The Crawl Of Reform At Daewoo

Its slow, slow restructuring will get a boost if Ford buys a chunk

When the South Korean government declared Daewoo Group insolvent in July, 1999, and slated it for restructuring, invest- ors around the world cheered. If Daewoo, a sprawling conglomerate that makes everything from cars to VCRs, wasn't too big to break up, then other indebted Korean corporations might get the message that the era of political patronage and government bailouts was over.

A year later, the reviews are decidedly mixed. To be sure, Daewoo is being broken up, and its iconoclastic founder, Kim Woo Choong, has been forced to step back. But so far, not one of 12 key Daewoo units in a workout program has been closed or sold to a foreign bidder, though Ford Motor Co. is expected to go ahead with an offer for Daewoo Motor by the end of September. None of the 12 companies has put in place the financial architecture that would enable them to reemerge as competitive companies. And their combined debt is nearly $80 billion--$26 billion more than their assets.

The slow-motion dismemberment of Daewoo reinforces the sense that neither Korea Inc. nor the government of President Kim Dae Jung is willing to absorb the short-term pain. The Kim administration is reluctant to risk a rise in the politically sensitive unemployment rate, which has fallen by more than half, to 3.6%, since the economic crisis in 1998. The government also is loath to close sick companies because doing so could further weaken the nation's shaky banks and destabilize the financial system.

Inside Daewoo, managers are still applying the lessons they learned in the glory days of Korea Inc., when the chaebol fiefdoms held foreign interlopers at bay. While these executives acknowledge the need to sell their companies to overseas investors, they remain reluctant to bring in foreign turnaround specialists, who could help make their outfits more attractive to buyers. "What you need now is a cold-hearted CEO who can wield a knife left and right," says Rhee Namuh, research director at Samsung Securities. "But you still have people with links to the past."

South Korea's sizzling overall growth rate--10.7% last year and expected to reach as much as 9% this year--gave the government some breathing room to break up Daewoo without disrupting the economy. But the cleanup at Daewoo and other embattled chaebol just isn't proceeding fast enough. Last year, 25% of manufacturers failed to earn enough money to service their debt, depending instead on new financing from banks that are themselves dependent on government bailouts. Not only is Korea's save-them-all-at-any-cost philosophy putting off the inevitable, it is also starving viable enterprises of badly needed capital.

BETTER BET. Consider the lifeline flung to Daewoo Corp., the deeply indebted trading-and-construction division. By any measure, the company is a dinosaur. Yet Daewoo Corp.'s creditor banks are in no mood to shut it down. Their plan is essentially to write off $18.6 billion of its $30 billion in debt and keep Daewoo Corp. alive as separate trading and construction companies. Even then, the sickly offspring would be wallowing in debt many times their equity.

In contrast, Daewoo Electronics seems a better bet for a rescue. Its debt is modest compared with other Daewoo companies--$2.8 billion more than its assets--and its products, while basic, are of reasonable quality. A group of 40 creditors agreed in January to swap $1.3 billion of Daewoo Electronics' debt for equity and convertible bonds. And they agreed to slash interest rates to 1% on $2.5 billion in unsecured loans for the next three years.

But even that may not be enough because Daewoo Electronics' debt-rescheduling plan projects revenue gains that the company probably can't meet. Under the workout plan, Daewoo Electronics aims to keep borrowing costs to about 5% of revenues in 2003 and 2004. But that assumes that it can boost sales to $6.3 billion--nearly twice what it expects to sell this year. Moreover, profits would have to rise sevenfold, to $630 million, 60% of which is supposed to come from such untested lines as digital and Web TVs. "The plan gives us bright prospects in the near future," says Joo Young Sup, Daewoo Electronics' director of planning and restructuring. "But our longer-term prospects remain doubtful." If the debt-rescheduling plan is too optimistic, Daewoo Electronics could be overwhelmed by debt once more.

The company's executives acknowledge that selling major assets to a foreign investor may be the only option for survival. Yet there is scant outside interest in Daewoo Electronics' low-margin business of selling basic TVs and VCRs. And the company's reputation for murky accounting doesn't help. Last year, U.S. investor Kohlberg Kravis Roberts & Co. opted not to buy Daewoo Electronics after the Korean company failed to produce U.S.-style financial statements.

BIG BREAK. The moment of truth for Daewoo Group will arrive in the next few weeks, when Ford is expected to make an offer for the automobile unit, which comprises nearly 30% of the chaebol's assets. The sale, which would include Daewoo Motor's marketing, financial services, and parts-making affiliates, is widely considered to be the best hope for restructuring the chaebol.

The benefits of a sale to Ford are compelling. At a stroke, it would send a message to other chaebol that if they don't speed up restructuring, they could face a similar fate. Ford's acquisition of Daewoo Motor would also, for the first time, open to foreign competition a long-protected strategic industry. The first to feel the brunt would be Hyundai Group, which could be forced to focus on its core businesses.

Yet the Ford deal is by no means assured. Ford's initial offer in June was said to be $6.9 billion. But during due diligence, the U.S. auto giant reportedly discovered hidden losses and inflated assets at home and abroad. As a result, say people close to the negotiations, Ford may now be offering just half that price.

If the talks break down, the only other likely savior is General Motors Corp., which is unlikely to offer much more than Ford and has warned Daewoo that its car business has been steadily losing value as the search for a new owner drags on. The best thing that could happen is for pragmatism to prevail. Ford needs the deal to work because to compete globally it requires a greater presence in Asia and Eastern Europe, regions where Daewoo is well entrenched. Daewoo's very survival hinges on a successful conclusion. The future of Korean economic reform does, too.