Monday, October 18, 2010

Korean Supreme Court Acquits Defendant in KEB (외환은햏) Sale. Finally.

Recently, the Korean Supreme Court acquitted the defendant in the Korea Exchange Bank sale to Lone Star, a private equity firm.  This was long overdue, but it is a very good precedent for Korea, and the advancement of Korea into the international business community.

You may have heard about this case.  KEB was sold to Lone Star during the financial crisis which began in 1998, when Russia defaulted on its sovereign debt. 

There are a large number of details but here are the highlights.
a.  At the time, Korean sovereign debt traded at a yield of over 13% for 10 years.
b.  Korean banks were largely seen as insolvent as a result of over-concentration to large Chaebols.
c.  Daewoo and Hyundai Group faced great finanical difficulty, and only huge reorganization saved the healthy subsidiaries such as Hyundai Heavy.
d.  KAMCO (Korea Asset Management Corporation) was formed to bail out failed Korean banks and take many of the bad assets from the failing banks.  This is now a template of sorts for other countries around the world.
e.  KEB was sold to Lone Star at a time when the debt of KEB was trading in the market at 15-25% of face value (i.e. 75%-85% loss on initial investment)

There have been a number of lawsuits which have challenged the legality of the KEB sale.  Most (if not all) have been politically motivated.  It has been a very embarrassing tale, where Korea has, AFTER THE FACT, opposed the sale of KEB to a foreign investor.  This case has threatened Korea's position in the global economy. 

Here is why.
a.  Opposition centered on the price that KEB was sold to Lone Star.  The fact is that debt was trading in the open market at 15-25% at that time.  Since it is clear that the market did not believe that KEB could even pay for its debts, the equity was effectively worth zero in the open market.  Court cases have been made up to suggest that there was an understatement of book value.  Book value is irrelevent when selling assets.  It is like a customer paying full retail price for a luxury product, when everyone on Gmarket and eBay knows that you can buy the product substantially cheaper.
b.  There was no mention of the large number of financial regulatory bodies in place at the time of the sale.  KDB guaranteed assets of banks.  KAMCO bought entire portfolio of banks, and bought stakes of banks themselves. MOFE and FSS both could have blocked a sale.  None of these bodies prevented the sale before the fact.  The court was used to complain only after the fact, when there was political uproar.
c.  There were no other bidders for KEB.  None.
d.  Perhaps worst, these developments occurred after there was an agreeement.  Preventing a sale as a result of the "national interest," also known as protectionism, is, and has been, used during times of economic strife.  For example, currently there is the belief that Canada would block the sale of Potash Corporation to a consortium led by Chinese entities.  In France, Finance Minister Sarkozy (now the President) told the world that a sale of Alstom would not be allowed.  However, these are all occurring or occurred before a sale agreement is/was reached. 

The Korean Supreme Court has correctly pointed out that at the time of the sale, it would be almost impossible to ascertain whether or not the sale took place at the "wrong" price.  I would have stated it even more strongly.  However, the fact that the court system in Korea has worked is welcome news for Korea's place in the international financial community.


Anonymous said...

I think the writer is relying on news articles. The truth is behind the curtain.

The Lost Seoul said...

Thanks for your opinion. However, I was there personally, as I pitched ideas to KAMCO, KDB and other investors. In addition, I also knew firsthand that KEB bonds were trading in the 15-20% PRICE out of 100% total. There were zero, and I mean absolutely NO buyers, even within the Korean investing community. Other banks, such as Korea First Bank and Hana Bank were trading at much, much higher prices. What does this mean? It means that with bonds trading so low, KEB equity (at that time) was effectively
The truth behind the curtain? Protectionism and populism forced the government to fabricate a story AFTER THE FACT, a story absolutely rejected by the international marketplace. Finally, the court has, belatedly, rectified the situation.

The Lost Seoul

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