Samsung Heirs Show How to Gain $25 Billion in Revenue for Free

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Lee Jae Yong and his two sisters look like they just got quite a bargain in the latest move to tighten their control of South Korea’s Samsung Group.

In a deal announced Tuesday, Cheil Industries Inc., the group’s de facto holding company, will buy out construction affiliate Samsung C&T Corp. for about $9.2 billion in stock. The genius of the deal: Aside from generating about $25 billion in revenue, C&T holds more than $12 billion in other companies’ shares, including crown jewel Samsung Electronics Co.

Both Cheil and C&T surged after the deal’s announcement but more importantly for Lee, the proposed purchase puts the 46-year-old billionaire a step closer to cementing his hold on South Korea’s largest conglomerate a year after his father suffered a debilitating heart attack. The Lees are accelerating reorganization of the group’s complicated ownership structure as they brace for the billions of dollars in taxes they would face for inheriting the patriarch’s stakes in the group.

“It was a very good bargain for Cheil, and this was a smart and strategically well-prepared scenario from Samsung Group in the generational succession plan,” said Lee Sang Hun, a Seoul-based analyst at HI Investment & Securities Co. “The latest deal is just a trigger.”

Samsung, whose founding family controls the conglomerate of about 70 companies through a web of cross shareholdings, said in a statement it reorganized its businesses to create a simpler shareholding structure. All taxes related to inheritance will be paid in full and in a transparent manner, it said.

Stock Bounty

In buying C&T, Cheil would acquire stakes in more than a dozen companies including Samsung Electronics and Samsung SDS Co. -- a stock portfolio amounting to more than 13.6 trillion won ($12 billion) when excluding unlisted companies. And that doesn’t count C&T’s actual business, which generated 652 billion won operating profit last year and has an enterprise value of $12.9 billion, according to data compiled by Bloomberg.

What’s more, it may cost Cheil nothing, as the company plans to fund the entire purchase by issuing new shares of itself. While that practice would typically drive down its stock because of dilution, Cheil’s up 14 percent since Tuesday’s announcement.

Samsung said it disagreed with the idea that the acquisition will be free or cost nothing because Cheil’s existing shareholders will see their stakes diluted.

Some dilution will occur. After the purchase, Lee’s stake in the merged company will decline to 16.5 percent from the 23.2 percent of Cheil he owns now, though he will be able to control the company when counting holdings held by his kin and other Samsung Group affiliates.

Investor Support

So why is Cheil rising? According to HI Investment’s Lee -- it’s a common family name in Korea -- the latest deal indicates the merged company will get bigger by pursuing further purchases of stakes of group companies.

Although it sits atop the group in terms of ownership hierarchy, Cheil’s market capitalization is about one-eighth that of Samsung Electronics.

While investor opposition could theoretically derail the C&T deal, some existing shareholders are just happy to be along for the ride.

Take Korea Investment Management Co., the fifth-largest shareholder of Samsung C&T. The value of the asset manager’s holdings in the construction company have surged 15 percent since the deal was announced.

“Samsung is taking steps to boost value, so why not welcome that?” said Kim Young Il, head of equities at Seoul-based Korea Investment, which oversees about $32 billion in assets and runs mutual funds investing in only Samsung Group affiliates. “I don’t see any unsatisfactory parts from Samsung Group’s moves so far.”

Governance Debates

Echoing a statement from Tuesday, Samsung said on Thursday it sees “significant scope for efficiency gains” by merging the two companies’ construction businesses.

Not everyone endorses a deal involving an amusement-park operator buying a trading and construction company.

“This kind of move could reignite corporate governance debates over Samsung Group and Korea,” said Nam Dong Woo, head of equities at Eastspring Asset Management Korea Co., Prudential Plc’s Korean unit, which counts Samsung C&T shares among $12 billion assets, said by phone in Seoul. “It’s regrettable.”

A previous merger effort between related companies, Samsung Heavy Industries Co. and Samsung Engineering Co., failed last year after dissenting shareholders sought to sell more than 1.5 trillion won of the stock back to the company.

“Other than for the Lee family’s interests, there is no reason for the merger to happen business-wise, and no business synergy to anticipate,” said Chae Yi Bai, an analyst at the Center for Good Corporate Governance in Seoul. “The key is to have the three Lee heirs to hold Samsung Electronics’ shares.”

(Updates with Samsung comments in 5th, 8th and 15th paragraphs.)
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