M/S Company Amount M/S Company Amount M/S1 Samsung Life 82,811 38% Samsung Life 99,116 36% Samsung Life 13,334 38% Samsung Life 34,440 23%2 Korea Life 29,506 14% Korea Life 43,249 16% Korea Life 5,981 17% Korea Life 24,600 17%3 Kyobo Life 27,105 13% Kyobo Life 39,367 14% Kyobo Life 4,568 13% Kyobo Life 22,122 15%4 ING Life 10,311 5% ING Life 11,528 4% ING Life 1,739 5% Mirae Asset Life 8,696 6%5 Allianz 9,462 4% Allianz 10,985 4% Prudential 1,193 3% Shinhan Life 7,834 5%6 AIA Life 6,124 3% Shinhan Life 9,369 3% Tong Yang Life 1,095 3% Met Life 7,132 5%7 Shinhan Life 6,044 3% Tong Yang Life 9,262 3% AIA Life 992 3% Allianz 6,821 5%8 Tong Yang Life 5,831 3% Heung Kuk Life 8,486 3% Shinhan Life 966 3% ING Life 6,782 5%9 Mirae Asset Life 5,722 3% KDB Life 7,397 3% Allianz 930 3% Tong Yang Life 6,033 4%

10 Heung Kuk Life 5,650 3% Mirae Asset Life 6,944 3% Met Life 763 2% Heung Kuk Life 5,029 3%

Policy reserve (bn) Total Equity (Wbn) Exclusive solicitors (person)Rank

Total asset (Wbn)


80

Fig. 175: Policy mix trend


Fig. 176: Distribution channel breakdown


Management profile In December 2010, Kuen-hee Park was appointed the new CEO of Samsung Life. Mr. Park has been part of Samsung Group since 1978, holding positions in Samsung restructuring headquarters, Samsung Capital, Samsung Card, and Samsung Electronics. His latest position within Samsung Group was head of Samsung Electronics in China.

Quasi holding company of Samsung Group Samsung Life plays a key role in Samsung Groups ownership structure. As seen in chart below, Samsung Life holds controlling stake in both Samsung Electronics and Samsung Card.

Fig. 177: Samsung Group Ownership Structure


Protection (general)

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15%Annuities (general)

20%

Annuities (separate)

27%

Savings6%

Group2%

Exclusive solicitors

78%

Exclusive agents12%

Independent agents

1%

Banc-assurance

8%

Other1%


Korea Life 088350.KS 088350 KS

INSURANCE

EQUITY RESEARCH

If you believe in hyper inflation

Leveraged play on rising interest rates

May 16, 2011

Rating Starts at

Buy

Target price Starts at9,400

KRW 9,400

Closing price May 12, 2011

KRW 7,460

Potential upside +26%

Action: Initiating coverage at BUY We initiate coverage of Korea Life with a BUY rating and a PT of W9,400. Korea Life is the second-largest life insurer in Korea with strength in investment-linked products.

Too inexpensive to ignore Korea Life is trading at 0.8x forward P/EV. In our view, its valuation is undemanding considering that we expect Korea Life’s EV to grow an average of 12% a year for the next four years.

Catalyst: Interest rate cycle to turn We think the stock is trading at a depressed level due to a flatter yield curve. However, our economist believes that the long-end of the curve will rise steadily starting in 2H11 with: 1) continuous rate hikes by the BOK; 2) rising expected inflation; and 3) tightening by ECB and QE2 ending.

Name to own if you believe in hyper inflation Seventy percent of Korea Life’s reserve relates to fixed-rate policies, the highest among the listed lifers. Hence, its EV sensitivity to a change in interest rate is also the highest. While our economist believes the rates will rise at a measured pace, we believe Korea Life would be a good name to own in a hyper-inflation scenario. Of note, we estimate a 50bp increase in the NIER would boost Korea Life’s EV by 14%.

Valuation: PT of W9,400, implying 26% upside Our PT of W9,400 is based on 1.0x forward P/EV. We assume a sustainable RoEV of 11.5%, a COE of 11.5% and a growth rate of 3%.



Net premium (bn) 6,772 0 6,987 0 7,197 0 7,413

Reported net profit (bn) 481 535 601 673

Normalised net profit (bn) 481 535 601 673

Normalised EPS 553.8 616.5 692.2 775.3

Norm. EPS growth (%) 15.0 11.3 12.3 12.0

Norm. P/E (x) 13.5 N/A 12.1 N/A 10.8 N/A 9.6

Price/EV (x) 0.9 N/A 0.8 N/A 0.7 N/A 0.6



ROE (%) 8.1 8.4 8.8 9.1

ROA (%) 0.8 0.0 0.8 0.0 0.9 0.0 0.9


Anchor themes


Nomura vs consensus

Our net profit estimate for FY11F is 16% lower than consensus. Our PT is 4% lower than consensus.

Research analysts

Korea Insurance




Nomura | ASIA Korea Life May 16, 2011

82

Key data on Korea Life Profit and Loss (KRWbn) Year-end 31 Mar FY09 FY10 FY11F FY12F FY13FGross premiums 6,545 6,790 6,994 7,204 7,420Government charges


Net earned premium 6,529 6,772 6,987 7,197 7,413Claims and benefit payments -4,742 -5,108 -5,286 -5,436 -5,590Change in reserves -2,354 -2,248 -2,356 -2,444 -2,535Commission and DAC expenses -1,239 -999 -1,020 -1,044 -1,071Other expenses -738 -635 -628 -635 -640Underwriting surplus -2,545 -2,218 -2,302 -2,362 -2,423Recurrent investment income 2,355 2,223 2,363 2,431 2,528Realised and unrealised gains

Investment income 2,355 2,223 2,363 2,431 2,528Other income


Operating profit -190 5 61 69 105Amortisation

Other non-operating income 736 625 645 702 758Associates and JCEs

Pre-tax profit 546 629 706 771 863Income tax -127 -149 -171 -170 -190Net profit after tax 418 481 535 601 673Minority interests

Other items

Preferred dividends

Normalised NPAT 418 481 535 601 673Extraordinary items

Reported NPAT 418 481 535 601 673Dividends -87 -87 -87 -130 -130Transfer to retained earnings 331 394 449 471 543


FD normalised P/E (x) 15.5 13.5 12.1 10.8 9.6FD normalised P/E at price target (x) 19.5 17.0 15.2 13.6 12.1Reported P/E (x) 15.5 13.5 12.1 10.8 9.6Dividend yield (%) 1.3 1.3 1.3 2.0 2.0Price/book (x) 1.1 1.1 1.0 0.9 0.8Investment return (%) na na na na naRecurrent investment return (%) na na na na naNon-recurrent return/invt. return (%) 0.0 0.0 0.0 0.0 0.0Price/EV (x) 1.0 0.9 0.8 0.7 0.6Price/implied VNB (x) -0.1 -2.2 -4.2 -6.2 -8.2Loss ratio (%)

Combined ratio (%)


Growth (%)

Life premiums 3.8 3.0 3.0 3.0Non life premiums na na na naNet profit 15.0 11.3 12.3 12.0Normalised EPS 15.0 11.3 12.3 12.0Normalised FDEPS 15.0 11.3 12.3 12.0Source: Nomura estimates

Notes

Our net profit estimate for FY11F is 16% lower than consensus.


(%) 1M 3M 12M

Absolute (KRW) 1.5 -2.4 -11.2

Absolute (USD) 1.3 1.1 -7.4

Relative to index -0.3 -10.1 -40.0



9270/6760


6.71

Major shareholders (%) Hanwha E&C 24.9

Hanwha 21.7

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Balance Sheet (KRWbn) As at 31 Mar FY09 FY10 FY11F FY12F FY13FCash and deposits 1,752 2,015 2,094 2,186 2,283Bonds 19,487 21,936 23,330 23,615 23,835Equities 511 1,197 1,826 2,544 3,357Unit trusts

Loans and mortgages 12,536 13,277 13,193 13,122 13,029Foreign investments 1,197 1,293 2,199 3,234 4,410Real estate 2,245 2,276 2,349 2,433 2,523Other investments 6,172 4,988 4,082 4,312 4,556Total investments 43,900 46,982 49,074 51,446 53,992Deferred acquisition costs 2,332 2,290 2,337 2,393 2,454Prepaid and unearned prem. reserves


Fixed assets

Goodwill

Separate account assets 11,433 12,739 14,143 15,584 17,059Other assets 1,333 1,417 1,459 1,503 1,548Total assets 58,997 63,427 67,014 70,926 75,053Insurance reserves 40,470 43,153 44,852 46,821 48,899Catastrophe reserves






Other liabilities 1,322 108 -1,465 -3,645 -6,575Total liabilities 53,318 57,262 60,395 63,837 67,421Minority interest

Common stock 4,837 4,883 4,883 4,883 4,883Preferred stock

Retained earnings 481 760 1,209 1,680 2,223Proposed dividends

Other equity 362 522 527 527 527Shareholders' equity 5,680 6,165 6,618 7,089 7,632Total liabilities and equity 58,998 63,426 67,014 70,926 75,053






Per share

Reported EPS (KRW) 481.66 553.78 616.47 692.19 775.30Norm EPS (KRW) 481.66 553.78 616.47 692.19 775.30Fully diluted norm EPS (KRW) 481.66 553.78 616.47 692.19 775.30DPS (KRW) 100.00 100.00 100.00 149.99 149.99BVPS (KRW) 6,539.68 7,097.75 7,619.92 8,162.12 8,787.42Life/LT EVPS (KRW) 7,493.01 8,515.67 9,482.36 10,514.23 11,579.17Life/LT VNBPS (KRW) 472.06 472.70 486.38 495.29 501.78Value of non-life bus. PS (KRW) 0.00 0.00 0.00 0.00 0.00Source: Nomura estimates

Notes

Asset growth driven by separate account.


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Leveraged play on rising interest rates Korea Life is the second-largest life insurance company in Korea. The company has been the leader in investment-linked insurance. We believe that Korea Life is a good name to own for investors who are bullish on inflation.

Attractive valuation, limited downside

Solid EV growth We expect Korea Life to deliver RoEV of 12.6% for each of FY11F and FY12F, driven by strong growth in the value of in-force business (VIF). We forecast VIF growth of 49% and 33% for FY11F and FY12F, respectively. Of note, our estimate VIF is adjusted to reflect a lower net interest earnings rate (NIER).

Significant contribution from VNB The contribution from new business (VNB) should be significant, as it makes up 52% of VIF based on our adjusted numbers as of March 2011. Thanks to low base effect, we think the company will continue to generate robust VIF growth.

ANW growth may take time to recover Although Korea Life will likely enjoy robust VIF growth in the medium term, its EV growth will likely lag behind that of other listed lifers given that its VIF is small relative to its adjusted net worth (ANW). We think it will take time for Korea Life to rebuild its VIF for it to contribute to the bottom line in a meaningful way.

Trading at ex-growth multiples Despite its solid EV growth profile, Korea Life is trading at 0.8x forward P/EV. We think that Korea Life is trading like an ex-growth company due to a flatter yield curve. However, Nomura’s Korea economist, Mr Young Sun Kwon, believes that the long-end of the curve will rise slowly going into 2H11.

Most leveraged to rising interest rates

Highest proportion of fixed-rate policies As 70% of Korea Life’s reserve relates to fixed-rate policies, its valuation sensitivity to interest rates is the highest among the listed lifers in Korea. Although this could be a double-edged sword, we believe that we are going through a trough in the interest rate cycle.

50bp increase in NIER assumption likely to boost EV by 13.8% Our economist forecasts a 45bp rise in the three-year treasury yield over the next 12 months. We estimate that a 50bp increase in the NIER would boost Korea Life’s EV by 13.8%.

But actual pickup in investment yield will take time However, we should note that the investment yield on fixed-income securities will likely fall for two more years given that it takes three to four years to overturn the bond portfolio. In addition, we think that transition to Risk Based Capital (RBC) may further delay the recovery of investment returns given that life insurers are forced to buy long-dated bonds to meet a stricter measure of capital adequacy.

We are less bullish on Korea Life due to high hurdle rate Korea Life’s current average crediting rate is the highest among the listed lifers. Given that we expect a steady but slow recovery in market rates, we are less bullish on Korea Life than other lifers.

We would likely turn more bullish if rates were to pick up faster than expected But again, if inflation gets out of hand as the BOK falls behind the curve, we would become more bullish on the name. We believe that in a hyper-inflation environment the company’s operation would likely improve as fast as the improvement in its valuation.


85

BUY at the bottom of the rate cycle

Rate hike campaign to continue Our economist expects two more rate hikes in for the rest of 2011, and another two in 1H12, which will lift the terminal policy rate of the current cycle to 4.0% by 2Q12. Meanwhile, he thinks that real policy rates will remain negative, doing little to limit inflationary pressure, unless it is combined with KRW appreciation.

Bond market will eventually react to growing concerns on inflation Our economist noted that CPI inflation is set to rise to more than 4% in 2011, exceeding the BOK's target band. Interest rate hikes coupled with a stronger KRW and price control should partly offset cost-push inflation pressures from higher oil prices. But rising nominal wages and housing rents are also adding to inflation. Our economist forecasts CPI inflation to rise from 2.9% in 2010 to 4.4% in 2011, before easing to 3.6% in 2012. We think that the long end of the bond market will eventually react to growing concerns on inflation.

Foreign capital inflow to slow Whether hunting for better yields or looking for KRW appreciation, inflow of foreign capital has been adding downward pressure on the long end since 2H09. However, with the ECB turning hawkish and the Fed's QE2 programme winding down, we may see foreign capital inflow slow and even turn to an outflow further out. We think that the long end of the yield curve could be lifted with rising interest rates in developed markets, as we have seen in 4Q10. In addition, the recent KRW appreciation could hinder foreign capital inflow looking for KRW appreciation, and thus further ease the downward pressure on the long end.

Long end to rise slowly but surely Our economist forecasts the five-year treasury yield will rise from 3Q11 and reach 4.5% by end-1H12 (from the current 4.0%), and the three-year treasury yield will rise to 4.2% by end-1H12 (from the current 3.6%).

Risk factors

Prolonged low interest rate environment As the market rates fall, the disparity between portfolio rates and new money rates has widened. In addition to valuation risk, a prolonged low interest rate environment will likely present operational risks including: 1) continued reliance on new sales to subsidize in-force business; 2) a decline into the minimum guarantees zone; 3) a negative impact on new business volume due to a lower crediting rate; and 4) companies may compromise risk management standards to boost yield.

