Corporate Restructuring in Korea and its Application to Japan

Transcription

1 Corporate Restructuring in Korea and its Application to Japan - Corporate Restructuring Vehicles Hyoung-Tae Kim* *VICE-PRESIDENT, KOREA SECURITIES RESEARCH INS TITUTE

2 CONTENTS I. Introduction II. Corporate Restructuring and Corporate Restructuring Market 1. Corporate restructuring and NPL disposition 2. Corporate restructuring market III. The Corporate Restructuring Vehicles of Korea 1. Korea Asset Management Corporation(KAMCO) 2. Corporate Restructuring Fund(CRF) 3. Corporate Restructuring Company(CRC) 4. Corporate Restructuring Vehicle(CRV) 5. M&A Fund 6. Bankruptcy Law of Korea IV. Recommedations for Japan 1

3 Abstract This paper will examine the nuts and bolts of Korean corporate restructuring experience, emphasizing corporate restructuring vehicles, and will try to find suggestions to Japanese economy. Japanese government, in order to implement corporate restructuring efficiently, shall need to create corporate restructuring vehicles. In Korea, there existed several corporate restructuring vehicles such as CRC(Corporate Restructuring Company), CRV(Corporate Restructuring Vehicle), CRF(Corporate Restructuring Fund) and M&A fund, however, with certain limitations as the vehicles of corporate restructuring. Such limitations stem from the fact that the existing vehicles failed to provide prompt and large-scale capital investments, which are critically necessary due to the exponential decay in the value of distressed company. One benchmark example of having prompt and large-scale capital investments is a buyout fund in U.S. Buyout fund can overcome the limitations of CRC and M&A fund. In Korea, there is ongoing discussion for the implementation of the buyout fund, which will be designed for Korean system and can aid corporate restructuring more efficiently than existing corporate restructuring vehicles. I believe a buyout-type vehicle of corporate restructuring should be adopted in Japan as well. 2

4 I. Introduction The corporate restructuring, often compared to medical surgery, is a process of treatment for ailing companies based on the professional diagnosis. Just as the goal of medical surgery lies in the recovery of a patient, the aim of a corporate restructuring is the rehabilitation of a distressed company. As the patient needs a hospital to be recovered, the ailing company requires a restructuring vehicle to be rehabilitated. When Korean economy was sentenced to a dreadful economic crisis at the end of 1997, ailing companies even had no place to be hospitalized. To make matters worse, there were no equipments or devices for restructuring surgery. To provide a first-aid and professional treatment, Korean government had to build corporate restructuring vehicles. As for public restructuring vehicles, the functions of Korea Asset Management Corporation(KAMCO) and Korea Deposit Insurance Corporation(KDIC) are expanded. New corporate restructuring vehicles such as Corporate Restructuring Company(CRC), Corporate Restructuring Fund(CRF) and Corporate Restructuring Vehicles(CRV), Corporate Restructuring REITs(CRREITs) were enacted. The CRC is a Korean version of a vulture fund and the CRF a corporatetype investment trust investing in the securities of financial distressed firms, especially small and medium sized firms. The CRV is a vehicle especially for restructuring workout companies. The CRREITs is a kind of REITs investing in real property coming out of distressed companies. Concerning restructuring devices, asset-backed securities, collateralized bond obligation, high-yield bond fund have been widely used by financial institutions and restructuring vehicles. Besides, corporate separation such as spin-off and carve-out were introduced to The Commercial Law, The Bankruptcy Law, relevant to KAMCO and CRC in particular, was amended twice since 1997 to speed up the reorganization process. Regarding only the hardware side of restructuring vehicles and devices, Korea has established such a fine restructuring infrastructure that is not inferior to that of developed countries. In pursuing corporate restructuring, The market principle is stressed in Korea because the financial crisis of Korea can be traced back to a general dysfunction of a market principle. A pervasive moral hazard and bureaucratic red tape of financial institutions and corporations had become deeply embedded in the Korean economy. The so-called first-round restructuring(1998~1999) of Korea has focused on the restoring of economic system impaired by the above problems. The goal of secondround restructuring(2000~2003) is to enhance the global competitiveness of domestic 3

5 financial institutions and companies. To achieve this goal through market mechanism, the visible hand of government should be replaced by the invisible hand of market. In the third-round restructuring, starting from 2003, the restructuring target firms are expanded in to inefficient firms. This paper will examine the nuts and bolts of Korean corporate restructuring experience, emphasizing corporate restructuring vehicles, and will try to find suggestions to Japanese economy. The corporate restructuring market is a playground in which various players perform multi-dimensional corporate restructuring business with various devices. The corporate restructuring market in Korea has been established after paying high prices caused by economic crisis. Therefore, this paper expects that the examples of success or failure in the Korean corporate restructuring market will provide help in revitalization of Japanese corporate restructuring. The organization of this paper is as follows. First, I will discuss the concept of corporate restructuring and corporate restructuring market. Second, the corporate restructuring vehicles enacted in Korea will be analyzed, in order. The last section will speculate the implication of Korean corporate restructuring experiences to Japanese economy. 4

