A. Description of the System

9. Corporations in Korea have several options for reorganization and debt restructuring. These include (i) a court-supervised formal rehabilitation procedure under the DRBA involving all creditors, (ii) a hybrid “prepack” process under the DRBA with select creditors, (iii) an out-of-court debt restructuring under the CRPA with financial creditors only, and (iv) a voluntary agreement with select creditors (See Table 4). A brief overview of these is as follows:

• Reorganization under the DRBA is a court-supervised process. Either the debtor corporation or its creditors may initiate reorganization if the debtor is unable to pay its debts when they are due without serious hindrance to the continuation of its business, or the debtor is likely to become insolvent.¹³ There is no automatic stay on enforcement actions by creditors at the time of the application (although such a stay may be requested), and a stay applies automatically upon commencement. The debtor typically remains in possession of the business unless the court decides otherwise. Creditors are classified into secured and unsecured creditors and each creditor group may be further sub-classified. The reorganization plan is confirmed by the court after it is approved by creditors holding at least 2/3 of the value of unsecured claims and creditors holding at least 3/4 of the value of secured claims (liquidating plans require a 4/5 majority of secured creditors), and in cases where the debtor’s liabilities do not exceed its assets, equity rights holders with at least ½ of the equity approve the plan. If the plan does not successfully secure the majorities required, the court may modify and approve the plan, provided the rights of affected dissenting creditors are protected and at least one class of creditors has consented to the plan.

• An expedited hybrid procedure formally known as “prior rehabilitation proposals” (and colloquially called “P-Plans”) is available under the DRBA. Creditors holding at least fifty percent of the claims or a debtor with the consent of such creditors may develop a rehabilitation plan out-of-court and submit it to the court for voting by the creditors’ assembly.¹⁴ This process is designed to expedite the adoption of a rehabilitation plan and blends the speed and flexibility of out-of-court processes with the advantages of an in-court process such as a court-ordered stay on creditor enforcement actions, and the ability to bind minority creditors to the plan. The P-Plan was conceived in part to facilitate agreements reached under the CRPA to be confirmed by the court under the DRBA.

• The CRPA facilitates an out-of-court debt restructuring agreement between the debtor and its financial creditors. The principal financial creditor may notify the debtor corporation of its assessment of the debtor’s “signs of insolvency” (i.e., difficulties in performing its obligations in the ordinary course of business such as repayment of a loan borrowed from a financial creditor without additional cash flow outside of ordinary borrowings). The debtor may commence rehabilitation discussions either with the principal financial creditor only (administrative proceeding by the principal creditor); or with all its financial creditors (joint administratorship proceeding) and propose a rehabilitation plan. The debtor remains in possession of the business, and creditors may agree to standstill on creditor enforcement actions. Confirmation of the plan requires consent of participating financial creditors holding at least 3/4 of the claims by value. Where a single creditor holds 3/4 of the claims, the resolution requires consent of 2/5 of the number of creditors. Dissenting creditors have the right to be bought out by the other creditors. Disagreements between creditors are mediated by the Creditors’ Coordination Committee. Only participating creditors are impacted by the restructuring. The FSC may levy fines for failure to abide by the CRPA.¹⁵

• A voluntary agreement may be entered into between a debtor and one or more creditors. Such informal debt restructuring entails confidential negotiations between the debtor and one or more creditors out-of-court following which the parties could consent to changes to the original contract. Such agreements have the benefit of confidentiality and flexibility, but they only bind participating creditors.

^{Table 4.}

Korea: Restructuring Options

Source: IMF Staff Summary

^{Table 4.}

Korea: Restructuring Options

	Out of Court Options		Hybrid Processes		In-Court Process
Options for Restructuring	Voluntary workouts	Workouts under the CRPA	P-Plans	ARS	Reorganization under the DRBA
When available?	Anytime	Upon debtor’s application (when creditor determines “signs of insolvency”)	Pre-insolvency/insolvency	Insolvency	Debtor is unable to pay its debts without serious hinderance to its business or debtor is insolvent
May be used by SMEs?	Yes	Yes, with provisions for additional flexibility and confidentiality	Yes	Yes	Special procedure known as “SRP” for SME’s with debts below prescribed threshold; and entrepreneurs may also use procedure for individual indebtedness.

