Korea's Digital Quest

Seoul is supporting a sizzling tech boom. But banks--and most jobs--are still in the stranglehold of the chaebol

When Kim In Kyung graduated from college and got ready to enter the job market a few years ago, her prospects weren't bright. One problem was that she hailed from rural Korea, where her parents toiled as farmers--not the sophisticated background a young woman usually needs to land an elite job in Seoul. The high-prestige, high-pay positions had always been the exclusive province of the young men who attended Seoul National University or those lucky enough to know a member of one of the dynastic families that controlled the nation's all-powerful industrial conglomerates.

But startling things are going on in Seoul circa 2000. Today, Kim, 24, has a dream job with Samsung Electronics Co. that includes world travel and a smart apartment in central Seoul. She's an internationally ranked player of a popular intergalactic-conquest game, Star Craft; for her job, she jets with a Samsung-sponsored team to Internet gaming events around Europe, Asia, and the U.S. It's all part of Samsung's strategy to promote its new Internet focus. Although Kim has tried to explain her work--which pays her $80,000 to $100,000 a year in salary, competition prizes, and endorsements--to her tech-challenged parents, they still don't understand what she does. "They don't know I'm living in the Internet world," says Kim. "They just know I have a good job."

SOUP KITCHENS. Kim is the lucky beneficiary of a remarkable turnaround in South Korea's economic fortunes since the gut-gripping recession of 1998. In the wake of the late-1997 foreign-exchange crisis, tens of thousands of people were thrown out of work, and soup kitchens sprouted in city parks. Families strapped for gas money left their cars in the garage, and Seoul's fabled traffic jams vanished for a time. The economy shrank in 1998 by 6.7%, its worst trauma since the Korean War, and the government had to accept a humiliating bailout from the International Monetary Fund.

Those bad memories have now begun to dissipate. The jobless rate, which peaked in early 1999 at 8.4%, has been cut in half. And the high-tech surge has been astounding. Korea's increasingly vibrant information-technology sector is churning out world-class personal computers, mobile phones, Palm clones, and other devices at an accelerating rate.

Information technology now makes up nearly 8% of South Korea's $400 billion economy. That number is expected to hit 11% by yearend and 20% by 2010, according to the Samsung Economic Research Institute. It's not just glamorous jobs like Kim In Kyung's that are being created. For the first time, executives are defecting from the huge conglomerates, or chaebol, to strike out on their own, applying their high-tech expertise to startups in everything from telecoms to liquid-crystal displays. New companies like mobile-phone maker Appeal Telecom Co. are teaming up with global leaders such as Motorola Inc. and cracking new export markets in Asia.

Time to celebrate? Not quite yet. Skeptics of the Korean tech revolution urge outsiders to look at other figures. The South Korean stock market, down 34%, is one of the worst-performing in the world this year. The high-tech Kosdaq market's performance has been even grimmer--down 60%. Investors are clearly worried about something.

The chief source of concern is the Korean corporate sector, led by debt-burdened chaebol like Daewoo and Hyundai, freighted with $630 billion in debt--150% of the country's annual gross domestic product. Some $100 billion of that liability is listed by Seoul banks as nonperforming loans. Meanwhile, the production of high-tech items still employs only 5% of the workforce. The far bigger contingent of workers labor on in the smokestack industries of companies such as Daewoo, Hyundai, and Ssangyong, plus assorted middling companies in slow-growth areas like textiles, chemicals, distribution, and basic manufacturing. At heart, Korea is still an industrial economy with lots of unproductive players.

There are thus two Koreas at war with one another, making competing claims on capital and talent. Which will win? The answer is still not clear. The survival of the chaebol and the future employment of the millions of Koreans who work for them is anything but certain. Their failure, and that of the big banks, could drag the whole South Korean economy into a new crisis. Or an economic downturn in the U.S., the biggest market for many of Korea's high-tech products, could send the IT sector into a tailspin. Even optimists like Woo Cheon Sik, an economist with the Korea Development Institute, concede that "Korea is situated at a critical point between making a new digital champion" or falling back from the pack.

No wonder South Korea's progress is being watched with fascination by global investors and policymakers throughout the developing world. It is a test case for whether a state-managed industrial economy can make a quick and seamless transition to a knowledge-based, high-tech model. It's doubtful Korea can make a clean leap to a U.S.-style New Economy, with innovation spurring high productivity gains. But the South Korean economy could emulate countries like Ireland and Finland, which have built up computer-literate workforces to transform their industrial base, create new businesses, and attract investment.

The optimists feel the Koreans can pull off a relatively painless transformation. "Clearly over the past 12 months, you have a significant shift in resources toward the New Economy," says Min Ji Hong, the head of Goldman, Sachs & Co.'s direct investment division in Seoul. "You have significant human resources rerouting from more traditional corporations and chaebol to startups." Cisco Systems Inc. CEO John Chambers, whose company has substantial operations in Korea, says that the economy is being lifted by its big investment in online networking technology. He told reporters in June that the South Koreans understand far better than the Japanese that "networking is going to determine the future and survival of companies and countries."

