[Q&A] FSS: "Lotte Insurance Cannot Operate Without Meeting K-ICS Ratio"

Sehun Lee, Senior Deputy Governor of the FSS, Holds Briefing
Warns of Strict Measures Over 90 Billion Won Subordinated Bond Call Option
No Immediate Plans for Prompt Corrective Action or Ad-hoc Inspection

The Financial Supervisory Service (FSS) announced on May 8 that it will take strict measures against Lotte Insurance for exercising the call option on 90 billion won worth of subordinated bonds, stating, "A financial company cannot continue to operate without meeting the statutory minimum solvency ratio (K-ICS) of 150%."

Sehun Lee, Senior Deputy Governor of the Financial Supervisory Service. Photo by Jinhyung Kang aymsdream@

The FSS also stated that if Lotte Insurance does not quickly raise its K-ICS ratio above 150% through capital expansion, it will likely have difficulty repaying investors' principal.

However, since the FSS conducted an inspection of Lotte Insurance earlier this year and is still compiling the results, it said there are no current plans to conduct another ad-hoc inspection unless additional issues arise.

Sehun Lee, Senior Deputy Governor of the Financial Supervisory Service, held a briefing at the FSS headquarters in Yeouido, Seoul, on May 8 to address the current issues surrounding Lotte Insurance's early redemption of subordinated bonds and the regulator's stance.

The following is a Q&A with Senior Deputy Governor Lee.

-Is there a possibility of issuing a prompt corrective action in the future?

▲For a company operating in the financial sector, capital adequacy is a core legal requirement, and it was previously unimaginable for a company to intentionally violate this. Regardless of sanctions, the company's financial soundness is already weak, and the redemption of subordinated bonds would further undermine it, which is a serious concern for the supervisory authorities. We have doubts as to whether repayment is realistically and technically feasible. Fundamentally, the most important factor is whether the insurer can maintain adequate capital adequacy and continue its financial operations. We expect Lotte Insurance to promptly raise capital and restore financial soundness.

-Are there any plans for an ad-hoc inspection?

▲We already conducted an inspection of Lotte Insurance earlier this year and are currently compiling the results. Unless any additional issues arise in the near term, there are no plans for further inspections at this time.

-There are even suggestions of legal violations, so pushing ahead with the redemption is unusual. Do you understand the background?

▲We have not heard the company's official position, so we are unable to confirm the details. However, unlike other non-life insurers, Lotte Insurance's ownership structure consists of financial investors, so it may have prioritized maximizing short-term shareholder returns over long-term stability.

-Are there any other capital-raising options besides a rights offering?

▲From the regulator's perspective, we would prefer the company to raise long-term, stable core capital rather than supplementary capital. The most common methods are a paid-in capital increase or retaining earnings. Since the shareholder structure consists of (financial) investors, which is different from typical insurers, it may be difficult to raise additional capital in the short term. However, regardless of the shareholder structure, we believe it is necessary for the company to maintain capital like any other financial institution.

-Lotte Insurance says it will complete the redemption process within a few days.

▲We are concerned about this situation. For subordinated bond investors, the redemption schedule is extremely important information. It is a serious problem if the company makes statements it cannot be held accountable for. We have requested the company to confirm its official position. As of this morning, there has been no change from the earlier statement (that redemption will occur within a few days).

-If the redemption is delayed, retail investors may suffer losses. Was this considered?

▲The terms of the subordinated bonds specify a 10-year maturity, and early redemption at the 5-year mark is only possible if certain conditions are met. This was disclosed to investors at the time of issuance. We believe investors were aware of this when they invested. If this was not sufficiently disclosed, there is clearly a risk of misselling. If investor losses occur, this will need to be investigated in subsequent inspections.

-Lotte Insurance claims there is no issue because it will use its general account (proprietary funds) for redemption.

▲Financial institutions are required to maintain a certain buffer to cover problems that may arise in managing customer assets. The argument that the general account (proprietary funds) can be used freely is something I have never heard in the financial sector. Financial institutions must maintain an adequate capital ratio. Proprietary funds in the general account are maintained as part of a contingency plan. It is difficult to understand the logic that a financial institution can use these funds at its own discretion.

-How long can the FSS wait? Has a deadline been set?

▲Each sector has basic financial soundness requirements that must be met, and the actions to be taken if these are not met are stipulated by law. The supervisory authority's discretion is very limited. Typically, financial ratios are finalized on a quarterly basis. You can assume that action will be taken when the results for the first quarter are released.