W1tn in PF loans Korea Life has W1tn in PF loans outstanding that are related to housing projects. Although the housing market has improved and the number of unsold apartments has been falling steadily over the past two years, we have seen continuous filings of court receivership by medium-size construction companies recently. That said, we think the stock may face downward pressure whenever PF loans become an issue in the market. The company has noted that all of its PF loans are guaranteed by larger constructors and projects are located in Seoul and metropolitan areas where demand is still healthy.


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Fig. 178: Korea Life financial summary


Profit and Loss StatementsWon billions, Year ending Mar 31 FY08 FY09 FY10 FY11F FY12F FY13F FY14F FY15FTotal Premium 10,529 10,499 11,183 11,839 12,437 13,046 13,662 14,253 General Account 6,729 6,529 6,772 6,987 7,197 7,413 7,635 7,864 Separate Account 3,801 3,970 4,411 4,852 5,240 5,633 6,027 6,389

Premium Income 6,735 6,545 6,790 6,994 7,204 7,420 7,643 7,872Risk Premium 1,552 1,606 1,647 1,693 1,741 1,790 1,841 1,893Loading Premium 2,315 2,057 1,969 1,993 2,032 2,070 2,109 2,149Savings Premium 2,862 2,867 3,157 3,308 3,432 3,560 3,693 3,830

Benefits Paid 1,375 1,410 1,410 1,449 1,490 1,531 1,574 1,618U/W Expenses 1,965 1,673 1,634 1,654 1,686 1,718 1,751 1,784

Net of Acquisition Costs & DAC Deferral 28 27 35 0 0 0 0 0Acquisition Cost 1,269 965 956 1,067 1,100 1,132 1,166 1,201DAC Deferral (1,241) (938) (921) (1,067) (1,100) (1,132) (1,166) (1,201)

Amortization of DAC 1,403 1,239 999 1,020 1,044 1,071 1,100 1,131Net Increase in DAC (162) (301) (42) 48 55 62 66 71Maintenance Costs 695 708 643 587 587 586 584 582

Maturity & Surrender Refund 4,464 3,769 3,698 3,837 3,946 4,058 4,210 4,367Changes in Premium Reserve 1,422 2,223 2,248 2,356 2,444 2,535 2,630 2,728Net Investment Income 1,814 2,355 2,223 2,363 2,431 2,528 2,675 2,829

Risk & Loading Margins 527 580 572 583 597 611 625 639Savings Margin (1,209) (770) (567) (521) (528) (506) (472) (435)Operating Profit (682) (190) 5 61 69 105 153 204Non-operating Profit 773 736 625 645 702 758 815 869

Commission Income (Separate Account) 779 766 655 679 739 798 858 915Others (6) (30) (30) (34) (37) (40) (43) (46)

Pre-tax Profits 91 546 629 706 771 863 968 1,073Effective Tax 8 127 149 171 170 190 213 236Net Profits 83 418 481 535 601 673 755 837

Selective Balance Sheet Data FY08 FY09 FY10 FY11F FY12F FY13F FY14F FY15FTotal Assets 52,597 58,998 63,427 67,014 70,926 75,053 79,325 83,757Invested Assets 39,320 43,875 46,982 49,074 51,446 53,992 56,648 59,462

Cash & Deposits 1,853 1,752 2,015 2,094 2,186 2,283 2,384 2,488Securities 23,556 27,367 29,414 31,438 33,705 36,158 38,761 41,553

Stocks 592 511 1,197 1,826 2,544 3,357 4,273 5,303Money Invested 222 192 170 152 132 108 80 47Fixed Income Instrument 22,742 26,663 28,047 29,460 31,029 32,693 34,409 36,204

Net Loans 11,672 12,536 13,277 13,193 13,122 13,029 12,890 12,711Real Estate 2,239 2,220 2,276 2,349 2,433 2,523 2,614 2,710

Non-invested Assets 3,881 3,690 3,706 3,796 3,895 4,002 4,115 4,233DAC 2,633 2,332 2,290 2,337 2,393 2,454 2,521 2,591Others 1,248 1,358 1,417 1,459 1,503 1,548 1,594 1,642

Separate Account Assets 9,395 11,433 12,739 14,143 15,584 17,059 18,562 20,061

Total Liabilities 48,996 53,318 57,262 60,395 63,837 67,421 71,112 74,880Policy Reserve 38,082 40,470 43,153 44,852 46,821 48,899 51,053 53,288

Premium Reserve 36,384 38,770 41,328 43,154 45,083 47,120 49,233 51,425Reserve for Outstanding Claims 1,397 1,356 1,382 1,421 1,461 1,502 1,544 1,587Reserve for Unearned Premium 18 13 7 0 0 0 0 0Reserve for Policyholders' Dividend 292 288 274 274 274 274 274 274Excess Reserve for Policyholders' Dividend 14 15 24 24 24 24 24 24Reinsurance Premium Reserve 0 0 0 0 0 0 0 0

Adjustment of Policyholder 148 297 364 364 364 364 364 364Other Liabilities 1,277 1,026 1,006 1,037 1,068 1,100 1,133 1,167Separate Account Liabilities 9,395 11,433 12,739 14,143 15,584 17,059 18,562 20,061

Total Shareholders' Equity 3,601 5,680 6,165 6,618 7,089 7,632 8,213 8,877Paid in Capital 3,550 4,343 4,386 4,386 4,386 4,386 4,386 4,386Capital Surplus 0 494 496 496 496 496 496 496Retained Earnings 66 481 760 1,209 1,680 2,223 2,804 3,467Capital Adjustment (12) 362 527 527 527 527 527 527


87

Fig. 179: Korea Life per share data and performance ratios


Per Share Data FY08 FY09 FY10 FY11F FY12F FY13F FY14F FY15FEarnings Per Share (Won) 117 482 554 616 692 775 869 964Book Value Per Share (Won) 5,072 6,540 7,098 7,620 8,162 8,787 9,457 10,221ROA (%) 0.2 0.7 0.8 0.8 0.9 0.9 1.0 1.0ROE (%) 2.3 9.0 8.1 8.4 8.8 9.1 9.5 9.8EPS Growth (%) (76.9) 311.9 15.0 11.3 12.3 12.0 12.1 10.9

Gross Dividend 0 0 87 87 130 130 174 174DPS (Won) 0 0 100 100 150 150 200 200Dividend Payout Ratio (%) 0.0 0.0 6.0 6.0 6.0 5.5 5.5 5.0Issued Shares (million) - Common 710 869 869 869 869 869 869 869

PERFORMANCE RATIOS FY08 FY09 FY10 FY11F FY12F FY13F FY14F FY15FGrowth (%)Total Premium (6.2) (0.3) 6.5 5.9 5.0 4.9 4.7 4.3 General Account (7.1) (3.0) 3.7 3.2 3.0 3.0 3.0 3.0 Separate Account (4.6) 4.5 11.1 10.0 8.0 7.5 7.0 6.0Risk Margin (13.9) 10.4 21.1 2.9 2.9 2.9 2.9 2.9Loading Margin (35.7) 9.9 (12.9) 1.2 1.9 1.9 1.9 1.9Savings Margin NM NM NM NM NM NM NM NMCommission Income 31.6 (1.7) (14.5) 3.7 8.8 8.1 7.4 6.7Net Profits (76.9) 403.9 15.0 11.3 12.3 12.0 12.1 10.9Total Assets 6.3 12.2 7.5 5.7 5.8 5.8 5.7 5.6Invested Assets 5.4 11.6 7.1 4.5 4.8 4.9 4.9 5.0Net Loans 7.9 7.4 5.9 (0.6) (0.5) (0.7) (1.1) (1.4)Policy Reserve 4.6 6.3 6.6 3.9 4.4 4.4 4.4 4.4Shareholders' Equity (1.2) 57.7 8.5 7.4 7.1 7.7 7.6 8.1

Premium Income Mix (%)Risk Premium 23.0 24.5 24.2 24.2 24.2 24.1 24.1 24.0Loading Premium 34.4 31.4 29.0 28.5 28.2 27.9 27.6 27.3Savings Premium 42.5 43.8 46.5 47.3 47.6 48.0 48.3 48.7

Margin Analysis (%)Risk Margin / Risk Premium 11.4 12.2 14.4 14.4 14.4 14.4 14.5 14.5Loading Margin / Loading Premium 15.1 18.7 17.0 17.0 17.0 17.0 17.0 17.0Savings Margin / Savings Premium (42.2) (26.9) (18.0) (15.8) (15.4) (14.2) (12.8) (11.4)Net Investment Yield 4.9 5.8 5.0 5.0 5.0 4.9 5.0 5.0Net Interest Margin 6.1 5.9 5.5 5.4 5.3 5.3 5.3 5.4Effective Comm. Rate on Separate Account 8.8 7.4 5.4 4.8 4.7 4.7 4.6 4.6

Investment Mix (%)Cash & deposits 4.7 4.0 4.3 4.3 4.2 4.2 4.2 4.2Securities 59.9 62.4 62.6 64.1 65.5 67.0 68.4 69.9Net loans 29.7 28.6 28.3 26.9 25.5 24.1 22.8 21.4Real estate 5.7 5.1 4.8 4.8 4.7 4.7 4.6 4.6

Securities Mix (%)Stock 2.5 1.9 4.1 5.8 7.5 9.3 11.0 12.8Money invested 0.9 0.7 0.6 0.5 0.4 0.3 0.2 0.1Gov't and public bonds 52.0 45.6 42.9 44.9 43.1 41.3 39.5 37.8Special bonds 15.0 18.6 25.1 23.4 21.7 20.0 18.4 16.7Corporate bonds 9.1 7.0 6.6 5.9 5.2 4.6 3.9 3.2Beneficiary certificates 8.1 14.5 10.4 10.0 9.6 9.2 8.8 8.4Overseas securities 5.8 4.4 4.4 7.0 9.6 12.2 14.8 17.4Structured securities 0.0 0.0 0.0 0.5 1.0 1.5 2.0 2.5Others 1.9 3.4 2.2 2.0 1.8 1.6 1.4 1.2

Balance Sheet Strucuture (%)Avg Equity/Avg Assets 7.1 8.3 9.7 9.8 9.9 10.1 10.3 10.5Avg Invested Assets / Avg Asets 75.0 74.6 74.2 73.6 72.9 72.2 71.7 71.2Avg Separate Account Assets / Avg Asets 17.3 18.7 19.7 20.6 21.6 22.4 23.1 23.7Policy Reserve / Premium Income 565.4 618.3 635.5 641.3 649.9 659.0 668.0 676.9Period-End Equity/Assets 6.8 9.6 9.7 9.9 10.0 10.2 10.4 10.6Avg Equity / Premium Income 53.8 70.9 87.2 91.4 95.1 99.2 103.7 108.6Solvency Margin Ratio 215.6 299.1 295.3 320.2 326.1 321.8 317.5 312.4


88

Valuation We have derived our PT of W9,400, based on 1.0x forward P/EV. The stock is trading at 0.8x forward P/EV. We think valuation is undemanding, considering that we expect the company to deliver sustainable RoEV of 11.5% over the next four years.

Valuation attractive at 0.8x forward P/EV

Our PT is based on 1.0x P/EV Korea Life is trading at 0.8x forward P/EV, which we believe is attractive considering that we expect sustainable RoEV of 11.5% in the medium term. We apply 1.0x forward P/EV to derive our PT. We assume a sustainable medium-term RoEV of 11.5%, a COE of 11.5% and a growth rate of 3%.

Priced ex-growth The current implied NBM (new business multiple) is in negative territory despite the company’s solid growth profile and upside potential from rising interest rates.

EV adjusted to reflect lower market rates We assume a lower net investment earnings rate (NIER) than the company in our EV forecasts. Korea Life uses a NIER of 5.25% in calculating its FY09 EV, while we assume a NIER of 5.0% (ie, 25bp lower than Korea Life's assumption).

Fig. 180: Korea Life: EV projection and PT Korea Life should be able to deliver RoEV of 11.5%-plus through FY14F


Starting from a low base We believe that 11.5% RoEV is sustainable despite the lacklustre outlook for Korea Life’s ANW growth in the near term. We note that even if we assume no growth in VNB, Korea Life should be able to achieve VIF growth of 48% and 32% for FY11F and FY12F, respectively, given that we expect VNB to make up 52% of VIF (value in-force) as of March 2011. Of note, we assume a NIER of 5.0% to forecast VIF.

Positive variance likely based on Nomura EV figures We use a NIER of 5.0% to forecast VIF. However, we believe the actual investment yield will remain above 5.0%, thus yielding positive variance in the near term. That said, we think that continuous positive variance is likely if Korea Life does not have any hiccups in its in-force profit management.

We could justify PT of W12,800 using appraisal valuation method We think that our PT is conservative given that valuation using the appraisal value method results in a higher NBM. The implied NBM is 0x at our PT. However, using the appraisal value method, we could justify up to a 6.9x NBM. Of note, we only reflect a 10-year projection in our NBM calculation. Typically, a 30-year DCF model is used in the region to derive NBM. However, due to the infancy of the EV valuation methodology in Korea, we do not want to pay for more than 10 years.

(Wbn) FY09 FY10F FY11F FY12F FY13F FY14FAdjusted net worth (ANW) 6,100 6,601 7,055 7,569 8,112 8,737 Value of in-force business (VIF) 408 795 1,187 1,580 1,973 2,365 Embedded value (EV) 6,508 7,396 8,242 9,150 10,085 11,102 Growth of EV (RoEV) 15.0% 12.6% 12.6% 11.6% 11.8%Current mkt cap 6,444 6,444 6,444 6,444 6,444 6,444 P/EV 0.99 0.87 0.78 0.70 0.64 0.58 VNB 410 411 422 430 436 439 NBM (0.16) (2.32) (4.26) (6.29) (8.35) (10.60)

Target multiple 1.0 Target mkt cap 8,242 Target price 9,400 Implied NBM -


89

More appropriate to use P/EV methodology There is upside potential to our PT using the appraisal value methodology. However, we think it is more appropriate to use P/EV for Korea Life given some negative variance we encountered in EV, which may not be captured in the NBM technique. In addition, the NBM technique ignores near-term changes in EV growth profile.

Fig. 181: Korea Life: target NBM based on appraisal value method The appraisal value method implies a PT of W12,800, 36% higher than our P/EV-based PT of W9,400



EV sensitive to investment yield and claims ratio assumptions The following charts show the sensitivity in the EV to changes in some of Korea Life's key assumptions. A key variable is the investment return assumption. For Korea Life, this is currently 5.25%, which we believe is slightly aggressive considering the current market rates. Note that we used a NIER of 5.0% to forecast VIF and VNB. In addition, we believe that we are going through a trough in the interest rate cycle.

