INVESTMENT OPPORTUNITIES IN KOREA

OFFSHORE PLANT

INVESTMENT OPPORTUNITIES IN KOREA

OFFSHORE PLANT Contents KOREA, Where Success Knows No Limits

04

Overview of the offshore plant industry



Global and domestic market developments and outlook



Foreign direct investment

12

Korean offshore plant industry: Competitive standing and outlook



Geographical distribution of the offshore plant industry



Promising Korean market segments and regions for foreign investors



Outlook for market entry

18

Government policies and related regulations



Government policies for the offshore plant industry

22

Cost



Cost breakdown of the offshore plant industry



Human resource: Supply and demand



Profitability relative to cost

26

Success cases



Overview of successful foreign investment attraction



Global headquarters of General Electric’s shipbuilding and



offshore division (05 / 2013)



Investment incentives



Investment results

30

Related companies and associations



Related companies



Related associations

05

01 OVERVIEW OF THE OFFSHORE PLANT INDUSTRY

OVERVIEW OF THE OFFSHORE PLANT INDUSTRY

Global and domestic market developments and outlook

The composition of offshore plant industry players offers insights into recent developments in the global offshore plant industry. Oil majors developing offshore energy resources lie at the top of the value chain, followed by shippers, shipbuilders, equipment manufacturers and engineering companies, which are closely interconnected in a market network. Global offshore plant industry players by segment

Indirect demand side Oil majors and offshore energy developers (oil exploration, etc.) Europe

USA

Asia

Other

Korea

Asia

USA

Europe

Direct demand side

Shipbuilders

Equipment

Direct suppliers

Design & engineering

Steel makers

Indirect suppliers

Installation & commissioning Installation, appraisal, practices

* Source: Korea Institute for Industrial Economics & Trade (2013)

Certification, testing, appraisal and practices

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OFFSHORE PLANT

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01 OVERVIEW OF THE OFFSHORE PLANT INDUSTRY

Offshore plant operators are mostly oil majors. In terms of the drillship fleet size, the largest operator is Brazil’s national oil company Petrobras, which has been aggressively undertaking oil exploration and drilling projects off the coast of Brazil, followed by Shell, Pemex, ONGC and BP. •Drilling equipment is mostly used in major offshore oil fields such as Brazil Offshore and in the Mexican Gulf Coast, Persian Gulf, North Sea and West Africa.

The offshore plant sector was on an upward trend due to high oil prices. In terms of the value of the total order backlogs, the drilling segment accounts for about 53% while the production segment accounts for about 19%. •Given that the production and utility support vessel segments follow the drillship segment, these markets are expected to expand. However, variables such as oil price fluctuation do exist.

Meanwhile, shippers that own offshore plants include Transocean, Bluewater, Maersk Drilling, SBM Offshore, Seadrill, Noble and ENSCO. U.S. and European shippers have a dominant market presence. •Transocean has the highest number of offshore drilling equipment followed by Noble, ENSCO and Seadrill.

Amount of order backlog: Offshore segment Logistics, 1 Rescue vessels, 1

USV, 1 Survey, 2 AHTS, 3 Supply 8

Global drillship fleet by vessel owner

(Unit: No. of vessels)

Construction 12

180 Number of vessels owned

160 98

80

100 80

74 63

60 40

66

20 0

Mobile Offshore Production Units (MOPU) 19

Number of orders issued

140 120

Transocean Ltd

63 Noble Drilling

57 ENSCO

47

38

43

Seadrill Ltd

KCA Deutag

71

46

42

38

41

35

34

18

31

32

30

22

27

28

Shelf Drilling

Hercules Offshore

Maersk Drilling

Rowan

Nabors Offshore

Diamond China Oilfield Offshore Services

•The Monaco-based Dutch firm SBM Offshore has the largest FPSO fleet, with 33 vessels,

followed by Japan’s MODEC (32) and BW Offshore (15). •SBM Offshore has the highest number of floating, production, storage and offloading (FPSO) vessels, recording annual sales revenue of USD 3.46 billion and employment of 9,660 as of 2013. The company’s main focus lies in FPSO design, including moorings and topsides.

Drillship demand is highly sensitive to oil prices. The number of drillship orders grew sharply in the 1970s during the oil crisis and recently stagnated following a boom after the mid-2000s. •In particular, the deepwater floating drillship sector, where Korean companies have a marketleading position, contracted since 2013 after a boom in the mid-2000s. China exceeded Korea in 2013 in terms of order volume thanks to a sharp increase in jackup rig orders. Offshore floating rig orders (left) and order backlog by country (right) (Unit: No. of rigs ordered)

(Unit: $/bbl)

120

Global FPSO fleet breakdown by vessel owner In Operation

Total

80

Netherlands

4

29

33

60

MODEC

Japan

4

28

32

PROSAFE

Norway

0

10

10

SBM Offshore

BW Offshore

Norway

2

13

15

MISC

Malaysia

4

9

13

Blue Water

Netherlands

0

6

6

SAIPEM

Italy

0

2

2

13

95

108

Total

Semisub Drillship Delivered units

100

Under Construction

Country

Mobile Offshore Drilling Unit (MODU) 53

* Source: Clarkson (2014. 2)

* Source: KIET analysis of data available at www.rigzone.com/data

Major company

(Unit: %)

1979 - 1984 296 Delivered

80

2008 - 2013 280 Delivered

60 80

40

40

57 20

20 0 1970

(Unit: No. of vessels)

100

Jackup Drill Barge Oil Price (Sm)

1980

* Source: Douglas-Westwood statistics

1990

2000

2010

0

29 Korea

China

39 23

Brazil Singapore other

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OFFSHORE PLANT

01 OVERVIEW OF THE OFFSHORE PLANT INDUSTRY

Given that FPSO follows drillship orders, the outlook for FPSO vessel demand is bright on continued oil price strength. However, the FPSO vessel market took a breather recently, as oil majors started to revisit their projects. Outlook for FPSO vessel fleet (left) and order backlogs by major country (right) (Unit: No. of vessels)

250

30

Idle units Producing Fleet Demand Low Case Demand Base Case Demand High Case

200 150

20 25

100

10

50 0

11

1990

1995

2000

2005

2010

2015e

0

Korea

China

9

5

8

Brazil Singapore Other

* Source: Clarkson

•By FPSO order backlog, Korea topped the list with 25 orders in 2014 and had an almost

dominant position in the mid- to large-size segment.