6 II. Corporate Restructuring and Corporate Restructuring Market 1. Corporate restructuring and NPL disposition Corporate restructuring means the series of process to restructure asset structure, financial structure, and corporate governance, helping the survival and the growth of a corporation. Although the extent of corporate restructuring includes a distressed company as a target in a narrow term, it includes an inefficient company as a target in a broader term. Corporate restructuring is similar to distressed debt disposition(practically, we usually it NPL disposition) with respect to its relationship with distressed debt, but it has a fundamental difference. Whereas distressed debt disposition refers to carving out distressed debt, a kind of distressed asset, from financial institution, corporate restructuring means restructuring the corporate itself. 2. Corporate restructuring market Corporate restructuring market is an abstract and multi-dimensional market, performing trades as to distressed debt, distressed asset, distressed company, or inefficient company. As shown in <Figure II-1>, distressed debt market is one of the subset markets that constitute corporate restructuring market. When a distressed debt is a secured debt, a creditor can exercise the secured right and will acquire a real property. Thus, the distressed debt market is related to the real property market. Moreover, if one purchases majority of distressed debt and performs debt-equity swap, the purchaser can obtain control right to the corporation. Therefore, distressed debt market is also related to M&A market. As the investment target of corporate restructuring market is multi-dimensional, Corporate Restructuring Vehicles(CRVs) are diverse depending on the target of investment. This paper will hereinafter examine the corporate restructuring mechanism of various CRVs, which has operated as a system in Korea. 5

7 <Figure II-1> Corporate Restructuring Market and Vehicles Corporate Restructuring Market distressed asset market distressed co. market real estate market distressed debt market M&A market real estate distressed debt control right NPL Junk bond distressed co. inefficient co. CRREITs KAMCO, CRF, HYB fund CRV CRC, M&A fund <Table II-1> The Restructuring Vehicle of Korea and US Korea Law and Act US Corporate Restructuring Company(CRC) The Industrial Development Law Vulture Fund, Buyout Fund Corporate Restructuring Securities Investment Company(CRF) The Securities Investment Company Act Corporate Fund Restructuring Corporate Restructuring Vehicles(CRV) The CRV Act Korea Asset Management Corporation (KAMCO) The Law on Efficient Management of NPAs of Financial Institutions and Establish of KAMCO RTC, Bad Bank M&A Fund The Securities Investment Company Act Buyout Fund, LBO Fund CRREITs The Real Estate Investment Trust Act REITs 6

8 III.The Corporate Restructuring Vehicles of Korea 1 1. Korea Asset Management Corporation(KAMCO) KAMCO has played a leading role in Korean restructuring market. The financial panic of Korea triggered by the currency crisis at the end of 1997 has contaminated almost every parts of financial and corporate sectors. Because the size of nonperforming loans(npl) of financial institutions were formidable at that time, it cannot be handled by private restructuring vehicles based on market principle. Considering the financial panic and urgent need of financial institutions for capital injection, government-led restructuring was thought to be the most efficient scheme. KAMCO was chosen to be a conduit to implement the restructuring policies of Korean government. In order to carve out NPL from financial sector, KAMCO create NPL Management Fund. In Addition to purchasing NPL, KAMCO has played a role of managing and disposing of NPL. As part of the restructuring program, KAMCO has purchased about trillion KRW worth of NPLs(face value) at 66.8 trillion KRW until the end of June, By acquiring NPLs of financial institutions, KAMCO provided liquidity and asset soundness of banking sector to set up a sound financial system, and to recover the national economy. KAMCO s objective in liquidating NPLs is at the fair market value and on a timely basis. It also endeavors to minimize the use of the public funds. To achieve this, KAMCO attempts to attract foreign capital and plans to play a leading role in the international restructuring market. KAMCO s basic policy is to resolve NPLs in faster manner but at the highest price possible 3 KAMCO disposed 66.8 trillion KRW of NPLs which accounts for 60.6% of the total trillion KRW acquired. The disposition schemes of KAMCO are international bidding, ABS issuance, individual loan sale, AMC & CRC, foreclosure auction &public sales, and PBO & cancellation 4 Among others, the 1 For more detailed discussion about the corporate restructuring vehicles, refer to the following research report. Kim, H. T. and H. J. Lee, The Corporate Restructuring Market in Korea : Frontier in Capital Market, Research Paper 01-01, KSRI, USD? 1,200KRW 3 The speed and recovery rate are typical goals in restructuring of NPLs. However, the fast disposition of NPLs With high price is hard to achieve. Up to now, KAMCO has put more weights on the speed of disposition. 4 International Bidding for Corporate Restructuring loan is a competitive bidding process with packaged loans which are under court receivership or composition proceedings. The issuance of Asset Backed Securities requires the Special Purpose Company(SPC) to issue securities backed by KAMCO ASSETS. The assets include restructures corporate loans with put back 7

