Fitch: Korean Policy Banks the Most Exposed to Daewoo's Plight
(The following statement was released by the rating agency) SEOUL/SINGAPORE, March 29 (Fitch) The latest proposed bailout of Daewoo Shipbuilding & Marine Engineering would stave off court restructuring and limit the amount of capital that the South Korean government might need to inject into Daewoo's main creditors, Export-Import Bank of Korea (KEXIM) and Korea Development Bank (KDB), says Fitch Ratings. The two policy banks' capital buffers would be eroded if loans to Daewoo were recognised as non-performing, but their ratings are underpinned by state support and we would expect the government to quickly inject fresh capital if the bailout plan were to fail. Recent strains in Korea's shipping and shipbuilding sectors highlight the role that the policy banks play in managing the restructuring of strategically important industries, as well as the costs that this role can involve. The government's decision to bail out Daewoo contrasts with the actions taken with STX, which is going through a liquidation process, and may call into question its priorities when addressing structural problems in certain industries. The lack of a more commercial approach towards financially ailing large corporates could prolong mis-allocation of production resources, and hold back Korea's long-term growth prospects. The bailout itself is unlikely to cause significant stress in the banking sector or for the South Korean sovereign (AA-/Stable). KEXIM and KDB will swap KRW1.3 trillion of debt for hybrid capital and KRW0.3 trillion of debt for equity, and offer a KRW2.9 trillion credit line. The government will inject KRW1 trillion (around 0.07% of GDP) into KEXIM to shore up its capital if the plan goes ahead. The bailout is reliant on corporate bondholders and commercial banks also agreeing to debt-for-equity swaps on a proportion of their loans and grace periods for the remainder. Fitch estimates that the cost to banks other than KDB and KEXIM would be manageable, at around 5.7% of their 2016 net profit. The government plans to put the company through court restructuring if creditors fail to agree next month, which could have more significant repercussions. There might be structural benefits in the long term, but there would be a short-term negative impact on suppliers, employment and the economy, particularly in shipbuilding regions, and a higher capital need for the policy banks most exposed to Daewoo. Banks' asset quality would be more significantly affected if the bailout plan is not agreed. KEXIM's total exposure to Daewoo is worth around KRW10 trillion, which is 10 times as large as its capital buffer (retained earnings). KDB's exposure is almost as large, at around KRW8 trillion. These loans are currently classified as "precautionary" rather than non-performing. Fitch uses a precautionary-and-below loan ratio instead of the NPL ratio when assessing Korean banks' asset quality, to reflect the often-optimistic classification of exposure to large corporates like Daewoo. Commercial banks are less exposed than the policy banks, not just to the potential failure of Daewoo but to problems across the shipping and shipbuilding sectors. Fitch estimates that shipping and shipbuilding companies accounted for less than 2% of total loans at the "Big Four" banks at end-2016, compared with 19% on average at KDB and KEXIM. Daewoo is struggling with a sharp drop in new orders, reflecting significant oversupply in the global shipping industry, and is likely to report a loss of KRW2.7 trillion in 2016. It would not be able to repay its corporate bonds maturing this year without fresh funds. One creditor, the National Pension Fund, has already flagged legal concerns over accepting the bailout plan. It is likely that Daewoo would eventually require further support, even with the bailout, given the weak outlook for the shipbuilding sector. Contact: Heakyu Chang Senior Director Financial Institutions +82 2 3278 8363 Fitch Australia Pty Ltd, Korea Branch 9F Kyobo Securities Building 97, Uisadang-daero, Yeongdeungpo-Gu Seoul 07327, South Korea Matt Choi Associate Director Financial Institutions +82 2 3279 8372 Dan Martin Senior Analyst Fitch Wire +65 6796 7232 Media Relations: Leslie Tan, Singapore, Tel: +65 67 96 7234, Email: leslie.tan@fitchratings.com; Wai-Lun Wan, Hong Kong, Tel: +852 2263 9935, Email: wailun.wan@fitchratings.com. The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article can be accessed at www.fitchratings.com. All opinions expressed are those of Fitch Ratings. ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. 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