Asia’s biggest international equity deal of the year will come from its most closed and parochial market. State-owned telecommunications company Korea Telecom, which has annual revenue of w5.71 trillion ($7.2 billion) and assets of W11.6 trillion, wants to raise up to $2 billion. With the Korean stock market suffering from political instability and restrictive practices, the government may have no choice but to make its first-ever foray into international capital markets when undertaking a privatization.
Speculation about the deal has thrown an unaccustomed spotlight on a market often overlooked in favour of more racy Asian bourses. “This could easily be the single-biggest transaction of the year,” says Andrew Harrington, regional telecommunications analyst at Salomon Brothers in Hong Kong. “With [the stock market’s] free float of shares estimated to be worth around $20 billion, it would account for around 10% of total market capitalization,” says Namuh Rhee, a director of Dongbang Peregrine Securities in Seoul. “And this would make it the second-largest company on the Korea Stock Exchange (KSE).” Adds Adrian Cowell, chief representative of Kleinwort Benson in Seoul: “It is undoubtedly the deal everyone is awaiting.”
The government is keen to accelerate what has been a much-delayed privatization programme. And, although officials are cagy about the details of the expected offering, they acknowledge that a foreign offering is now being seriously considered. “Originally we wanted to sell down more of Korea Telecom’s shares to the public during 1995,” says a senior department head of the Ministry of Finance and Economy (MOFE), “but the poor performance of the stock market made this impossible. Now we are actively exploring the possibility of selling shares overseas and we are in discussions with foreign banks concerning how best to do this.”
Foreign investment bankers have taken this as their cue – notwithstanding the absence of hard financial data from Korea Telecom – to talk up the deal. “Working on the rule-of-thumb basis that telecommunications companies worldwide are worth approximately $2,000 for every subscribed access line, Korea Telecom – with 17.6 million – should have a total value of around $35 billion,” says the telecommunications specialist at a US investment bank based in Singapore. “Given that the government wants to get the maximum possible mileage out of the exercise and appears willing to take seriously the modus operandi of the international capital markets, a foreign deal in the $1 billion to $2 billion range will be in order. Even that would not represent a large proportion of total equity while anything smaller – say $200 million to $500 million – would be inconsequential.”
Others point to macroeconomic signals from the MOFE when doing their calculations. “The ministry announced in mid-January that GDP growth would slow to around 7% for 1996 and that an additional W1.6 trillion would be required to ensure a balanced budget. It is difficult in the current climate to imagine this coming from anything other than a large sale of Korea Telecom stock to foreign investors,” says the director of one international investment bank based in Seoul.
Scepticism begins at home
The enthusiasm is by no means universal. Long used to the Korean authorities’ tendency to produce whimpers rather than bangs in capital market developments, older hands in Seoul are more sceptical about Korea Telecom. “The deal simply has not produced the same amount of hype among Korean brokerage houses,” says Milton Kim, president and chief executive officer of Ssangyong Securities. “Among these, there is much more cynicism that the deal will come about and be the one-off bonanza that the foreign houses seem to expect.”
Much will certainly have to be done to fulfil foreigners’ aspirations. Korea Telecom’s shares, for example, are currently bought and sold almost surreptitiously on a ramshackle over-the-counter (OTC) market. “The shares can be traded through local brokers which are neither accepted nor well known,” says Paul Do Kim, a securities analyst at Goldman Sachs (Asia) in Hong Kong. “These tend to advertise in local newspapers if they have Korea Telecom shares to sell and more usually broke real estate and golf club memberships.”
Adds Herman Chung, branch manager of James Capel in Seoul: “There is an official OTC market which was sanctioned by the government in 1992 and is managed through the Korea Securities Dealers Association. But it is to a large extent highly illiquid and Korea Telecom shares are not officially listed on it or available for purchase. It is difficult to get a price for the stock.”
The fact that shares in what will be the country’s second-largest listed company are currently available only through classified ads seems to reflect the somewhat desultory approach the Korean government has so far taken towards privatization. “There is technically a large programme to dispose of state assets and the intention to do so is clearly there,” says Cowell of Kleinwort Benson, “but the incapacity of the market to take in new structures has slowed the pace of the programme. Privatizations here are conceived differently to the west. Rather like in Japan, the authorities seem to prefer to trickle stock out in dribs and drabs.”
Korea Telecom has made its inelegant entry to the market in just that way. It was first established as a corporate entity under the 1981 Korea Telecom Act, and the legislation was amended in 1989 to permit privatization. But it was not until 1993 that shares were offered to the public. This was done through a public auction restricted to individual investors who were asked to submit postal offers and were awarded stock according to the value of their bids over a government-established minimum price. Through this and two subsequent auctions in 1994, 20% of Korea Telecom was sold to local investors. At present, the government owns 80% of the shares, the public 10%, the Korea Pension Management Board 6% and Korea Telecom employees 4%.
