Supports for DSME
The financial authorities have decided to reduce the allowances for bad debts of banks which plan to convert the debt of Daewoo Shipbuilding & Marine Engineering (DSME) into equity. It will not downgrade DSME’s loan soundness rating to the “fixed” level but maintain the current “dangerous” level in order to lift the additional burden on the banks.
According to investment banking industry sources on March 22, the financial authorities plan to stretch the rules of “loan soundness classification” for banks even when they don’t have loan loss reserves if they carry out a debt-equity swap for DSME.
Previously, the Financial Services Commission (FSC) asked major banks which are included in DSME creditors to convert DSME’s debt into equity and provide additional funds to the company. In this regard, the banks opposed to the request because the allowance for bad debts can significantly increase due to a debt-equity swap.
In its bid to ease such burden, the FSC has decided to maintain the current loan soundness rating at the “dangerous level” for a debt-equity swap.
According to NICE Credit Information Service, the banks’ current exposure on DSME is estimated at 19.8 trillion won (US$17.7 billion). State-run banks in charge of policy loans, including the Korea Development Bank and the Export-Import Bank of Korea, account for 84.2 percent of the total exposures, while five largest commercial banks – NH Nonghyup Bank, KB Kookmin Bank, Shinhan Bank, KEB Hana Bank and Woori Bank – own the remaining stake. Among them, the state-run banks have 4 trillion won (US$3.58 billion) worth of loans which are subject to the debt-equity swap, except for refund guarantee (RG), while the commercial banks have 580 billion won (US$518.37 million).
Under the current regulations for a debt-equity swap, DSME’s loan soundness rating is highly likely to drop from the current “dangerous” to “fixed” due to the reclassification of its asset soundness. When the rating decreases, banks needs more allowances for bad debts according to the rating. The banks are required to have 10 to 15 percent of provisions for bad debt at the dangerous level, while they need 20 percent of loan loss reserves at the fixed level. A simple calculation shows that the state-run banks and the commercial banks need to shoulder the additional burden of 800 billion won (US$714.67 million) and 160 billion won (US$142.93 million) of allowances, respectively.
However, banks still feel great pressure even with lower loan loss reserves because the debt-equity swap itself is an additional financial support to DSME.
A senior official from a commercial bank said, “The debt-for-equity swap for DSME, which has a long way to go to stabilize the business, itself is like taking losses. In fact, the KDB converted DSME’s debts into equity worth 1.6 trillion won (US$1.43 billion) last year but it eventually wrote them off as a loss at the end of the year.”
Some also say that it is against regulations relating to the accounting standards. An accounting expert said, “The reserve for allowances should be reflected in the financial statements according to the international accounting standards when banks engage in a debt-for-equity swap. So, the accounting transparency can be damaged when allowing exceptions.”