9 structured schemes such as ABS are more increasingly used. <Table III-1> NPA Disposition Scheme of KAMCO(as of June, 2003) (Unit: KRW bill.) Disposition scheme Face Value(%) Purchasing Price(A) Sales Price(B) B/A (%) International Bidding 60,805 13,132 16, ABS 84,092 44,294 44, AMC 25,801 6,568 9, CRC 18,484 3,648 6, Individual Loan Sale 27,083 6,703 9, Foreclosure Auction 84,126 27,048 33, & Public Sales Direct recovery 94,073 25,326 37, Authorization plan recovery 36,531 18,685 24, Daewoo CRV sale 5,116 1,126 1, Daewoo performance plan 31,352 23,577 28, recovery W/O performance plan 4,014 2,405 2, recovery Subtotal 471, , , Repurchase & Cancellation 196, , , Total 667, , , Source : Korea Asset Management Corporation KAMCO is a public asset management company like RTC(US), Securum (Sweden), Arsenal(Finland) and Danaharta(Malaysia). KAMCO is similar to RTC in US in the sense that both try to dispose of NPL as fast as possible rather than to maximize recovery rate. However, KAMCO begins to put more emphasis on recovery rate by suing various kinds of restructuring devices. Moreover, KAMCO established their own CRC and CRV joint-ventured with foreign investment banks such as Morgan Stanley Dean Witter, Sonnenblick Goldman and Lehman Brothers. option against selling. Public sale is a competitive bidding process for the assets KAMCO has acquired from court auction(foreclosure auction) and targets individual investors. 8

10 <Figure III-1> KAMCO s Role in the Korean Economy Financial Institutions Acquire NPLs Support normalization KAMCO Resolve NPLs Investors Minimize public burden Early recovery of Corporation Assist restructuring Inject public public money Government National Tax money 2. Corporate Restructuring Fund(CRF) The corporate restructuring fund(crf) is a corporate investment fund which finances through issuing equity, invests in securities and pays the returns back in the form of dividends like an investment company in the US. Its main objective is to invest in securities of financially distressed firms to support their financial restructuring. CRF is legally based on The Securities Investment Company Act of Korea. To be regarded as a CRF, several conditions should be met in according with The Securities Investment Company Act of Korea. First, a corporate restructuring fund should invest in securities of mid-cap companied over 50% of its assets. In other words, CRF is prohibited from investing more than 50% of its assets in thirty largest business groups designated by The Monopoly Regulation and Fair Trade Act. In addition, CRF should purchase securities only in a primary market. However, the securities held by financial intermediaries through debt-equity swap are regarded as primary market securities. Second, CRF should operate businesses over 3 years. The third condition is CRF be a closed-end fund. 9

11 <Figure III-2> The Structure of Corporate Restructuring Fund Asset Management Company (Entrusting Asset (Purchasing Management) Shareholders (investors) Stock) Securities Investment Company (listing) Exchanges (Entrusting Sales) (Entrusting Back Office Work) (Entrusting Custody) Sales Company Back Office Company Asset Custodian Company The motivation to devise CRF was to assist fundamentally sound but financially distressed companies suffering from excessive amount of short-term debt. Four Restructuring Fund(one debt fund and three equity funds) are established at November 1998: the Seoul Debt Restructuring Fund, the Arirang Restructuring FUND, the Mukoonghwa Restructuring Fund, and the Hankang Restructuring Fund. The Korean Development Bank(KDB) provided most of the initial capital and this was combined with contributions from 24 local financial institution. The investment rationale of these funds, which were initially capitalized by KDB and local financial institutions, was to provide regeneration capital to small and medium size companies under financial distress. The Asian financial crisis led to the domestic banks drawing in their lending and the corporate restructuring funds aimed to satisfy the demand for capital. 10