A 50bp increase in investment yield would boost EV by 13.8%... Our sensitivity analysis indicates a 50bp increase in investment yield would boost EV by 13.8%. Of note, Korea Life is most sensitive to rising interest rates among the listed life insurers due to its largest exposure to fixed-rate liabilities. 70% of its reserve relates to fixed-rate policies, compared with 60% for Samsung Life and 58% for Tong Yang Life.

Fig. 182: EV sensitivity in KRW


Fig. 183: EV sensitivity in %


… but our PT would increase by only 3% In effect, this would increase our PT by 3%. We should note that the affect on VNB from a changing investment yield assumption is limited since most new businesses are floating-rate policies. We would not expect to see ANW growth pick up immediately given that it takes time for higher market rates to flow through the bond portfolio. Hence, the increase in our PT would be less than what the valuation sensitivity indicates.

(Wbn) FY11F FY12F FY13F FY14F FY15F FY16F FY17F FY18F FY19F FY20FAnnualized premium equivalent (APE 2,271 2,351 2,421 2,482 2,531 2,582 2,634 2,686 2,740 2,795 New business margin 18.6% 18.3% 18.0% 17.7% 17.5% 17.4% 17.4% 17.3% 17.3% 17.3%Value of new business (VNB) 422 430 436 439 443 450 458 466 475 484 Discount factor 1.0 1.1 1.2 1.4 1.5 1.7 1.9 2.1 2.3 2.6 PV of VNB 422 388 354 321 292 267 245 224 206 189 Sum of PV 2,908 Implied multiple 6.9

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Fig. 184: Korea Life: EV projection and PT assuming 50bp increase in NIER Our PT would increase by only 3%, assuming a 50bp NIER increase


VNB sensitive to discount rate and lapse ratio VNB is not sensitive to interest rates given that most new businesses are floating-rate policies. VNB is rather sensitive to the lapse ratio, however, since most cancellations occur in the first 25 months and by definition new business includes policies acquired in the past year.

Fig. 185: Korea Life: VNB sensitivity in KRW VNB not sensitive to NIER since new businesses are floating-rate policies


Fig. 186: Korea Life: VNB sensitivity in % VNB not sensitive to NIER since new businesses are floating-rate policies


(Wbn) FY09 FY10F FY11F FY12F FY13F FY14FAdjusted net worth (ANW) 6,100 6,651 7,127 7,679 8,324 8,992 Value of in-force business (VIF) 1,436 1,823 2,222 2,630 3,052 3,487 Embedded value (EV) 7,536 8,474 9,348 10,309 11,375 12,478 Growth of EV (RoEV) 13.6% 11.3% 11.2% 11.6% 10.8%Current mkt cap 6,444 6,444 6,444 6,444 6,444 6,444 P/EV 0.86 0.76 0.69 0.63 0.57 0.52 VNB 410 423 441 458 477 498 NBM (2.7) (4.8) (6.6) (8.4) (10.3) (12.1)

Target multiple 0.9 Target mkt cap 8,413 Target price 9,700 Implied NBM (2.1)

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Solid EV growth We expect Korea Life to deliver on average 12% RoEV in the next four years, driven by solid growth in VIF. The contribution from VNB should be significant, making up 52% of VIF as of March 2011, based on our forecasts (adjusted from company figures to reflect lower market rates).


Starting from a low base Fifty-one percent of Korea Life’s reserve relates to high-yield guarantee policies, with a crediting rate of 6% and over. This block is contributing a sizeable negative value to VIF. Hence, we can safely assume that VIF did not have much value until recently.

Fig. 187: Korea Life: VIF breakdown (March 2010) NIER of 5.25% is used for information presented here


Fig. 188: Korea Life: VIF as % of EV Not much value In VIF for now


Significant contribution from VNB We look for strong VIF growth of 49% and 33% for FY11F and FY12F, respectively, given that we expect VNB to make up 52% of VIF as of March 2011. Of note, we use a NIER assumption of 5.0% for our VIF forecast.

Quality growth driven by new business In our view, growth driven by new business is healthier and deserves a higher valuation. We expect 46% and 43% of RoEV to be generated by addition of new business for FY11F and FY12F, respectively.

Fig. 189: Korea Life: VIF growth profile


Fig. 190: Korea Life: RoEV contribution breakdown


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VNB growth of 3% and 2% for FY11F and FY12F

Volume growth driven by bancassurance We forecast new business volume growth of 4% and 3.5% for FY11F and FY12F, respectively. We believe that our volume growth assumptions are reasonable given that the demand for wealth accumulation products is growing and Korea Life is taking advantage of the fast-growing bancassurance channel.

Fig. 191: Korea Life: APE and new business margin trend Margin should fall as policy mix shifts to lower margin products


Fig. 192: Korea Life: initial premium by channel (KRW) Initial premium growth coming from bancassurance channel


Fig. 193: Korea Life: initial premium by channel (%) Korea Life increasing exposure to bancassurance


Solicitor channel strengthened Korea Life initiated a restructuring programme for its exclusive solicitor channel at the time of IPO in March 2010. The initial premium from the exclusive solicitor channel has grown steadily of late as the company enters a rehiring cycle. We think that this trend will likely continue as Korea Life has said it plans to add more solicitors.

Increased sales through exclusive channel to support NB margin We think that the recent development in the exclusive solicitor channel will be positive for NB margin as well as volume given that the exclusive solicitor channel is more profitable than non-traditional channels. Of note, the exclusive solicitor channel sells more higher-margin traditional protection-type policies.

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3/12

FY

3/13

FY

3/14

FY

3/15

FY

3/16

FY

3/17

FY

3/18

FY

3/19

FY

3/20

FY

3/21

Annualized premium equivalent (APE)

New business margin

(Wbn) (%)

0

200

400

600

800

1Q09

2Q09

3Q09

4Q09

1Q10

2Q10

3Q10

Tied Agents Agency

Bancassurance TCM

(Wbn)

% 0

20

40

60

80

100

1Q09

2Q09

3Q09

4Q09

1Q10

2Q10

3Q10

Tied Agents Agency

Bancassurance TCM(%)


93

Fig. 194: Korea Life: number of solicitors Korea Life cut inefficient solicitors in 1Q3/10


Fig. 195: Korea Life: initial premium from solicitor channel The Initial premium from the solicitor channel is growing with rehiring


But modest VNB growth However, VNB growth is likely to be slower than volume growth due to margin pressure coming from product mix change to lower-margin wealth accumulation products.

Fig. 196: Korea Life: APE by product type (KRW) Growth driven by lower-margin annuities


Fig. 197: Korea Life: APE by product type (%) Product mix shifting to lower-margin wealth accumulation products


Higher persistency ratio positive for VNB During the financial crisis, Korea Life's persistency ratio fell sharply, with its 25-month persistency ratio falling by more than that of peers. However, we expect an improvement in the 25-month persistency ratio going forward given that the 13-month persistency ratio has bounced back quickly to pre-crisis levels and the company has entered a solicitor rehiring cycle after completing its restructuring programme.

24,000

24,500

25,000

25,500

1Q09

2Q09

3Q09

4Q09

1Q10

2Q10

3Q10

300

320

340

360

380

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460

480

1Q09

2Q09

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(Wbn)

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700

1Q

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09

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10

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3Q

10

Savings(Var)

Annuities(Var)

Protection(Var)

Savings(Gen)

Annuities(Gen)

Protection(Gen)

(Wbn)

% 0% 10% 20% 30% 40% 50% 60% 70% 80% 90

% 1001Q

09

2Q

09

3Q

09

4Q

09

1Q

10

2Q

10

3Q

10

Savings(Var)

Annuities(Var)

Protection(Var)

Savings(Gen)

Annuities(Gen)

Protection(Gen)

(%)


94

Fig. 198: 13-month persistency ratio trends Persistency ratio bouncing back quickly


Fig. 199: 25-month persistency ratio trends 25th month persistency ratio should follow 13th month soon


Equity bull market should help Korea Life The variable insurance initial premium volume fell sharply with the market crash in 2008. However, the volume started to pick up again with the market recovery in 2009. If the KOSPI continues to advance, we think the variable insurance volume will pick up further and Korea Life stands to benefit given that it has shown strength in the space.

Fig. 200: KOSPI vs variable insurance initial premium Variable insurance initial premium picking up with rising KOSPI

Source: KLIA, Quantiwise, Nomura research

Fig. 201: Initial premium breakdown Korea Life has shown strength in variable insurance


60

65

70

75

80

85

901H

04

2H04

1H05

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1H10


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1,000

1,200

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2,200

50

70

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190

2005 2006 2007 2008 2009 2010

Variable insurance FYP (LHS)

KOSPI (RHS)

(Wbn) (Index)

0 10 20 30 40 50 60 70 80 90100

1Q F

Y03

3Q F

Y03

1Q F

Y04

3Q F

Y04

1Q F

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3Q F

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3Q F

Y06

1Q F

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Y07

1Q F

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3Q F

Y08

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Y09

3Q F

Y09

1Q F

Y10

3Q F

Y10

1Q F

Y11

Pure endow Death EndowmentGroup Retirement PensionVariable(%)


95

Fig. 202: Variable insurance initial premium trend


Fig. 203: Variable insurance initial premium trend


Modest ANW growth

Not much value in VIF yet Korea Life has suffered from the low interest rate environment more so than other lifers, due to its higher average crediting rate. We think the pain will likely continue until the company rebuilds its VIF. We estimate VIF as percentage of ANW of only 12% at FY10F year end. This means that contribution from the unwinding of in-force book will likely be limited in terms of ANW growth.

Fig. 204: Korea Life: net profit trend Expect modest profit growth until Korea Life rebuild its VIF


Fig. 205: Korea Life: ROE trend


Risk margin has been under technical pressure Risk margin has been trending down since FY03 and started to stabilize. Korea Life enjoyed a hefty risk margin in the early 2000s thanks to a rapidly rising death insurance premium. Given that death insurance policies have lower claims at the early stage, rapid growth resulted in margin expansion. However, with a slowdown in recent years, the trend has reversed. In addition, the implementation of IBNR in 2004 made the falling trend worse. We think that further downside is limited going forward.

Risk margin to improve There will be no additional increase in IBNR reserve requirements. Moreover, life insurers secured flexibility in terms of pricing with the fifth mortality table in April 2006. That said, we expect risk margin to improve.

0

50

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2501Q

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10

Korea Samsung Kyobo(Wbn)

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800

1,000

1,200

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Korea Samsung Kyobo(Wbn)

0

100

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09

FY

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11F

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FY

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(Wbn)

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8.5

9.0

9.5

10.0

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09

FY

10

FY

11F

FY

12F

FY

13F

FY

14F

FY

15F

(%)


96

But risk margin improvement may not be visible We should note that risk premium from variable insurance is captured in fees from separate accounts. Given the recent surge in fees from separate accounts, we think that risk margin is already improving. However, due to accounting, we may not see the exact amount or percentage of improvement.

Fig. 206: Korea Life: risk margin (KRW)


Fig. 207: Korea Life: risk margin (%)


Loading margin also under technical pressure Loading margin has been falling sharply since FY03. We think that loading margin has been falling due to a change in accounting for acquisition costs in 2004. Prior to the accounting change, insurers capitalized estimated acquisition costs into a deferred acquisition cost (DAC) account, then amortized over seven years. Therefore, the entire loading margin was recognized up front. However, after the change, insurers now defer the actual amount, recognizing the loading margin evenly for seven years. Given that we are six years into the new accounting method, we think that additional pressure from the accounting change will be limited.

More recent fall in loading margin triggered by payment structure change We think that the past year's fall in loading margin was triggered by increasing industry competition. Insurers increased the up-front proportion of sales commission to fight off independent agents who were trying to lure solicitors away from insurers. However, we should note that total commission paid out remained the same. We think that the falling trend of loading margin due to the timing issue will eventually normalize and loading margin will improve to the mid-teens level.

Fig. 208: Korea Life: loading margin (KRW)


Fig. 209: Korea Life: loading margin (%)


0

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(%)

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(%)


97

Savings spread may fall further Despite continued dilution from low-yield floating-rate policies, saving spread has not seen a significant improvement. We do not expect a drastic improvement in the savings spread given that new money yields have been lower than the yield on existing portfolios for over two years now.

Average crediting rate too high and falling too slowly We believe that we are going through a trough in the rate cycle. However, given that Korea Life’s average crediting rate is well above 6% and falling at a slow pace as the premium growth is driven by separate accounts, we may not see an improvement in savings spread for some time.

Fig. 210: Korea Life: average crediting rate Crediting rate to fall 10~12bps pa


Fig. 211: Korea Life: % of high-yield guarantee policies 51% of reserve relates to policies with fixed rate of 6% or higher


Slower dilution effect High-yield guarantee policies still make up a significant proportion of Korea Life’s liabilities and the proportion is declining at a slow pace. Korea Life’s premium growth has come mostly from separate accounts. Hence, we think the dilution effect is minimal and will not bring down the high-yield guarantee proportion in a meaningful way in the near term.

Fig. 212: Premium trend: general vs separate accounts Premium growth driven by separate accounts


Fig. 213: Proportion of high-yield guarantee policies 51% of reserve relates to policies with fixed rate of 6% or higher


6.406.38

6.36

6.33

6.29

6.20

6.24

6.28

6.32

6.36

6.40

6.44

3Q FY09 4Q FY09 1Q FY10 2Q FY10 3Q FY10

(%)

-1.25%

-0.02% -0.13%

-1.19% -0.94%

-0.11%

-1.36%

6.51% 6.46% 6.40% 6.38% 6.36% 6.33% 6.29%

5.26%

6.44%

6.27%

5.19%5.42%

6.22%

4.93%

4%

4%

5%

5%

6%

6%

7%

-2%

-1%

0%

1%

2%

3%

4%

5%

6%

1Q FY09

2Q FY09

3Q FY09

4Q FY09

1Q FY10

2Q FY10

3Q FY10

Spread Avg. crediting rate Yield earned

0 1 2 3 4 5 6 7 8 9

10

Mar

-04

Mar

-05

Mar

-06

Mar

-07

Mar

-08

Mar

-09

Mar

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-11

(Wtr)General account Separate account

45

47

49

51

53

55


(%)


98

Improvement will take longer than expected Although we believe that we are going through a trough in the interest rate cycle, improvement in the savings spread could be slower than expected due to the recently implemented RBC. To comply with the more strict capital adequacy requirement, insurers have been adding long-dated bonds to their portfolios to reduce the duration gap. However, the timing was not in favour of insurers given that the transition to the new regulation happened at the bottom of the rate cycle.

