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[Editorial] Liquidity Crisis of Well-performing Companies

[Editorial] Liquidity Crisis of Well-performing Companies

Posted December. 05, 2008 04:25,   


A construction company posted net profit of 50 billion won (33.8 million U.S. dollars) last year and 25 billion won (16.9 million dollars) in the first nine months of this year. The company is healthy with a debt-to-equity ratio of 110 percent, but faces bankruptcy if it fails to repay 40 billion won (27 million dollars) in short-term debt due at the end of the month. The builder asked a creditor bank to extend fresh loans on collateral worth 500 billion won (339 million dollars), but was rejected. “Though time is running out, public officials are dragging their feet by saying they need more investigation. Banks are pressuring companies performing well first for fear of a falling capital adequacy ratio under the Bank for International Settlements,” said a source at another construction firm.

Asset-backed commercial papers that weigh heavily on the construction company were very useful derivatives for viable builders to secure short-term funds when cash flow was good. Based on project financing loans extended by banks, they could borrow money from securities companies without much difficulty. Of 97.1 trillion won (65.7 billion dollars) in project-financing loans as of June, banks extended 78.9 trillion won (53 billion dollars) and the commercial papers 15.3 trillion won (10.4 billion dollars). Though the amount is not large, asset-backed commercial papers can plunge companies into a liquidity crisis because they mature in a short period.

A report by LG Economic Research Institute warned that the commercial papers could trigger a financial crisis stemming from a credit crunch in the construction sector. Asset-backed commercial papers due in the first half of next year will reach 10 trillion to 18 trillion won (6.9 billion to 12.4 billion dollars). Most builders facing loan maturity next year have operating profits and sound credit records, meaning short-term liquidity assistance will help them get back to normal. Despite this, however, financial institutions are scrambling to redeem debts extended to viable companies to support non-viable ones, forcing the former to suffer from liquidity shortages.

The fear of bankruptcy despite profits is not limited to the construction sector. According to the Korea Chamber of Commerce and Industry, more than a third of 629 listed companies (34.8 percent) that settle their books Dec. 31 posted negative operating cash flow despite earning operating profits. Though the proportion of companies that generated profits is higher than 23.1 percent in 1997, when the nation was mired in the financial crisis, cash circulated at a much slower pace than last year.

Banks have turned a deaf ear to the president’s continuous warning against the bankruptcy of well-performing companies. Swift measures that tackle the cash flow bottleneck are badly needed.