Philippine Markets Newsletter

Hallyu fever is rising and so is this company’s earning power. And we’re not being dramatic about it!

February 26, 2020

It has been nearly 20 years since Filipinos caught the hallyu fever and it seems like the heat is not going down.

Hallyu, which means “Korean Wave,” refers to the influence of Korean pop culture in the world, starting with music, film, and drama. It has since branched out to other areas of Korean culture such as cuisine, fashion, and skincare routine, among others.

In the Philippines, more than 300 Korean Dramas (“Koreanovelas” as they are locally called) have been aired since 2003. Since 2009, the popularity of K-pop has only intensified, gaining larger local following and making its way to mainstream Philippine radio.

The company we are highlighting today is a goliath in the Korean entertainment industry, producing most of the Koreanovelas, films, and music that have kept the hallyu fever burning like never before.

Also below, Uniform Accounting Embedded Expectations Analysis and the Uniform Accounting Performance and Valuation Tearsheet for the company.

Philippine Markets Daily:
Wednesday Tearsheet & Embedded Expectations
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History was made at the 92nd Academy Awards or the Oscars—for the first time ever, a foreign-language film won the Oscars for Best Picture.

Parasite, a South Korean dark comedy film, bagged the prestigious award. It was nominated in six categories, and out of these six, it won four awards: Best Picture, Best Director, Best Original Screenplay, and Best International Feature Film.

Even US companies want a piece of the pie. Riding on Parasite’s huge global success, US media company HBO secured the rights to adapt it into a mini-series.

Behind Parasite’s huge achievement is CJ ENM, the entertainment and media subsidiary of CJ Group, one of South Korea’s most prominent conglomerate holding companies.

At the helm of CJ Group’s whole entertainment and media business is Vice Chairwoman Miky Lee, who is known as South Korea’s most powerful media mogul.

Lee first became involved in the entertainment industry as an early investor in DreamWorks SKG in 1995. She initially handled the distribution of films, mostly Hollywood, in Southeast Asia and Hong Kong, but she wanted to push Korean cinema to international audiences as well.

Lee’s passion for Korean films and her commitment to promote Korean content globally was the main driver of the Korean Wave in the early 2000s. Under her watch, CJ Group’s entertainment and media business continues to enjoy this strong presence.

CJ ENM is a subsidiary of CJ Group under their entertainment and media business. They produce dramas, films, and musicals, and distribute music content. This company is a product of the merger of two CJ Group subsidiaries, CJ E&M and CJ O Shopping.

CJ ENM’s Media Content Department is in charge of DIA TV, which is the largest multi-channel network (MCN) operator, and Studio Dragon, a drama content producer. They also provide online video streaming service via TVING.

Through their multiple channels, DIA TV, Studio Dragon, and TVING, CJ ENM has played a large part in influencing content in the growing K-drama industry. They were responsible for airing highly rated shows such as Goblin, What’s Wrong with Secretary Kim, and Legend of the Blue Sea.

Their most recent TV series Crash Landing on You attained an average viewership rating of 21.68%. Its final episode scored 24.1%, beating the peak 20.5% rating that Goblin enjoyed in 2017. Crash Landing on You is now the second-highest rated K-drama on cable television, only a couple of percentage points behind JTBC’s Sky Castle.

The hashtag #CrashLandingOnYouFinale was a trending topic in the Philippines hours after the show started streaming on Netflix.

CJ ENM’s business also extends to the music industry through its main music label Stone Music Entertainment. They operate as a record label as well as a talent agency to develop new artists. They are involved in concert production and event management. They also have a Korean music channel and a music portal site.

Notable record labels under their belt are AOMG, a hip hop record label founded by singer and rapper Jay Park; Hi-Lite Records, an independent record label founded by rapper Paoloalto; and Swing Entertainment, which used to manage Wanna One.

CJ ENM has also shaped the way music is appreciated through their various productions and events. They organized the annual Mnet Asian Music Awards (MAMA) that gives recognition to music talents all over Asia. They also organized KCON, an annual Korean Wave music festival that was first held in the US and has since been held in eight other countries.

CJ ENM does not only influence pop culture through films and dramas, they also affect global lifestyle through music.

With their involvement in almost all areas of the entertainment and media industry, this Korean media content giant continues to contribute enormously to the growth of Korean pop culture.

CJ ENM is cheaper than you think

CJ ENM CO., Ltd. (035760:KOR) currently trades around historical averages with a 6.5x Uniform P/E (blue bars).

At these levels, the market is pricing in expectations for Uniform ROA to fall from 29% in 2018 to 11% in 2023, accompanied by a 2% Uniform asset shrinkage going forward.

