The Number of Companies Unable to Repay Interest Despite Earning Profits Has Increased

Q1 Interest Coverage Ratio Below 1 at 36%
Up 4 Percentage Points from Year-End

Sharp Increase in At-Risk Firms Possible After Financial Support Ends

[Asia Economy Reporter Minji Lee] Company A, a secondary battery material manufacturer listed on the KOSPI market last year, failed to generate profits from operating activities in the first quarter of this year, increasing its interest burden. Until the third quarter of last year, the company maintained a solid financial structure with earnings ten times the interest payable, but this ratio dropped to around five times in the fourth quarter of last year and in the first quarter of this year, the company was unable to cover interest expenses from operating activities. This was due to a decrease in demand from downstream industries caused by semiconductor supply shortages and parts supply disruptions resulting from the Russia-Ukraine war.

Cement company B, which saw a sharp rise in its stock price early this year due to performance expectations, saw its interest coverage ratio fall below 1 in the first quarter. Until the end of last year, it maintained a ratio around 4. An interest coverage ratio below 1 means that the company's earnings (operating profit) are insufficient to cover the interest expenses. This can be interpreted as a ‘zombie company’ with an unstable financial structure. B's sudden inability to pay interest, despite previously being a sound company, was due to a sharp increase in the price of thermal coal used in cement manufacturing caused by the prolonged war, which significantly reduced operating profits. The possibility of annual profit improvement is also low, putting B in a position where it cannot even pay interest with its annual earnings.

On the 9th, Asia Economy, commissioned by financial information provider FnGuide, analyzed the interest coverage ratios of all domestic listed companies for the first quarter. Among the 1,603 listed companies surveyed in the first quarter of this year, 588 companies had an interest coverage ratio below 1 (including those with operating losses), accounting for 36% of the total. This is a 4 percentage point increase from the 32% of companies struggling to pay interest despite earning money as of the end of last year.

After the COVID-19 pandemic, companies seemed to improve their financial structures by tightening their belts. In the first quarter of 2019, 38% of all listed companies had an interest coverage ratio of 1 or less. The proportion of companies struggling with interest payments expanded significantly to 42% during the COVID-19 crisis but decreased to 35% in the first quarter of last year and recorded 32% based on last year's settlement. However, with prolonged inflation increasing corporate cost burdens and rising interest rates increasing interest expenses, the situation has worsened again this year.

Jung Yong-taek, an economist at IBK Investment & Securities Research Center, said, "Due to external factors in the first quarter, many companies suffered performance hits and increased cost burdens as interest rates rose rapidly compared to last year. Not only small and medium-sized enterprises with relatively weaker financial structures but also large conglomerate affiliates were affected by the semiconductor industry slowdown." In fact, among companies with an interest coverage ratio below 1 in the first quarter, 451 (76%) were listed on the KOSDAQ market, and the remaining 137 were KOSPI-listed companies. By industry, many companies classified as zombie companies were in sectors such as auto parts, electronic equipment, and display components, which have struggled with operating activities since the COVID-19 pandemic.

A concerning point is that the number of companies unable to cover interest is expected to increase in the second half of the year. The COVID-19 financial support, initially scheduled to end in March, has been extended to September, so the interest burden companies must bear is not fully reflected in the figures. The government has taken measures to allow principal and interest repayment deferrals and loan maturity extensions for companies affected by COVID-19. Ultimately, once financial support measures end, a flood of zombie companies may emerge. As of the end of last month, the outstanding corporate loans from the five major commercial banks (KB Kookmin, Shinhan, Hana, Woori, NH Nonghyup) totaled 668.0629 trillion won, an increase of about 5% (32 trillion won) compared to the end of last year (635 trillion won). With the Bank of Korea's Monetary Policy Committee expected to raise interest rates further, the risk of interest delinquencies and defaults is analyzed to have increased.

Park Yong-rin, head of the Corporate Innovation Finance Research Center at the Korea Capital Market Institute's Financial Industry Division, emphasized, "The increase in companies considered zombie companies under the current situation is largely due to reduced corporate performance caused by external factors, and it is difficult to say that the burden from interest rates has been fully reflected. To prevent a sharp increase in loan defaults after support ends, selective support and a soft landing plan must be devised."

◆Interest Coverage Ratio = An indicator showing how much the company's earnings (operating profit) cover the interest expenses (interest costs) it must pay. An interest coverage ratio below 1 means the company cannot even pay interest with its earnings. Generally, an interest coverage ratio of 3 or higher is interpreted as a company with a solid financial structure.

This content was produced with the assistance of AI translation services.