Fig. 214: Bond portfolio breakdown by maturity (%) Buying long-dated bonds at the bottom of rate cycle


Fig. 215: Duration gap trend Reducing duration gap by adding long-dated bonds


Fees on separate accounts Separate account assets have seen a 29% CAGR over the past nine years thanks to significant demand growth and a strategic move to focus on investment-linked insurance. Currently, Korea Life earns 5.4% fees on separate account assets, down from 8.8% in FY09. However, we believe that the actual management fee will be no more than 75bp. The difference comes from pass-through items such as risk premium, maturity or surrender refunds. We have already noted that the falling trend of risk margin has stabilized. This means that fluctuation coming from the pass-through of risk premium has also stabilized. For the purpose of our earnings projection, we assume that fees from separate accounts as a percentage of separate account assets would continue to trend down by 5-10bp a year and stabilize at around 4.5% in FY16F.

Fig. 216: Separate account assets and fees (%)


0

10

20

30

40

50

60

70

80

90

100

3Q10FY09FY08FY07

Less than 1yr

1~5 yr

5 ~ 10 yr

More than 10 yrs

(%)7.76 7.74 7.71 7.67 7.65

3.48 3.47 3.503.84 3.97


4.47 4.33 4.20 3.68 3.64

0

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-14F

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Mar

-17F

(Wtr)Separate account assets (LHS) Fees (RHS)

(%)


99

Risk factors A prolonged low interest rate environment would be most negative to Korea Life given that it has the highest proportion of high-yield guarantee policies. Its exposure to PF loans could also impose risk.

Prolonged low interest rate environment

More than valuation risk In addition to valuation risk, a prolonged low interest rate environment would impose operational risks, in our view. As the market rates fall, the disparity between portfolio rates and new money rates has widened. As a result, the company could continue to post negative variances. This could undermine the credibility of EV valuation and eventually result in a lower multiple.

Could trigger minimum guarantees Korea Life provides a guaranteed minimum accumulation benefit (GMAB) on its investment-linked products and minimum return guarantees on floating-rate policies. If the market rates fall below the given threshold, these guarantees could be triggered. Once insurers find themselves in this situation, insurers may compromise risk management standards to boost yields.

Harder to acquire new business A lower interest rate environment could have a negative impact on new business volume due to a lower crediting rate.

PF loans

Korea Life has W1tn in PF loans Korea Life has W1tn in PF loans outstanding that relates to housing projects. Although the housing market has improved and unsold apartment numbers have fallen steadily for the past two years, we have seen continuous filings of court receivership by medium-size construction companies recently. That said, we think Korea Life may face downward pressure whenever PF loans become an issue in the market. The company has noted that all of its PF loans are guaranteed by larger constructors and projects are located in Seoul and metropolitan areas where demand is healthy.

Unsold units falling quickly Constructors have reduced new supply since the financial crisis and unsold units have been declining rapidly. The company has noted that most of its projects are located in Seoul and metropolitan areas where unsold units are minimal.

Fig. 217: Unsold housing unit trend Sharp drop in number of unsold units after peak in December 2008


Fig. 218: Unsold units by region Most unsold units are in provincial areas


0

30,000

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-10

(# of units)165,599 units in Dec 2008

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140

160

180

2000

2001

2002

2003

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('000 units)

Metropolitan Provincial


100

Korea Life Company overview

Company history Established in 1946, Korea Life was the first life insurance company in Korea. Korea Life has grown to become the second-largest life insurance company after Samsung Life in terms of total assets and gross premium. The company started its overseas business in 2009 by establishing a subsidiary in Vietnam.


Date History

1946. 6 Established as first life insurance company

1986. 12 Surpass total asset of W1tn


1999. 12 Acquire contracts from Duwon Life

2001. 4 Acquired contracts from Hyundai, Samshin Life

2002. 12 Joined Hanwha Group

2007. 7 Establish bases in London and New York


2009. 4 Start operations in Vietnam

2010. 3 Listed in KRX




Fig. 221: Korea life insurers ranking


Policy mix breakdown Korea Life derives 36% of total premium from protection type policies. We should note that protection type policies carry much higher embedded margin than wealth accumulation products such as annuities (56%) and savings type policies (8%). However, demand growth is coming from wealth accumulation products.

Distribution channel In terms of the distribution channel, Korea Life distributes its products mainly through traditional channels; exclusive solicitors (54%) and independent agents (12%). Bancassurance sales account for 13% of distribution (on initial premium basis), but should grow faster than other channels as the company becomes more receptive to bancassurance channel.

Hanwha E&C

24.9%

KDIC21.7%Hanwha

Corp21.7%

Hanwha Chemical

3.7%

Other Hanwha affiliates

0.0%

Others20.8%

Lazard Asset Management

7.2%

Company Amount M/S Company Amount M/S Company Amount M/S Company Amount M/S

1 Samsung Life 82,811 38% Samsung Life 99,116 36% Samsung Life 13,334 38% Samsung Life 34,440 23%

2 Korea Life 29,506 14% Korea Life 43,249 16% Korea Life 5,981 17% Korea Life 24,600 17%

3 Kyobo Life 27,105 13% Kyobo Life 39,367 14% Kyobo Life 4,568 13% Kyobo Life 22,122 15%

4 ING Life 10,311 5% ING Life 11,528 4% ING Life 1,739 5% Mirae Asset Life 8,696 6%

5 Allianz 9,462 4% Allianz 10,985 4% Prudential 1,193 3% Shinhan Life 7,834 5%

6 AIA Life 6,124 3% Shinhan Life 9,369 3% Tong Yang Life 1,095 3% Met Life 7,132 5%

7 Shinhan Life 6,044 3% Tong Yang Life 9,262 3% AIA Life 992 3% Allianz 6,821 5%

8 Tong Yang Life 5,831 3% Heung Kuk Life 8,486 3% Shinhan Life 966 3% ING Life 6,782 5%

9 Mirae Asset Life 5,722 3% KDB Life 7,397 3% Allianz 930 3% Tong Yang Life 6,033 4%

10 Heung Kuk Life 5,650 3% Mirae Asset Life 6,944 3% Met Life 763 2% Heung Kuk Life 5,029 3%

RankTotal asset (Wbn) Policy reserve (bn) Total Equity (Wbn) Exclusive solicitors (person)


101

Fig. 222: Policy mix

Source: Company data, Nomura research Note: Aggregated as of 3Q10


Source: Company data, Nomura research Note: Aggregated as of 3Q10

Management profile In February 2011, Nam-Gyu Cha was appointed the CEO of Korea Life. Prior to this position, Mr Cha was Co-vice President of insurance sales at Korea Life. He was also the head of Hanwha TechM in 2007.

Changes in shareholding structure Prior to IPO, Korea Life was 67% owned by Hanwha Group and affiliates, and 33%-owned by Korea Deposit Insurance Corporation (KDIC). After the listing, Hanwha Group and KDIC reduced their shareholdings to 54.6% and 25%, respectively.



Protection(general)

23%

Protection(separate)

13%

Annuities (general)

23%

Annuities (Separate)

33%

Savings8%

Group0%

Exclusive solicitor

54%

Independent agent12%

Bancassurance13%

Direct marketing

1%

Corporate sales20%


Tong Yang Life Insurance 082640.KS 082640 KS

INSURANCE

EQUITY RESEARCH

Attractive from all angles

15% EV growth for next four years, trading at 0.7x P/EV, legacy issue unwinding

May 16, 2011

Rating Starts at

Buy

Target price Starts at21,000

KRW 21,000

Closing price May 12, 2011

KRW 12,950

Potential upside +62.2%

Action: Initiating coverage with BUY We initiate coverage of Tong Yang Life (TYL) with a BUY rating and a PT of W21,000 (implying 62% upside). TYL is a medium-size life insurance company in Korea that has been continuously gaining market share.

Attractive valuation; 62% potential upside TYL is trading at 0.7x forward P/EV. This looks attractive, as we expect TYL to deliver average EV growth of 15% in the next four years, driven by new business growth and the unwinding of profitable in-force book. Our PT of W21,000 is based on a sustainable RoEV of 14%, a COE of 12.5% and a growth rate of 3%. Of note, we use a net interest earnings rate (NIER) of 5.0% (25bps lower than the company’s assumption).

Solid new business growth We expect TYL to deliver solid value of new business (VNB) growth, given its relatively smaller size, new growth opportunities from wealth accumulation products and proliferation of non-traditional distribution channels, in which TYL is a dominant player.

Catalysts: Legacy issue unwinding, more than a rate cycle play We expect structural improvement in TYL’s savings margin. We think the weight of reserve for high-yield guarantee policies is likely to drop below 15% by March 2015, as high-yield guarantee policies continue to expire and new low-floating rate policies dilute the in-force book.



Net premium (bn) 2,908 0 3,225 0 3,548 0 3,796

Reported net profit (bn) 161 164 186 210

Normalised net profit (bn) 161 164 186 210

Normalised EPS 1,500.2 1,527.7 1,726.3 1,948.6

Norm. EPS growth (%) 53.5 1.8 13.0 12.9

Norm. P/E (x) 8.6 N/A 8.5 N/A 7.5 N/A 6.6

Price/EV (x) 0.8 N/A 0.7 N/A 0.7 N/A 0.6



ROE (%) 15.0 13.7 13.9 14.1

ROA (%) 1.4 0.0 1.2 0.0 1.1 0.0 1.1


Anchor themes


Nomura vs consensus

Our price target, 27% higher than consensus, is the highest on the Street.

Research analysts

Korea Insurance




Nomura | ASIA Tong Yang Life Insurance May 16, 2011

103

Key data on Tong Yang Life Insurance Profit and Loss (KRWbn) Year-end 31 Mar FY09 FY10 FY11F FY12F FY13FGross premiums 2,271 2,909 3,229 3,551 3,800Government charges


Net earned premium 2,270 2,908 3,225 3,548 3,796Claims and benefit payments -1,029 -1,328 -1,499 -1,686 -1,857Change in reserves -1,034 -1,235 -1,406 -1,573 -1,713Commission and DAC expenses -387 -341 -366 -398 -430Other expenses -141 -288 -312 -331 -331Underwriting surplus -321 -283 -359 -440 -535Recurrent investment income 414 465 537 639 763Realised and unrealised gains

Investment income 414 465 537 639 763Other income


Operating profit 93 182 179 199 228Amortisation

Other non-operating income 48 38 38 39 40Associates and JCEs

Pre-tax profit 140 220 217 238 269Income tax -35 -58 -52 -52 -59Net profit after tax 105 161 164 186 210Minority interests

Other items

Preferred dividends

Normalised NPAT 105 161 164 186 210Extraordinary items

Reported NPAT 105 161 164 186 210Dividends -32 -32 -38 -43 -48Transfer to retained earnings 73 129 127 143 161


FD normalised P/E (x) 13.3 8.6 8.5 7.5 6.6FD normalised P/E at price target (x) 21.5 14.0 13.7 12.2 10.8Reported P/E (x) 13.3 8.6 8.5 7.5 6.6Dividend yield (%) 2.3 2.3 2.7 3.1 3.5Price/book (x) 1.4 1.2 1.1 1.0 0.9Investment return (%) na na na na naRecurrent investment return (%) na na na na naNon-recurrent return/invt. return (%) 0.0 0.0 0.0 0.0 0.0Price/EV (x) 0.9 0.8 0.7 0.7 0.6Price/implied VNB (x) -0.7 -1.8 -3.1 -4.3 -5.5Loss ratio (%)

Combined ratio (%)


Growth (%)

Life premiums 28.1 11.0 10.0 7.0Non life premiums na na na naNet profit 53.5 1.8 13.0 12.9Normalised EPS 53.5 1.8 13.0 12.9Normalised FDEPS 53.5 1.8 13.0 12.9Source: Nomura estimates

Notes

Premium growth to outpace industry average as the company gains market share.


(%) 1M 3M 12M

Absolute (KRW) 2.8 2.8 0.0

Absolute (USD) 2.6 6.4 4.2

Relative to index 0.9 -4.9 -28.8



14700/11200


1.49

Major shareholders (%) Vogo Fund 58.4

11000

11500

12000

12500

13000

13500

14000

14500

15000

65

70

75

80

85

90

95

100

105

Jun

10

Jul 1

0

Aug

10

Sep

10

Oct

10

Nov

10

Dec

10

Jan

11

Feb

11

Mar

11

Apr

11

May

11



104

Balance Sheet (KRWbn) As at 31 Mar FY09 FY10 FY11F FY12F FY13FCash and deposits 167 407 504 615 731Bonds 3,219 4,430 5,617 6,643 7,632Equities 245 242 440 716 1,075Unit trusts

Loans and mortgages 2,352 2,681 3,176 3,691 4,172Foreign investments 172 261 530 910 1,412Real estate 688 460 566 684 808Other investments 1,351 1,007 983 1,213 1,459Total investments 8,195 9,488 11,815 14,472 17,290Deferred acquisition costs 799 830 896 974 1,053Prepaid and unearned prem. reserves


Fixed assets

Goodwill

Separate account assets 1,676 1,819 1,950 2,081 2,215Other assets 416 305 339 373 399Total assets 11,087 12,442 15,000 17,900 20,955Insurance reserves 7,810 8,978 11,313 13,914 16,686Catastrophe reserves






Other liabilities 541 47 -633 -1,499 -2,740Total liabilities 10,066 11,313 13,734 16,492 19,386Minority interest

Common stock 743 751 751 751 751Preferred stock

Retained earnings 223 320 447 589 750Proposed dividends

Other equity 55 58 69 69 69Shareholders' equity 1,021 1,129 1,266 1,408 1,569Total liabilities and equity 11,087 12,442 15,000 17,900 20,956






Per share

Reported EPS (KRW) 977.15 1,500.19 1,527.67 1,726.25 1,948.59Norm EPS (KRW) 977.15 1,500.19 1,527.67 1,726.25 1,948.59Fully diluted norm EPS (KRW) 977.15 1,500.19 1,527.67 1,726.25 1,948.59DPS (KRW) 300.00 300.14 350.16 400.19 450.21BVPS (KRW) 9,494.34 10,497.94 11,768.74 13,094.80 14,593.18Life/LT EVPS (KRW) 13,864.24 15,555.49 17,630.81 19,765.23 22,144.13Life/LT VNBPS (KRW) 1,320.32 1,427.28 1,494.47 1,569.47 1,663.49Value of non-life bus. PS (KRW) 0.00 0.00 0.00 0.00 0.00Source: Nomura estimates

Notes

Unwinding of profitable in-force book to drive earnings growth.


