Lotte Insurance has sold 100 billion won of its senior bridge loan for the high-end dwellings 'The Palace 73' located in Banpo-dong, Seocho-gu, Seoul. Senior loans have lower interest rates and are relatively safer as they allow creditors to recover money before others. Nevertheless, it appears that Lotte Insurance's decision to sell was due to an increase in loan loss reserves, triggered by financial authorities' soft landing policy on real estate project financing (PF).
According to the industry on the 14th, Lotte Insurance sold the senior bridge loan for the Palace 73 development project at a 7% discount to IGIS Asset Management. They incurred a loss on the principal amount in the sale. Lotte Insurance was the primary senior lender for The Palace 73 and held the largest amount of bonds for this project.
The Palace 73 development project aims to construct luxury dwellings on the site of the former Sheraton Palace Hotel. The plan was to build two buildings with four basement levels and 35 above-ground levels, comprising 58 apartments and 15 officetels, totaling 73 luxury residential units. The bridge loans raised by the financial sector amount to 400 billion won for this large project, with the highest sale price expected to reach 500 million won.
The lending group extended the maturity of the bridge loan four times, but ultimately failed to convert to project financing. The project's subscription rate fell below 50%, leading it to be classified as a 'business site' at risk of default, and the implementing company was unable to repay over 400 billion won in loan principal, resulting in the expiration of benefits on the deadline (EOD) last August, placing Lotte Insurance and the lending group in a loss situation.
This background seems to have influenced Lotte Insurance's decision to sell the senior bridge loan. Generally, senior bridge loans are close to land collateral loans, thus having a high probability of recovering principal and interest even if they are put up for auction, so incurring a loss on the principal amount is an unusual occurrence, according to analysis from the financial sector.
A source in the development industry noted, 'Recently, the standards for loan loss reserves on senior loans have tightened, increasing the burden on financial companies regarding these reserves. I understand that they proceeded with the sale to secure balance sheet soundness.'
Last year, when financial authorities implemented a soft landing policy for real estate PFs considered at risk of default, it significantly increased the burden of loan loss reserves on financial companies. This policy led financial companies to additionally accumulate loan loss reserves for non-performing PF business sites, increasing their financial burden.
The decline in Lotte Insurance's capitalization ratio (KICS) is also one of the reasons for the sale of the bridge loan. The KICS ratio, a soundness indicator, is calculated by dividing an insurer's available capital by required capital. Selling real estate PFs like bridge loans reduces the denominator or required capital, which raises the KICS ratio. As of the end of the third quarter of last year, the KICS ratio for Lotte Insurance was 159.8%, down 53 percentage points from the previous year’s end (213.2%). Among domestic non-life insurers, only MG Insurance, designated as a failing financial company, has a lower KICS ratio than Lotte Insurance.
Moreover, in November of last year, financial authorities proposed guidelines for 'assumptions of cancellation rates for zero and low surrender insurance,' raising concerns that Lotte Insurance's KICS ratio could fall below the recommended level of 150%. It is understood that Lotte Insurance has set higher cancellation rate assumptions compared to other insurers. If they adjust the cancellation rate downward following the financial authorities' guidelines, they will need to set aside more funds for insurance payouts to customers, increasing the liability and potentially lowering the KICS ratio.
A Lotte Insurance official stated, 'The investment in question has already met the target return, so the sale proceeded without any loss factors,' adding, 'We have been in discussions with the buyer for a significant period since last year and completed the transaction normally as we entered this year.'