Although Korea's old industrial base is still inefficient, the country has strengths to play on as it struggles to escape its past. Export earnings from the tech sector, plus consumer spending on tech gadgets and the Internet, accounted for almost half of last year's 10.7% GDP growth, and they are driving a projected 9% expansion this year.

South Korea is, arguably, already the most wired nation in Asia--and by some measures, such as online stock trading and broadband access, a world leader. Sixty percent of its 46 million people already use mobile phones, and nearly half will be logging onto the Internet by yearend. More than 60% of all trading is now done online. By 2002, 3 million Korean households will be using high-speed Internet connections such as asymmetric digital subscriber lines (ADSLs) and cable television modems, vs. 2 million in the U.S. and 300,000 in Japan.

"UNMATCHED." More important, South Korea has a well-trained and literate workforce. The illiteracy rate is less than 1%, and 25% of high school graduates go on to four-year colleges. A recent World Bank report lauds South Korea's educational achievement, saying that its success "in improving the education level of its population would appear to be unmatched by any other country." Industry has clearly benefitted. Every year, universities and technical schools turn out 5,000 engineers; some 500,000 of them are already working in Korea's IT sector.

This deep strength in educated workers is complemented by a consumer-driven craze for all things digital--an obsession that is already showing signs of changing the lives of ordinary Koreans. Teenagers who used to hang out at the mall are now flocking instead to the country's 20,000 PC parlors, where for as little as $1 an hour they can watch movies, check e-mail, and surf the Net. "This is how many Koreans become versed in the Internet," says Won Jun Young, manager of Yeca Station, a parlor that sells the use of PCs for games, share trading, and temporary offices.

The passion for tech extends beyond teenagers. Korean housewives make up the lion's share of the current five-month waiting list for ADSL lines. They will all get their chance to go online after the government finishes the $35 billion high-speed telecommunications-infrastructure project that is under way. When that project is complete, in 2005, 95% of Korean households will have Internet access. "Korea almost has a perfect infrastructure in place," says Choi An Yong, Korea Telecom Co.'s vice-president for planning and coordination. Having so many people online gives companies a huge, tech-literate consumer base to test out products.

The "digital or die" mentality has touched off a spending spree in the corporate world as well. Back in the 1980s, IT spending accounted for just 10% of total corporate spending, while investment in plants and equipment for the steel and auto industries dominated. Last year, IT jumped to 40% of spending; it will exceed 53% this year, according to the LG Economic Research Institute.

The sector is growing so fast that the country's schools aren't able to turn out enough software engineers to fill the available jobs. In May, the government started offering foreign IT professionals "gold cards" that will allow them to live in the country for up to 10 years without renewing their work visas.

The IT drive is changing Korea's export market. Equipment like mobile phones, satellite receivers, and high-end LCDs will represent 27% of all exports this year, up from 18% in 1998. True, memory chips, prone to boom-and-bust cycles, are the biggest category, but higher-end products such as mobile phones and thin-film LCDs are gaining ground. Of Korea's $11.9 billion in semiconductor exports in the first half of this year, $6.1 billion represented non-memory chips.

For the first time, the Koreans are trying to innovate in emerging areas such as plasma display panels, mobile phones, and digital televisions, rather than just reverse-engineering copies of products manufactured by other brands. Korea now ranks seventh in the world in spending per capita on research and development. It is also in the top ten in patent registrations. "Korean companies used to follow the Japanese and West Europeans," says Lee Chong Suk, executive vice-president for restructuring at LG Group. "Now we are trying to turn out the product for the first time into the marketplace."

Driving the momentum is the most liberalized telecom sector in Asia. Internet connections in Korea cost a third what they do in Japan. And the IMF bailout program that mandated the lifting of restrictions on foreign direct investment has also proved a boon. The biggest share of the $24 billion in overseas investment that has rolled in since 1998, and the expected $16 billion this year, is invested in IT.

Global investors are looking for local partners to exploit a booming Korean domestic market and use South Korea as an export platform for the rest of Asia, particularly China. Mobile-phone powerhouse Nokia has teamed up with Telson Electronics Co. for production and development of wireless handsets. Ericsson is partnering with LG, while NTT DoCoMo wants to take a 10% equity stake in SK Telecom as part of a strategic alliance to sell telecom products across the region. Thorsten Freitag, vice-president of Cisco in Korea, says South Korea is now Cisco's fastest-growing foreign market for its routers and servers.

SUCCESS STORIES. The story is the same at Sun Microsystems Inc., whose local sales jumped 150% year-on-year through June, to $315 million, about 6% of Sun's worldwide revenue. "Korea is definitely one of the world's fastest growing markets for Sun," says marketing specialist Jung June Kyong.

