A string of bankruptcies in South Korea has prompted concerns that the country, already saddled with high levels of household debt, now faces the added challenge of dealing with a similar problem within its companies.
The spike in failures among second-tier chaebol, particularly in cyclically weak sectors such as construction, shipping and shipbuilding, partly reflects the domestic nature of their business: for every Samsung Electronics selling sleek smartphones and snappy tablets across the world, there are many more Korean companies reliant almost wholly on the sluggish home market.
It is also a legacy of the policies of former President Lee Myung-bak, whose generous support to the corporate sector after the 2008 collapse of Lehman Brothers left a raft of zombie companies entirely dependent on infusions of state cash.
The cost of that policy is now being seen in the likes of STX Corp, once one of the world’s leading shipping and shipbuilding groups; cement-to-financial services conglomerate Tongyang; Kumho Industrial, the building arm of Kumho Asiana Group; Ssangyong Engineering & Construction; and chemicals and energy group Woongjin – all of which have ended up either in bankruptcy courts or under creditor-led debt workout programmes.
“The second-tier chaebol groups … managed to survive the global financial crisis thanks to generous state support,” says Kim Sang-jo, economics professor at Hansung University; but some now “have reached the limit as a result of delayed restructuring”.
Retail investors, who bought up Tongyang’s short-term debt in their quest for higher yields, have been left holding a mountain of worthless paper after five units of the country’s 38th-largest conglomerate filed for court receivership last week. Out-of-pocket investors are now agitating for greater supervision of troubled companies.
Tongyang and its four affiliates have relied on short-term borrowing to stay afloat, selling Won1.5tn ($1.4bn) worth of corporate bonds and commercial paper to retail investors this year. Tongyang alone issued Won872.5bn of corporate debt despite having gross debt worth 650 per cent of its equity at the end of June.
“Many of the recently failed companies are those relying on domestic spending,” says Kwon Young-sun, economist at Nomura. “While Samsung Electronics and Hyundai Motor are doing well, thanks to strong exports, other companies focused on the domestic market have come under growing pressure amid sluggish domestic consumption.”
The bankruptcies have caused a rise in bad loans, especially at state-run banks including Korea Development Bank – which analysts expect to swing to a net loss for this year – and Woori Bank. According to Fitch, the banking-sector ratio of loans that already are non-performing or could go sour stood at 4 per cent of total loans as of end-June, up from 1.7 per cent at the end of 2007.
However, regulators say that there is no systemic risk, citing local banks’ relatively limited exposure to the troubled companies and their expanded loan loss provisions.
Still, economists reckon the growing corporate debt pile could pose a bigger threat to economic stability than high household indebtedness, which is already viewed as a time bomb with the potential to derail Korea’s economic recovery.
“I see more possible corporate failures around the corner with some of the chaebol groups like Hanjin, Dongbu and Hyundai already missing the right timing for restructuring,” says Prof Kim at Hansung University. “If the authorities fail to address the problems properly, investors could lose confidence in the economy, making it vulnerable to an external shock.”
Mindful of such criticism, authorities are now considering revising regulations to allow greater creditor supervision of weak companies, even if their direct exposure to such groups is limited.
Analysts say South Korean banks can cope with the recent series of corporate failures given their high capital adequacy ratios, but they caution that earnings will inevitably take a hit.
“The business cycles of such sectors as construction, shipping and shipbuilding are unlikely to improve any time soon, which would continue to put pressure on credit costs and asset quality of local banks,” says Chang Hye-kyu, analyst at Fitch Ratings.
Given the investor backlash, Mr Kwon at Nomura is optimistic that Tongyang’s failure could help speed restructuring of other ailing companies still trying to raise much-needed cash via debt markets.
“Uncompetitive companies should be restructured so that financial resources can be used for more productive areas,” he says.