Foreign direct investment

Investor overview Foreign investment in the Korean offshore plant business jumped after 2005, when the commercial vessel market stagnated, and the offshore plant market started to take off thanks to high oil prices. •Korea started in earnest to attract foreign investment in the mid-2000s, when Korea’s three major shipbuilders-Hyundai Heavy Industries, Samsung Heavy Industries and Daewoo Shipbuilding & Marine Engineering-started to emerge as global leaders in the mid- to largesize offshore plant market. In particular, foreign investments were concentrated in the engineering and equipment segments, where Korean companies had a weak presence.

09

Foreign direct investment in the offshore plant industry Year of investment

Nationality of investor

Company

Segment

2002

Singapore

GE Energy Korea

Offshore process control equipment

2003

China

Geum Jung ENG

Offshore structure

2005

UK

CATHELCO Korea

Offshore structure anticorrosive equipment

2007

Spain

ACCIONA Energy Korea

Engineering service

2009

Germany

IGUS Korea

Bearing, cable, energy chain and pipe production

2010

Singapore

E-Marine Logix

Offshore information system development

2010

Canada

ALL-SEA Asia

Offshore technology service

2012

Australia

PNL

Offshore plant pipe

2012

Germany

Schulz Korea

Offshore equipment sales

2013

Netherlands

Heinen & Hopman Korea

Offshore structure air conditioning system

2013

Austria

Palfinger Dreggen Korea

Offshore crane and structure design and production

2013

Germany

SIEMENS Energy Solutions

Engineering service

2014

France

PARIFEX Oil & Gas Engineering

Offshore plant facility design, verification, management and equipment sales

2014

Netherlands

Kyungnam Energy

Gas production and pipe supply

2014

UK

MRC Global Korea

Energy-related parts such as pipes, valves and fittings

2014

Norway

Kolon Fjords Processing

Offshore plant equipment design and manufacturing

* Source: Ministry of Trade, Industry & Energy

In particular, Kolon Fjords Processing, a joint venture established in July 2014 between Kolon Group and Aker Solutions, will design and manufacture offshore plant equipment used for the highly advanced dehydration process, separating water from oil and natural gas at the drilling stage. •It is another example of where Korea attracted foreign investment into less-developed areas. Aker Solutions is a global leader in the dehydration plant sector, where Korean companies have had to rely on foreign vendors due to a lack of technologies.

Industry value chain (global value chain type and necessity of investment) The global value chain of the offshore plant segment encompasses feasibility studies on target sites, exploration, drilling and appraisal, designing based on key variables and environmental conditions, offshore platform construction, transport and installation and commissioning. •At the feasibility study and preliminary exploration stage, marine geophysical studies and the exploration of physical conditions (anticlinal structures) are conducted. The key vessels include geophysical survey vessels, which generate artificial seismic waves for exploration. - ‌Countries that actively explore and develop offshore energy resources have oil or gas blocks within their territorial waters. These include advanced countries as well as Southeast Asian countries. - ‌Countries with offshore oil fields have state-run oil monopolies to serve national interest. Accordingly, it is difficult for Korea, which lacks economically viable oil fields in its territorial waters, to pursue energy development projects overseas.

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OFFSHORE PLANT

01 OVERVIEW OF THE OFFSHORE PLANT INDUSTRY

•At the wildcat and appraisal drilling stage, the first well is drilled in search of a new oil reservoir. If

the wildcat drilling proves to be successful, more wells are drilled for economic feasibility testing and then appraisal drilling is carried out in order to make investment decisions. Key vessels and equipment used at this stage include drill ships, drill rigs, AHTS and standby vessels. - ‌The most competitive players in this segment are Europe and the United States, who have knowhow and superior technologies in energy development and production. Energy-rich countries have a market-leading position. - I‌ n the United States and Europe, energy-related businesses are well-developed and diversified, and thus energy developers as well as drilling companies own their drillships. In other countries such as China, Brazil, Mexico and India, state-run oil companies own drillships to develop national energy resources.

Offshore plant fabrication by major country Country

- ‌In particular, production design creates blueprints, which enable production and installation according to the actual conditions of production or installation sites. Major Korean shipbuilders have the largest competitive advantage in production design thanks to their extensive track record.

Value chain of the offshore plant market Feasibility study & preliminary exploration

Drilling and appraisal

Design

Construction & fabrication

Transport

Design & commissioning

O&M

* Source: Ministry of Knowledge Economy, Competitiveness Analysis and Long- and Short-term Development Strategy for Offshore Plant Industry (2013)

•In the construction and fabrication stage, offshore vessels and plants such as platform, FPSO,

TLP, SPAR and subsea production facilities are fabricated as designed.

Details

Korea

•Semi-submersible drillship: Korea’s three major shipbuilders have a track record in semi-submersible drillships. •Drillship → Samsung Heavy Industries has won the largest number of orders and a relatively stronger construction capacity. •FPSO → Korea’s three major companies have a track record in building FPSOs from the mid-to-large and superlarge segment. •LNG-FPSO → Samsung Heavy Industries is building LNG-FPSO for Shell, and Daewoo Shipbuilding & Marine Engineering is building one for Petronas. •LNG-FSRU → Most orders go to Hyundai, Samsung, Daewoo and STX.

