Value context and insight. lkm@koreatimes.co.kr
Fiscal woes deepen as number of 'zombie companies' spikes
gettyimagesbank
By Lee Kyung-min
'Strengthened social safety net should limit job losses'
By Lee Kyung-min
The number of companies unable to pay interest on loans reached 4,000 in 2019, fueling corporate insolvency concerns exacerbated by “zombie companies” amid the virus-induced economic meltdown due to their shaky financials that had already been in trouble long before the virus came into the picture.
Experts recommend corporate restructuring should be pursued equally with strengthened unemployment benefits, coupled with the greater role of private equity funds (PEFs) in the private sector.
A zombie company is an indebted business that only has funds to pay off interest on loans, but not the principle loans themselves, depending on creditors or government bailouts to keep afloat.
Data from the Korea Capital Market Institute (KCMI) released Dec. 7 during a seminar showed the number of zombie companies subject to external audits that reported interest coverage ratios below 1 for the third consecutive year reached a record high of 4,046 in 2019. The figure jumped from 1,716 in 2007 and 3,082 in 2015.
The ratio, used to assess the risk of lending to a firm, is calculated by dividing a company's earnings before interest and taxes by the company's interest expenses for the same period. It is used to see how well a firm can pay the interest on an outstanding debt. A ratio of below 1 means a company's operating profit was too small to even meet the interest payments.
Debts held by the firms amounted to 259 trillion won ($237 billion) in 2019, accounting for 13.5 percent of 1,858 trillion won in debt total owed by firms subject to external audit.
The data also showed that it took an average of 3.8 years for a company that first became a zombie company to have its financials strengthened enough to recover. Many others remained so for over 10 years.
More troublesome was the probability that zombie companies in the same state the following year increased to 75 percent in 2017, up from 68 percent in 2002, indicating that the firms survived only because of support from creditors and bailouts amid slowdown in restructuring.
“Many studies show that many zombie companies negatively affect other normal companies, undermining the overall vitality of the economy,” KCMI researcher Park Chang-kyun said.
“Empirical evidence compiled since the 2008 financial crisis show that marginal companies are not being dealt with in the market.”
The institute data show that an increase by 1 percentage point in the number of zombie companies will make a normal company see a drop of 6.75 percent in component productivity, an 8.5 percent decline in added value, a 2.87 percent drop in facility investment and 3.14 percent cut in wages.
The much-needed corporate restructuring nonetheless should come with a strengthened employment safety net, enabled by extending the maximum length of unemployment benefits for workers to 360 days, from the current 210 days.
“The greatest fear for many workers is that they could lose jobs once a company shuts down. The government should revise related policies to help allay that legitimate concern,” Park said.
Also in need of overhaul is the financing policy for small- and medium-sized enterprises (SMEs), which he says is much more generous compared to other countries.
“About 18 percent of SMEs' loans are from state policy financing, the highest among OECD member countries. Such excessive financing is a major factor that delays prompt closure of zombie companies. A private-led workgroup together with court-supervised bankruptcy or a self-rescue plan will help the country avoid a liquidity crisis,” he said.
At the seminar, Financial Supervisory Service Governor Yoon Suk-heun called for “pre-emptive corporate restructuring,” a process he considers pivotal to ensuring a soft landing of the domestic economy when current financial support comes to an end after the virus subsides.
“According to the Institute for International Finance, concern is growing over the financial soundness of companies as the global debt surpassed 30,000 trillion won in the third quarter of 2020, hitting an all-time high. The pace of corporate debt growth in Korea ranks third among OECD countries,” he said.
He views the number of zombie companies hitting an all-time high as attributable to low growth and low borrowing rates, a reason why he called for an “active role of the capital market.”
“Corporate restructuring led by creditor banks has reached its limits. Creditor banks should not be obsessed over short-term performance but must strengthen their corporate screening function, which in turn will help expedite sustainable growth of the economy,” he said.