Korea's construction industry is on the verge of crisis

The Korean construction industry's contingent liabilities associated with real estate project financing currently surpass 22 trillion won, raising concerns over the sector's financial stability.

New apartments under construction in Incheon [NEWS1]

Korea's major construction companies are grappling with increasing contingent liabilities associated with real estate project financing (PF) — which currently surpasses 22 trillion won ($16.9 billion), according to a recent report from Korea Ratings.

Contingent liabilities refers to debt which may be incurred in the future if certain events occur.

Current economic conditions, marked by persistent high interest rates and a sluggish real estate market, have heightened concerns that such liabilities could later become a bigger financial bomb.

Contingent liabilities among 21 rated construction companies reached a total of 22.8 trillion won at the end of August this year, a 29 percent surge from June of last year.

Above: Delinquency rates for real estate Project Financing (PF) in the financial sector. Bottom: Outstanding real estate PF loans in the financial sector. [YOO YOUNG-RAE]

Real estate PF is the practice of borrowing funds with a project's success as a form of collateral. A developer will often agree to pay their creditor a portion of their project's future profits in exchange for a lower interest rate. If the project doesn't go as planned and the developer defaults, the creditor holds their liability as debt.

The real estate market is in a state of downturn, and financial institutions, fearing insolvencies related to real estate PF, have been reducing liquidity and demanding additional credit enhancements. Construction companies, in turn, are exploring additional sources of funding, including direct fund-raising and guarantees.

Taeyoung Engineering & Construction (E&C)'s possible upcoming workout highlights potential financial strain due to funding difficulties linked to real estate PF instability. Korea Ratings estimates Taeyoung's contingent liabilities attached to real estate PF borrowings to be approximately 1.2 trillion won, 1 trillion of which will likely convert to debt. Of that sum, about 190 billion won are expected to mature by February, intensifying the urgency of the company's financial challenges.

The financial stress on construction companies is palpable.

Total combined loans by construction firms reached 32.5 trillion won this September, an increase of 10.4 percent from the previous year. Housing construction, however, plummeted 57.2 percent on year, to just 126,000 units, over the same period, underscoring the growing disparity between the sector's debt accumulation and its revenue.

Credit rating agencies have downgraded several construction companies in response to the challenging financial landscape.

Ilsung Construction was knocked from BB+ (Stable) to BB+ (Negative) in October, while Shinsegae E&C fell from A (Stable) to A (Negative). Taeyoung E&C, already downgraded in the first-half yearly evaluation, saw a further adjustment to its unsecured bond credit rating from A- (Stable) to A- (Negative). GS Engineering and Construction, which is grappling with safety concerns after its underground parking lot collapsed due to missing rebars, saw its unsecured bond credit rating drop from A+ (Negative Review) to A (Stable).

Some observers feel that Korea's construction companies are already in crisis.

Nineteen construction companies filed for bankruptcy from January to December of this year, according to the Ministry of Land, Infrastructure and Transport, marking the highest number since 2020. Eight of those filings took place this month, raising alarm bells about the sector's stability.

Experts are calling for intervention.

“It's true that some level of restructuring is needed to prevent the accumulation of loan interest,” said Professor Seok Byoung-hoon from the Department of Economics at Ewha Womans University.

He added, “Given the substantial impact construction companies have on real-world aspects like unemployment rates, it's crucial to offer them suitable support to avoid pushing them into dire situations.”

BY KIM NAM-JUN,SEO JI-EUN [seo.jieun1@joongang.co.kr]