'Debt-ridden firms, if neglected, will be seeds of crisis'

By Choi Sung-jin

“If Korea delays the restructuring of poorly-run, highly-leveraged businesses, they are highly likely to become the detonator of another economic crisis,” said two economists at a joint forum Tuesday.

Kim Yeong-uk, advisor to the Korea Institute for Finance, explained the serious situation facing the nation because of numerous marginal businesses, referring to companies that have an interest coverage ratio below 1. That means these firms could not pay interest on their loans with their earnings.

Kim, who represented the conservative group, said Korea’s corporate debt accounts for 150 percent of its gross domestic product, the highest among emerging economies. As of March last year, marginal companies’ debt amounted to 500 trillion won ($412 billion), 21.2 percent of the total corporate debt of 2,347 trillion won, he said.

These marginal companies accounted for 31.3 percent of all listed businesses in 2014, and the chronically marginal companies, or “corporate zombies” – firms with an interest payment ratio below 1 for three consecutive years – represented 15.3 percent of non-financial listed firms, he noted, adding that even 13 out of the 30 largest conglomerates have such “zombies” among their subsidiaries.

“The corporate debt issue has recently emerged as an urgent pending issue, even more so than household debt,” Kim said. “If interest rates rise in the future, it will sharply increase their interest burdens and the risk of default. Add to these the prolonged economic slump, and the nation has another detonating cap of a time bomb.”

Ha Jun, a research fellow at the Korea Institute for Industrial Economics and Trade, agreed.

Ha, who represents the progressive camp, said 28.1 percent of large businesses had an interest coverage ratio below 1 in 2014, up 3.3 percentage points in the previous year. The ratio of “good” firms (that have an interest coverage ratio of 1 or higher with falling debt ratio and rising revenue) had been on a steady decline to 28.4 percent in 2014.

“We should no longer attribute their aggravating financial status to external factors such as slumping demand and the global economic slowdown,” Ha said. “Many large enterprises, having established monopolistic market status and been accustomed to various government support in finance, taxation and labor areas, have neglected ceaseless innovation and enhancing competitiveness.”

Both economists stressed the need for swift restructuring of these ailing firms.

Kim said these marginal businesses can no longer easily get out of the crisis. “In the past, shaky businesses’ problems were short-term slowness in cash flows, which can be solved when the business cycle enters a boom,” he said. “Now that low economic growth has become a ‘new normal,’ however, it is all but impossible for insolvent firms to get out of their financial crunch.”

If corporate restructuring is delayed, those marginal companies will weaken the economy’s job-creating ability while disrupting trade orders by dumping their products in markets, throwing even “normal” companies into difficulties, he said.

Ha cited the examples of some businesses that have recently had solvency problems, and said they needed to enter the restructuring process voluntarily but hardly did so for fear of losing managerial control.

For more active corporate restructuring, Kim said, it is necessary to help speed up mergers and acquisitions by, for instance, relaxing regulations on private equity funds and imposing penalties on owners who drag their feet and lose appropriate timing for self-reform.

The government’s control tower for corporate restructuring should follow market principles while rejecting unreasonable demands from political power, including Cheong Wa Dae, he said. It should also orchestrate the restructuring of large companies that have a huge effect on the economy while trying to dissolve public sentiment hostile to foreign capital, to reinvigorate the corporate M&A market, the conservative economist added.

Ha, more progressive of the two, emphasized the need for the government strictly to call to account all relevant parties, such as regulators, state-run lenders and owners and their families, who have caused the problems. “Also necessary is expanding the social safety net, including hikes of jobless allowances, to cushion the impact of massive dismissals as the inevitable result of such restructuring,” he said.