China

•COSCO Nantong received one CFPU order from KNOC and two drillship orders from S-Drill (USA). Dalian Shipbuilding Industry Company (DSIC) received one FPSO order from CNOOC. The China State Shipbuilding Corporation (CSSC)-affiliated Shanghai Shipyard received four drillship orders from Reignwood Group. China led the global jackup market in 2013. •With strong government support, state-run oil companies have aggressively entered the global natural resource development market, especially in Africa and South America through direct investment or M&A. •When Chinese companies such as CNOOC conduct overseas oil development projects, they are required to construct and procure equipment such as FPSO and drilling rigs from China (China Shipbuilding Industry Corporation). It is mandatory that they use equipment made in China.

Japan

•The government provides policy support for the advancement of Mitsui and Mitsubishi into the offshore market. Mitsubishi has emerged as the third-largest LNG producer in Southeast Asia and Australia. Mitsui has a profitable subsidiary-MODEC-which specializes in offshore personnel management and FPSO-leasing business. •Key companies include Mitsui, Mitsubishi, E&S, IHI, Tokyo Gas and Osaka Gas.

•In the design stage, production structures are designed to meet the environmental conditions

of oil reserves. The design stage includes conceptual design, front end engineering design (FEED), basic design, detail design, production design and support engineering, which is required for load-out, transport and installation.

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•In the global FPSO market, Singapore accounts for 70% of the upgrade and conversion segment and 20% of the repair segment. There are more than 1,000 global equipment and engineering service companies in Singapore. Singapore Singapore used to have a 70% share of the global jackup market before being overtaken by China in 2013. •Key companies include Keppel (specializes in jackup, semi-submersible Ensco 8501, AHTS, PV Drilling I, II, III) and Jurong (jackup, FPSO conversion, semi-submersible).

- ‌Korean companies have a competitive edge in offshore plant building and fabrication, having developed knowhow and technologies through various projects. Key offshore plant market segments include floating semisubmersible, drill-ship, FPSO, LNG-FPSO and LNG-FSRU. - ‌Singapore is a global leader in the offshore plant upgrade and conversion market. China has fast emerged in the fixed offshore plant and jackup markets despite competition with many countries.

•‌At the transportation, installation and commissioning stage, self-propelled semi-submergible

ships, large barges or tug boats are used for transportation. Offshore plants are assembled onshore as much as possible to allow quick hook-up and commissioning offshore. - ‌Offshore plants are transported for on-site assembly, after pre-assembly works are completed onshore to the largest extent possible. Dockwise, a Dutch company, has a leading position in the transportation segment. - ‌In the installation segment, the unit price per project is relatively low. If the installation market is dominated by a handful of companies, the entire project schedule depends on the availability of installation vessels. Market leaders include McDermott (USA) and Saipem (Italy).

•At the operation and maintenance stage, oil majors and oil-producing countries directly

operate and maintain offshore vessels. Some countries like France have global energy companies (Total), even though they do not have oil fields.

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02 KOREAN OFFSHORE PLANT INDUSTRY: COMPETITIVE STANDING AND OUTLOOK

KOREAN OFFSHORE PLANT INDUSTRY: COMPETITIVE STANDING AND OUTLOOK

Geographical distribution of the offshore plant industry

Korea’s offshore plant clusters are concentrated in South Gyeongsang Province. These clusters coincide with areas where major shipbuilders build large offshore plants for global customers. •Offshore plants are mostly constructed in Ulsan (Hyundai Heavy Industries) and Geoje City in South Gyeongsang Province (Samsung Heavy Industries and Daewoo Shipbuilding & Marine Engineering). Related equipment production and engineering is conducted in Seoul, Busan and Ulsan. Korean offshore plant industry and infrastructure Industry and Infrastructure by Region •Ulsan Offshore plant construction / Seoul Engineering OSV •Busan Equipment / R&D center / HR Daejeon Daedeok Research Complex development •South Gyeongsang Samsung Heavy Industries Construction / testing & Hyundai Heavy Obi General Industrial Complex Ulsan Industries appraisal / OSV Okpo National Industrial Complex Busan •South Jeolla Noksan National STX Gwangyang Geoje Industrial Complex OSV bay area Mokpo Daewoo Shipbuilding •Daejeon FEZ & Marine Engineering Special research zone / basin Daebul National Galsaman shipbuilding General •Seoul Industrial Complex Industrial Complex Engineering

Offshore Plant Comprehensive Testing Center (Hadong)

Offshore Plant Equipment Testing & Appraisal Center (Geoje)

Offshore Plant Design Expert Development Center (Busan, Jung-gu)

Offshore Plant Equipment R&D Center (Busan, Gangseo-gu) Offshore Plant Industry Support Center (Geoje)

* Source: Maritime Korea (2012) and the Busan Ilbo (2013)

•Hyundai Heavy Industries, headquartered in Ulsan, reported order receipts worth USD 7.13

billion, including semi-submersible rig (USD 630 million) and fixed and floating offshore plant orders (USD 6.5 billion). Hyundai Heavy Industries’ key offshore plant projects Goliat FPSO (ENI)

Q204 FPSO (BP)

Rosebank FPSO (Chevron)

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OFFSHORE PLANT

02 KOREAN OFFSHORE PLANT INDUSTRY: COMPETITIVE STANDING AND OUTLOOK

•Samsung Heavy Industries has a shipyard in Geoje City, South Gyeongsang Province. The

company has fast expanded its offshore plant business, which recorded new orders of USD 8.65 billion in 2013 and accounted for 65% of the company’s total orders. The backlog of offshore plant orders amounted to USD 26.3 billion, or 71% of the total order backlog. Samsung Heavy Industries’ key offshore plant projects LNG FPSO (Shell)

Arctic drillship (Stena)

Bonga FPSO (Shell)

15

As in the case with the geographical distribution of offshore plant builders, offshore-plant related research, testing and demonstration facilities are concentrated in South Gyeongsang and South Jeolla provinces, which creates easy access to related infrastructure. •In particular, the ocean engineering basin is scheduled for start-up in 2016 in the western part of Busan. In the Galsa Bay Shipbuilding Industrial Park in Hadong, a demonstration bed will be established to test the performance of deepwater energy production facilities. The Korea Marine Equipment Research Institute, which conducts tests on maritime equipment, is also located in Busan. - ‌The ocean engineering basin will test the performance of deepwater offshore plant designs. It is the world’s largest of its kind and can simulate actual environmental conditions such as waves, wind and tide, enabling related companies and research institutes to develop various deepwater facility technologies and test performances.