Source: IMF Staff Summary

View Table

^{Table 4.}

Korea: Restructuring Options

	Out of Court Options		Hybrid Processes		In-Court Process
Options for Restructuring	Voluntary workouts	Workouts under the CRPA	P-Plans	ARS	Reorganization under the DRBA
When available?	Anytime	Upon debtor’s application (when creditor determines “signs of insolvency”)	Pre-insolvency/insolvency	Insolvency	Debtor is unable to pay its debts without serious hinderance to its business or debtor is insolvent
May be used by SMEs?	Yes	Yes, with provisions for additional flexibility and confidentiality	Yes	Yes	Special procedure known as “SRP” for SME’s with debts below prescribed threshold; and entrepreneurs may also use procedure for individual indebtedness.

Source: IMF Staff Summary

10. The Seoul Bankruptcy Court has devised a new process called Autonomous Restructuring Support (ARS) to promote restructuring. Under the ARS, a debtor’s insolvency petition is accepted by the court but kept in abeyance for 3 months to allow the parties time to reach an agreement out of court.¹⁶ If the parties reach agreement, the petition can be withdrawn. ARS permits parties to benefit from a stay on creditor action while negotiations are ongoing.

11. Considerable additional support for SME rehabilitation is available. SMEs make up over 99 percent of the total number of enterprises (about 38 percent are unincorporated micro-enterprises and 25 percent are small enterprises), and account for 51 percent of added value.¹⁷ Domestic banks have significant exposure to SMEs (40 percent of their total loan portfolio). Most SME loans are collateralized against real estate. Against this background, the authorities have developed an extended toolkit for SME rehabilitation. A brief overview of the main elements is as follows:

• The Summary Rehabilitation Proceedings (SRP) under the DRBA is a streamlined procedure that aims to reduce costs, increase efficiency, and boost the chances of successful plan adoption. SMEs with debts of no more than KRW 3 billion may access the process. The SRP modifies the corporate rehabilitation procedure described above by eliminating the need for a custodian and an inspector in most cases. An inspection commissioner who is an accountant or a court official may be appointed, with simplified duties under Supreme Court Regulations. In addition, a creditors’ council is not required in all cases; and the voting thresholds for adoption of a plan are relaxed.¹⁸

• Owners of unincorporated businesses are eligible to use the procedure for individual rehabilitation provided they meet the debt thresholds for the procedure.¹⁹ This simplified procedure enables individuals to restructure all debts (business and personal) in a single proceeding. The maximum repayment plan period is generally 3 years. However, secured creditors are generally not part of the proceeding, which applies only to unsecured debts. In addition, individuals may also benefit from the Credit Counselling and Recovery Service for their business debts. (For details see Annex)

• Several government programs offer support for SME rehabilitation. These provide SMEs with expert advice, help defray the cost of the procedure as well as the cost of restructuring and provide enhanced access to fresh financing on which a restructuring generally depends.²⁰

• To improve access by SMEs to these numerous schemes, in 2017–2018, the Seoul Bankruptcy Court launched S-Track. S-Track is a program designed to integrate and link various SME support programs offered by different agencies and is available to enterprises with debt of less than KRW 15 billion.²¹

B. Use and Practice

12. A range of creditors participate in the insolvency system. In addition to banks that are the traditional financial creditors, asset management companies, distressed debt investors and other capital market players have credit interests in corporate rehabilitation.²² There is a robust market for NPLs led by the privately-owned United Asset Management Company (UAMCO). Banks may request the state-owned Korea Asset Management Corporation (KAMCO) to purchase their NPLs. UAMCO undertakes corporate rehabilitation including through injection of liquidity into the business and mergers and acquisition (M&A) activity. KAMCO, on a much smaller scale than UAMCO, uses several techniques such as sale-and-lease-back arrangements to facilitate corporate rehabilitation. The K-Growth Fund is a fund of funds investing in the rehabilitation of distressed corporates using similar techniques.

13. Significant corporate debt restructuring activity takes place through voluntary out-of-court agreements. The continued stigma associated with insolvency, and a cultural preference for confidential out-of-court workouts contributes to this preference. The use of ipso facto clauses²³ in contracts is common contributing to debtors’ reluctance to initiate formal proceedings. Stakeholders also noted that debtors prefer out-of-court workouts as they are less likely to impact on shareholder control over the business. Although the reorganization procedure is generally a debtor-in-possession procedure, in many cases reorganization involves debt-to-equity swaps which dilute main shareholders or operational restructuring resulting in a change of management of the business. Use of personal guarantees for business debts is a common practice that also disincentivizes early filings. Although evidence suggests that voluntary agreements are widespread, as these negotiations remain confidential, data is difficult to obtain.

14. Involuntary insolvency petitions against a debtor filed by creditor banks are rare. In addition to certain cultural norms and the overarching view that private banks also serve an important public function, there are disincentives for banks to initiate formal proceedings. For instance, a formal insolvency filing affects not just the risk classification of the loan, but also the key performance indicators for the branch of bank making the filing.

