B.2.4 The Out-of-court Workout Debt restructuring
The out-of-court workout debt restructuring ("workout") is a company rescue process outside the confines of insolvency law whereby debt is eliminated or restructured pursuant to an agreement between the creditor banks and the subject companies.
Under the workout procedures, if a debtor company was deemed to be viable over the long term, it would be assisted by its creditors in order to re-establish its financial health. Thus, creditor banks rather than pursue receivership or liquidation proceedings against a debtor company, would instead agree to participate in the restructuring of a company by adopting a workout plan. A workout plan would typically provide for a number of financial (debt rescheduling, debt-to-equity conversion, interest relief, debt forgiveness etc) and, to a certain extent, operational (sales of assets, spin-offs, management changes etc) restructuring measures.
The workout process was preferred by GOK as the most appropriate way of dealing with the financial problems of the country's top 64 chaebol with a view to, preserve viable jobs and avoid unnecessary bankruptcy proceedings in a period of severe financial difficulties at national level. It was developed in the framework of guidelines adopted by the FSC following the so-called "London Approach"11 model on voluntary corporate workouts.
The basic contractual framework of the workout process in Korea was the Agreement of Financial Institutions for Promoting Corporate Restructuring ("Corporate Restructuring Agreement" or "CRA") dated 25 June 1998 and entered into by 210 financial institutions.12
As of August, 2000, 104 companies, including 12 Daewoo Group affiliates, had been accepted by their respective creditor banks in the workout process13.
The CRA expired as of the end of December 2000, and a new Workout Agreement has since been accepted by financial institutions.
The FSC would first identify the lead bank of the chaebol in question, normally the group's largest creditor, as the bank responsible for negotiating the terms of any corporate workout. The lead bank would then send letters of introduction to companies in the group inviting them to submit to the restructuring process.
Applicants would then be received by a selection committee appointed by the lead banks, and would be selected based upon the likelihood of success. The alternative would be bankruptcy. Eligibility for a workout is determined by the lead bank in accordance with the eligibility criteria and workout procedures under the Corporate Restructuring Agreement. Under Article 15 of the Corporate Restructuring Agreement, adoption of a workout program must be approved by the financial institutions holding more than 75 percent of the company's outstanding debt14.
The role of GOK
The workout process is an out-of-court debt workout scheme implemented by creditor financial institutions pursuant to the CRA. All decisions relating to the application of the process are made by the creditor banks. The GOK is not directly involved in the implementation of the individual workout plans. GOK's role is indirect through the participation of state-owned banks as creditors, or through the exercise of shareholder rights in banks were GOK has a shareholding. In the latter case the GOK is represented by the Korea Deposit Insurance Corporation ("KDIC")15.
The role of the FSC
Unlike the financial sector where the FSC is directly responsible for the licensing and supervision, the role of the FSC in the corporate sector is more indirect. The FSC is mainly responsible for providing an overall framework of principles and procedures through the issuance of guidelines. The FSC is also involved in facilitating workout procedures by taking concrete action such as: identifying lead banks, obtaining adherence of major creditors to the CRA, facilitating banks to establish the Corporate Restructuring Committee. In addition, the FSC monitors the status of the workout plans implemented by the financial institutions (in conjunction with its enforcement of prudential regulations on financial institutions).
Measures under the work-out process
Debt restructuring methods vary depending on the particular situation of the company subject to the workout plan Financial institutions may decide to provide some of the following types of assistance:
- Extension of due dates for the repayment of loans and interests thereon
- Interest relief including exemption and/or reduction of interest
- Conversion of short-term loans into long-term loans
- Debt for equity conversion
- Subscription of convertible bonds
- Additional loans
- Resolution of payment guarantees
- Debt forgiveness
The above measures are only possible "components" of the debt restructuring package, which may be agreed upon by the financial institutions under the workout procedure with respect to a particular company. Therefore, none of the above components constitute a separate programme.
Debt restructuring concessions are offered by financial institutions subject to the condition that the company in workout shall carry out self-restructuring (self-rescue) actions; these involve operational restructuring measures as follows:
- Disposition of assets such as land, buildings and securities, etc.
- Concentration on the core business and the disposition of non-core business and subsidiaries
- Reduction of payroll and/or number of employees
- Change of management
- Capital reduction without consideration
- Surrender of management right by major shareholders
- Contribution of personal assets by major shareholders
The choice among the above various methods is made by the financial institutions taking into account the specific situation of the debtor company and the results of review of the financial and business status of the company by independent consulting firms.
Daewoo Shipbuilding and Marine Engineering Co., Ltd."DSME" (formerly Daewoo Heavy Industries Co., Ltd "DHI"), the world's second largest shipbuilder, was involved in the workout process.
