“Bought for 693.3 billion won, but that’s not the end” ... Shinhan Financial faces burden of further capital injections into Lotte Insurance [fn Market Watch]

[Financial News] Shinhan Financial Group has agreed to acquire Lotte Insurance for 693.3 billion won, but analysts say the burden of additional paid-in capital increases could grow after the deal closes. Lotte Insurance has negative basic capital and falls far short of the regulatory standards for the basic capital solvency ratio under K-ICS, which take effect next year. Based on current required capital, the simple shortfall alone to raise the basic capital ratio to 50% exceeds 1.1 trillion won.
Chae Young-seo, a senior analyst at Korea Investors Service, said in a report on the 16th that “Shinhan Financial Group may inject additional capital, including through a paid-in capital increase, depending on the need to improve Lotte Insurance’s financial structure.” The analysis said that while the acquisition itself would not place a significant financial burden on Shinhan Financial, the amount of any further capital injections could become a key variable in its capital management.
On the 13th, Shinhan Financial Group signed a share purchase agreement (SPA) to acquire a 77.04% stake in Lotte Insurance for 693.3 billion won. The stake is held by Big Tura, a special-purpose company established by private equity firm JKL Partners. The deal is expected to close after approval from the Financial Services Commission (FSC) for the change of major shareholder and other procedures.
According to Korea Investors Service, Lotte Insurance’s basic capital stood at negative 91 billion won at the end of June this year. Its basic capital ratio was also negative 5.4%, 55.4 percentage points below the 50% regulatory threshold that takes effect next year. By contrast, its K-ICS ratio under the existing system was 161.9% after transitional measures, above the financial authorities’ recommended level of 130%. Overall, its solvency ratio exceeds the recommended level, but its basic capital—which has greater loss-absorbing capacity—is insufficient.
At the end of June this year, Lotte Insurance’s required capital for solvency was 2.1111 trillion won. To meet the 50% basic capital ratio, it would need basic capital of approximately 1.0556 trillion won. Taking its current basic capital into account, the simple shortfall is about 1.1466 trillion won. However, the actual amount of capital increase required may vary depending on changes in required capital, earnings, capital recognition criteria and transitional measures.
Its ability to build up capital internally is also limited. Insurance earnings in the first half of this year improved to 53.7 billion won from 21.6 billion won in the same period last year, but investment earnings swung from a profit of 39.1 billion won to a loss of 78.5 billion won. As a result, net income also shifted from a profit of 47.5 billion won to a loss of 18.5 billion won.
Analyst Chae assessed that Lotte Insurance’s profitability and capital ratio were weaker than those of its peers, and that its ability to improve its capital ratio through retained earnings was also limited. In May, Lotte Insurance received conditional approval for the management improvement plan it submitted in response to the financial authorities’ management improvement order, and is implementing it over an 18-month period.
Shinhan Financial is considered to have relatively ample capital capacity. At the end of June this year, its double leverage ratio was 116.6%, leaving it with investment capacity of about 3.5 trillion won based on the financial authorities’ recommended ceiling of 130%. After the acquisition of Lotte Insurance, the ratio is expected to rise to 119.2%, while investment capacity is forecast to fall to about 2.8 trillion won. Its common equity tier 1 ratio is expected to edge down by just 0.1 percentage point, from 13.5% to 13.4%.
However, if an additional capital increase goes ahead, the burden of capital management could grow. Korea Investors Service believes Shinhan Financial can keep its double leverage ratio within the recommended level through subsidiary dividends and the issuance of contingent capital securities, among other measures, but plans to continue monitoring whether it makes another paid-in capital increase and, if so, its size.
The acquisition will significantly expand Shinhan Financial’s non-life insurance business. The combined total assets of Shinhan EZ General Insurance and Lotte Insurance are expected to reach about 14 trillion won, putting them around seventh in the industry. Shinhan EZ General Insurance was previously ranked 21st.
Reflecting the potential for capital support from Shinhan Financial and support from its affiliates, Korea Investors Service placed Lotte Insurance’s subordinated bond rating of BBB+ and hybrid capital securities rating of BBB under review for an upgrade.
[email protected] Kim Hyun-jung Reporter