(Bloomberg) -- Lotte Chemical’s surprise move to call a creditors meeting to remove a clause in its bonds covenant is bringing into sharp focus the risks investors face from exposure to interest rates sensitive industries in South Korea.
Lotte Corp, the holding company of one of South Korea’s biggest conglomerates, said Thursday that some bonds issued by its affiliate Lotte Chemical may fail to meet interest coverage ratio clause, requiring it to schedule a bond holders meeting in December to discuss deleting the clause.
Lotte group companies held 15.4 trillion won ($11 billion) in readily available deposits, maintaining stable liquidity as of October, it said adding that Lotte Chemical has no problem in repaying the principal and interest of bonds. The issue was caused by the decline in profitability of Lotte Chemical due to the recent downturn in the petrochemical industry, it said.
Lotte Chemical’s operating losses swelled to 660 billion won of in the first nine months of this year, from a year earlier.
Yet, South Korean investors are on high alert as the rising borrowing costs have made it challenging for capital intensive businesses to manage their finances. On Monday, shares linked to Lotte Corp fell sharply on speculation of liquidity crisis, which the group then denied.
One clause in Lotte Chemical’s 14 bonds issued between September 2013 and March 2023 allows investors to declare an event of default and could force an early redemption of the bonds. The event of default of a certain bond will result in cross-default of all Lotte Chemical borrowings, NICE Investors Service Co. said in a report.
“The issue presents the potential for a sharp increase in liquidity risk without an amicable response,” the rating company added.
A 2022 default on project finance debt by the developer of a Legoland amusement park in South Korea caused short-term corporate borrowing costs to surge to over a decade-high. Spreads have since compressed back to levels before the crisis, after policymakers rolled out measures worth more than $66 billion to support the credit and property markets.
Choi Jinyoung, head of fixed-income management at Mirae Asset said a declaration of event of default could lead to a credit crisis even bigger than the Legoland crisis. The bondholders meeting next month will delete the clause to not declare event of default, but “the possibility of an EOD is not zero,” he said in a phone interview Thursday.
Korea Investors Service, a local unit of Moody’s, said the consolidated borrowings balance of Lotte Chemical was 11 trillion won and the corporate bond balance was 2.3 trillion won as of the end of September 2024. Of which, two trillion won met the event of default condition, it said in a report.
After holding steady for more than a year and a half, the Bank of Korea last month cuts its rate by a quarter-point to 3.25% to shoring up economic momentum. But the central bank is expected to hold rates steady at its next interest-rate decision next week.
Citigroup Inc. economist including Kim jinwook said in report on Thursday that “BoK is highly likely to keep ample liquidity in the short-term money market,” due to the factors including credit risk of Lotte Chemical. He didn’t see contagion of liquidity risks and credit risk in short-term money market and corporate bond market for now, but pointed that “liquidity conditions tend to become seasonally tight at year-end.”
--With assistance from Shinhye Kang.
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