Watch the Construction Companies: Korea’s Canary in the Mine
by Brendon Carr
Construction accounts for about 6% of Korea’s national GDP, which is down significantly since its greater-than-15% share before the IMF Crisis. But when compared to the approximately 3.7% share that construction takes of American GDP, and the widespread impact of a slowdown in US housing starts and mortgage defaults, we can see that the Korea exposure to construction-industry difficulty is relatively pronounced.
That’s why we should sit up and take notice when Korea’s construction companies start going under en masse (see “Korea’s Construction Companies Going Under En Masse” at the Dong-A Ilbo on September 13).
On September 11, Dongdo Construction, developer of the “Miso Dream” apartment complexes, defaulted on W5.1 billion (about US$5.5 million) worth of promissory notes and will be thrown into bankruptcy. According to the paper, Dongdo joined Sechang, Samick, Shinil, Sejong Construction, and three other smaller construction companies that have gone bankrupt lately.
Never heard of them? (I must admit most of the names are unfamiliar to me. Other than Samick and Shinil, I’d not known of these other construction companies.) Perhaps this is because they are regional enterprises whose activities take place outside of Seoul. Dongdo is reported to be “representative of North Cholla Province” (Konglish for “leading construction company in North Cholla Province"), and the others are cited by the paper as leaders in their respective regions.
Could there be a connection between the disastrous Roh housing policy and the large quantity of unsold apartments in the provinces? And what will this mean for “The Economy”?
Gosh, I’m no economist, but it seems that if the construction companies build apartments they can’t sell, they may have trouble paying for the stuff they bought to make those apartments. This has knock-on effects for the creditors of the construction companies: The people who sold the stuff that went into building the apartments, the workers who labored to build the apartments, the banks which lent them the project-finance money, and the families who put up their life’s savings in order to afford the deposit on the few apartments which were pre-sold at median prices which may be unprecedented in the world when compared to income. Perhaps most worrisome—what will happen to the lawyers?!
The pain is just starting. If things start spreading to Seoul there’s a strong possibility the next President of the Republic of Korea will take office in the midst of a real crisis.
So what happens when a Korean company goes bankrupt? If you’re an unsecured creditor, generally you lose everything. Our experience with bankruptcy practice in Korea says that a really lucky unsecured creditor might recover 2-3% of the credit, but even for that paltry recovery there is a long wait. Court reorganizations typically adopt a 10-year payout plan.
UPDATE 9/16: Uh oh. The government denies that construction-company bankruptcies pose any kind of risk to the financial sector, and promises to take “appropriate steps, if necessary” to remediate problems. No thank you! It’s the remedial steps (to cool down property-price increases) that got us in this situation. At first I wasn’t sure that I was right about the trouble brewing, but now that the government denies a problem I know that it’s really quite serious already.
UPDATE 9/17: Today I spoke to a friend in investment banking who says his firm has already started seeing inquiries about funding for Korean construction companies. As his bank is one of the large ones I would imagine these are larger Korean construction companies, and not the Dongdos of the world. But the Chosun Ilbo’s English edition blames it all on the US sub-prime housing loan market and a global credit crunch.
UPDATE 9/28: Hey! This topic made the Financial Times. On the 21st, just before Chuseok, the FT carried a story entitled “S Korea fears construction collapse” which carried much of the same detail as above (public sources, and all that) plus some questions put to the Home Builders’ Association. As Anna Fifield is one of the best reporters covering Seoul, it’s nice to see that what I think is important may also be of interest to FT readers as well.
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Oh, the government will bail out the construction companies. It is an election year, after all.... And they will do this in spite of Greenspan’s book calling the BOK the problem behind the IMF crisis....
Addition to Samsung’s restructuring (one fifth of ROK’s economy), Won, stock market level and land price are in the historical height. Since 2006 oversea debt has dramatically increased.
All these show that Korea is on verge of economic crisis. I hope the burst of “ Bubble economy “ won’t happen as it has happened in Japan in 1990. Otherwise it would affect quite bad influence upon Asian economy. I hope at least Korea come to under the control of IMF again and the crisis will be settled.