Ocean Engineering Basin in Busan Wave Generation System

Wind Generation System

•Daewoo Shipbuilding & Marine Engineering has a shipyard in Geoje City. Its offshore plant

order receipts sharply increased to USD 8.1 billion, or 60% of the company’s total order receipts in 2013. At the end of September, 2014, offshore plant order backlogs amounted to USD 27.4 billion, or 59%, of the total order backlog. Daewoo Shipbuilding & Marine Engineering’s major offshore plant projects LNG FPSO (Petronas)

LNG-FSRU (MOL)

Drill-ship (Aker Drilling)

Major Korean companies are among the most competitive players in the construction and fabrication segment but lag behind in the feasibility study, engineering, installation, commissioning and maintenance segments. •By country, the United States, France and UK are most competitive across the supply chain of offshore plants, except for the construction and fabrication segments. - ‌While Korea ranked in the top-tier in terms of competiveness in construction and fabrication, the country ranked in the mid-tier in most parameters and the bottom-tier in feasibility studies and preliminary exploration.

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OFFSHORE PLANT

02 KOREAN OFFSHORE PLANT INDUSTRY: COMPETITIVE STANDING AND OUTLOOK

•A company’s track record is essential for penetrating the off-shore market. However, there are

National competitiveness comparison in the supply chain of the offshore plant industry Feasibility studies & preliminary exploration

Drilling & appraisal

Design

Construction & Installation & Operation & Transportation fabrication commissioning maintenance

Korea

Bottom

Mid

Mid

Top

Mid

Mid / Top

Mid

USA

Top

Top

Top

Mid

Top

Top

Top

Japan

Mid

Mid

Top

Mid

Mid

Top

Mid

France

Top

Top

Top

Mid

Top

Top

Top

UK

Top

Top

Top

Mid

Top

Top

Top

Italy

Top

Top

Mid

Mid

Mid

Mid

Mid

Netherlands

Mid

Mid

Mid

Mid

Top

Mid

Mid

Switzerland

Mid

Mid

Mid

Bottom

Mid

Mid

Mid

China

Bottom

Bottom

Mid

Mid

Mid

Mid

Mid

Brazil

Mid

Mid

Mid

Mid

Mid

Mid

Mid

India

Mid

Mid

Mid

Bottom

Bottom

Mid

Mid

Singapore

Bottom

Bottom

Mid

Mid

Mid

Mid

Mid

* Source: Ministry of Knowledge Economy, Competitive Analysis and Mid- and Long-term Development Plan for Offshore Plant Industry (2011)

17

limitations for small-size Korean equipment makers to build a track-record while pursuing inhouse development. •Various types of offshore equipment have been imported amid an increase in offshore plant construction. If related companies seek to produce equipment through investments in Korea, chances are high that they will secure significant competitiveness compared to imported equipment.

Outlook for market entry

The outlook is bright for overseas engineering companies specializing in offshore plant equipment, FEED and basic design areas where Korea is not self-sufficient. •Though there are efforts to domestically procure offshore plant equipment, it takes a long time to develop technologies in-house and deliver applications. As Korea’s top three shipbuilders can build offshore plants based on detail design, offshore FEED and basic design usually go to foreign companies through a consortium. - ‌Investments in Korea will help relocate production and design sites to Korea and integrate with the Korean offshore plant supply-chain, which is expected to enable project centralization, create synergy effects and achieve significant performance accordingly.

Promising Korean market segments and regions for foreign investors

The Korean offshore plant equipment and engineering segments look promising for foreign investors, as the business expansion of Korea’s big three players − Hyundai Heavy Industries, Samsung Heavy Industries and Daewoo Shipbuilding & Marine Engineering − has been driving demand growth. •Korea’s offshore plant production has increased every year, but only about 20% of topsideplant equipment is domestically procured. Share of domestically procured offshore plant equipment by type Type

Share of domestic equipment

Machinery equipment

15 - 20%

•Most machinery equipment is imported. •Simple fabrication and equipment such as vessels and heat exchangers are domestically procured.

Piping materials

15 - 20%

•Bulk materials and general-purpose valves are domestically procured. •High-pressure and special-material valves are imported. •Instrumentation equipment such as control valves and shutdown valves are entirely imported.

Electric equipment

35 - 45%

•Most electric panels are imported due to UL and certificate issues. •Electric motors are mostly imported. •Bulk materials such as cables and trays are domestically procured.

Instrumentation equipment

10 - 15%

•Most instrumentation equipment is imported. •Only bulk materials such as tubing and tube fitting are domestically procured.

Safety equipment

Around 5%

•Most safety equipment is imported.

