Memorandum of Understanding for Major Debt Business Group on Enhancement of Financial Structure

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The Memorandum of Understanding (MOU) for enhancement of financial structure is regarded as a precautionary measure of corporate restructuring for major companies in Korea. Major Debt Business Group (MDBG) is a business group, controlled by a conglomerate is subject to the MOU depending on their financial status and business performance. Any large business corp in debt to financial institutions more than 0.1% out of total loans at the entire financial institutions could be subject to the MOU for financial structure enhancement. According to the Corporate Restructuring Promotion Act (CRPT), the Financial Supervisory Service (FSS) annually announces a list of MDBG to sign a MOU for financial structure enhancement.

The List of Major Debt Business Group (2010)

The creditor group led by the principal creditor banks begins to evaluate financial status of business groups on the list and select possible business groups who the MOU when the creditor comes to a decision that the business is likely to face a financial trouble under poor performance. For the evaluation, creditors review both financial and non-financial items. In financial term, some crucial financial data such as debt ratio, interest coverage ratio, total asset turnover, operating profit ratio are considered. Also specific circumstance of industry can be taken into account in non-financial item.  Most of all, debt ratio is considered as the most significant factor to decide candidates for the MOU. Therefore, any business group experienced its debt ratio has been soared lately is possible to be in the short list of MDBG.

Upon a consensus among creditors, the principal creditor bank and other related creditors urge the selected MDBG to sign an MOU agreement in order to enhance their financial structure. The MOU includes business enhancement plans, projected debt ratio, and restructuring plan for the normalization. Then MDBG should implement every possible measure to enhance its financial structure such as reducing debt ratio, improving business structure and system. The creditors are entitled to monitor its performance on a quarterly basis and have right to restrict its credit line if it does not meet the guideline agreed upon the MOU, for instance, cease new grant of credit and refuse to defer credit due.

Once MDBG successfully comply with the MOU and its financial structure meets the guideline, the evaluation council composed of the principal creditor bank and other related creditors make aadevision whther to end the MOU or not. The creditor banks selected 9 business group out of total 41 MDBGs. So far, 8 MDBGs have signed the MOU with their creditors respectively. One MDBG is still under the discussion with its creditors. The list of MDBGs is the followings: Sungdong shipbuilding, Dongbu, Hanjin, Aekyung, Kumho, Eugene, Taihan Electric Wire, Hyundai (no relation with Hyundai motor company, Hyundai heavy industries).

Since the MOU is considered as a kind of corporate restructuring measure, it is necessary to compare with similar measures such as reorganization proceeding (formerly known as court receivership) and corporate work out. Basically the MOU is limited to specific MDBG among major companies while reorganization process and work outs can be any other companies who are in financial trouble.  Companies who are in reorganization proceeding and work out are not viable without a considerable financial support from their creditor banks while MDBG in MOU are not necessarily in financial trouble but needs to keep up with the guidelines of the MOU.

Comparison Table: MOU vs. Reorganization Proceeding vs. Work Out

Proceeding the MOU with the creditors would not be welcomed to the selected MDBGs all the time. In short term, it might hurt the reputation of companies. Since mostly MDBG are listed on the stock market and relatively well known to investors as well, any worrisome news might weaken the competitiveness in the industry. However, creditor banks are convinced that the MOU with companies has to be made in order to improve their financial soundness. It is needless to say that creditor banks can be beneficial as the capability to repayment of debtor arise.

As a precautionary measure, the implementation of the MOU with major companies is regarded as an effective practice to avoid any disastrous turmoil of major companies, which triggers significant influence on the entire economy of Korea. Even though it might hamper the credibility of companies in short term, eventually it will contribute to enhancing the financial structure and reinforce the credibility of companies in long term.

Jin Mok Kim (jinmok.kim@gmail.com)

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