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LAN030414ZXI865-2351-ZXI Capital Markets Governance of Corporates: How Can Capital Markets Exert Better Governance on Corporates 5th Annual Financial Markets.

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Presentation on theme: "LAN030414ZXI865-2351-ZXI Capital Markets Governance of Corporates: How Can Capital Markets Exert Better Governance on Corporates 5th Annual Financial Markets."— Presentation transcript:

1 LAN030414ZXI ZXI Capital Markets Governance of Corporates: How Can Capital Markets Exert Better Governance on Corporates 5th Annual Financial Markets and Development Conference April 14-16, 2003 This report is solely for the use of client personnel. No part of it may be circulated, quoted, or reproduced for distribution outside the client organization without prior written approval from McKinsey & Company. This material was used by McKinsey & Company during an oral presentation; it is not a complete record of the discussion. Bob Felton, McKinsey & Company, Inc. CONFIDENTIAL

2 LAN030414ZXI ZXI 1 OVERALL, GOVERNANCE REFORM IS KEY TO IMPROVED ECONOMIC CONDITIONS IN EMERGING ECONOMIES 1.Emerging economies suffer major penalties due to weak governance and other market factors 2.Important barriers inhibit movement to improved governance 3.A combination of strong legal/regulatory reform and “free market” supervision appropriate path forward

3 LAN030414ZXI ZXI 2 EMERGING ECONOMIES SUFFER MAJOR PENALTY DUE TO WEAK GOVERNANCE AND OTHER MARKET FACTORS 1.Quality of governance important factor in investment decisions 2.Investor say they are willing to pay a premium for good board governance 3.This survey information is supported by financial analysis 4.This lack of robust capital markets leads to weak and unstable corporate financial structures

4 LAN030414ZXI ZXI 3 GOVERNANCE REMAINS IMPORTANT COMPARED TO FINANCIALS, PARTICULARLY IN EMERGING MARKETS *Defined as effective boards of directors; broad disclosure, and strong rights and equal treatment for shareholders Source: McKinsey Global Investor Opinion Survey on Corporate Governance, 2002 Percentage of investors Eastern Europe/Africa Latin America Asia North America Western Europe 2002 How important is corporate governance* relative to financial issues, e.g., profit performance and growth potential, in evaluating which companies you will invest in? 2000 Less important Equally important More important

5 LAN030414ZXI ZXI 4 CORPORATE GOVERNANCE IS NOW AN ESTABLISHED INVESTMENT CRITERION Source: McKinsey Global Investor Opinion Survey on Corporate Governance, 2002 Decrease/increase holdings in certain companies Avoidance of certain companies Avoidance of certain countries Decrease/increase holdings in certain countries Percentage of investors selecting this option; multiple responses possible How does corporate governance affect your investment decision? “Our investment group would never approve an investment in a company with bad governance” – U.S. investment manager, $20 billion private equity fund “‘Good governance’ is a qualitative cut-off criteria” – Analyst, $62 billion European Asset Manager “I simply would not buy a company with poor corporate governance” – CFO, $ 3 billion European Private Bank

6 LAN030414ZXI ZXI 5 Source: McKinsey Global Investor Opinion Survey on Corporate Governance, 2002 A SIGNIFICANT MAJORITY OF INVESTORS SAY THEY ARE WILLING TO PAY A PREMIUM FOR A WELL-GOVERNED COMPANY Percentage of investors Western Europe Asia North America Latin America Eastern Europe/Africa

7 LAN030414ZXI ZXI 6 THE AVERAGE PREMIUM INVESTORS WOULD BE WILLING TO PAY DIFFERS BY COUNTRY... Average percent Source:McKinsey investor opinion survey Anglo-Saxon U.S. U.K. Asia Japan Indonesia Korea Thailand Malaysia Taiwan Continental Europe Italy Switzerland Germany France Spain Latin America Chile Argentina Mexico Brazil Columbia Venezuela

8 LAN030414ZXI ZXI 7 Market cap per GDP (%) KOREA’S EQUITY MARKET SIGNIFICANTLY UNDERDEVELOPED AND UNDERPERFORMING Japan U.K. U.S. GermanyFranceKorea Significantly undersized equity market compared to leading economies Benchmark average Source:Bloomberg; EIU; McKinsey analysis Equity market capitalization comparison* June 2001 Underdeveloped

9 LAN030414ZXI ZXI 8 COMPOSITION OF PRIVATE SECTOR LIABILITIES, 1997 Percent Source:Bank for International Settlements; International Monetary Fund; International finance Corporation (IFC); International Federation of Stock Exchanges (FIBV); World Bank Bank loans Bonds Equity U.S.Hong KongTaiwanMalaysiaSingaporeIndonesiaChinaKoreaThailand In 2000, Korea improved to 55% bank loans, 25% bonds, and 20% equity In 2000, U.S. changed to 50% equity, 35% bonds, and 15% bank loan

10 LAN030414ZXI ZXI 9 TOTAL RETURN TO SHAREHOLDERS: S&P 500 VS. KOSPI Source: Datastream; McKinsey analysis , percent S&P500 : 13.0% per annum return KOSPI : -3.8% per annum return $100 invested in the S&P500 index would be worth $340 However, $100 invested in the KOSPI index would only be worth $68 Korean shareholders have been seriously unrewarded for their investments Poor performance over time ‘96

11 LAN030414ZXI ZXI 10 MARKET-TO-BOOK COMPARISON U.S.U.K.JapanFranceGermanyKorea June 2001, ratio* *Sum of 2001 market cap (January-June) divided by sum of book value (2000) Source:Bloomberg; McKinsey analysis Bench- mark average