Note

Reasons to domestically produce offshore plant equipment •Need for frequent communication with vendors (Time difference and regional issues occur.) •Difficulties in delivery management •Need for frequent meetings to address technical issues •Difficulties participating in various inspection and testing •Problems in equipment shipment (transport time, dissembled transport, etc.) •Shortage of field constructability and risks of mismatch upon yard construction •Difficulties in addressing problems identified during commissioning (extra time requirement) •Difficulties in mobilizing field service engineers

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OFFSHORE PLANT

03 GOVERNMENT POLICIES AND RELATED REGULATIONS

Government policies for the offshore plant industry

19

A variety of policy support is provided to ensure that foreign companies investing in the lessdeveloped segments of the Korean offshore plant market (equipment, engineering, etc.) can deliver tangible investment results. •The Korean government has continuously improved the country’s investment environment by promoting concrete partnerships such as joint research between foreign investors and Korean companies and joint advancement to overseas markets, while striving to attract foreign companies to free economic zones and special R&D zones. - ‌In 2012, the Ministry of Trade, Industry & Energy (then the Ministry of Knowledge Economy) established “Development Plans for Offshore Plant Industry” and launched 26 accompanying tasks to systematically promote the offshore plant industry as a future growth industry. - ‌Global offshore plant manufacturers, related equipment manufacturers and the government will lead the effort to establish research infrastructure for the creation of a world-class offshore plant ecosystem.

•In particular, the Korean government has set a policy agenda for increasing the domestic

production of offshore plant equipment and improving competitiveness. Accordingly, the government has taken accompanying measures to develop core technologies, promote the domestic production of offshore plant equipment and support overseas market expansion, while providing a variety of support and pursuing institutional improvements to attract foreign investment. - ‌The Korean government established a “Technology Roadmap for Offshore Plant Industry” for the development of core offshore plant technologies. Since 2014, the government has aggressively pursued the gradual development of 100 core technologies in four segments identified by the roadmap.

Government-driven development of core offshore plant technologies

GOVERNMENT POLICIES AND RELATED REGULATIONS

100 core technologies

Drilling (28 technologies), FPSO (21), FLNG (26) and Subsea / OSV (25)

Technology development projects

•(Deepwater) Development of environment-friendly offshore plant technology for deepwater resource production (July 2012 - June 2018, KRW 243 billion (USD 219 million )*) •(Equipment) 15 tasks including drillship flare system development (June 2012 - April 2015, KRW 30.4 billion), two tasks including the development of a high-pressure probe used for subsea pipeline monitoring (April 2013 - March 2014, KRW 2 billion) •(Process technology) Opportunity crudes production & processing technologies and organic acid / calcium removing technology (June 2013 - May 2018, KRW 3.8 billion) •(IT conversion) Development of predictive maintenance system to deliver integrated offshore plant operation, maintenance and repair services (May 2013 - April 2017, KRW 13.9 billion)

- ‌Regional research facilities and collaboration between research institutions will be enhanced to lay the groundwork for offshore plant research.

* Currency conversion based on February, 23, 2015 rate.

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03 GOVERNMENT POLICIES AND RELATED REGULATIONS

Efforts to enhance regional offshore plant research facilities Region

Enhancement of offshore plant research facilities

Busan / Geoje

•Ocean Engineering Basin (Busan, 2013~) •Offshore plant R&D special zone (Busan, 2012~) •Equipment R&D center (Busan, 2012~) •Equipment Test & Certification Center (Geoje, 2012~) •Offshore Plant Industry Support Center (Geoje, 2013~, Ministry of Oceans and Fisheries) •Shipbuilding and Maritime Equipment Performance Upgrade Support (Busan and neighboring areas)

Hadong, South Gyeongsang Province

•Explosives and Fire Testing Center (Hadong, 2011~) •Establishment of Demonstration Bed for Deepwater Energy Production Facilities (Southwest Gyeongsang Province)

•Shipbuilding and offshore plant industry conversion district (Mokpo, 2012~) Mokpo / Gunsan •Green Vessel Testing & Certification Center (Gunsan, 2013~, Ministry of Oceans and Fisheries) •Establishment of offshore plant cable testing & research center (Southwest region)

•The government seeks to attract investments from leading global companies in areas such as

offshore plant equipment and engineering, where it takes a long time to develop technologies domestically, and to build partnerships for joint advancement into global markets. - ‌The central government, together with regional authorities, makes aggressive efforts to attract research institutes, specialized equipment manufacturers and engineering companies to free economic zones and special R&D districts. In particular, major international industry fairs are considered an opportunity to discuss investment potential with major global equipment and engineering companies. - S‌ trategic cooperation between global leading investment companies and domestic companies can be strengthened through partnerships. The government provides policy support for joint R&D and joint advancement into the global market between foreign investors and domestic companies (2014 and onward). - ‌Continuous institutional improvements will be made to attract foreign investment. Policy support has been expanded for the attraction of major foreign institutions and companies in free economic zones (August 2013, revised guideline for state-subsidized projects to support the attraction of foreign institutions).

•A number of universities are designated as universities specializing in the offshore plant

segment, which will develop a skilled workforce in the offshore plant segment and promote academy-industry cooperation. These universities will serve as a channel for exchange with global companies. - ‌Seoul National University, Inha University and Korea Maritime and Ocean University were named universities specializing in offshore plants in April of 2013. The government plans to gradually increase the number of universities specializing in offshore plants from three in 2013 to six in 2020 and to provide support for the enhancement of research and education in engineering, especially FEED, project management (PMC) and practical design. - ‌POSTECH established the Graduate School of Engineering Mastership in September of 2012. The number of universities specializing in engineering will be gradually increased, from one in 2013 to 10 in 2020. The establishment of an engineering and development research center is underway to enhance engineering education at universities (Supporting curriculum design, industry-academy cooperation and overseas study). - ‌Sophisticated design capabilities are enhanced through exchanges, cooperation and networking between domestic and foreign offshore plant companies. For example, the UK’s JEE and the Korea Offshore & Shipbuilding Association (KOSHIPA) signed an MOU on November 5, 2013. Discussions are underway with the United States’ Campbell for bilateral cooperation.

21

Foreign investors are entitled to tax relief on corporate income and dividend income on stocks and equity stakes earned from industry-related service and high-tech businesses, which are eligible for tax benefits and contribute to enhancing the global competitiveness of the Korean industries. •Foreign investors are entitled to lower acquisition and property taxes for operating assets related to areas such as offshore plant engineering and equipment businesses, which are subject to tax cuts. - ‌Tariffs, individual consumption tax and value added tax are exempted for certain capital goods that are reported as necessary for the business by foreign-invested projects that are entitled to tax cuts.