“It was an unwieldy and decidedly unscientific process,” says the head of research at a foreign securities house in Seoul. “The logistics were handled by local brokerage companies with little attention paid to a proper valuation of the company. The whole exercise seemed politically inspired to give windfall profits to individuals on the electoral roll.”
It was at least successful in this sense. By increasing the minimum bid price before each new tranche on offer, the government inflated the value of shares from W25,000 after the first auction to W30,000 and finally to W47,000. Salesmen at local brokerage companies say that prices have changed little since 1994, with W48,500 the going price in the secondary market as of early January.
Analysts say the company itself was given little input on the sale price of the shares or its overall valuation. “The Korean initial public offering (IPO) process is best described as weird,” says the head of corporate finance at a foreign house in Seoul. “The prices of shares in all IPOs are calculated according to a largely meaningless securities and exchange commission formula which ultimately means that all listing prices are artificially low. The overriding ethos is to give the public an additional incentive to participate in the stock market with the result that everyone is happy at IPO time apart from the company involved.”
Andrew Holland, research director at BZW Securities in Seoul, agrees. “IPOs do not tend to be valued on the basis of looking at comparative companies and their price-earnings ratios,” he says. “Rather, they are just done on a simplistic net asset value average. As a result of this, the average first-day premium for subscriptions in Korea is about 65%.”
The government had scheduled Korea Telecom for an IPO in 1995. But a combination of factors conspired to prevent both this and the expected boost for the company’s existing shareholders. Buffeted by a series of external events – including the Mexico crisis, the Barings collapse and the Sampoong department store disaster which resulted in over 1,000 deaths – the KSE had a languorous year.
“Though corporate earnings rose by an average 35% to 40%, the economy grew by 9% and interest rates fell, the market index fell by 14% during 1995,” says Holland of BZW. “Average daily turnover fell by 35% as individual investors continued a two-year trend as net sellers of equities to the tune of w2 trilllion.”
Korea’s growing reputation for political instability has also taken its toll on Korea Telecom’s listing plans. The autumn indictment, arrest and trial of two former presidents – Chun Doo-hwan for alleged mutiny and Roh Tae-woo for alleged bribery using a $575 million political slush fund – diverted attention from privatization. Persistent rumours about incumbent president Kim Young-sam’s alleged use of the slush fund also forced the government to focus more on politics than economics.
Stagnant stock market
The subsequent arrest of eight top chaebol (conglomerate) leaders and the implication of 35 of them in the slush-fund scandal have cast a shadow over the image of Korea’s business and financial community. “Issues like the corruption of politicians and the over-concentration of power in the hands of the chaebols have become deeply rooted,” says Kim of Ssangyong. “Together with the fact that certain institutions are perceived as being manipulators of the stock market, this has produced a widespread anti-stock market mood among investors.”
Hopes of a domestic listing of Korea Telecom in the first quarter of 1996 have faded in the persistent political fallout. Gone with them is the government’s private desire to placate the company’s shareholders with an IPO before National Assembly elections in April. “The single-biggest constraint on the progress of the privatization programme remains the fact that the stock market is in the doldrums,” says Steven Marvin, head of research at Ssangyong. “There is still very little demand, transaction volume is low and there are major worries about the ability of the market to absorb new issues.”
Adding to the pressure on the government to list Korea Telecom is a backlog of new issues from 1995 also thwarted by the market’s travails. Analysts say that over $3 billion of IPOs and rights issues are queuing up, including large transactions for LG Semicon, Han Jung Heavy Industries, Hyundai Electronics and Hyundai Heavy Industries.
Time is running out for Korea Telecom for other reasons. By committing itself to joining both the OECD and the World Trade Organization (WTO) by the end of the year, president Kim’s self-avowed “internationalizing and liberalizing” administration is forcing the company out of its protective cocoon. “A key prerequisite for membership of the WTO is the opening of the telecommunications sector,” says Kim of Goldman Sachs. “Korea is now committed to complete liberalization by the start of 1998, and the privatization of Korea Telecom is seen as vital to its increased competitiveness and efficiency before the entry of the likes of Nynex and US West in two years’ time.”
There has also been increasing domestic competition. Korea Telecom’s monopoly of international phone services, worth W1 trillion, was broken in 1991 when a former subsidiary, Dacom, was given access on favourable terms (with international tariffs set 5% lower than its former parent’s). Dacom’s subsequent privatization and listing on the KSE in 1993 has resulted in increased private-sector involvement and management (Samsung Electronics is its largest shareholder with a 6.2% stake) and a 26% share of the international market. From January, it was also licensed to compete with Korea Telecom in the W2.4 trillion domestic long-distance market.