12 3.Corporate Restructuring Company(CRC) The corporate restructuring company(crc) is a kind of vulture fund specializing in restructuring of distressed companies. The CRC is based on The Industrial Development Act of Korea and has launched from May The aim of CRC is to purchase majority stakes in companies, reshuffle management or push other restructuring measures to raise the value of companies and then resell them. In other words, the CRC is a turnaround specialist. The number of CRC is growing because Korean companies are unwinding cross-shareholdings and, amid that trend, some big corporations are spinning off or selling unprofitable operations. CRC is one of the few holding companies permitted in Korea without subjecting to stringent regulations. Resources of CRC are required to be invested in assets and companies under distress. An exception leverage ratio of 10-times of paid-in-capital is allowed. Government subsided loans are also available to CRC. The CRC can raise capital by forming a buyout fund through public or private offerings. To encourage corporate restructuring, Korea government granted the restructuring companies and the restructuring funds special benefits such as increase in corporate bond issuance limit, tax benefit, and etc. exceptionally preferential treatment in capital gains, dividends and transaction taxes, and tax accounting. However, a direct investment by CRC must be liquidated within 5 years from acquisition. The target companies of CRC specified in? The Industrial Development Act? are as follows : companies under bankruptcy procedures, companies in financial distress, possibly in workout stage, companies with loss records, companies identified by creditor as needing financial restructuring, companies with abnormal leverage vis-à-vis the industry s norm, and companies being sold by conglomerates in the process of spin-off, equity carve-out and divestiture. Currently, 61 corporate restructuring companies have registered as of March, 2003 and invested 2,859.7 billion KRW until December,

13 <Figure III-3> The Structure of Corporate Restructuring Company Investment, Restructurin g Fund Investment Foreign Investors Institutional Investors Return Corporate Restructuring Company Management Stock, CB Restructuring Target Individual Investors Investment Stock, CB, Asset Securities Market Asset Market 4. Corporate Restructuring Vehicle(CRV) The Act on Corporate Restructuring Vehicles of Korea defined CRV as a paper company in the form of mutual fund which pools distressed assets of financial institutions and transfers them to asset management company for specialized management. The property of CRV lies in the asset pooling process. This makes it possible for a specific CRV to restructure a specific workout company without holdout problem. The specific restructuring mechanism of CRV is show in <Figure III-4>. The goal of the CRV would be to manage the equity interests of workout companies acquired from the banks in a more efficient manner than the banks by using specialists and investment management techniques. The CRV is different from CRF in the sense that it specializes in restructuring of workout companies, not just investing in securities of financially distressed firms. The CRV is a paper company which distinguishes it from CRC as well. The benefits of CRV are facilitating disposal of assets by creditor banks, facilitating effective management and improving governance on companies in workout process. 12

14 <Figure III-4> The Structure of CRV Asset Management Company Bank Incentive assets scheme Consideration CRV expertise cash shares Investment Bank Investment Fund Optional government funding Government shares cash Domestic Equity Markets <Figure II-5> The Restructuring Mechanism of CRV Workout Company A Workout Company B Bank 1 Bank 2?1?1?2?2?1?1?2?2 CRV 1 CRV 2?3?4 Workout Company A Workout Company B?1 : Contribution in kind or sale of asset relevant to workout company A?2? : Contribution in kind or sale of asset relevant to workout company B?1,?2 :Cash or Securities?3 : CRV 1 restructures Company A?4 : CRV 2 restructures Company B 13

15 5. M&A Fund In the M&A market of Korea, strategic investors rather than financial investors have played dominant roles. Hostile M&A is difficult to execute in Korea because the M&A vehicle seeking hostile M&A seldom exist in the capital market. That s why Ministry of Finance and Economy decides to introduce M&A Fund which aims to takeover the control rights of target firms. The other is a financing-type M&A Fund which solely provides capital to raiders or target firms. Differing from the private M&A Fund of US, the take-over type M&A Fund of Korea will be enacted in the form of private fund in The Securities Investment Company Act. The financing-type fund will take the form of public fund under The Securities Investment Company Act and The Securities Investment Trust Business Act. Because both mutual fund and investment trust have been restricted by 10% rules and by shadow voting, they cannot takeover control right of a company. For M&A Fund to be able to take sufficient portion of shares to take over, the restrictions should be removed by amending The Securities Investment Company Act and The Securities Trust Business Act. 6. Bankruptcy Law of Korea 5 Korean insolvency laws consist of The Corporate Reorganization Law, The Composition Law, and The Bankruptcy Law, all of which were enacted in Before financial crisis of 1997, The Composition Law and The Bankruptcy Law were rarely used by financially distressed companies. A corporate reorganization proceeding is analogous to a proceeding under the Chapter 11 of the U. S. bankruptcy code and should result in the financial restructuring of a company pursuant to a reorganization plan. A composition proceeding is a simplified and expedited version of a company reorganization proceeding. A bankruptcy proceeding is analogous to proceeding under the Chapter 7 of the U. S. Bankruptcy code and results in the liquidation of the companies. Generally, an insolvent company prefers a composition proceeding to a reorganization proceeding because the former permits the existing management to retain management power over a financially distressed company and also enables 5 An insolvency law is more accurate concept describing bankruptcy regimes of Korea in the sense that Korean insolvency law consists of three separate laws including the bankruptcy low as one of them. 14

