"Lotte Insurance Call Option Postponement, Market Concerns Expected to Subside"

Easing of Call Option Exercise K-ICS Ratio Scheduled for Third Quarter

Korea Investment & Securities commented that Lotte Insurance's postponement of its subordinated bond call option, due to disapproval from financial authorities, is inevitably damaging to trust. However, the firm also assessed that market concerns will likely subside over time, as the early redemption-eligible K-ICS ratio is scheduled to be lowered in the third quarter.

On May 15, analyst Kim Kimyung of Korea Investment & Securities stated in a report titled "Impact of Lotte Insurance's Call Option Postponement" that, "The delay in exercising the call option is the result of failing to meet supervisory requirements such as the K-ICS ratio, leading to the lack of approval from financial authorities."

According to the Insurance Business Supervision Regulations, early redemption of subordinated bonds is only possible with the approval of the Financial Supervisory Service Governor if the K-ICS ratio remains at 150% or higher after redemption, or if alternative capital procurement is confirmed. Analyst Kim explained, "At the end of last year, Lotte Insurance's K-ICS ratio was 154.6%, but due to stronger regulations and falling market interest rates, it declined further as of the end of March this year. If the subordinated bonds are redeemed early, the ratio is estimated to fall below 150%, which is the reason for the financial authorities' disapproval."

He added, "At the end of last year, Lotte Insurance's K-ICS ratio was 125.8% on a pre-transitional measure basis. If capital is not increased as the effects of transitional measures gradually diminish, there is a possibility that the K-ICS ratio will continue to decline."

Analyst Kim noted that regulations related to the insurance companies' risk-based capital system are expected to be further strengthened through 2027. He also highlighted that the "basic capital solvency ratio" will be introduced this year. In the banking sector, capital regulations are subdivided into total capital ratio, basic capital ratio, and common equity tier 1 ratio. A similar approach will be partially adopted for insurance companies, with the addition of a basic capital K-ICS ratio alongside the existing total capital K-ICS ratio. The financial authorities plan to lower the early redemption-eligible total capital K-ICS ratio from the current 150% to 130% in the third quarter when introducing the basic capital regulation.

Kim stated, "If the supervisory regulations are revised in the third quarter and the early redemption-eligible total capital K-ICS ratio is lowered to 130%, Lotte Insurance may be able to exercise the call option. However, if the basic capital K-ICS ratio remains at 11% as of the end of last September, and if the mandatory compliance threshold for the basic capital K-ICS ratio is introduced at the 50% level as has been suggested in the market, Lotte Insurance could become subject to prompt corrective action, such as management improvement recommendations."

He also predicted that after the third quarter, the likelihood that financial authorities will not approve call option exercises for insurance companies' capital securities is low. He said, "Due to the postponement of the call option, market concerns have risen not only for Lotte Insurance but also for some insurance companies whose K-ICS ratios remain in the 150% range, leading to a rise in market yields for their capital securities. However, considering that the early redemption-eligible K-ICS ratio is scheduled to be lowered to 130%, market concerns are expected to subside over time."

He added, "Given the introduction of the basic capital regulation, concerns regarding insurance companies with weak basic capital are expected to persist."