The growing push by South Korean firms into world markets, a clampdown by local regulators on dividend payouts, and the global wave of "onshoring" by manufacturers are changing the way that investment income flows in and out of the country. South Korea has long generated more income for foreign companies than its indigenous firms earn overseas, but the pattern is changing as globalising South Korean corporations head abroad in droves in search of markets and profits. Meanwhile, foreign companies are finding it increasingly tough to make money in the highly competitive and heavily regulated South Korean market.
Data show that South Korea's long-term trend of deficits on the direct-investment income account is gradually reversing. This means that the country's companies are beginning to make more money from their overseas investments than foreign firms do in South Korea. According to the the Bank of Korea (BOK, South Korea's central bank), the deficit on direct-investment income has shrunk from US$3.7bn in 2010 to US$772m in 2012. That change has been driven largely by an increase in investment income earned by South Korean firms abroad, which increased by US$2.8bn in the two-year period.
Outgoing investment boom
The increase in investment income reflects a boom in outgoing foreign direct investment (FDI) by South Korean companies. Data from the BOK's latest International Investment Position (IIP) survey show that in 2008 the stock of South Korean direct investment abroad exceeded that of direct investment into South Korea for the first time, by US$3.2bn. In every year since then, with the exception of 2009, the stock of investment overseas has exceeded that of investment in South Korea. In 2012 the stock of direct investment abroad amounted to US$196.4bn.
Outgoing direct investment by South Korean companies has been concentrated in the electronics and automotive sectors. Outward FDI by South Korean manufacturers surged from US$1.7bn in 2000 to US$8bn in 2011, according to the Export-Import Bank of Korea. Data from the BOK show that overseas production bases accounted for 16.7% of worldwide production by South Korean manufacturers in 2010, up from 6.7% in 2005, but that the proportion was 50% for automotive companies and 77% for mobile-phone manufacturers.
The trend is accelerating as South Korean firms outgrow the domestic market and search for growth in emerging and developed markets worldwide. The strength of the won, coupled with persistently low interest rates, is giving them greater motivation to head abroad in pursuit of growth. Cash-rich South Korean companies are increasingly shopping for offshore mergers and acquisitions. According to a UK-based research firm, Mergermarket Group, the value of South Korean purchases of European firms nearly doubled in 2012, to US$1.3bn. This trend has been largely a product of lower asset prices in Europe owing to the debt crisis affecting that region. Publicly traded South Korean companies were sitting on W64.3trn (US$57bn) in cash—equivalent to roughly one-fifth of the country's annual GDP—at the end of September 2012. They will need to find opportunities for growth and profit abroad if they are to put some of their hoard of funds to productive use.
Hard times for investors in South Korea
Meanwhile, there are signs that income growth is slowing for foreign firms invested in South Korea and for subsidiaries of overseas companies there. Data from the BOK show that in 2012 direct-investment income earned by firms operating in South Korea amounted to US$6.1bn. Although this exceeded direct-investment income for South Koreans firms abroad, income for foreign firms active in South Korea has shrunk in recent years. This has happened despite an increase in the volume of inward FDI. According to IIP data, the stock of direct investment in South Korea reached US$147.2bn in 2012, up by 10.2% year on year. In 2008-12 annual growth in FDI in the country averaged around 5%. These trends indicate that there has been a reduction in the profitability of each unit of investment.
Low dividends
The maturation of South Korea's economy is one of the key factors behind slowing investment-income growth for overseas firms operating there. Another is the fact that the country's regulatory climate is turning against generous dividend payouts. Foreign banks operating in South Korea are feeling the pinch from regulators that are putting greater pressure on management to curb capital outflows. Standard Chartered Bank Korea, the South Korean unit of the eponymous UK-based bank, and Citibank Korea, a unit of Citigroup of the US, cut their dividend payments sharply in 2012 after regulators objected to their plans. Even after its cantankerous departure from South Korea in 2012, a US private-equity investor, Lone Star Funds, continues to fight the South Korean authorities' tax claims relating to part of its W5.4trn gains from its investments in assets in the country in the 2000s.
Low dividend yields are another factor dampening dividend income growth for foreign investors in South Korea (roughly 40% of all dividend payments by listed South Korean companies go to foreigners, including portfolio investors). Dividend yields on publicly traded South Korean companies are typically low, hovering below 2%. The low level of dividend payouts by some of South Korea's chaebol (large conglomerates), contrasting with with the vast profits that these entities have made in recent years, is a well known gripe among investors. Such companies typically prefer to invest their cash rather than pay dividends, and are playing a major role in fuelling the recent surge in growth in investment income earned by South Korean firms operating abroad.
Fickle local consumer tastes and rapidly changing technology are making it increasingly difficult for foreign companies to stay profitable in South Korea, while competition regulators and the tax authorities keep a watchful eye on foreign companies that are reaping profits from local markets. Global manufacturing trends towards "onshoring" or "reshoring" jobs and factories are another factor blurring the prospects of sustained income growth for foreign companies in South Korea. The country is jumping on the bandwagon by offering sophisticated incentives for South Korean companies that move operations back home from abroad and thus contribute manufacturing jobs and export revenue to the local economy. Tax benefits to such firms include 100% income tax waivers for the first five years after moving their operations back to South Korea. The changing landscape of trade and investment means that foreign companies will need to work harder for their money in South Korea, while local firms are carving out territory in global markets.