12 LAN030414ZXI ZXI 11 PE RATIO COMPARISON July-Dec 2001, ratio* *Sum of market cap divided by sum of forecasted earnings **Companies whose market cap combines to account for 80% of total country market cap; excludes outliers (companies whose PE ratios were 3 standard deviations away from country average) Source:Bloomberg; McKinsey analysis; I/D/E/C Korea’s PE ratio is significantly lower than that of other countries Japan U.K. U.S.GermanyFranceKoreaBench- mark average

13 LAN030414ZXI ZXI 12 June 2001, PE ratio INDUSTRY PE COMPARISON* *Only compared for those industries in which Korean companies operate Source:Bloomberg; McKinsey analysis Telecommunications Diversified Financial Service Transportation Electrical Compon & Equip Energy Iron/steel/basic material Food & Beverage Pharmaceuticals & Biotech Retail Chemicals Auto & ComponentsInsuranceBanking Benchmark Korea

14 LAN030414ZXI ZXI 13 MARKET VOLATILITY* OF KEY INDICES OVER THE PAST 5 YEARS ( ) *The relative rate at which the price of a security/index moves up and down, found by calculating the annualized standard deviation of day-over-day differences in daily price charge **KOSDAQ 50 was developed on Jan. 4, 1999; thus only the last 3 years have been provided for this index ***Hang Seng Composite Index was developed on Jan. 3, 2000; thus only the last 2 years have been provided for this index Source:Bloomberg Percent KOS- DAQ** KOSPIS&P 500 Kuala Lumpur NAS- DAQ Hang Seng*** Singa- pore Straits Times Taiwan The KOSPI and KOSDAQ have been most volatile, when compared to their peers in South East Asia and the United States Highly volatile

15 LAN030414ZXI ZXI 14 ENTREPRENEURS ACCESS TO CAPITAL United States United Kingdom Luxembourg Hong Kong Netherlands Switzerland Singapore Canada New Zealand Ireland Germany Australia Finland Sweden Taiwan Spain Japan France Belgium Denmark Austria Israel Portugal Chile South Korea Malaysia Norway Iceland Thailand Italy Score Rank Score Rank Source:Milken Institute Country Ranking, 2001

16 LAN030414ZXI ZXI 15 TOTAL STOCK VALUE CONTROLLED BY INSTITUTIONAL INVESTORS Source:KSE; GAI; National Accounts; NYSE Presence of institutional investors is a sign of an advanced equity market 2001, percent

17 LAN030414ZXI ZXI 16 1.Complicated ownership structures with heavy cross- ownership 2. Weak minority shareholder rights 3.Conflicted boards of directors 4.Weak and intransparent financial reports and limited reporting to international standards 5.Impediments to takeover activity 6.Weak investor relations practices WHILE THESE FINANCIAL PENALTIES RESULT FROM MANY FACTORS, WEAK GOVERNANCE IS A MAJOR CONCERN

18 LAN030414ZXI ZXI 17 PYRAMIDAL EQUITY OWNERSHIP Samsung Electronics Samsung Corp Samsung Life Ins Samsung Foundations Samsung SDI Samsung Card Samsung Mech. Elec Samsung Heavy Ind. Samsung Capital Cheil Textile Hotel Shilla Samsung Everland Cheil Comm. Samsung Security Samsung Techwin Samsung F&M Ins Samsung Engineering Samsung Prec.Chem S-one Samsung group

19 LAN030414ZXI ZXI 18 A COMBINATION OF STRONG LEGAL/REGULATORY REFORM AND “FREE MARKET” SUPERVISION APPROPRIATE PATH FORWARD 1.Important legal projections necessary –Clean up ownership structure, probably by establishing legal framework for holding company –Strengthen minority shareholder rights –Remove barriers to hostile takeovers, including foreign investors –Regulate third-party transactions –Hold management and directors accountable for illegal/inappropriate activities

20 LAN030414ZXI ZXI 19 A COMBINATION OF STRONG LEGAL/REGULATORY REFORM AND “FREE MARKET” SUPERVISION APPROPRIATE PATH FORWARD (CONTINUED) 2. Improve regulatory activities –Require majority of directors to be independent, especially on audit committee –Mandate that financial reporting complies with international standards; demand transparency and periodic reporting –Install consistent, aggressive, and effective regulatory enforcement

21 LAN030414ZXI ZXI 20 A COMBINATION OF STRONG LEGAL/REGULATORY REFORM AND “FREE MARKET” SUPERVISION APPROPRIATE PATH FORWARD (CONTINUED) 3. Encourage companies to improve investor relations for all shareholders* –More transparency –More open about risks/challenges –Encourage Q&A –More CEO-led discussions –Give investors advance notification about meeting dates –If listed globally, make announcements after markets open –Install information-rich Web sites

22 LAN030414ZXI ZXI 21 A COMBINATION OF STRONG LEGAL/REGULATORY REFORM AND “FREE MARKET” SUPERVISION APPROPRIATE PATH FORWARD (CONTINUED) 4. Work to improve quality of director pool –Director pool often weak in emerging markets –Important to establish training/recruiting programs to develop adequate supply of strong directors –Consider non-executive certification program

23 LAN030414ZXI ZXI 22 HOWEVER, GOVERNMENTS SHOULD RESIST TEMPTATION TO MICROMANAGE PRIVATE SECTOR 1.Establish limited, focused legal/regulatory framework... and enforce aggressively 2.Ensure transparency of financials and independence of boards 3.And let free market provide disciple and “regulation”


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