15. The court supervised rehabilitation process under the DRBA is generally regarded as efficient. The DRBA provides timelines for various processes, which are largely observed. The time taken for in-court reorganization is significantly lower in Seoul than in other parts of the country. The establishment of the Seoul Bankruptcy Court and initiation of the “Fast Track Program” by the court are largely credited for speeding up the process. (See Table 5).

^{Table 5.}

Korea: Duration of Corporate Rehabilitation Proceedings

Source: Nationwide Court Data and Data from the Seoul Bankruptcy Court

^{Table 5.}

Korea: Duration of Corporate Rehabilitation Proceedings

Year	Average Days from Petition to Commencement Order (Nationwide)	Average Days from Petition to Commencement Order (SBC)	Average Days from Commencement Order to Approval of Rehabilitation Plan (Nationwide)	Average Days from Commencement Order to Approval of Rehabilitation Plan (SBC)
2017	35.2	18.7	212.6	175.7
2018	34.4	19.8	212.1	159.6

Source: Nationwide Court Data and Data from the Seoul Bankruptcy Court

View Table

^{Table 5.}

Korea: Duration of Corporate Rehabilitation Proceedings

Year	Average Days from Petition to Commencement Order (Nationwide)	Average Days from Petition to Commencement Order (SBC)	Average Days from Commencement Order to Approval of Rehabilitation Plan (Nationwide)	Average Days from Commencement Order to Approval of Rehabilitation Plan (SBC)
2017	35.2	18.7	212.6	175.7
2018	34.4	19.8	212.1	159.6

Source: Nationwide Court Data and Data from the Seoul Bankruptcy Court

16. Both financial and operational restructuring is common. Debt-to-equity swaps are frequently used as a technique to dilute existing shareholders and eventually change the management of the company. Recently, “stalking horse bids” have gained popularity in Korea. If the debtor identifies a prospective buyer – “the stalking horse”- it may, with the permission of the court, enter into a conditional agreement with such buyer. Once such conditional sale and purchase agreement is executed, the receiver holds an open bid auction. If another higher bidder emerges, the receiver may be required to pay the stalking horse buyer a “break-up fee” or grant the stalking horse an opportunity to submit a new “top up” bid. If no higher bidder emerges, the sale to the stalking horse proceeds. Previously, the legal framework did not allow privately negotiated deals in the interests of fairness and transparency. All sales were conducted through an open bidding competitive process, which often failed. Operational restructuring is also common, though less so among smaller enterprises.

17. Use of P-plans is limited, and priority for fresh money provided in an out-of-court workout is not recognized in a subsequent in-court proceeding. Preventative restructuring is not the norm. There have been less than a dozen P-plans in the courts although interest in the procedure by both debtors and creditors is increasing. Out-of-court workouts offer providers of new finance little protection in the event an insolvency petition is filed thereafter which could constrain the success of P-Plans.

18. Challenges to successful rehabilitation persist, including the limited availability of post-commencement financing. The authorities have recently established a specialized fund at KAMCO to facilitate post-commencement financing on commercial terms to viable businesses. The K-Growth Fund is also actively investing in the rehabilitation of distressed corporates, including pre-insolvent companies. Other challenges include the limited flexibility in practice for parties where the court is involved (i.e., under the DRBA) as there is a high level of judicial influence and discretion, which could put pressure on commercial decisions (e.g. regarding approval of a rehabilitation plan).

19. SMEs account for about a third of all corporate reorganization petitions filed before the courts. Within the Seoul Bankruptcy Court, there is a special bench that exclusively hears SME petitions filed under the SRP. Based on data provided by the MOJ, the streamlined process under the SRP is quicker than the regular procedure, taking on average 181 days from application to approval of the plan (compared to 247 days on average for the regular procedure).²⁴ In general, stakeholders commend its efficiency. As personal guarantees are frequently used and trigger personal insolvency concurrently with business insolvency, the same judicial panel handles both procedures in parallel and with a high degree of coordination. SMEs may also use the individual rehabilitation procedure if they are unincorporated and have debts below the prescribed threshold.

20. The authorities have made significant efforts to promote SME reorganization. Filings under the SRP procedure are limited to a few hundred applications per year. It is possible that a large volume of distressed SMEs use the individual insolvency procedure, engage in voluntary workouts, or become defunct without formally filing for insolvency. As with corporates more generally, the chief challenges for SMEs remain lack of early filings which negatively impact the possibility of successful business rescue, and the difficulties in securing post-commencement financing necessary for continued business operations. Further work could be done to assess whether the system effectively triages unviable SMEs for whom speedy liquidation should be the goal.