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Attractive from all angles We initiate coverage of Tong Yang Life (TYL) with a BUY rating and a PT of W21,000. We believe TYL provides a cheap entry point, considering its solid growth profile and likelihood of becoming the first Korean life insurer to be free from negative spread legacy issues, making it more than just a rate cycle play.

Solid growth profile

EV growth of 15% for the next four years We believe TYL is able to deliver average EV growth of 15% over the next four years, driven by new business growth and the unwinding of profitable in-force book. We forecast its VNB will grow 5% in each of FY11F and FY12F. Although we expect demand growth to come from its less profitable wealth accumulation products, we believe TYL is able to grow its VNB through faster volume growth, thanks to proliferation of non-traditional distribution channels in which TYL is a dominant player.

Gaining market share In our opinion, TYL should deliver solid VNB growth given its relatively smaller size and proliferation of non-traditional distribution channels. TYL’s regular initial premium market share increased from 1.9% in 2001 to 6.3 % in the first three quarters of FY10, due to its early adoption of non-traditional distribution channels. Of note, TYL is the third-largest player in direct marketing channels in the Korean insurance segment with a 9.0% share vs a 2.5% share for the exclusive solicitor channel.

Competition weakening The reluctance of the three largest Korean life insurers (Samsung Life, Korea Life and Kyobo Life) to adopt fast-growing non-traditional channels, due to channel conflicts with the exclusive solicitors, should enable TYL to gain further market share, in our view. TYL will also likely benefit from foreign life insurers and other medium size domestic life insurers that lost a large number of exclusive solicitors during the financial crisis.

Embedded profitability to improve We expect TYL’s loading margin to improve, as it enjoys greater operating leverage with growth. Its risk margin should also improve, as the company increased its death benefit proportion (vs. living benefit) amid an improving mortality rate and increased flexibility in the use of mortality table as of 2006.

Positive long-term industry outlook We see growth opportunities for Korean life insurers as they transform into wealth managers and providers of protection for longevity from providers of protection against mortality and morbidity risks. We believe that, as the first baby boomers (born in 1946~1964) start to retire, the demand for products that provide lifetime income and long-term care insurance will likely pick up. The second group of baby boomers (born in 1968~1976) will be the continued source of demand for death insurance and investment-oriented life insurance products (with tax advantages), in our view.

Buying at the bottom of a rate cycle

Trading at 0.7x P/EV TYL is now trading at 0.7x forward P/EV. We think the stock is trading at a very depressed level due to a flatter yield curve. Although the central bank, Bank of Korea, has raised its key policy rate by 100bps since July 2010, the long-end of the yield curve has been falling continuously. However, we believe the long-end should start to rise in 2H11F.

Long-term benefits from rising interest rates The benefit from rising interest rates is clearly evident for TYL, given that fixed-rate policies make up 56% of its in-force book. A 50bps increase in investment yield assumption would boost its EV by 9.5%, according to our sensitivity analysis.


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Rate hike campaign to continue Our economist Young Sun Kwon expects two more rate hikes for the rest of 2011, and another two in 1H12F, lifting the terminal policy rate of the current cycle to 4.0% by 2Q12F. Meanwhile, he thinks that real policy rates should remain negative, doing little to limit inflationary pressure unless it is combined with KRW appreciation.

Bond market will eventually react to growing concerns on inflation Young Sun notes that CPI inflation should rise above 4% in 2011F, exceeding the BOK's target band. Interest rate hikes, coupled with a stronger KRW and price control, should partly offset cost-push inflation pressures from higher oil prices. However, rising nominal wages and housing rents are also adding to inflation. Young Sun forecasts Korea’s CPI inflation to rise from 2.9% in 2010 to 4.4% in 2011F, before easing to 3.6% in 2012F. We think that the long end of the bond market will eventually react to growing concerns on inflation.

Foreign capital inflow to slow Whether hunting for better yields or expecting KRW appreciation, foreign capital inflows have been adding pressure on the long-end since 2H 2009. However, with the ECB turning hawkish and the Fed's QE2 programme winding down, foreign capital inflows may slow and we may even witness outflows going forward. We think that the long-end of the yield curve could be lifted with rising interest rates in developed markets, as we have seen in 4Q10. In addition, the recent strengthening of KRW could hinder foreign capital inflows (funds pouring into Korea on expectations of KRW appreciation), further lifting pressure on the long-end.

Long-end to rise slowly but surely Young Sun forecasts that the five-year treasury yield will start to rise in 3Q11F and reach 4.5% by the end of 1H 2012F from the current yield of 4.0%, and the three-year treasury will reach 4.2% by the end of 1H 2012F from the current yield of 3.6%.

Legacy issue unwinding

First to be free from negative books TYL was relatively smaller in the 1990s when high-yield guarantee policies were sold, with less than 2% of market share compared with the current share of 6.7%. This has given TYL a relatively smaller negative spread book. We expect the reserve for high-yield guarantee policies as a proportion of total interest-bearing reserve to fall below 15% by FY15F from 30% in FY11F, as high-yield guarantee policies continue to expire and new low-yield floating rate policies dilute the in-force book.

Structural improvement We think Korea’s larger life insurers will likely move with the market rates, due mainly to their large negative spread books. However, as we expect TYL to be free from the legacy issue in the medium term, we believe the stock will be less affected by the market rates.

Potential M&A play

Vogo Fund now the largest shareholder Tong Yang Group sold a 44.05% stake in TYL to Vogo Fund and a 2.46% stake to MinJu Lee at a price of KRW18,000 on 23 March 2011. MinJu Lee is the former chairman of C&M (a cable company now owned by Macquarie and MBK Partners). Tong Yang Group now only owns 3% of TYL.

MinJu Lee could take over if he wants Tong Yang Group has an option to buy back 30% share from Vogo Fund. This means that Vogo could sell the rest of its stake (27.55%) to any party. If MinJu Lee were to buy the stake and purchase an additional 3% in the market, he would become the largest shareholder. Given that he has sold C&M for KRW1.46tn, we would think he has significant capital for investment.


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PF loans could impose risk

W270bn in PF loans We are not totally comfortable with the asset quality of TYL’s loan portfolio, as the company has W270bn (25% of shareholders’ equity) in project financing (PF) loans relating to real estate projects. We have seen several contractors in Korea turning to court receivership lately.

Court receivership / workout of construction companies Earlier this year, we witnessed the court receivership / workout cases of several construction companies ranked in the Top 100 by building capacity. The names include World Construction, Jin Heung Corp, LIG E&C, Dongyang E&C and Sambu Construction.

Restructuring of construction sector winding down However, exposure for the insurance sector remains limited with a smaller PF loan balance of KRW4.9tn, which translates to only 7% of the total KRW67tn in PF loans remaining in the system. In addition, almost 40 constructors previously ranked in the Top 100 have entered court receivership / workout programmes. That said, the possibility of more firms following suit remains low, in our view.

Fig. 225: Constructors ranked in Top 50 that have entered workout / court receivership


Limited downside risk Going forward, we expect default from the construction sector to be largely mitigated, given: 1) continuing signs of recovery in the domestic housing market; and 2) high likelihood for major shareholders to make capital injections to free up liquidity. According to local press (Korea Economic Daily, 3 May, 2011), Doosan Group announced a capital injection of KRW500bn to its affiliate Doosan E&C. Hyosung, STX Group and Daelim Industrial have followed suit with similar capital injections to free up liquidity for affiliates in the construction sector.

Rank Construction Firm Rank Construction Firm

12 Kumho Industrial 38 Namkw ang Corp

17 Kyeongnam Corp 39 Hanil Construction

22 Halla E&C 40 Jinheung Corp.

25 Poonglim Industrial 47 Samho

26 Byucksan E&C 49 Hw asung Industrial

31 Shindongah Construction 46 Kumkw ang Corp

35 Namyang E&C 44 Dongyang E&C


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Fig. 226: TYL- Financial Summary


Profit and Loss StatementsWon billions, Year ending Mar 31 FY07 FY08 FY09 FY10F FY11F FY12F FY13F FY14F FY15FTotal Premium 2,447 2,590 2,883 3,553 3,906 4,266 4,554 4,839 5,081 General Account 1,860 2,028 2,270 2,908 3,225 3,548 3,796 4,043 4,245 Separate Account 586 562 613 645 681 718 758 796 835

Premium Income 1,862 2,030 2,271 2,909 3,229 3,551 3,800 4,047 4,249Risk Premium 240 257 272 344 371 398 414 429 438Loading Premium 643 715 691 698 759 817 855 890 914Savings Premium 978 1,056 1,307 1,866 2,099 2,337 2,531 2,728 2,898

Benefits Paid 205 233 247 307 330 354 369 382 390U/W Expenses 538 611 524 628 682 732 765 795 815

Net of Acquisition Costs & DAC Deferral 20 12 12 20 0 0 0 0 0Acquisition Cost 428 485 395 388 432 476 509 542 569DAC Deferral (409) (473) (383) (368) (432) (476) (509) (542) (569)

Amortization of DAC 276 378 387 341 366 398 430 463 493Net Increase in DAC 132 95 (4) 31 66 78 79 79 76Maintenance Costs 110 126 129 237 249 257 256 253 246

Maturity & Surrender Refund 894 918 901 1,021 1,169 1,332 1,488 1,664 1,846Changes in Premium Reserve 461 580 919 1,235 1,406 1,573 1,713 1,855 1,971Net Investment Income 322 325 414 465 537 639 766 914 1,071

Risk & Loading Margins 139 128 192 106 118 128 135 142 147Savings Margin (56) (118) (100) 75 61 72 95 123 152Operating Profit 83 11 93 182 179 200 230 265 299Non-operating Profit 22 30 48 38 38 39 40 42 44

Commission Income (Separate Account) 27 46 52 43 45 46 48 49 52Others (6) (15) (5) (5) (7) (7) (7) (7) (8)

Pre-tax Profits 105 41 140 220 217 239 271 307 344Effective Tax 23 8 35 58 52 53 60 67 76Net Profits 81 33 105 161 164 186 211 239 268

Selective Balance Sheet DataFY07 FY08 FY09 FY10F FY11F FY12F FY13F FY14F FY15F

Total Assets 8,013 9,140 11,087 12,442 15,000 17,921 21,023 24,315 27,728Invested Assets 6,011 6,689 8,183 9,488 11,815 14,494 17,357 20,410 23,592

Cash & Deposits 461 230 167 312 393 484 580 682 788Securities 3,134 3,749 4,987 5,442 7,065 9,024 11,236 13,717 16,440

Stocks 364 273 245 280 421 610 851 1,150 1,511Other Equity Investment 23 25 26 26 28 29 28 23 16Fixed Income Instrument 2,747 3,450 4,715 5,136 6,616 8,384 10,357 12,543 14,913

Net Loans 1,824 2,050 2,352 3,055 3,564 4,078 4,530 4,912 5,198Real Estate 592 661 676 678 793 908 1,011 1,099 1,166

Non-invested Assets 970 1,185 1,228 1,135 1,235 1,347 1,451 1,557 1,654DAC 709 803 799 830 896 974 1,053 1,132 1,208Others 261 382 428 305 339 373 399 425 446

Separate Account Assets 1,032 1,266 1,676 1,819 1,950 2,081 2,215 2,348 2,483

Total Liabilities 7,479 8,494 10,066 11,314 13,734 16,513 19,452 22,552 25,746Policy Reserve 6,012 6,778 7,833 8,978 11,313 13,914 16,686 19,618 22,649

Premium Reserve 5,758 6,505 7,501 8,613 10,948 13,526 16,282 19,200 22,223Reserve for Outstanding Claims 232 251 288 319 343 368 383 396 404Reserve for Unearned Premium 4 3 2 2 0 0 0 0 0Reserve for Policyholders' Dividend 18 20 21 21 21 21 21 21 21Excess Reserve for Policyholders' Dividend 3 1 2 4 4 4 4 4 4Reinsurance Premium Reserve 0 0 0 0 0 0 0 0 0

Adjustment of Policyholder 2 11 17 20 20 20 20 20 20Other Liabilities 394 421 500 409 452 497 532 567 595Separate Account Liabilities 1,032 1,266 1,676 1,819 1,950 2,081 2,215 2,348 2,483

Total Shareholders' Equity 534 646 1,021 1,129 1,266 1,409 1,572 1,762 1,982Paid in Capital 438 484 538 543 543 543 543 543 543Capital Surplus 7 81 205 207 207 207 207 207 207Retained Earnings 86 118 223 320 447 590 753 944 1,163Capital Adjustment 3 (37) 54 58 68 68 68 68 68


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Fig. 227: TYL per share data and performance ratios


Per Share DataWon billions, Year ending Mar 31 FY07 FY08 FY09 FY10F FY11F FY12F FY13F FY14F FY15FEarnings Per Share (Won) 961 337 977 1,502 1,529 1,731 1,964 2,225 2,493Book Value Per Share (Won) 6,328 6,680 9,494 10,495 11,767 13,099 14,613 16,388 18,430ROA (%) 1.1 0.4 1.0 1.4 1.2 1.1 1.1 1.1 1.0ROE (%) 16.7 5.5 12.6 15.0 13.7 13.9 14.2 14.4 14.3EPS Growth (%) 17.0 (64.9) 189.6 53.7 1.8 13.2 13.5 13.3 12.0

Gross Dividend 0 0 0 32 38 43 48 48 48DPS (Won) 0 0 0 300 350 400 450 450 450Dividend Payout Ratio (%) 0.0 0.0 0.0 6.0 6.0 6.0 5.5 5.5 5.0Issued Shares (million) - Common 84 97 108 108 108 108 108 108 108

PERFORMANCE RATIOSWon billions, Year ending Mar 31 FY07 FY08 FY09 FY10F FY11F FY12F FY13F FY14F FY15FGrowth (%)Total Premium 30.6 5.9 11.3 23.3 9.9 9.2 6.7 6.3 5.0 General Account 17.7 9.0 11.9 28.1 10.9 10.0 7.0 6.5 5.0 Separate Account 100.8 (4.2) 9.1 5.3 5.5 5.5 5.5 5.0 5.0Risk Margin 77.3 (30.7) 7.9 43.6 11.8 7.1 4.1 3.6 2.0Loading Margin (9.9) (0.8) 59.6 (58.1) 10.5 9.4 6.4 5.8 4.2Savings Margin NM NM NM NM (0.2) 0.2 0.3 0.3 0.2Commission Income 45.5 66.5 14.4 (17.8) 4.3 2.1 4.0 3.6 5.8Net Profits 23.9 (59.7) 221.8 53.7 1.8 13.2 13.5 13.3 12.0Total Assets 18.0 14.1 21.3 12.2 20.6 19.5 17.3 15.7 14.0Invested Assets 12.4 11.3 22.3 16.0 24.5 22.7 19.8 17.6 15.6Net Loans 21.3 12.4 14.8 29.9 16.7 14.4 11.1 8.4 5.8Policy Reserve 12.1 12.7 15.6 14.6 26.0 23.0 19.9 17.6 15.4Shareholders' Equity 22.6 21.1 58.0 10.5 12.1 11.3 11.6 12.1 12.5