•In particular, the Korean government recently decided to overhaul the related system and offer

greater tax benefits in order to encourage global companies to establish their headquarters in Korea. - ‌Foreign employees working at headquarters remain eligible for a special income tax relief. Currently, foreign employees are subject to a flat income tax rate of 17%, regardless of their income (Applicable to foreign employees working at headquarters from 2015). - I‌ n the case of internal transactions between foreign-invested companies in Korea and their overseas subsidiaries, the same items are subject to different tax rates. However, the taxation system will be overhauled to apply a proper level of tax to international transactions. - T‌ he transfer pricing calculation of intangible assets has been streamlined, and the D8 visa for foreign employees working at headquarters can be extended up to five years.

•The Korean government also focuses on promoting offshore R&D centers. Currently, foreign

technicians are entitled to a 50% cut in income tax for the first two years (The tax benefit has been extended to 2018). - ‌The government has expanded its lease subsidy for foreign investors to include buildings as well as plant sites. The Ministry of Trade, Industry & Energy provides full support when foreign-invested R&D centers seek partnerships with universities in Korea.

•In addition, the Korean government takes job-creation effects into consideration when

estimating the tax cut limit for foreign-invested companies. The amount of the lease payment can be reduced for foreign companies that have contributed significantly to creating jobs in Korea.

22

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04 COST

Cost breakdown of the offshore plant industry

The cost of an average offshore plant breaks down to materials (56.6%), labor expenses and outsourced processing (26.8%) and expenses (16.5%), though there are differences by product. •In terms of labor force, the share of in-house technical staff has declined, but the share of subcontracting has increased. Accordingly, the share of labor expenses has gradually declined, but the share of outsourced processing has significantly increased. Cost breakdown of offshore plant industry Item

Share (%)

Materials

56.62

Labor expenses

8.45 Processing outsourcing

18.4

Depreciation

Expenses

1.8

Recurrent R&D expenses

0.07

Other

14.63

Total

100.0

•Material costs accounted for the largest share of offshore plant costs. By item, steel products

account for about 4% of the total materials costs, equipment and devices about 20 - 30%, pipes 3 - 11% and electrical materials 2 - 4%. - ‌However, the material cost structure varies depending on the type of offshore plants. For example, pipes account for a larger share of material costs for FPSOs (floating production storage and offloading vessels) than for drillships. - ‌Expenses regarding transportation, post-delivery adjustment and labor can be reduced when foreign-invested companies produce equipment domestically for Korean companies.

Key offshore plant materials: Cost breakdown

COST

Item

Steel

Engine

Device / equipment

Pipe

Chamber materials

Electrical parts

Outfitting

Other

Share

FPSO

4.4

0.5

33.7

11.2

0.5

2.0

1.7

2.9

56.9

Semi-Rig

4.2

3.8

15.5

3.2

0.9

3.8

2.4

2.0

35.8

Drillship

3.9

2.0

25.0

2.8

0.7

2.6

1.3

5.4

43.7

24

Human resource: Supply and demand

OFFSHORE PLANT

25

04 COST

Skilled labor supply in the offshore plant and shipbuilding segments (2013)

The number of people employed in the offshore plant and shipbuilding industry slightly declined after the global financial crisis in 2008 but recovered to 168,048 as of 2013, marking a 3.1-fold increase from 2000 thanks to a continued boom in the offshore plant market. Number of people employed in the Korean offshore plant and shipbuilding industry 

No. of graduates (A)

No. of graduates employed (B)

% (B/A)

Undergraduate school

715

422

59.0

Graduate school

122

79

64.8

Total

837

501

59.9

936

640

68.4

1,773

1,141

64.4

Item

4-year program (19) (Unit: People)

Junior college (17)

180,000 160,000

136,769

Total

168,048

(Unit: People, %)

* Source: Korea Offshore & Shipbuilding Association

140,000 120,000 100,000

- ‌Meanwhile, there was a constant shortage of skilled labor during the market boom. The shortage eased during a market contraction but widened again.

80,000 60,000 40,000

38,859

Change in skilled labor in the offshore plant and shipbuilding industry 

20,000 0

(Unit: People)

1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 120,000

* Source: Korea Offshore & Shipbuilding Association

Subcontracted skilled labor

100,000

•Demand for skilled labor remained stagnant until 2005 but recovered quickly afterwards

80,000

thanks to an increase in offshore plant orders and product convergence. Demand has recently seen moderate growth.

60,000 In-house skilled labor

40,000 20,000

Number of skilled laborers in the Korean offshore plant and shipbuilding industry 

0

(Unit: People)

1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013

* Source: Korea Offshore & Shipbuilding Association

25,000 20,000 15,000 10,000 5,000 0

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

* Source: Korea Offshore & Shipbuilding Association * Note: Based on shipbuilding and offshore (excluding others)

Profitability relative to cost

In terms of the profitability of the offshore plant industry, the operating margin has dropped to a 3% level due to a decline in order prices and an additional building cost burden. Korean offshore plant industry: Change in operating margin 10%

•In terms of the supply of skilled labor, the number of university departments related to

shipbuilding and ocean engineering has jumped nationwide to 36 compared to 11 in 2005 driven by a market boom. - ‌Along with an increase in the number of related university departments, the numbers of freshmen and graduates stood at 2,807 and 1,773, respectively, as of 2013. As students started to graduate from the newly established departments, the number of graduates has significantly increased.