21. Although creditors indicate a preference for workouts under the CRPA over reorganization, there have been only a handful of rehabilitation cases under the CRPA procedures in recent years (See Table 6). The CRPA has been successfully used in the rehabilitation of large companies by financial institutions, but there is a perception of government influence over the private restructuring decisions made under the procedure. The CRPA is generally regarded as a more flexible process than the reorganization under the DRBA. However, creditor coordination remains a significant obstacle under the CRPA given that decisions on restructuring plans require unanimity or for dissenting creditors to be bought out by the creditors in favor of the plan. A possible way to address this is through standing inter-creditor agreements between major financial institutions, or through holdout clauses in multi-creditor financing agreements, that could facilitate reaching agreement on restructuring plans. There are ongoing discussions on whether the CRPA should be a permanent legislation.²⁵ A key step in the process is careful consideration of the purpose and role of this legislation in the overall insolvency framework. For instance, the early warning function of the CRPA could be further developed. This could include expanding the set of circumstances that trigger discussions with debtors and addressing the problem of the passivity of banks monitoring the debtors: for instance, debtors could be encouraged to complete a periodic self-assessment online and pro-actively reach out to creditors.

^{Table 6.}

Korea: Data on Corporate Insolvency Petitions

^*Number indicates applications received where the first creditors meeting was convened.

Sources: Nationwide Court Data provided by the Ministry of Justice and Financial Supervisory Service

^{Table 6.}

Korea: Data on Corporate Insolvency Petitions

Filings under the DRBA	2014	2015	2016	2017	2018	Filings under the CRPA*	2014	2015	2016	2017	2018
Reorganization(of which SRP)	873	925	936	878 (246)	980 (291)	Large corporations	1	12	4	8	3
Liquidation	539	587	740	699	807	SMEs	0	3	7	6	6

^*Number indicates applications received where the first creditors meeting was convened.

Sources: Nationwide Court Data provided by the Ministry of Justice and Financial Supervisory Service

View Table

^{Table 6.}

Korea: Data on Corporate Insolvency Petitions

Filings under the DRBA	2014	2015	2016	2017	2018	Filings under the CRPA*	2014	2015	2016	2017	2018
Reorganization(of which SRP)	873	925	936	878 (246)	980 (291)	Large corporations	1	12	4	8	3
Liquidation	539	587	740	699	807	SMEs	0	3	7	6	6

^*Number indicates applications received where the first creditors meeting was convened.

Sources: Nationwide Court Data provided by the Ministry of Justice and Financial Supervisory Service

C. Analysis and Recommendations

22. The reorganization procedure is generally well-aligned with international best practice, and a few changes would further enhance its consistency with the standard. The DRBA is broadly consistent with the key elements of the standard including with regard to commencement, management of the reorganization, claims verification, treatment of executory contracts, class voting, and discharge for entrepreneurs. Consideration could be given to better aligning the DRBA with the standard in the following areas:

• Directors’ Duties in the Period Approaching Insolvency: The DRBA does not address the specific duties and obligations of directors in the period approaching insolvency, although general fiduciary duties (and sanctions for violating them) are set out in the corporate law. Principle B2 of the World Bank Principles and Part IV of the UNCITRAL Legislative Guide recommend that the law should include personal liability for directors for wrongful trading. As these provisions create accountability and could serve as an incentive for early filings, their express inclusion in the DRBA may prove useful.

• Ipso Facto Clauses: The DRBA is silent on the enforceability of automatic termination and acceleration clauses of executory contracts upon insolvency.²⁶ Such clauses generally serve as a deterrent to early filings and negatively impact the possibility of successful business rescue. Principle C.10.2 of the World Bank Principles and the UNCITRAL Legislative guide recommend that contract provisions that provide for the termination of the contract upon an application for commencement or commencement should be unenforceable, except in special cases such as financial contracts (derivatives, repos).

• Post-commencement Financing:²⁷ The UNCITRAL Legislative Guide recommends that there should be incentives for post-commencement financing, including priority at least ahead of unsecured creditors and that such priority should be recognized in case the reorganization proceeding is converted to liquidation.²⁸ While the DRBA permits post-petition financing to have the highest priority in case of reorganization, it does not preserve this priority in case reorganization proceedings are converted to liquidation proceedings.²⁹

23. Finally, the rehabilitation procedure for individual entrepreneurs appears well-suited for the specific needs of small debtors. Given the challenges in segregating business and personal debts, the DRBA includes one procedure for individuals with low debt value. This is a simplified proceeding designed to be both quick and inexpensive, and provides solutions different from those in the insolvency standard (e.g., there is no creditor voting on the repayment plan), possibly because the procedure is closer to a personal insolvency process than to traditional commercial insolvency. The procedure appears well-suited to use by individuals with small debts and is generally regarded as effective (see Annex I for more details).

