Construction businesses with debt-to-equity ratio of 300% doubled

Cash-strapped construction companies are faltering amid a housing recession and high-interest rates. The number of construction firms whose debt-to-equity ratio surpassed 300 percent has doubled in the past year. Quite a number of companies struggle to make interest payments with their meager operating profits. Concerns are mounting around bankruptcies of construction companies starting with small to medium size construction companies in the provinces, where the housing market has reached a standstill. Experts warn of risks posed by real estate project financing (PF) that could trigger the entire financial sector to fluctuate.

According to The Dong-A Ilbo’s analysis of the balance sheets of the top 300 Korean construction companies, the number of companies with a debt-to-equity ratio of over 300 percent was 22, a more than twofold increase from 2021. Six out of 10 construction companies saw their debt-to-equity ratio increase from the past year. A total of 826 building firms closed in 2023, which is a 29% increase year-on-year. The business shutdown of general construction companies with relatively bigger sizes has risen by almost 70 percent.

The reason that construction companies are low on cash is mainly due to a housing recession. The market is replete with unsold units, and companies have not been able to receive construction payments, leading to cash tightness in the market. As of the end of March, 72,204 units were left unsold, hovering over the 70,000-unit threshold for three consecutive months. A pessimistic outlook is that the number of unsold units may surpass 100,000 within this year. High-interest rates weigh on companies struggling to pay interest for project financing loans, on top of serial postponement of development projects.

Serial bankruptcies of construction companies could have a considerable impact on the real economy and financial sector. The construction industry accounts for 15.4 percent of South Korea’s GDP in 2022, and its impact on both upstream and downstream industries is profound. The loan balance in real estate project financing, the weak link of our economy, amounted to 130 trillion won as of the end of 2022. The delinquency rate of real estate project financing loans at securities companies has exceeded 10.4 percent, marking a two-digit rate. There is also a likelihood that as construction companies suspend construction work because of the cost burden, there will be a shortage of new homes two to three years from now, which will, in turn, drive up housing prices.

The current financial constraints of the construction industry are somewhat self-inflicted. Construction firms squandered investments amidst the housing boom. Construction companies ought to prioritize self-endeavor before seeking external assistance. Yet, the government should not sit on its hands while the industry is going under; it should guide the property market to a soft landing, distinguish gems from pebbles, and carry out a restructuring of the industry. The risks of the construction industry should be closely monitored and addressed with preemptive measures, if necessary, so that they do not spill over to other areas of the economy and cause an economic recession, financial crisis, and housing price bubble.