DHI was established in 1963 and became a member of the Daewoo group in 1976 since which date its shares have been publicly quoted. DHI had two main divisions: Shipbuilding and Machinery. On 26 August 1999, following the failure of its CSIP, the Daewoo group (including DHI) applied for a workout plan. Under the plan, on 23 October 2000 DHI spun-off its two operating divisions as follows: the shipbuilding division into new company called Daewoo Shipbuilding & Marine Engineering Co Ltd (DSME) and the Heavy Machinery division into Daewoo Heavy Industries & Machinery Ltd. DHI remained as such to handle certain assets and liabilities that were not assigned to the spun-off companies. The workout plan also included debt for-equity swaps (completed on 14 December 2000) for the newly established companies and an agreement between creditors on debt rescheduling.
For a detailed account of Daewoo's situation see Annex.
B.2.4.2 Subsidy Analysts
Under Article 1 of the ASCM a subsidy exists if(1) "there is a financial contribution by a government or any other public body ... [including] ... where a government makes payments to a funding mechanism, or entrusts or directs a private body to carry out [these] functions"; and (2) "a benefit is thereby conferred". Furthermore, in accordance with Article 1.2 of the ASCM, a subsidy is actionable under Article 5 of the ASCM, only if it is specific and it causes adverse effects to the interests of another WTO Member. Each of the above elements are, therefore, examined in turn.
With regard to the debt restructuring measures taken by the banks in the context of Daewoo's restructuring the complaint alleges that these constitute financial contributions made by the Korean banks acting on behalf of the Korean government within the meaning of Article 1.1(a)(1)(iv) of the ASCM. In view of the fact that the same allegation is made with regard to the restructuring of Halla and Daedong the financial contribution analysis below applies also for these two shipyards.
As a first step, a distinction needs to be made on the basis of the public/private ownership of the banks involved. For state controlled or state-owned banks the issue of financial contribution is not raised per se, if such banks can be considered as "public bodies" within the meaning of the chapeau of Article 1.1(a)(1) so that their actions would fall squarely under Article 1.1(a)(1)(i)-(iii). For state controlled or state-owned banks which are not "public bodies" and for private banks, however, their actions can only be held to constitute financial contributions, if the banks were directed to act on behalf of the Korean government within the meaning of Article 1.1(a)(1)(iv); for if they acted independently following commercial considerations there would be no financial contribution.
11 The term "London approach" is used as reference to the methods developed by the Bank of England in dealing with industrial recession in the UK in the mid-70s.
12 It was signed by 210 financial institutions (including government-owned financial institutions such as KDB and KEXIM) as follows: commercial and specialised banks (27), merchant banking corporations (22), investment & trust companies (30), securities companies (31), development institutions (2), leasing companies (22), credit card companies (8), factoring companies (28), life insurance companies (28), and fire and marine insurance companies. The effective implementation of the workout process was carried out by the so-called Corporate Restructuring Committee which was constituted by financial institutions as an ad hoc organisation (i) to prepare the basic contractual scheme of the workout process for adoption by the participating financial institutions and (ii) to mediate any disagreements among the financial institutions in connection with the implementation of the workout process.
13 Among them by the end of 2000, 58 companies had already left the process by quitting, merging, or early completion of the plan.
14 The following is a general flow of the decision-making process under the workout programs:
- To be eligible for a workout program, a company can request its creditor banks to put it in the workout program, or the creditor banks themselves can decide to put the company in the workout program.
- Leading creditor banks call a meeting of the Creditor Financial Institutions Council after consultation with the Corporate Restructuring Committee.
- The Creditor Financial Institutions Council meeting is held within 10 days after the calling of the meeting, at which time the creditors may decide to place eligible companies under the workout programs with the approval of the creditor financial institutions having at least three-fourths of the total credit amount owed by the applicant company.
After the approval, the leading creditor banks prepare the workout plan based on advice from outside consulting firms and, then, submit the plan to the Council. The plan will then be finalised with the approval from three-fourths and more of the members on the basis of their credit amount. The leading creditor banks execute a memorandum of understanding with the applicant company for the binding implementation of the workout plan.
To implement the workout plan, the leading creditor banks may dispatch management teams to the workout companies. The teams closely monitor the progress of the restructuring of the subject company. Any conflicts among the interested party groups during the workout procedure are to be settled through mediation by the Corporate Restructuring Committee (CRC).
The CRC was an ad hoc organisation established by the financial institutions participating in the workout process in accordance with the Article 7 of the Corporate Restructuring Agreement. The CRC's function was to assist the financial institutions in implementing the workout plans and to mediate any conflicts between the financial institutions during the process. The CRC was composed of 7 commissioners who were appointed by the participating financial institutions from among bankers and restructuring experts.
15 The KDIC is a deposit insurance agency for the financial institutions. The major role of the KDIC is to protect depositors and to support the financial system in the event that a financial institution is unable to pay its deposits due to bankruptcy.