A. Description of the System

28. The implementation of the insolvency law is supervised by specialized courts. The Seoul Bankruptcy Court established in March 2017 is an independent court that adjudicates corporate rehabilitation and liquidation as well as personal insolvency cases. It has 34 judges, and over 200 legal staff as of 2018. Outside Seoul, a bankruptcy division in each local district court has jurisdictions over insolvency cases. In high value cases, ³⁰ the Seoul Bankruptcy court has concurrent jurisdiction even if the debtor’s center of main interests is outside Seoul.

29. Procedures under the DRBA rely on a significant degree of court supervision. In what is a novel feature of the Korean system, the court is advised by a custodial committee comprising of independent experts who assist the court in the appointment of custodians and inspectors, examine the draft rehabilitation plan, and facilitate the establishment of a creditors’ committee (known as the creditors’ consultative council). The courts generally mandate the appointment of Chief Restructuring Officers by debtors and are actively involved in developing a list of candidates, interviewing candidates and making a recommendation on the appointment of the CRO to the debtor. In addition, the courts rely on bankruptcy administrators who assist judges by performing routine tasks associated with insolvency matters.

30. Insolvency judges at the Seoul Bankruptcy Court mandatorily rotate from their posts after 2–3 years to other commercial matters. The period could be shorter in the district courts and rotations may be as frequent as every 1–2 years to other commercial matters. While insolvency judges in Korea – particularly in the Seoul Bankruptcy Court – are well qualified with significant expertise, the frequent rotations may affect the creation of deep and specialized knowledge on insolvency matters. This is a particular concern for courts outside of Seoul.

31. There is no insolvency administrators’ profession in Korea. Lawyers act as insolvency administrators and accountants serve as examiners in court. There are no special qualification systems or training systems for lawyers or accountants who provide bankruptcy related services. The Seoul Bankruptcy Court puts together a list of qualified examiners as candidates to be appointed by court through a custodial committee and then updates the list through periodic assessments (usually every two years). Likewise, it evaluates, manages and operates the list.³¹ Courts in other parts of the country follow the same protocol.

B. Use and Practice

32. The Seoul Bankruptcy Court has emerged as a pivotal player in recent insolvency reforms. It has developed its own programs (e.g. Fast Track Proceedings, and the S-Track) to complement the DRBA. Nearly 40% of all reorganization and liquidation cases filed in Korea are before the Seoul Bankruptcy Court. There are no serious backlogs in courts nationwide and the average time taken for the resolution of insolvency cases has decreased in recent years.

33. There is a high degree of digitization and standardization at the court. Most applications are made online. There are schedules, forms and templates available for use by the parties. The courts collect and report data on insolvency cases.

34. A number of the Seoul Bankruptcy Court’s recent programs and initiatives arise from practice and not codified. In a remarkable break from the civil law tradition, the court has created a significant body of practice (e.g. S-Track, ARS, etc.) using its discretionary powers. While strong institutions are an important pillar of a well-functioning regime, it is important for the predictability of the system that the applicable rules be clearly stated and consistently applied.

35. Experience and expertise at the courts could be further deepened. Stakeholders are of the view that consideration could be given to extending the period of rotations to at least 5–7 years. Further, efforts towards judicial capacity building in the district courts outside Seoul may be useful in further enhancing the institutional framework. Stakeholders also believe that judicial training and building expertise in courts outside Seoul should be the next step in strengthening judicial institutions.

C. Analysis and Recommendations

36. The expertise at the courts could be further deepened. It is recommended that the period of rotations be extended to at least 5–7 years. Increased efforts towards judicial capacity building in the district courts outside Seoul could also be useful in further enhancing the institutional framework.

37. The absence of an insolvency administrators’ profession is a significant institutional gap in Korea. The system does not regulate accreditation, supervision and monitoring of the administrators as a profession. The international standard recommends that criteria as to who may be an insolvency representative should be objective, clearly established, and publicly available.³² Consideration should be given to developing an insolvency administrators’ profession in line with the international standard.

38. The introduction of an insolvency administrators’ profession with requisite expertise and accountability is considered desirable. Current experience with professionals discharging these functions is mixed. The Korean authorities reviewed the issue in early 2019, but no conclusions were reached in this regard.