Meanwhile, there are scores of success stories starring local businessmen bold enough to strike out on their own. James Kim, President of Locus Corp., gave up a promising academic career back in the early 1990s, borrowed money from his friends, and launched a company specializing in automated corporate voice systems. Now he's branching out into Internet and wireless-phone services. Locus had a net income of $5.2 million in 1999 on revenues of $50 million. It boasts a market capitalization of $400 million.

Talented executives used to shun companies like Locus, but Kim has had no trouble recruiting over the last two years. Locus' offices are full not only of recent college graduates sporting California casual threads, but of refugees from the chaebol. "You can now get good people from the top schools and conglomerates," Kim says.

Thus, Kim is no longer a lonely entrepreneur. Since early 1998, some 7,700 new companies have started up, helped by a government willing to extend tax breaks and loans. The Kim administration even exempted some engineers at startups from mandatory military service. It also cut back on the more than 300 documents that once had to be filed to register a new company.

Barriers are dropping for Korean software designers with the growing popularity of open operating systems such as Linux. Jeason Yeu, who launched a Linux-based Web mailing company called 3R Soft Inc. in the dark days of 1998, turned a profit a year later and boasted earnings of $675,000 on $2.2 million in sales during this year's first half.

"With the source of technology open to all for Linux, Korean software designers are placed on an equal footing with those in the U.S.," says Yeu. Korean designers also have an edge in writing and quickly exporting Linux-based software for Chinese consumers. Hancom Linux, launched last December, already has a promising Chinese-language word processing program and plans to launch an office-suite product with spreadsheet and presentation features. "Korea is a test bed for taking Linux programs abroad in local languages," says Hancom general manager Park Jung Soo.

And although major Seoul banks won't touch such companies, new forms of innovative venture-capital networks are starting to crop up. One is the Korean Venture Business Assn., headed by Lee Min Hwa, founder of Medison Co., which pioneered work in three-dimensional ultrasound technology used in medical equipment manufacturing. Founded in 1985, it now boasts $185 million in revenues and competes with Toshiba and Siemens.

Lee and other financiers have pooled $1.7 million to invest in companies with the greatest promise. Such homegrown venture-capitalist groups have more than tripled in number, from 46 in 1996 to 150 today. "Small companies have a definite advantage over large companies in a knowledge-based economy," Lee says.

Even the blowout in the Kosdaq this year (box) hasn't slowed the pace. Since last year, the number of startups has grown 50%. Many of them are underwritten by U.S. firms. Goldman Sachs's venture-capital unit has in the past seven months bought stakes in financial portal Pax Net, wireless specialist AI-Net Inc, educational site Baeoom, and software maker Linux One. Its total investment: $20 million. One favorite area of investment is e-commerce, where revenues are projected to jump from $245 million this year to $2.4 billion by 2003, according to a recent report by Andersen Consulting.

Will it all be enough to transform the economy permanently? To get a sense of Korea's challenge, compare it for a moment to the U.S. There, companies and workers had to go through 20 years of wrenching restructuring and a technology revolution had to take place before the New Economy emerged.

Korea, by contrast, has done little on the restructuring side. With the exception of well-run companies such as Samsung and LG, Corporate Korea has been slow so far to use information technology to cut costs and improve efficiency. Business-to-business portals to buy parts and supplies online, for instance, are still in their infancy. An estimated 2 million workers are holding jobs that probably should not exist.

Granted, President Kim Dae Jung's government is out to change the chaebol mind-set. It is offering to pay 50% of the cost of setting up databases and online parts exchanges in such industries as shipping, chemicals, and steel. That will be crucial if Korea's big smokestack industries are to improve their global competitiveness. But government prodding alone will not suffice. "I'm still quite doubtful that enough Korean chief executives are focused on the issue," says Lim Young Hak, executive director of Samsung Corp.'s Internet and e-commerce business.

The sluggishness of reform at the big chaebol is worrisome for the New Economy adventurers. Just about everybody in the business world is focused on whether Korea can work through the last vestiges of the crisis. Chief among the challenges is avoiding a chain reaction of financial-market defaults if the dismemberment of the ailing Hyundai Group fails. Another concern: that Ford Motor Co.'s plan to buy Daewoo Motors might fail.

"SUPPRESSED ENERGY." The unanswered question is whether the flowering of an Internet economy in South Korea can break through decades of deeply entrenched business practices. Korea still prefers big corporations to startups. Its banks would rather lend to their favorite chaebol than risky new companies. And corporations still love to make expensive, debt-fueled forays into new markets instead of crafting targeted business plans that focus on profitable growth.

Certainly, the success of Korea's vibrant sector of small and medium-size companies is heartening. Ironically, the transformation would have been much slower but for the 1998 financial trauma. That event opened the way for radical changes that would had been unthinkable three years ago. "We had a lot of suppressed energy in Korea," says the Korea Development Institute's Woo. "The crisis was a way to unleash it." Sometimes good things do come out of societal upheaval. The prize of a digital economy awaits Korea. Now it has to win it.

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