Premium Income Mix (%)Risk Premium 12.9 12.7 12.0 11.8 11.5 11.2 10.9 10.6 10.3Loading Premium 34.5 35.2 30.4 24.0 23.5 23.0 22.5 22.0 21.5Savings Premium 52.5 52.0 57.5 64.2 65.0 65.8 66.6 67.4 68.2

Margin Analysis (%)Risk Margin / Risk Premium 14.2 9.2 9.3 10.6 11.0 11.0 11.0 11.0 11.0Loading Margin / Loading Premium 16.4 14.6 24.1 10.0 10.2 10.3 10.5 10.7 10.8Savings Margin / Savings Premium (5.8) (11.1) (7.6) 4.0 2.9 3.1 3.8 4.5 5.3Net Investment Yield 5.8 5.3 5.7 5.4 5.2 5.0 4.9 5.0 5.0Net Interest Margin 6.0 6.8 6.5 5.7 5.5 5.3 5.3 5.3 5.4Effective Comm. Rate on Separate Account 3.3 4.0 3.6 2.5 2.3 2.2 2.2 2.1 2.1

Investment Mix (%)Cash & deposits 7.7 3.4 2.0 3.3 3.3 3.3 3.3 3.3 3.3Securities 52.1 56.0 60.9 57.4 59.8 62.3 64.7 67.2 69.7Net loans 30.3 30.6 28.7 32.2 30.2 28.1 26.1 24.1 22.0Real estate 9.8 9.9 8.3 7.2 6.7 6.3 5.8 5.4 4.9

Securities Mix (%)Stock 11.6 7.3 4.9 5.1 6.0 6.8 7.6 8.4 9.2Money invested 0.7 0.7 0.5 0.5 0.4 0.3 0.2 0.2 0.1Gov't and public bonds 20.9 9.1 28.0 23.1 30.1 29.7 29.3 28.8 28.4Special bonds 17.9 21.4 23.3 22.4 22.0 21.6 21.2 20.8 20.4Corporate bonds 21.5 21.0 13.2 9.5 9.6 9.6 9.7 9.8 9.9Beneficiary certificates 16.9 15.9 12.5 24.5 21.8 19.0 16.3 13.5 10.8Overseas securities 6.3 5.8 3.4 2.6 5.5 8.4 11.3 14.2 17.1Structured securities 0.0 0.0 0.0 0.0 0.5 1.0 1.5 2.0 2.5Others 4.1 4.6 3.8 4.8 4.2 3.6 2.9 2.3 1.6

Balance Sheet Strucuture (%)Avg Equity/Avg Assets 6.5 6.9 8.2 9.1 8.7 8.1 7.7 7.4 7.2Avg Invested Assets / Avg Asets 76.7 74.0 73.5 75.1 77.6 79.9 81.8 83.3 84.5Avg Separate Account Assets / Avg Asets 11.2 13.4 14.5 14.9 13.7 12.2 11.0 10.1 9.3Policy Reserve / Premium Income 322.9 333.9 344.9 308.7 350.4 391.8 439.1 484.8 533.0Period-End Equity/Assets 6.7 7.1 9.2 9.1 8.4 7.9 7.5 7.2 7.1Avg Equity / Premium Income 26.0 29.1 36.7 37.0 37.1 37.7 39.2 41.2 44.1Solvency Margin Ratio 217.3 180.1 258.1 261.7 261.5 261.2 260.2 258.9 257.1


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Valuation TYL is trading at an attractive multiple of 0.7x forward P/EV. As the long-end of the yield curve starts to rise, we think the stock should trade up to our target price of W21,000. Rising market rates are a key share-price catalyst, in our view.

PT of W21,000, implying significant upside

Valuation attractive trading at 0.7x forward P/EV We value TYL on an embedded value basis, applying a P/EV multiple of 1.2x forward EV. We assume a sustainable RoEV of 14%, a COE of 12.5% and a growth rate of 3%. We used a higher COE than other life insurers to reflect TYL’s relatively smaller size and liquidity.

Our RoEV forecast could be on the conservative side Of note, our estimated sustainable RoEV would be 1ppt higher if we were to exclude the negative variance we have reflected in our forecast; we noticed the negative variance in FY08 and FY09. We would likely remove the assumed negative variances should we gain more confidence in TYL's EV.

EV adjusted to reflect lower market rates We assume a lower net investment earnings rate (NIER) for the purpose of EV forecast. TYL used an NIER of 5.25% for its FY09 EV calculation. In comparison, we assume an NIER 5.0%.

Fig. 228: EV projection and PT


PT would be KRW30,000 based on the appraisal value methodology The implied NBM is 2.4x our PT. However, using the appraisal value method, we could justify up to 8.0x NBM. Of note, we only reflect a 10-year projection in our NBM calculation. Typically, a 30-year DCF model is used in the region to derive NBM. However, due to the infancy of the EV valuation methodology in Korea, we do not want to pay for more than 10 years.

More appropriate to use P/EV There is upside potential to our PT using the appraisal value method. However, we think it is more appropriate to use the P/EV methodology for TYL, given some negative variance seen in the EV, which may not be captured in the NBM technique. In addition, the technique ignores near-term changes in EV growth profile.

Fig. 229: VNB projection and target NBM using appraisal valuation method



Target multiple 1.2 Target mkt cap for insurance business 2,274 Target price 21,000 Implied NBM 2.4

(Wbn) FY11F FY12F FY13F FY14F FY15F FY16F FY17F FY18F FY19F FY20FAnnualized premium equivalent (APE) 992 1,062 1,136 1,210 1,282 1,353 1,421 1,477 1,536 1,598 New business margin 16.2% 15.9% 15.8% 15.7% 15.7% 15.6% 15.5% 15.5% 15.5% 15.5%Value of new business (VNB) 161 169 179 190 201 211 221 229 238 248 Discount factor 1.0 1.1 1.2 1.4 1.5 1.7 1.9 2.1 2.3 2.6 PV of VNB 161 152 145 139 132 125 118 110 103 97 Sum of PV 1,283 Implied multiple 8.0


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Valuation cross-check

With Samsung F&M Samsung F&M is trading at a trailing P/EV of 1.3x and an NBM of 4.3x; historically, it has never traded below 1.1x trailing P/EV. In comparison, TYL is trading at a trailing P/EV of 0.8x and negative NBM. We believe TYL's EV growth profile measures up to that of Samsung F&M. Samsung F&M's average EV growth over the past five years is 15% compared to 15% for TYL for the next four years. That said, we think that the risk is greater on the upside in terms of valuation multiple.

Fig. 230: Samsung F&M P/EV trend Five year average P/EV was 1.6x


Fig. 231: Samsung F&M NBM trend Five year average NBM was 8.3x


With PBR methodology As more profitable new businesses continue to flow into its in-force book, we think return on shareholders' equity will likely improve to reach a sustainable level of 15% in the medium term. Our PT would be KRW15,000 (implying 19% upside) based on the PBR methodology.

But PBR could be misleading Given the long-tail nature of life insurance, we believe current earnings and book value cannot capture the value of current in-force book, especially if there is a significant difference in profitability between in-force book and new business (which is the case for Korean lifers who have been suffering from negative spread on legacy products). That said, investors should not miss out on TYL that looks attractive even on P/BV.


Rising interest rate positive for EV Rising market rates are a potential positive catalyst for the share price of TYL. Based on the sensitivity analysis provided by the company, a 50bps increase in investment yield assumption would boost the value of its in-force book by 27% and EV by 9.5%. Of note, the investment yield assumption is 5.25% and the actual yield for the first three quarters of FY11 is 5.7%. By comparison, the current average crediting rate is 5.67%.

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Fig. 232: EV sensitivity EV most sensitive to change in NIER assumption


Fig. 233: EV sensitivity in % 50bps increase in NIER assumption to boost EV by 9.5%


VNB more sensitive to risk discount rate and lapse ratio VNB is not sensitive to interest rates unlike VIF, as most of TYL’s new businesses are floating rate policies. VNB is rather sensitive to the lapse ratio since most policy cancellations occur in the first twenty five months and by definition, new business includes policies acquired in the past one year.

Fig. 234: VNB sensitivity VNB is not sensitive to NIER assumption


Fig. 235: VNB sensitivity in % VNB most sensitive to lapse ratio assumption


PT assuming 50bps increase in NIER

PT change would be minimal Our PT would not change in a meaningful way even if we were to assume a higher NIER, as it would only result in a lower RoEV eliminating low base effect. In addition, it would take time for higher market rates to flow through the fixed income portfolio.

We would not change TYL’s PT For TYL, we would not change our PT even with a higher NIER assumption. While we could lower our target multiple from 1.2x to 1.1x to reflect a lower RoEV in the near term, we believe RoEV will likely pick up in the medium term as higher market rates flow through its fixed income portfolio. Eventually, we should be able to apply a higher target multiple.

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Fig. 236: TYL’s EV projection and PT assuming 50bps increase in NIER Our PT would not change even assuming higher NIER



Target multiple 1.1 Target mkt cap 2,161 Target price 21,000 Implied NBM 1.2


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15% EV growth for next four years We expect TYL to deliver average EV growth of 15% a year for the next four years, driven by unwinding of profitable in-force book and solid new business growth.

Ahead of competition

Proliferation of non-traditional distribution channel has been the key TYL has been growing faster than its peers by expanding into non-traditional distribution channels. The Korean insurance market is still a push market where increasing points of contact with potential customers results in volume growth. TYL has the third-highest market share in direct marketing channels such as home shopping TV networks, Internet and telemarketing.

TYL is gaining market share Given that the non-traditional channels are growing faster than the traditional channels, we expect TYL to gain additional market share going forward. Of note, TYL holds a 9.0% share of non-traditional channel (bankassurance and direct marketing channels) compared with 2.5% for the traditional channels (exclusive solicitor and employees). TYL’s regular initial premium market share increased from 1.9% in 2001 to 6.3% in 2008.

Fig. 237: Traditional channel market share TYL has 2.5% MS of exclusive solicitor channel


Fig. 238: Non-traditional channel market share TYL has 9.0% MS of non-traditional channel


Balanced channel strategy The proportion of new business acquisition by bancassurance recently increased sharply due to increased demand for savings-type of policies. However, the company still maintains a better balanced distribution channel than its peers, in our view. We think that the multi-channel strategy is the right approach as it reduces dependency on one particular channel and allows faster implementation of new channel strategy.

Fig. 239: TYL's initial premium by channel


Fig. 240: TYL's new business market share trend


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(%)

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4

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14

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rea

KB

Car

dif

Wo

ori

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va

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sun

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ng

Yan

g

Alli

anz

Sh

inha

n

(%)

0

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Mar07 Mar08 Mar09 Mar10 Dec10

Banassurance Independent agents Direct marketing Solicitors(%)

4.8%5.0%

5.8%

6.1%6.3%

4.0

4.5

5.0

5.5

6.0

6.5

Mar07 Mar08 Mar09 Mar10 Jan11

(%)


115

Competition weakening

The big three still not receptive of non-traditional channels The reluctance of the three largest Korean life insurers (Samsung Life, Korea Life and Kyobo Life) to adopt the fast-growing non-traditional channels, due to channel conflicts with the exclusive solicitors, should help TYL to gain further market share, in our view.

Foreign players damaged heavily during the crisis TYL should also benefit from foreign life insurers, namely ING Life and PCA Life, losing a large number of exclusive solicitors during the financial crisis. We have not seen foreign lifers rebuilding their sales force yet.

Other medium size local players were also damaged heavily In addition, we note that TYL's domestic competitor KDB Life (unlisted) has had deployed a similar distribution strategy but it weakened during the financial crisis. KDB Life, formerly Kumho Life, incurred significant investment losses during the financial crisis, which drag down its solvency margin to mere 30%. The company was later sold to Korea Development Bank. Mirae Asset Life (unlisted) also lost a large number of solicitors during the crisis. Mirae Asset Life had grown fast on the back of growing demand for investment linked insurance and its reputation as a leading asset manager. However, during the crisis, its new business volume for investment linked products fell sharply and so did the solicitors.

Fig. 241: ING Life & PCA Life solicitor trend ING Life and PCA Life lost 38% of their solicitors


Fig. 242: KDB Life & Mirae Asset Life solicitor trend KDB and Mirae Asset Life lost 33% of their solicitors


Fig. 243: Initial premium market share Foreign lifers losing out


Fig. 244: Medium size lifers' market share Mirae Asset and KDB losing out


6,000

7,000

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3Q08 4Q08 1Q09 2Q09 3Q09 4Q09 1Q10 2Q10 3Q10 4Q10

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3Q08 4Q08 1Q09 2Q09 3Q09 4Q09 1Q10 2Q10 3Q10 4Q10

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Ma

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10

Samsung Kyobo Korea SME Foreign

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Tong Yang Mirae asset Kumho Shinhan


116


In-force book growing fast We like TYL since its already profitable in-force book is growing at a fast pace, thanks to solid VNB growth. We expect VIF to grow 16% and 15% in FY11F and FY12F, respectively, driven by new business growth.

Significant contribution from VNB TYL's VNB as a proportion of VIF is significant at 29%. Of note, we have adjusted its VIF by lowering the NIER to 5% from 5.25%. We estimate VNB growth of 5% for each of FY11F and FY12F. Note that if we were to remove negative variances we reflected for the purpose of the VIF projection, then our VIF growth estimates would be 22% and 19% for FY11 and FY12, respectively.

Quality growth driven by new business In our view, growth driven by new businesses is healthier and deserves a higher valuation. We expect 34% of EV growth to come from the addition of VNB over the next two years.

Fig. 245: VIF growth profile


Fig. 246: RoEV contribution breakdown


VNB growth of 5% for FY11F and FY12F

Solid VNB growth We forecast VNB growth of 5% for each of FY11F and FY12F. We think that TYL should grow its annual premium equivalent (APE) by 7% on average for FY11F and FY12F, driven by continuous market share gain. Meanwhile, we believe that the new business margin will likely fall continuously given that most of growth is coming from lower-margin savings type policies and investment-linked products.

