Jonathan Rogers, IFR Asia Senior Credit Analyst
SOUTH KOREA’S ECONOMIC success over the past 25 years has been described as “the miracle on the Han river”. In my book, the country is perhaps Asia’s biggest success story, having emerged from dictatorship and through the social unrest of the Asian financial crisis to stand as one of the most favoured emerging market destinations among international investors.
A Korean US dollar public bond deal hit the tape on three successive days last week and each was absorbed by the market with relative ease, underlining the country’s apparent immunity to the emerging markets rout which has calmed down but still rumbles on.
But the story of what was once one of its most successful conglomerates, the Tong Yang group, is hardly miraculous and that story is still unfolding. One of the country’s chaebol names with sprawling interests from financial services to construction and tourism, the company is facing a liquidity squeeze and is on the verge of bankruptcy.
Korea’s Financial Supervisory Service is investigating Tong Yang Securities, the group’s brokerage subsidiary, as well as Tongyang Financial Services Corporation, the company’s money lending division, for potential irregularities as the conglomerate faces default on W1.1trn (US$1.02bn) of debt.
Much of this debt is held by retail investors and a large chunk is in the form of short-term commercial paper which must be refinanced in a matter of months. There is a Lehmanesque flavour to this, and while Tong Yang is no Lehman, the fleecing of small investors seems to go hand in hand with some deeper underlying malaise.
Reliance on short-term debt should always be a red flag. One recalls the ABCP mess that was one of the contributing factors to the financial crisis. Financial regulators should put measures in place to ensure borrowers don’t rely on commercial paper – especially the sale of it to retail investors.
BUT IT WAS allowed to happen at Tong Yang. One of the ironies is that a regulatory measure to prevent subsidiary companies from selling the debt of their holdco is a reason Tong Yang finds itself on a certain type of river without the proverbial paddle.
The chaebol have been the backbone of South Korea’s economic miracle and the permanent crisis management approach they typically adopt has enabled the emergence of Samsung Electronics into arguably the world’s most valuable brand.
But many in Korea have acknowledged the flaws inherent in the chaebol model, and “de-chaebolisation” has been an aspiration over the past fifteen years or so, although one that has only been realised in scrappy fashion. The chaebol, for the most part, remain as sprawling structures run by the founding families and the voice of shareholders struggles to be heard.
That flavour is evident in Tong Yang’s struggle to remain afloat. Hyun Jae-hyun, Tong Yang’s chairman, was rebuffed by his brother-in-law, following the former’s request for a loan guarantee to back bonds which help the group’s refinancing efforts. Perhaps blood wasn’t thicker than water when the reality of holding company Tong Yang Inc’s vertiginous 650% debt-to-equity ratio was contemplated.
Interestingly, one of Tong Yang’s biggest creditors, the Korea Development Bank, refused to provide financial support to the conglomerate after Tam Chul-kon, the brother-in-law in question and chairman of the Orion Group, refused to play ball. Orion was a Tong Yang subsidiary until its spin-off in 2001.
KDB IS ABOUT to take on a domestically focused role as the government of President Park Geun-hye last month shelved plans for its privatisation and plans to sell its brokerage unit as it merges the policy bank with Korea Finance Corp. It is envisaged that KDB will help restructure the assets of troubled South Korean companies, and if the Tong Yang experience is anything to go by, it intends to be anything other than a soft touch.
The Tong Yan story underlies a troubling reality in the South Korean economy – there is tight onshore liquidity and banks are struggling with bad consumer loans and credit card losses. Despite the government’s plans to sell off its stake in Woori Bank, the truth is that it has tried to offload the holding three times since 2010 and failed to find a buyer. The country’s savings banks have been mired in scandal, with their offices raided amid accusations of embezzlement, illegal loans and dereliction of duty.
None of this seems to be the backdrop to South Korea’s emergence in the eyes of offshore investors as “most favoured nation”. It might just be that Tong Yang’s troubles are the tip of the iceberg and that the tightness of onshore liquidity is about to prompt more companies to go cap in hand to the likes of KDB, or to be forced to sell off subsidiaries. Tong Yang, of course, is looking to sell its thermal power arm to meet the debt rollover.
Tong Yang’s escalating problems prompted investors to withdraw around W4trn from local brokerages over the first three days of last week. That sounds more than a little ominous. It might be that a crisis is quietly brewing in South Korea, one that, for the time being at least, is not on the radar screens of foreign investors. Perhaps they would do well to pay closer attention to the unfolding Tong Yang story – especially if they believe in miracles.
