[Issue Interview] "Real Estate PF Insolvency Crisis... Proper Restructuring Must Be Pursued This Year"

Interview with Son Jeong-rak, Research Fellow at Hana Financial Management Research Institute
"Oversupply of Officetels, Logistics Centers, and Knowledge Industry Centers"
"Surge in Construction Costs is the Biggest Blow"

Dr. Jeongrak Son, Hana Financial Research Institute. Photo by Younghan Heo younghan@

Concerns are growing over the insolvency of real estate project financing (PF) following Taeyoung Construction's workout application. The market already expects a significant portion of PF loans to become non-performing. The Construction Industry Research Institute estimated that out of the total PF loan balance of around 130 trillion won, up to 70 trillion won is at risk of default.

Real estate PF is broadly divided into housing PF and non-housing PF. Housing mainly refers to apartment complexes, while non-housing includes large logistics centers, knowledge industry centers (apartment-style factories), officetels, and others. The government actively supports housing PF policy-wise because many pre-sale contract holders could be affected if housing PF becomes insolvent. However, government support for non-housing PF is realistically difficult, making the risk of insolvency higher.

Researcher Son Jeong-rak, who is in charge of real estate at Hana Financial Management Research Institute, explained in an interview with Asia Economy on the 4th, "In terms of risk level, non-housing PF is the highest, followed by regional housing PF, and metropolitan area housing PF is relatively better." In the 'Non-Housing Real Estate Market Outlook' report released last month, Son stated, "Non-housing PF, mainly from non-bank sectors, amounts to 50 trillion won," and forecasted, "The possibility of insolvency is high during the market downturn."

Son said, "This year will be a period where restructuring must be properly promoted amid the unfolding insolvency issues related to real estate PF. Projects that have entered the main PF stage are somewhat better off, but bridge loan projects that have only purchased land and are burdened with interest will go through processes such as land auctions, debt restructuring, and loss realization by subordinated financial institutions, especially focusing on non-housing projects that lack feasibility and are difficult to complete."

- Why are non-housing projects cited as the cause of PF insolvency?

▲There are many risky assets in the non-housing sector. In particular, the logistics center and knowledge industry center rental markets are struggling due to oversupply issues. Logistics centers gained attention after the pandemic as e-commerce grew. People who used to go to shopping centers started ordering from Coupang. Since 2021, the supply of logistics centers has increased tremendously. Coupang alone leases about 300,000 pyeong annually for logistics centers. Developers thought that once built, someone would acquire them. However, after Coupang secured a certain amount of logistics centers in the metropolitan area, it turned its attention to non-metropolitan areas. This caused an oversupply of logistics centers in the metropolitan area.

Knowledge industry centers were a means to utilize 'self-sufficient land' (land intended to establish a regional economic base such as job creation) in new towns. There used to be demand in the past. Small businesses rented offices extensively. However, there was a lack of data to measure demand, and supply control failed. As the real estate market worsened, purchasing interest sharply declined.

- Besides oversupply, are there other reasons?

▲The proportion of construction costs in the total project cost of logistics centers is problematic. In fact, the construction cost per pyeong (3.3㎡) of logistics centers is less than half that of apartments. However, when considering the proportion of construction costs, it is much higher than apartments. Apartments are built in urban areas where land prices are high. If the total project cost is 100, 40 is land cost, 40 is construction cost, and the remaining 20 is financial cost. In contrast, logistics centers spend about 50 to 60 on construction costs. The heavy use of rebar increases the burden. Last year, when the loan syndicate (a group of lenders) led by financial authorities signed an agreement to prevent PF insolvency, interest was almost entirely waived. The current difficulties in PF are due to soaring construction costs. Even if logistics centers are built, there is no margin left. As a result, financial institutions are reluctant to provide further loans.

- You mentioned non-housing PF amounts to 50 trillion won. How severe is the risk?

▲The industry views about one-third of non-housing PF as bridge loans (short-term borrowings used for early-stage land purchases before construction starts). It is estimated that about 15 to 20 trillion won is at the bridge loan stage. If this does not transition to construction, problems will arise. Money has been spent on land purchases, but if it does not convert to the main PF (loans secured by land after permits are obtained and contractors selected), all purchase funds are lost. The developer goes bankrupt, and financial institutions incur losses.

Except for preferred areas like Yongin, Gwangju, and Icheon along the Gyeongbu and Jungbu lines, non-housing projects have poor feasibility. Among projects at the bridge loan stage, those with no margin and difficult to complete will be auctioned off by the loan syndicate. This kind of real estate PF restructuring is expected to take place throughout this year.

- What about housing such as apartments?

▲In order of risk severity, it is 'non-housing - regional apartments - metropolitan apartments.' Even apartments in regional areas are in poor condition. Although the housing market rebounded last year, it was centered on the metropolitan area. Regional cities had the same level of unsold units at the end of 2022. Daegu has a large supply this year, so the market is weak. Ulsan is similar. There are concerns about insolvency risks for large construction companies focused on these areas. The willingness of parent companies to support is crucial. If one construction company collapses, it could lead to a chain of bankruptcies among subcontractors. If construction companies of similar scale to Taeyoung Construction declare workouts, the crisis will spread throughout the market.

- The government said it will inject liquidity worth 85 trillion won.

▲It will have an immediate crisis prevention effect. However, for the problem to be fundamentally resolved, the pre-sale and sales markets must revive. If the non-housing market and regional housing market do not recover, money will just be spent without effect. For example, government policies to increase demand for officetels are needed. The industry voices calls for policies such as easing capital gains tax for multi-homeowners who own officetels.

Dr. Jeongrak Son, Hana Financial Research Institute. Photo by Younghan Heo younghan@

- How severe do you expect the ripple effects of real estate PF to be?

▲The real estate market trend this year will be 'high in the first half, low in the second half.' If interest rates fall in the second half, debt burdens will decrease, and the economy may improve. The key is how much insolvency spreads in the first half. Construction companies and financial institutions that are small in scale and lack financial strength are more likely to undergo restructuring.

Still, compared to the 2008 global financial crisis, construction companies are financially stronger, and compared to the 2011 savings bank crisis, financial institutions' risks are more diversified. Currently, savings banks have real estate PF amounts more than twice their equity capital, but other financial institutions have PF exposure within about one times their equity capital. Multiple financial institutions share the PF risk burden.

During the global financial crisis, construction companies had very high debt ratios, averaging over 200%. About 40% of the top 100 construction companies applied for workouts or court receivership at that time. Now, construction companies' debt ratios are about half of that period. It is a small relief that the financial strength of financial institutions and construction companies has improved compared to the past.

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