Korea Telecom is also being forced by the information and communications ministry to divest its 20% stake in the highly profitable Korea Mobile Telecom (KMT) during 1996. Established in 1984, KMT has an exclusive hold on cellular services which will expire in June. Now firmly in the hands of the Sunkyong Group, which owns a 16.8% stake via oil refiner Yukong, it offers a serious challenge to Korea Telecom in the market’s fastest-growing sector. This will be augmented by Posco and the Kolon Group which have joint controlling stakes in Shinsegi, the second cellular carrier, which will initiate services later this year.
Korea Telecom’s revenue growth slowed to 3.5% (at W5.7 trillion) last year, compared with compound annual growth of 11.2% for the five years between 1990 and 1994. “There is a growing urgency to complete the privatization of Korea Telecom,” says Cowell. “Its industry is now in a period of rapid transition and it needs to raise money quickly to keep pace with both its domestic and, in the near future, international competitors.”
The exigency of Korea Telecom’s listing, coupled with the continued stagnation of the domestic market, serves to intensify conjecture in foreign financial circles that a sizeable foreign tranche will be the only way to achieve a successful IPO. “It now looks entirely feasible that no new shares will be offered when it lists in the domestic market and that a large international offering will be required to meet the government’s capital-raising needs,” says a director of corporate finance at a foreign securities house in Seoul.
With fees for Korean international equity deals offering 3% to the successful global coordinator, there is no shortage of foreign houses eager to offer their credentials. “The mandate could be worth up to $60 million to the winner,” says the branch manager of a foreign investment bank in Seoul. “And though no beauty contest has yet been announced, already we have seen a number of bankers beating a path to the MOFE in search of the action.”
Merrill Lynch is thought to be an early favourite. It is the only bulge-bracket house with full-branch status in Seoul and has already worked as an official adviser to Korea Telecom. “We have been committed to Korea for the long term,” says Julian Summer, head of the firm’s equity corporate finance in Hong Kong. “And our telecoms achievements in Asia are well documented.”
Among other deals, Merrill was global coordinator for Indosat’s $1.16 billion privatization in 1994 and joint-lead for PT Telkom’s $1.6 billion international offering last year. “We also have Korean telecoms experience,” says Summer, “having led a very successful $150 million depositary receipt issue for KMT last April.”
Foreign line-up
Other US houses are keen to play on a perceived Korean predilection for brand-name American advisers. Salomon Brothers points out that it lead-managed Korea Telecom’s $100 million yankee bond issue in 1993 – its only foray into international capital markets to date – and also notes that it has recently established a joint-venture securities house in Seoul with Anam Industrial. With a team of nine analysts, Hannuri Salomon became conspicuous in mid-January when chief executive officer Robert Denham hosted an opening party at the Grand Hyatt Seoul that boasted KSE chairman Hong In-kie and Youn Young-kyu, chairman of the Korea Securities Dealers Association, among its guests.
The longer-established Asian houses will not be giving up without a fight. Remarking somewhat coyly that “Jardine Fleming is always interested in assisting Korean companies to maximize their value”, its branch manager and managing director Philip Smiley adds: “We are the top-ranked foreign house in Korea with post-tax profits of W4 billion last year. We also managed to increase commission income by 30% in a year when turnover was down by 35%.”
But before the foreign houses get too excited about their role in the potential deal, several obstacles will need to be overcome. Not least is the MOFE’s conservatism. Its attempts to exert influence over the daily movements of the KSE still mean, for example, that foreign buying limits of 15% are imposed on almost all Korean stocks. Its use of a W5 trillion stock market stabilization fund last May in an effort to boost the sagging market was accompanied by a requirement that domestic institutional investors maintain daily net buying positions. A W2 billion ceiling on all new equity issues to limit supply is also technically still in place.
“To date the government and the MOFE have best been characterized by their desire to retain control over all aspects of financial services,” says Smiley. “A cautious, step-by-step approach to all things has been the order of the day, together with a suspicion of foreign influence and participation. The concept of foreign advisers and investment bankers remains unfamiliar in Korea.”
Given that a blanket ban on the foreign purchase of “strategic” telecommunications companies is currently in place, this may put foreign aspirations for a lucrative role in the privatization of Korea Telecom somewhat in the shade. Local analysts also note that there is a restriction forbidding the simultaneous listing of Korean companies on domestic and foreign stock exchanges. Ssangyong’s Marvin offers some words of comfort: “The Korean government has consistently shown great willingness to abruptly change plans and rules whenever economic conditions demand.”