8.4%

9.3%

8%

8.4%

6% 4%

5.5% 4.3%

3.6%

2% 0%

2007

2008

* Source: Korea Offshore & Shipbuilding Association

2009

2010

2011

2012

3.0%

2013

26

FINANCE PLANT OFFSHORE

05 SUCCESS CASES

SUCCESS CASES

Overview of successful foreign investment attraction Global headquarters of General Electric’s shipbuilding and offshore division (05 / 2013)

27

As it has not been long since the offshore plant industry has been gaining growth momentum in Korea, the industry has only recently started to attract foreign investment. •Despite successful efforts to attract foreign investment in Korea, the industry is in its early stage and thus it is premature to determine whether the industry can continue to generate desirable results in the future.

GE’s investment is a good example of Korea attracting investments through efforts to create a favorable ecosystem for the offshore plant industry and to improve investment conditions. Korea attracted investments from General Electric (GE), which established the global headquarters of its shipbuilding and offshore division in Busan, in May of 2013 and opened an education and training center in October of 2013. Investor / country: GE (USA) •Investment destination / company name (investment area): Busan, Korea / GE Korea (global headquarters for offshore and marine businesses) •Type of investment: Stand-alone •Date of report / investment scale: May 2013 / USD 2 million

28

OFFSHORE PLANT

•GE established its Korean subsidiary, GE Korea, in 1976 and has undertaken various projects in

areas such as healthcare, engineering procurement construction (EPC), airline and shipbuilding and offshore. The company’s total investments to date have exceeded USD 3 billion. - ‌The company reported annual sales of USD 1.8 billion, USD 1.44 billion of which comes from the manufacturing segment. The company employees about 1,400 people and creates more than 200 jobs a year. - ‌In the manufacturing division, ultrasound devices are manufactured in Sungnam, Gyeonggi Province, sensors in Pyeongtaek, chemicals in Iksan and valves in Ulsan. Its R&D centers are divided into appliances, advanced sensors and control systems in Pangyo and a healthcare IT center is located in Songdo, Incheon. - T‌ he offshore engineering business division at GE headquarters is engaged in operational businesses related to its various offshore support vessels (OSVs) such as PSV, AHT / AHTS and CSV, along with other businesses such as ocean energy production solutions, shipbuilding design and project operation.

Investment incentives

In establishing the global headquarters of its shipbuilding and offshore division in Korea, GE benefits from greater tax relief, as its investment meets government qualifications as the headquarters of a global company. •Foreign employees working at the global headquarters of GE’s shipbuilding and offshore division remain entitled to a special income tax rate. •Taxation issues are expected to be improved in line with the new system, and the D8 visa (foreign investment visa) can be extended up to five years for foreign employees working at headquarters.

05 SUCCESS CASES

Investment results

29

GE established the global headquarters of its shipbuilding and offshore division and the Power Conversion Training Center in Busan and has been developing a talent pool of experts. The company is pursuing related businesses. •The headquarters opened in October of 2013. About 10 experts and a number of related engineers work full-time to provide services to its shipyard customers. •The GE Power Conversion Training Center, established in October of 2013, is equipped with drillships and LNG carrier simulators, and specialized instructors and engineers, including a French instructor, hold trainings for shipyard employees. GE Power Conversion Training Center •Location of training site and scale: Busan, 660 m2 •Training topic: Equipment produced by GE Power Conversion •Instructor and program: 2 instructors (incl. a French instructor), minimum 5 people per course

every year / total of 50 courses expected to be provided. •Training device: Drillships and LNG carrier simulator (KRW 1 billion investment)

30

OFFSHORE PLANT

31

06 RELATED COMPANIES AND ASSOCIATIONS

Related companies

Hyundai Heavy Industries Hyundai Heavy Industries is the world’s largest shipbuilder and has an order backlog of 152 vessels, or 18,860,000 dead weight tons, as of August, 2014 (including Gunsan Shipyard). The company has been conducting various offshore plant projects such as drillships, FPSOs and FPUs. •Among offshore products, drillships are constructed by the shipbuilding business division

and other offshore plant products are constructed by the offshore and engineering business division. Drillships and semi-submersible vessels accounted for 20% of the order backlogs as of August 2014, and the sales portion of drillships stood at 39% in 2013. Breakdown of Hyundai Heavy Industries’ vessel sales (left) and orders (right) Semi-submersible rig 2% Bulk carrier 1% P/C 1% Others 1%

Special vessel 3% PCTC 3% Tanker 4% LPG carrier 7%

Others 2% Semi-submersible -rig 6%

Container carrier 17%

Special vessel 9%

LNG carrier 18%

Tanker 11%

Drillship 14%

Container carrier 23%

Bulk carrier 4%

Drillship 37%

LPG carrier 15%

LNG carrier 22%

* Total order backlog as of end-August, 2015: 155 vessels (USD20.4 bn) on a delivery basis

* Source: Hyundai Heavy Industries IR (2014. 9) * Note: Sales breakdown at the end of 2013, order backlogs as of August 2014

•Fixed and floating production facilities accounted for 79% of offshore plant businesses.

Breakdown of Hyundai Heavy Industries’ offshore & engineering sales (left) Sales and orders (right ) (Unit: Sales in KRW bn, new orders in USD mn)

7,000

RELATED COMPANIES AND ASSOCIATIONS

Vessel 1%

Pipeline 11%

6,503

Sales

6,000

New orders

5,000

4,480 4,373

4,000 3,000 2,000 Fixed / floating platform 79%

* Source: Hyundai Heavy Industries (September, 2014)

1,997 2,222 1,935

3,729 2,072

1,102

1,000 0

3,423 3,413 3,095 3,069 2,978 2,352

4,753

2006

2007

2008

2009

2010

2011

2012

2013

32

OFFSHORE PLANT

Samsung Heavy Industries

Cost breakdown of Daewoo Shipbuilding & Marine Engineering

Samsung Heavy Industries, the world’s second-largest shipbuilder, has an order backlog of 91 vessels or 8390,000 DWT, as of August 2014. Drillships account for the largest share of the total ships constructed by the company as well as the total order backlogs. Also, Samsung Heavy Industries is building the world’s largest LNG-FPSO for Shell. •Samsung Heavy Industries has an order backlog worth USD 37 billion as of July, 2014, which breaks down to offshore plant facilities such as drilling rig and production facilities (71%), commercial vessels such as LNG carriers and container carriers (29%). •The sales portion of the offshore plant segment has been growing. The operating margin declined from 10.8% in 2010 to 6.2% in 2013 due to cuts in ship prices and cost hikes.