Fig. 247: APE and NB margin forecast


393 478 569

663

158 167

175 183

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VIF-VNB VNB(Wbn)

10.3% 9.4% 9.6% 10.0%

5.6%5.2% 4.8% 4.5%

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APE sales (Won bn) NB profit margin(Wbn) (%)


117

Not too concerned about product mix change There have been some concerns on the company’s increased proportion of savings type policies in new business. Although its overall new business margin could fall (as savings type policies have lower embedded margins due to their lower risk premium proportion), we are not overly concerned given that the company is not shifting its existing channel capacity to savings type policies. The company has noted that the increase in the savings type policy proportion comes from adding additional bancassurance capacity.

Fig. 248: Policy mix trend Proportion of lower margin savings type increasing


Fig. 249: APE by policy type (KRW) But not at the expense of higher margin protection type


Slower persistency ratio recovery is a concern Samsung Life and Korea Life have shown a quick recovery in the thirteenth month persistency ratio. However, TYL's persistency ratio is not recovering as fast. TYL has noted that the most recent figures show that persistency ratio is improving steadily. We would become less bullish if its persistency ratio fails to recover to levels seen before the financial crisis. Of note, VNB is most sensitive to the persistency ratio.



Fig. 251: Current 25th month persistency ratio is 56^


12% and 11% ANW growth for FY11F and FY12F

ANW growth driven by unwinding of profitable book TYL's VIF, as a proportion of EV, is the highest among listed life insurers at 33% (based on FY11F) compared to 29% for Samsung Life and 11% for Korea Life. We think that the unwinding of profitable VIF should result in 12% and 11% ANW growth for FY11F and FY12F, respectively. We forecast TYL's earnings will grow by 13% and 12% in FY11F and FY12F, respectively. We attribute the projected earnings growth to strong improvement in premiums and risk and loading margins. In addition, we expect steady growth in commission income from separate accounts.

27% 21%32% 36%

40%43%

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118

Fig. 252: Net profit projection

Source: Nomura model based

Fig. 253: ROE projection

Source: Nomura model based

In-force book profitability is improving We expect the profitability of in-force book to improve, driven mainly by improvement in loading margin and savings margin. We expect TYL’s loading margin to improve on increased operating leverage. In addition, savings margin is also expected to improve as the weight of high-yield guarantee policies declines.

Loading margin to improve TYL has one of the lowest operating expense ratios among Korea lifers. Its expense ratio is even lower than those of the Big-Three insurers, which have a much bigger scale. We think that with volume growth, TYL should enjoy operating leverage and improve its loading margin.

Fig. 254: TYL to enjoy greater operating leverage


Fig. 255: Loading margin improving


Risk margin to improve TYL’s risk margin has been falling due the implementation of IBNR in 2004. Lifers started to reserve for IBNR in FY04. The reserve rate was increased every year to 10% in FY06. We think that further pressure from the IBNR reserve is limited, given that there will be no additional increase in IBNR reserve requirements. Hence, we expect the risk margin of TYL to improve, as the company increased the death benefit proportion amid an improving mortality rate and increased flexibility in the use of mortality table as of 2006.

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Fig. 256: Mortality/morbidity margin improving


Fig. 257: Risk margin improving


Fees on separate account TYL’s separate account assets saw a 30% CAGR over the past ten years, due to significant growth of investment linked insurance. Currently, TYL earns 2.4% fees on separate account assets, a drop from 4.0% in FY09. We believe the actual management fee collected should be 50bps to 75bps. The difference comes from pass-through items such as risk premium, maturity or surrender refunds. We expect the fees from separate account as a percentage of separate account asset to continue to trend downward, stabilizing at around 2.1% in FY17F.

Fig. 258: Fees on separate account Fees as % of total asset to stabilize at around 2%


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Legacy issue unwinding TYL should be free from problematic high-yield guarantee policies in the medium term, in our view. We think the larger lifers will likely move with the market rate owing to their large negative spread books, but the legacy issue is actually unwinding for TYL.

High-yield guarantee policies maturing

Large exposure to high-yield guarantee policies TYL, in our view, has been suffering from high-yield guarantee policies which it had sold in the 1990s. Currently, 55.5% of its savings reserves represent fixed crediting rate policies, and 30.7% of its fixed crediting rate policies have a guaranteed yield above 5%.

Fig. 259: Fixed vs. floating policy


Fig. 260: Fixed crediting rate with yield higher than 5%


High-yield guarantee policies maturing slowly The high-yield guarantee policies sold in the 1990s have less probability of being surrendered, in our view. Moreover, above 70% of the policies have a maturity of 20 years and longer. However, we have seen a decline in the absolute amount of reserves by 6.4% for TYL. Theoretically, if there was no surrender or maturing, then the reserve amount should increase by 7.53% (average crediting rate for high-yield guarantee policies), based on our estimates. However, the absolute amount of reserves increased by only 1.1%.

Fig. 261: TYL fixed rate policies by crediting rate


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High-yield guarantee weight to fall below 15% by FY14

Weight of high-yield guarantee policies to fall below 15% by FY14 Although the maturing of the problematic high-yield guarantee policies will be a slow process, we believe the proportion should fall fairly quickly as new low-yield floating rate policies dilute the in-force book. We expect the reserves for high-yield guarantee policies, as a proportion of total interest-bearing reserves, to fall below 15% by FY14.

Fig. 262: High guarantee policy reserves


Fig. 263: Average credit rate on total in-force policies


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Potential M&A play Vogo Fund is now the largest shareholder in TYL with a 57.6% stake. Tong Yang Group has an option to buy back a 30% stake. But Vogo Fund could sell 27.6% to anyone. We think management control is up for grabs.

Vogo Fund has the key

Vogo Fund is now the largest shareholder Tong Yang group sold a 44.05% stake in TYL to Vogo Fund and a 2.46% stake to MinJu Lee at a share price of KRW18,000 on 23 March 2011. MinJu Lee is the former chairman of C&M (a cable company now owned by Macquarie and MBK Partners). Tong Yang group now only owns 3% of TYL.

Tong Yang group has the option to buy back 30% from Vogo Fund Tong Yang has a three-year option to buy back a 30% stake from Vogo Fund for a strike price of KRW18,000 plus 11.5% compounding interest rates minus any dividend paid. However, this still leaves 27.6% for Vogo Fund to place to a third party.

Tong Yang group needs to pay KRW770bn for the 30% stake We think that management will likely increase the payout ratio in order to lower the strike price. Based on our forecasts, TYL should be able to buyout 30% without much impact on its capital adequacy ratio. That said, we think, the strike price will likely be KRW770bn for the 30% stake over three years. If Tong Yang group does not turnaround its financial status, the amount seems burdensome for the group, in our view.

Fig. 264: Shareholding structure before stake sale

Source: Company data, DART, Nomura research

Fig. 265: Shareholding structure after stake sale

Source: Company data, DART, Nomura research

MinJu Lee the potential buyer

MinJu Lee could take over if he wants Tong Yang group has an option to buy back a 30% stake from Vogo Fund. This implies that Vogo could sell the rest of its stake (27.55%) to anyone. If MinJu Lee were to buy the stake and purchase an additional 3% from the market, he would become the largest shareholder in TYL, based on our estimates. MinJu Lee currently runs a private equity firm Atinum Partners. Given that he sold C&M for KRW1.46tn, we would think he has adequate capital to invest.

Taiyo Life to be the casting vote Taiyo Life owns 4.1% of TYL. We think Taiyo Life will likely be the casting vote in the case of a deadlock situation. We think Taiyo Life may side with Tong Yang group, considering its relationship with the group over the years. However, we would think that the price will be the key deciding factor.

Tong Yang Group, 49.5%

ESOP, 5.0%

Vogo TYL, 13.5%

Taiyo Life, 4.1%

Boston Company,

5.0%

Treasury stock, 1.4%

Others, 21.5%

Vogo TYL, 57.6%

MinJu Lee, 2.5%

ESOP, 5.0%

Boston Company,

5.0%

Taiyo Life, 4.1%



Others, 21.5%


123

Company overview Company history Established in 1989 as Tong Yang Benefit Life Insurance, the company changed its name to “Tong Yang Life Insurance” in 1995. Considered to be one of the top SME insurance companies in Korea, the company has been quick to expand into non-traditional distribution channels, such as bancassurance and direct marketing channels. Tong Yang Life was listed on the KRX in 2009, the first insurance company to be listed in the industry.



Fig. 267: Current shareholding structure


Fig. 268: Korea life insurer ranking


Policy mix breakdown Tong Yang Life Insurance derives 50% of its total premium from savings type products, followed by annuities (29%). We should note that savings type policies carry lower embedded margin than protection type products. However, demand growth is coming from wealth accumulation products (savings and annuities). Protection type products account for 21% of total premium.

Distribution channels In terms of distribution channel, Tong Yang Life distributes its products mainly through bancassurance (51%), on an initial premium basis. It is followed by solicitors (19%), direct marketing (18%), and independent agents (12%).

Date History

1989. 4 Established as Tong Yang Benef it Lif e insurance

1995. 8 Change name to Tong Yang Lif e insurance

1999. 5 Dev elop CI of "My Angel" to promote sales

1999. 12 Major shareholder change f rom Tong Yang major to Tong Yang capita

2000. 7 Merge with Pacif ic Lif e Insurance

2005. 3 Change major shareholder to Tong Yang Financial

2007. 9 Tong Yang Asset Management incorporated as subsidary

2009. 9 Supassed W10tn in total assets

2009. 10 Listed on KRX (f irst to do so in industry )

2011. 3 Vogo Fund becomes the largest shareholder with 58.4%

Vogo TYL, 57.6%

MinJu Lee, 2.5%

ESOP, 5.0%

Boston Company,

5.0%

Taiyo Life, 4.1%



Others, 21.5%

Company Amount M/S Company Amount M/S Company Amount M/S Company Amount M/S

1 Samsung Lif e 82,811 38% Samsung Lif e 99,116 36% Samsung Lif e 13,334 38% Samsung Lif e 34,440 23%

2 Korea Lif e 29,506 14% Korea Lif e 43,249 16% Korea Lif e 5,981 17% Korea Lif e 24,600 17%

3 Ky obo Lif e 27,105 13% Ky obo Lif e 39,367 14% Ky obo Lif e 4,568 13% Ky obo Lif e 22,122 15%

4 ING Lif e 10,311 5% ING Lif e 11,528 4% ING Lif e 1,739 5% Mirae Asset Lif e 8,696 6%

5 Allianz 9,462 4% Allianz 10,985 4% Prudential 1,193 3% Shinhan Lif e 7,834 5%

6 AIA Lif e 6,124 3% Shinhan Lif e 9,369 3% Tong Yang Lif e 1,095 3% Met Lif e 7,132 5%

7 Shinhan Lif e 6,044 3% Tong Yang Lif e 9,262 3% AIA Lif e 992 3% Allianz 6,821 5%

8 Tong Yang Lif e 5,831 3% Heung Kuk Lif e 8,486 3% Shinhan Lif e 966 3% ING Lif e 6,782 5%

9 Mirae Asset Lif e 5,722 3% KDB Lif e 7,397 3% Allianz 930 3% Tong Yang Lif e 6,033 4%

10 Heung Kuk Lif e 5,650 3% Mirae Asset Lif e 6,944 3% Met Lif e 763 2% Heung Kuk Lif e 5,029 3%

RankTotal asset (Wbn) Policy reserve (bn) Total Equity (Wbn) Exclusive solicitors (person)


124

Fig. 269: Policy mix trend




Management profile Jung-Jin Park has been the CEO and vice-president of Tong Yang Life insurance since 2006. Previously, Mr Park has held various positions within Tong Yang Securities and Tong Yang Life Insurance.

Vogo Fund is now the largest shareholder Tong Yang group sold a 44.05% stake in TYL to Vogo Fund and a 2.46% stake to MinJu Lee at a price of KRW18,000 on 23 March 2011. MinJu Lee is the former chairman of C&M (a cable company now owned by Macquarie and MBK Partners). Tong Yang Group now owns only 3% of TYL.

Fig. 271: Tong Yang Group – ownership structure


Protection (general)

15%Protection (separate)

6%

Annuities (general)

8%

Annuities (separate)

21%

Savings50%

Group0% Exclusive

solicitor19%

Independent agent12%

Direct marketing

18%

Bancassurance51%


125


126


127


Appendix A-1

Analyst Certification

I, Michael Na, hereby certify (1) that the views expressed in this Research report accurately reflect my personal views about any or all of the subject securities or issuers referred to in this Research report, (2) no part of my compensation was, is or will be directly or indirectly related to the specific recommendations or views expressed in this Research report and (3) no part of my compensation is tied to any specific investment banking transactions performed by Nomura Securities International, Inc., Nomura International plc or any other Nomura Group company.

Issuer Specific Regulatory Disclosures Mentioned companies Issuer name Ticker Price Price date Stock rating Sector rating Disclosures Korea Life 088350 KS 7,380 KRW 13-May-2011 Buy Not rated Samsung Life 032830 KS 98,100 KRW 13-May-2011 Buy Not rated 4,138 Tong Yang Life Insurance 082640 KS 12,500 KRW 13-May-2011 Buy Not rated Cheil Industries 001300 KS 122,000 KRW 13-May-2011 Buy Not rated 4,135 China Life Insurance 2628 HK 26.80 HKD 13-May-2011 Buy Not rated 4,58,123 Ping An Insurance Group 2318 HK 82.25 HKD 13-May-2011 Neutral Not rated 4,58 Samsung C&T Corp 000830 KS 76,500 KRW 13-May-2011 Buy Not rated 4,139 Samsung Card 029780 KS 52,700 KRW 13-May-2011 Buy Not rated Samsung Electronics 005930 KS 916,000 KRW 13-May-2011 Buy Not rated 4,106 Samsung SDI 006400 KS 189,000 KRW 13-May-2011 Neutral Not rated 4,130 Samsung Techwin 012450 KS 85,800 KRW 13-May-2011 Buy Not rated 4,134 Samsung Securities 016360 KS 82,300 KRW 12-May-2011 Not rated 4,158 Samsung Heavy Industries 010140 KS 43,350 KRW 12-May-2011 Not rated 4,108

Disclosures required in the U.S.

123 Market Maker - NSI Nomura Securities International Inc. makes a market in securities of the company.

Disclosures required in the European Union

4 Market maker Nomura International plc or an affiliate in the global Nomura group is a market maker or liquidity provider in the securities / related derivatives of the issuer.

