Korea's Largest Corporate Acquisition Ends in Failure

Kumho Asiana Group has decided to sell its stake in Daewoo Engineering and Construction, which it bought in 2006. The move is aimed at preventing the entire group from suffering an intensifying liquidity crunch that is rooted in the purchase of the builder. This means Korea's largest corporate acquisition has failed in just three years.

Kumho Asiana Group bought a 72.1 percent stake in Daewoo from the Korea Asset Management Corporation for W6.4255 trillion (US$1=W1,286). At the time Daewoo's stocks were worth around W18,000 per share, but intense competition among bidders put a premium on the builder's management rights, sending the stocks up to W26,200 per share when the sale price was finalized. In order to pay for the deal, the group borrowed W3.5 trillion from 18 different financial institutions, putting up 39.6 percent of its stake in the builder as collateral.

The problem lies in a put option Kumho Asiana signed with the lenders binding the conglomerate to repurchase Daewoo's shares three years later -- the end of this year -- for W31,500 a share should the builder's stock price fall below that level. The agreement ensured that the financial institutions would make a profit even if Daewoo's stock price declined. Currently the company's stocks are worth around W12,000 per share. If the lenders exercise their put option at this point, Kumho Asiana would owe them W4 trillion. This dilemma is behind the incessant rumors in recent weeks of a cash flow problem at Kumho Asiana.

Following its purchase of Daewoo, Kumho Asiana acquired Korea Express last year for W4.1 trillion. The major acquisitions propelled Kumho Asiana from Korea's 11th-largest business conglomerate to its eighth. But the consequence was a deteriorating cash flow that increased funding pressure on the conglomerate, forcing it to put Daewoo back on the selling block. It is a classic lesson in the dangers of highly leveraged corporate expansion.

Mergers and acquisitions are the fastest and surest ways for a company to grow, reorganize its business line-up and secure a foothold in a new area of expansion. This is how most global conglomerates have grown to their present sizes. But there are also examples of spectacular failures, such as Daimler's acquisition of Chrysler for US$40 billion and resale years later for just $6 billion. There is even research that shows around 60 percent of corporate acquisitions fail to boost shareholder value. There may be no method as effective as acquisition to expand a company, but it is also a double-edged sword that carries significant risks. This is the lesson of Kumho Asiana.