(Unit: USD 100 million) Offshore Commercial vessel

487 421

407

393

383

372

375

370

263

(Unit: KRW trillion, %)

20

Offshore Commercial vessel E&I OP margin

15

15

8.5 6.4

5

7.1

13.1

13.4 8.7

14.5

14.8

2007

2008

2009

2010

2011

2012

2013 2014.7

2006

8.3

11

6.2

6.1

Equipment

30,000

Pipes

25,000

Other Materials

20,000

Labor

15,000

Expenses

10,000

SG&A

5,000 0

1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q

2007

2008

2009

2010

2011

2012

Operating Income

2013 2014

1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q

2007

2008

2009

2010

2011

2012

2013 2014

to sales since 2009. Among total sales in 2014, commercial vessels and offshore plants are estimated to account for 36% and 64%, respectively.

2009

2010

2011

Daewoo Shipbuilding & Marine Engineering’s sales contribution by product

2012

(Unit: %)

5

Production Unit &

3

Offshore, ect.

1 2008

Main Engines

35,000

(Unit: %)

7

4.7

2007

40,000

1 0.9 0.8 0.7 0.6 0.5 0.4 0.3 0.2 0.1 0

9

1.6 -

Steel Plate

13 10.8 13.1

10.6

10

(Unit: KRW 100 million)

45,000

•The sales breakdown shows that the offshore plant business has increasingly contributed

Samsung Heavy Industries’ order backlogs (left) and sales (right) by business unit

2006

33

06 RELATED COMPANIES AND ASSOCIATIONS

2013

-1

Drilling Unit (Drill ship, semi-rig)

31

LNG Cont.

* Source: Samsung Heavy Industries IR (August, 2014)

18

Tanker

15

Daewoo Shipbuilding & Marine Engineering, the world’s third largest shipbuilder, has an order backlog of 105 vessels or 1,420,000 DWT as of August 2014 and is building LNG-FPSO for Malaysia Petronas. •Daewoo Shipbuilding & Marine Engineering has been undertaking drillship, FPSO and floating storage & regasification unit (FSRU) projects. •Daewoo Shipbuilding & Marine Engineering is experiencing a decline in steel plate costs and operating profit due to low ship prices and an increase in equipment costs, labor expenses and outsourced processing expenses.

32 15 16

21 2005

27

29

35

12

29

19 3

15

Bulk & Other

Daewoo Shipbuilding & Marine Engineering

23

7

36

31

11

14

13

12

15 27 11

10

29

22 19

27 20

90

30

25

80 64

19

14

13

14

12

13

2006

2007

2008

2009

2010

2011

60 40

25 11

70 50

7 11

18

* Source: Daewoo Shipbuilding & Marine Engineering IR (2014.10)

100

30 25

10

8

2012

2013

36

20 10

2

2014e

0

34

Related associations

OFFSHORE PLANT

Korea Offshore & Shipbuilding Association (www.koshipa.or.kr) Objective of establishment: The Korea Offshore & Shipbuilding Association was established in July of 1977 to enhance the market information system and mutual benefits through collaboration between shipbuilding and offshore plant companies and industry-wide cooperation and to boost the growth of Korea’s shipbuilding and offshore industry and shipbuilding exports by further developing the shipbuilding and offshore sector. Key roles: The association helps create a level playing field for member companies, operate the productivity consultation committee and enhance information exchange and international cooperation. •The association operates the policy consultation committee to establish a fair and orderly market for member companies. The policy consultation committee is responsible for 1) making key policy decisions, 2) promoting cooperation with shipowners’ associations in Korea and abroad, 3) operating various consultation committees and 4) coordinating joint efforts to promote international cooperation. In addition, the association holds the shipyard leadership meetings 1) to share information on ways to improve shipyard operations, 2) to provide support and tasks for consultation bodies created under the association and 3) identify policy suggestions and develop joint countermeasures. •The association operates the Productivity Consultation Committee, which consists of suboperating committees related to hull, ship engine, ship equipment, painting, commissioning, quality and loading, to enhance productivity and promote technology development. The Productivity Consultation Committee 1) enhances member companies’ activities for productivity growth, 2) holds consultations on ways to improve production technologies, 3) publishes activity reports on department committees, 4) organizes seminars for division committees and 5) publishes the shipbuilding directory. •The association runs the Production Management Committee to exchange information on production and general market trends, identify challenges in the production field and propose improvements and operates the Technology Consultation Committee to 1) participate in international conferences such as IMO, 2) share information on design technologies and pursue joint R&D, 3) publish design and equipment standards by segment and 4) organize seminars at the department committee level.

06 RELATED COMPANIES AND ASSOCIATIONS

35

•The association supports the Korea Shipbuilding Research Association in an effort to manage

government-invested projects, to establish a system linking academia and industry, to identify mid- to long-term tasks for technology development and to undertake B2B network-building projects for the shipbuilding and offshore industry. •The association pursues various efforts to enhance international cooperation and address trade conflicts (operate the International Information Committee; attend the plenary sessions of the OECD WP6 and Supply-Demand Subcommittee; participate in JECKU (Japan-EuropeChina-Korea-USA) meeting among shipbuilding companies; participate in the new OECD shipbuilding agreement, other international conventions and exhibitions, etc.; seek domestic procurement and the standardization of offshore and shipbuilding equipment; enhance labor / safety and healthcare / environment management; conduct market survey and analysis; and undertake information system projects).

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