OREANDA-NEWS. A major regulator-led corporate restructuring of several large industrial sectors in Korea could mean that policy banks with the greatest exposures to the troubled sectors will require additional capital if they were to be actively engaged in the process to clean up legacy assets, says Fitch Ratings. But the restructuring should have only a limited direct impact on commercial banks.

The Financial Services Commission (FSC) announced the restructuring process for a range of sectors, including shipping, shipbuilding, petrochemicals and steel, on Tuesday. The immediate focus will be on shipping and shipbuilding. Both sectors face over-supply and poor demand amid the protracted slowdown in global economic growth.

Fitch estimates that around 11.2% of loans to the two sectors were non-performing at end-2015 (versus 1.8% for the banking system). This is likely to increase further, given that the "precautionary-and-below" loan ratio is around 16.6%, while Korea's big shipbuilders have received only a handful of new ship orders so far this year. Moreover, further asset-quality weakening is looming from around KRW15trn in exposures to Daewoo Shipbuilding & Marine Engineering (DSME), which reported KRW5.1trn of net losses and became a subsidiary of Korea Development Bank (KDB; AA-/Stable) in 2015. Fitch believes that almost all of the banks' exposures to DSME were recorded as normal performing loans at end-1Q16.

Fitch estimates the banking system's loan exposure to shipping and shipbuilding totals at around KRW88trn (USD77bn), with the shipbuilding sector accounting for just under 80%. Specialised or policy banks account for roughly 70%-75% of the loans to the two sectors, with KDB and Export-Import Bank of Korea (KEXIM; AA-/Stable) making up the majority. As a result, the two sectors account for 10.1% of the total loans of specialised banks - 2.0% for shipping and 8.1% for shipbuilding.

The large policy banks (whose ratings are underpinned by government support and aligned with the sovereign rating) are likely to need more capital if they are to play proactive roles in the restructuring process. The government has been pressuring the Bank of Korea (BoK) to inject capital into KDB, but this would require passing legislation through the National Assembly, where it could run into political opposition. The government has already supported KDB and KEXIM by injecting KRW2.0trn and KRW1.1trn, respectively, of equity capital into the banks in 2015 and 1Q16. KDB has also been selling non-core subsidiaries to boost capital.

Commercial banks, in contrast, are much less exposed to the restructuring. Only about 31% of loans to the shipping sector and 26% to the shipbuilding sector are held by commercial banks. The shipping and shipbuilding loans accounted for 0.6% and 1.8% of commercial banks' total loan books, respectively. Commercial banks' profitability should be sufficient to offset the impact - pre-provisioning operating profit was KRW11trn in 2015. Fitch anticipates similar credit costs in 2016 for commercial banks and has forecasted a stable sector outlook.