16 them to directly negotiate a composition plan with creditors. As a result, a disproportionate number of large companies filed for composition proceedings to maintain management control. As a countermeasure, the Korean government amended the insolvency law in February This amendment disqualified large companies from filing for composition proceedings. The amendment to the insolvency laws also granted more rights to the creditor of the insolvent companies and authorized the court to establish management committee. The committee provides the courts with necessary guidance and information, particularly financial and procedural information, in connection with the insolvency proceeding. The Corporate Reorganization Law was revised again in 2001 and introduced prepackaged bankruptcy. The purpose of prepackaged bankruptcy is to speed up the reorganization process by coordinating among creditors before entering into reorganization process. The third amendment is going on these days. The purpose of the amendment is to integrate The Corporate Reorganization Law, The Composition Law, and The Bankruptcy Law into one to speed up the process. It is more like Chapter 11 in US. IV. Recommendations for Japan First, Japanese government may have to shift its main target of corporate restructuring policies from NPL disposition to corporate restructuring of the company itself. In Korea, foreign investment banks in the early stages purchased NPL for the purpose of obtaining short-term capital gain, resulting in the decrease of the corporation s value in the process. Whereas NPL disposition is vital at the time of financial crisis, restructuring of the company itself is more important in the following steps. Second, Japanese government, in order to implement corporate restructuring efficiently, shall need to create corporate restructuring vehicles. In Korea, there existed several corporate restructuring vehicles such as CRC, CRV, CRF and M&A fund, however, with certain limitations as the vehicles of corporate restructuring. Such limitations stem from the fact that the existing vehicles failed to provide prompt and large-scale capital investments, which are critically necessary due to the exponential decay in the value of distressed company. One benchmark example of having prompt and large-scale capital investments is a buyout fund in U.S. Buyout fund can overcome the limitations of CRC and M&A fund. In Korea, there is ongoing discussion 15

17 for the implementation of the buyout fund, which will be designed for Korean system and can aid corporate restructuring more efficiently than existing corporate restructuring vehicles. I believe a buyout-type vehicle of corporate restructuring should be adopted in Japan as well. Third, for efficient corporate restructuring, we need to have forward-looking philosophy on valuation. The corporation value, which needs to be taken into account in the process of corporate restructuring, is not the value estimated under the normal business operation in the past but the value estimated under the situation forced to sell the company in the present (e.g. liquidation). The practice of estimating the valuation should be shifted from backward-looking in the past to the forward-looking valuation. In Korea, many companies such as Han Bo steels and DaeWoo automobiles could have sold the company in a higher price if they sold it quickly. However, as they were clinging to the past valuation estimation, they failed to sell the companies in time, selling the companies less than 20% of originally offered price. Fourth, to increase the efficiency of corporate restructuring, Japanese government shall consolidate bankruptcy regimes ; especially, corporate revitalization law existing in various forms shall be unified. As prompt corporate restructuring is the most important factor in successful corporate restructuring, unified corporate revitalization will ensure the promptness. In Korea, the composition law and the reorganization law coexisted in the early business restructuring process. A company left out of the composition system could apply again to the reorganization system, delaying corporate restructuring of distressed companies. Currently the draft for the unification of the composition law and the reorganization law are discussed in the National Assembly. 16

18 Reference Barnhill T. M. J., Investing in Distressed Securities, Journal of Applied Corporate Finance, Vol.9, No.1, 1996, pp.79~87 Hotchkiss, E. S. and R. M. Mooradian, Vulture Investors and the Market for Control of Distressed Firms, Journal of Financial Economics, Vol.43, 1997, pp.401~432 FSC & FSS, Financial Reform & Supervision in Korea, April 2000 KAMCO, Annual Report 2002 Kim, H. T., A Study on Junk Bond Marekt in Korea, Research Paper 99-03, Korea Securities Research Institute, March 1999 Kim, H. T. and H. J. Lee, The Corporate Restructuring Market in Korea: Frontier in Capital Market, Research Paper 01 01, Korea Securities Research Institute, 2001 Morgan Stanley Dean Witter, Distressed Asset Markets in Asia, June