Disclosures required in Hong Kong

58 Nomura financial interest/business relationships disclosures: Nomura International (Hong Kong) Limited or an affiliate in the global Nomura group is a market maker or liquidity provider in the securities / related derivatives of the issuer.

Disclosures required in Korea

106 Liquidity Provider for Equity Linked Warrant Nomura Financial Investment (Korea) Co., Ltd. is a liquidity provider (LP) or LP & issuer for ELW which the underlying is Samsung Electronics (005930.KS), and holds 57,224,970 warrants as of 13-May-2011.

108 Liquidity Provider for Equity Linked Warrant Nomura Financial Investment (Korea) Co., Ltd. is a liquidity provider (LP) or LP & issuer for ELW which the underlying is Samsung Heavy Industries (010140.KS), and holds 17,217,930 warrants as of 13-May-2011.

130 Liquidity Provider for Equity Linked Warrant Nomura Financial Investment (Korea) Co., Ltd. is a liquidity provider (LP) or LP & issuer for ELW which the underlying is Samsung SDI (006400.KS), and holds 24,367,550 warrants as of 13-May-2011.

134 Liquidity Provider for Equity Linked Warrant Nomura Financial Investment (Korea) Co., Ltd. is a liquidity provider (LP) or LP & issuer for ELW which the underlying is Samsung Techwin (012450.KS), and holds 14,006,720 warrants as of 13-May-2011.

135 Liquidity Provider for Equity Linked Warrant Nomura Financial Investment (Korea) Co., Ltd. is a liquidity provider (LP) or LP & issuer for ELW which the underlying is Cheil Industries (001300.KS), and holds 14,024,960 warrants as of 13-May-2011.

128


138 Liquidity Provider for Equity Linked Warrant Nomura Financial Investment (Korea) Co., Ltd. is a liquidity provider (LP) or LP & issuer for ELW which the underlying is Samsung Life (032830.KS), and holds 16,870,250 warrants as of 13-May-2011.

139 Liquidity Provider for Equity Linked Warrant Nomura Financial Investment (Korea) Co., Ltd. is a liquidity provider (LP) or LP & issuer for ELW which the underlying is Samsung C&T (000830.KS), and holds 17,563,030 warrants as of 13-May-2011.

158 Liquidity Provider for Equity Linked Warrant Nomura Financial Investment (Korea) Co., Ltd. is a liquidity provider (LP) or LP & issuer for ELW which the underlying is Samsung Securities (016360.KS), and holds 10,487,990 warrants as of 13-May-2011.

Previous Rating Issuer name Previous Rating Date of change Korea Life Not rated 15-May-2011 Samsung Life Not rated 15-May-2011 Tong Yang Life Insurance Not rated 15-May-2011 Cheil Industries Neutral 22-Feb-2011 China Life Insurance Not Rated 02-Nov-2010 Ping An Insurance Group Not Rated 02-Nov-2010 Samsung C&T Corp Neutral 28-Mar-2009 Samsung Card Not Rated 04-Apr-2011 Samsung Electronics Neutral 03-Jul-2009 Samsung SDI Reduce 07-Sep-2009 Samsung Techwin Neutral 12-Aug-2009 Samsung Securities Samsung Heavy Industries

Rating and target price changes

Ticker Old stock rating New stock rating Old target price New target price

Korea Life 088350 KS Not rated Buy N/A 9,400

Samsung Life 032830 KS Not rated Buy N/A 150,000

Tong Yang Life Insurance 082640 KS Not rated Buy N/A 21,000

Korea Life (088350 KS) 7,380 (13-May-2011)

Chart Not Available

Valuation Methodology Our TP of KRW9,400 is based on 1.0x forward P/EV. We assume a substainable RoEV of 11.5%, a COE of 11.5% and a growth rate of 3%. Risks that may impede the achievement of the target price 1. A prolonged low interest rate environment 2. Potential default risk relating to KRW1tn in project financing loans.

Samsung Life (032830 KS) 98,100 (13-May-2011)

Chart Not Available

Valuation Methodology Our TP of W150,000 is derived using a SOTP valuation methodology. We apply 1.5x P/EV to derive a TP of W100,000 for Samsung's insurance business and a 27% discount to NAV to derive a TP of W50,000 for its affiliate stakes. Risks that may impede the achievement of the target price 1. Prolonged low interest environment. 2. Technology sector downturn. 3. Share overhang stemming from potential stake sale by Shinsegae and CJ Group.

Tong Yang Life Insurance (082640 KS) 12,500 (13-May-2011)

Chart Not Available

Valuation Methodology Our TP of W21,000 is based on sustainable RoEV of 14%, COE of 12.5% and growth rate of 3%. Risks that may impede the achievement of the target price 1. A prolonged low interest rate environment 2. Potential default risk relating to KRW1tn in project financing loans.

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Important Disclosures Conflict-of-interest disclosures Important disclosures may be accessed through the following website: http://www.nomura.com/research/pages/disclosures/disclosures.aspx . If you have difficulty with this site or you do not have a password, please contact your Nomura Securities International, Inc. salesperson (1-877-865-5752) or email [email protected] for assistance. Online availability of research and additional conflict-of-interest disclosures Nomura Japanese Equity Research is available electronically for clients in the US on NOMURA.COM, REUTERS, BLOOMBERG and THOMSON ONE ANALYTICS. For clients in Europe, Japan and elsewhere in Asia it is available on NOMURA.COM, REUTERS and BLOOMBERG. Important disclosures may be accessed through the left hand side of the Nomura Disclosure web page http://www.nomura.com/research or requested from Nomura Securities International, Inc., on 1-877-865-5752. If you have any difficulties with the website, please email [email protected] for technical assistance. The analysts responsible for preparing this report have received compensation based upon various factors including the firm's total revenues, a portion of which is generated by Investment Banking activities. Industry Specialists identified in some Nomura International plc research reports are employees within the Firm who are responsible for the sales and trading effort in the sector for which they have coverage. Industry Specialists do not contribute in any manner to the content of research reports in which their names appear. Marketing Analysts identified in some Nomura research reports are research analysts employed by Nomura International plc who are primarily responsible for marketing Nomura’s Equity Research product in the sector for which they have coverage. Marketing Analysts may also contribute to research reports in which their names appear and publish research on their sector. Distribution of ratings (US) The distribution of all ratings published by Nomura US Equity Research is as follows: 38% have been assigned a Buy rating which, for purposes of mandatory disclosures, are classified as a Buy rating; 4% of companies with this rating are investment banking clients of the Nomura Group*. 55% have been assigned a Neutral rating which, for purposes of mandatory disclosures, is classified as a Hold rating; 1% of companies with this rating are investment banking clients of the Nomura Group*. 7% have been assigned a Reduce rating which, for purposes of mandatory disclosures, are classified as a Sell rating; 0% of companies with this rating are investment banking clients of the Nomura Group*. As at 31 March 2011. *The Nomura Group as defined in the Disclaimer section at the end of this report. Distribution of ratings (Global) The distribution of all ratings published by Nomura Global Equity Research is as follows: 49% have been assigned a Buy rating which, for purposes of mandatory disclosures, are classified as a Buy rating; 37% of companies with this rating are investment banking clients of the Nomura Group*. 40% have been assigned a Neutral rating which, for purposes of mandatory disclosures, is classified as a Hold rating; 46% of companies with this rating are investment banking clients of the Nomura Group*. 11% have been assigned a Reduce rating which, for purposes of mandatory disclosures, are classified as a Sell rating; 16% of companies with this rating are investment banking clients of the Nomura Group*. As at 31 March 2011. *The Nomura Group as defined in the Disclaimer section at the end of this report. Explanation of Nomura's equity research rating system in Europe, Middle East and Africa, US and Latin America for ratings published from 27 October 2008 The rating system is a relative system indicating expected performance against a specific benchmark identified for each individual stock. Analysts may also indicate absolute upside to target price defined as (fair value - current price)/current price, subject to limited management discretion. In most cases, the fair value will equal the analyst's assessment of the current intrinsic fair value of the stock using an appropriate valuation methodology such as discounted cash flow or multiple analysis, etc. STOCKS A rating of 'Buy', indicates that the analyst expects the stock to outperform the Benchmark over the next 12 months. A rating of 'Neutral', indicates that the analyst expects the stock to perform in line with the Benchmark over the next 12 months. A rating of 'Reduce', indicates that the analyst expects the stock to underperform the Benchmark over the next 12 months. A rating of 'Suspended', indicates that the rating and target price have been suspended temporarily to comply with applicable regulations and/or firm policies in certain circumstances including when Nomura is acting in an advisory capacity in a merger or strategic transaction involving the company. Benchmarks are as follows: United States/Europe: Please see valuation methodologies for explanations of relevant benchmarks for stocks (accessible through the left hand side of the Nomura Disclosure web page: http://www.nomura.com/research);Global Emerging Markets (ex-Asia): MSCI Emerging Markets ex-Asia, unless otherwise stated in the valuation methodology. SECTORS A 'Bullish' stance, indicates that the analyst expects the sector to outperform the Benchmark during the next 12 months. A 'Neutral' stance, indicates that the analyst expects the sector to perform in line with the Benchmark during the next 12 months. A 'Bearish' stance, indicates that the analyst expects the sector to underperform the Benchmark during the next 12 months. Benchmarks are as follows: United States: S&P 500; Europe: Dow Jones STOXX 600; Global Emerging Markets (ex-Asia): MSCI Emerging Markets ex-Asia.

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Explanation of Nomura's equity research rating system for Asian companies under coverage ex Japan published from 30 October 2008 and in Japan from 6 January 2009 STOCKS Stock recommendations are based on absolute valuation upside (downside), which is defined as (Target Price - Current Price) / Current Price, subject to limited management discretion. In most cases, the Target Price will equal the analyst's 12-month intrinsic valuation of the stock, based on an appropriate valuation methodology such as discounted cash flow, multiple analysis, etc. A 'Buy' recommendation indicates that potential upside is 15% or more. A 'Neutral' recommendation indicates that potential upside is less than 15% or downside is less than 5%. A 'Reduce' recommendation indicates that potential downside is 5% or more. A rating of 'Suspended' indicates that the rating and target price have been suspended temporarily to comply with applicable regulations and/or firm policies in certain circumstances including when Nomura is acting in an advisory capacity in a merger or strategic transaction involving the subject company. Securities and/or companies that are labelled as 'Not rated' or shown as 'No rating' are not in regular research coverage of the Nomura entity identified in the top banner. Investors should not expect continuing or additional information from Nomura relating to such securities and/or companies. SECTORS A 'Bullish' rating means most stocks in the sector have (or the weighted average recommendation of the stocks under coverage is) a positive absolute recommendation. A 'Neutral' rating means most stocks in the sector have (or the weighted average recommendation of the stocks under coverage is) a neutral absolute recommendation. A 'Bearish' rating means most stocks in the sector have (or the weighted average recommendation of the stocks under coverage is) a negative absolute recommendation. Explanation of Nomura's equity research rating system in Japan published prior to 6 January 2009 (and ratings in Europe, Middle East and Africa, US and Latin America published prior to 27 October 2008) STOCKS A rating of '1' or 'Strong buy', indicates that the analyst expects the stock to outperform the Benchmark by 15% or more over the next six months. A rating of '2' or 'Buy', indicates that the analyst expects the stock to outperform the Benchmark by 5% or more but less than 15% over the next six months. A rating of '3' or 'Neutral', indicates that the analyst expects the stock to either outperform or underperform the Benchmark by less than 5% over the next six months. A rating of '4' or 'Reduce', indicates that the analyst expects the stock to underperform the Benchmark by 5% or more but less than 15% over the next six months. A rating of '5' or 'Sell', indicates that the analyst expects the stock to underperform the Benchmark by 15% or more over the next six months. Stocks labeled 'Not rated' or shown as 'No rating' are not in Nomura's regular research coverage. Nomura might not publish additional research reports concerning this company, and it undertakes no obligation to update the analysis, estimates, projections, conclusions or other information contained herein. SECTORS A 'Bullish' stance, indicates that the analyst expects the sector to outperform the Benchmark during the next six months. A 'Neutral' stance, indicates that the analyst expects the sector to perform in line with the Benchmark during the next six months. A 'Bearish' stance, indicates that the analyst expects the sector to underperform the Benchmark during the next six months. Benchmarks are as follows: Japan: TOPIX; United States: S&P 500, MSCI World Technology Hardware & Equipment; Europe, by sector - Hardware/Semiconductors: FTSE W Europe IT Hardware; Telecoms: FTSE W Europe Business Services; Business Services: FTSE W Europe; Auto & Components: FTSE W Europe Auto & Parts; Communications equipment: FTSE W Europe IT Hardware; Ecology Focus: Bloomberg World Energy Alternate Sources; Global Emerging Markets: MSCI Emerging Markets ex-Asia. Explanation of Nomura's equity research rating system for Asian companies under coverage ex Japan published prior to 30 October 2008 STOCKS Stock recommendations are based on absolute valuation upside (downside), which is defined as (Fair Value - Current Price)/Current Price, subject to limited management discretion. In most cases, the Fair Value will equal the analyst's assessment of the current intrinsic fair value of the stock using an appropriate valuation methodology such as Discounted Cash Flow or Multiple analysis etc. However, if the analyst doesn't think the market will revalue the stock over the specified time horizon due to a lack of events or catalysts, then the fair value may differ from the intrinsic fair value. In most cases, therefore, our recommendation is an assessment of the difference between current market price and our estimate of current intrinsic fair value. Recommendations are set with a 6-12 month horizon unless specified otherwise. Accordingly, within this horizon, price volatility may cause the actual upside or downside based on the prevailing market price to differ from the upside or downside implied by the recommendation. A 'Strong buy' recommendation indicates that upside is more than 20%. A 'Buy' recommendation indicates that upside is between 10% and 20%. A 'Neutral' recommendation indicates that upside or downside is less than 10%. A 'Reduce' recommendation indicates that downside is between 10% and 20%. A 'Sell' recommendation indicates that downside is more than 20%. SECTORS A 'Bullish' rating means most stocks in the sector have (or the weighted average recommendation of the stocks under coverage is) a positive absolute recommendation. A 'Neutral' rating means most stocks in the sector have (or the weighted average recommendation of the stocks under coverage is) a neutral absolute recommendation. A 'Bearish' rating means most stocks in the sector have (or the weighted average recommendation of the stocks under coverage is) a negative absolute recommendation. Target Price A Target Price, if discussed, reflect in part the analyst's estimates for the company's earnings. The achievement of any target price may be impeded by general market and macroeconomic trends, and by other risks related to the company or the market, and may not occur if the company's earnings differ from estimates.

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