Moreover, analysts project Uniform ROA remain at 29% in 2020, accompanied by an 6% Uniform asset growth.

CJ ENM’s profitability is actually much better than you think it is

CJ ENM’s profitability has been cyclical, with Uniform ROA ranging from 11% to 68% over the past 16 years

After rising from 31% in 2003 to historical highs of 68% in 2005, Uniform ROA fell to 16% in 2006 before slowly rising to 25% in 2010. Uniform ROA then fell to a historical low of 11% in 2016 before rebounding to 37% and 29% in 2017 and 2018, respectively.

As-reported metrics are understating CJ ENM’s profitability. For example, as-reported ROA was 3% in 2018, a far cry from its Uniform ROA of 29%. At 29% profitability, CJ ENM is not a weak business compared to what real economic metrics highlight.

Moreover, Uniform ROA has been at least twice as-reported ROA for the past 16 years, significantly distorting the market’s perception of the firm’s historical profitability trends.

CJ ENM’s turns are stronger than you think

Cyclicality in Uniform ROA has been driven primarily by trends in Uniform asset turns, with peaks and troughs lining up historically with that of Uniform ROA.

Uniform asset turns increased from 3.6x in 2003 to a historical high of 5.3x in 2005 before stabilizing to 1.4x-1.8x from 2006 to 2016. Thereafter, Uniform asset turns rose to 2.6x in 2017, before dropping to 2.0x in 2018.

Summary and CJ ENM Tearsheet

As the Uniform Accounting tearsheet for CJ ENM highlights, they are trading at 6.5x Uniform P/E, which is well below market average valuations but around historical average levels.

Low P/Es require low EPS growth to sustain them. In the case of CJ ENM, the company has recently shown a 26% decline in Uniform EPS growth.

Sell-side analysts provide stock and valuation recommendations that in general provide very poor guidance or insight. However, sell-side analysts’ near-term earnings forecasts tend to have relevant information.

We take sell-side forecasts for Korean International Financial Reporting Standards (K-IFRS) earnings and convert them to Uniform earnings forecasts. When we do this, CJ ENM’s sell-side analyst-driven forecast is for Uniform earnings to fall 32% in 2019 and grow by 7% in 2020.

Based on current stock market valuations, we can back into the required earnings growth rate that would justify KRW 144,900 per share. These are often referred to as market embedded expectations.

In order to meet the current market valuation levels of CJ ENM, the company would have to have Uniform earnings shrink by 11% each year over the next three years. What sell-side analysts expect for CJ ENM earnings growth is well above what the current stock market valuation requires.

To conclude, CJ ENM’s Uniform earnings growth is below peer averages in 2019. However, the company is trading well below average peer valuations.

The company’s earning power, based on its Uniform return on assets calculation, is almost 5x the corporate average returns. Furthermore, with cash flows and cash on hand consistently exceeding obligations, CJ ENM has low credit and dividend risk.

About the Philippine Markets Daily
“Wednesday Uniform Earnings Tearsheets – Asia-listed Focus”

Some of the world’s greatest investors learned from the Father of Value Investing or have learned to follow his investment philosophy very closely. That pioneer of value investing is Professor Benjamin Graham. His followers:

Warren Buffett and Charles Munger of Berkshire Hathaway; Shelby C. Davis of Davis Funds; Marty Whitman of Third Avenue Value Fund; Jean-Marie Eveillard of First Eagle; Mitch Julis of Canyon Capital; just to name a few.

Each of these great investors studied security analysis and valuation, applying this methodology to manage their multi-billion dollar portfolios. They did this without relying on as-reported numbers.

Uniform Adjusted Financial Reporting Standards (UAFRS or Uniform Accounting) is an answer to the many inconsistencies present in GAAP and IFRS, as well as in PFRS.

Under UAFRS, each company’s financial statements are rebuilt under a consistent set of rules, resulting in an apples-to-apples comparison. Resulting UAFRS-based earnings, assets, debts, cash flows from operations, investing, and financing, and other key elements become the basis for more reliable financial statement analysis.

Every Wednesday, we focus on one company listed in Asia that’s relevant to the Philippines and that’s particularly interesting from a UAFRS vs as-reported standpoint. We highlight one adjustment that illustrates why the as-reported numbers are unreliable.

This way, we gain a better understanding of the factors driving a particular stock’s returns, and whether or not the firm’s true profitability is reflected in its current valuations.

Hope you’ve found this week’s Uniform Earning Tearsheet on an Asian company interesting and insightful.

Stay tuned for next week’s Asia company highlight!


Angelica Lim & Joel Litman
Research Director & Chief Investment Strategist
Philippine Markets Daily
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