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Management Report

Management reports, briefs and video-clips issued by Samsung Economic Research Institute

Seven Commandments for Design Innovation

Seven Commandments for Design Innovation

HA Song

Mar. 7, 2008

Transcript

Welcome to Economy Watch, I'm Min-Jung Sohn from the Macroeconomy Department. Today, we will talk about changes in Korea's business environment propelled by external risk factors.

For over a year now, there have been constant warnings about external risk factors such as surging oil prices and the Won appreciation. In order to ascertain the performance of Korean companies under such circumstances, the Bank of Korea recently conducted a survey of 1,495 public corporations and published the results. The report shows the ramifications of the external risk factors on the companies' financial structure, profitability, and growth potential as of the end of the second quarter 2005.

Let's begin with the financial structure. Debt-to-equity ratio leveled at 93.0%, which indicates an enhanced stability compared to the first quarter. This has been echoed by the fact that the companies' dependence on borrowed money has declined. The stabilized financial structure resulted from two factors: (1) the increase in earned surplus achieved by a small number of large blue-chip corporations and (2) a decline in non- borrowed debt, which temporarily increased during the first quarter. Non-borrowed debt includes such items as unpaid dividend that was initially planned to be paid out to shareholders, but ultimately wasn't.

Meanwhile, corporate profitability has declined. The trend may be a result of higher oil prices and strong Won, which have caused concerns since 2004, but their real impact may be felt now. First, the major profitability metrics are struggling. For example, the ratio of ordinary income to sales stood at 8.2% and operating income registered 7.6%, down 1.6 percentage points and 0.8 percentage point, respectively, from the first quarter. As you can see in the table, the overall non-operating profit is declining as the cost to sales revenue and selling & administrative expenses rise, while gains from foreign currency transactions have decreased.

The third factor is the growth potential in the context of assessing management performance under diversified external conditions. In general, growth potential can be gauged by how quickly sales revenue increases and how rapidly tangible assets held by the company rise.

Although the growth rate of sales revenue edged up 2.4% in the second quarter from the same period last year, it is in a sharp decline from the first quarter's 4.3% and the previous quarter's 19.8%. It has been particularly challenging for manufacturing exporters. Their sales revenue has declined in the second quarter by 2.1% in contrast to the large increase by 27.5% in the first quarter.

The declining trend is also evident in the growth of tangible assets. The tangible assets held by manufacturing sector rose 1.5% for the second quarter, which is less than the first quarter's 1.9%. Meanwhile, tangible assets accounted for 41.3% in total assets during the second quarter, a level similar to the first quarter's 41.2%.

In short, Korean companies remain steady on the financial structure while struggling with profitability and growth potential. This may be the result of their conservative management techniques. In particular, some companies have shown restraint in borrowing and delaying investment due to emerging risks on the external front. If the two major risk factors, oil price volatility and unstable foreign currency market, continue for the time being, the largely conservative management style will remain in practice and the current trend will not change.

In addition, as the North Korean nuclear confrontation is being gradually resolved, there is a higher possibility of further exchange rate depreciation. Korean companies therefore need to focus on measures to cope with the possibility of a weaker Won in the future. Moreover, tight oil market conditions will be sustained, thus more effort is required to restructure the Korean economy in a way less dependent on fossil fuels and more oriented toward alternative energy sources and value-added. -Thank you.

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