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The holding companies of Korea’s two flag carriers, Korean Air and Asiana Airlines, are facing significant turmoil. The sudden death of Hanjin Group Chairman Cho Yang-ho on April 8 forced the former to set up an emergency management team to ensure smooth operations, while the cash-strapped Kumho Asiana Group decided on April 15 to sell Asiana Airlines altogether in order to overcome a liquidity crisis.

Today, we’ll discuss Korea’s troubled air travel industry with Lee In-chul, director of the Real Good Economic Institute. 

Due to its deteriorating financial structure, Kumho Asiana Group has decided to sell its main subsidiary, Asiana Airlines, which accounts for 60 percent of the group’s annual sales. The largest shareholder of Asiana Airlines is Kumho Industrial, whose largest shareholder is Kumho Buslines. Through Kumho Buslines, former group chairman Park Sam-koo controls the entire group. The firm also operates other airplane companies, such as budget carriers Air Busan and Air Seoul. The group is seeking to divest itself of Asiana and its other commercial airlines, a move the group’s main creditor, the Korea Development Bank, has called necessary in order to provide the group financial assistance.

Late Kumho Buslines founder Park In-cheon began his company with just two taxis in the mid-1940s. His company, which evolved into Kumho Group, would soon grow into one of Korea’s top-ranked firms. In the 1980s, it established Asiana Airlines, turning it into the nation’s second flag carrier as well as what many describe as the company’s crown jewel. After such success and hard work, why is the group selling the airline? 

The trouble began when former chairman Park Sam-koo pressed ahead with the acquisition of Daewoo Engineering and Construction in 2006 and Korea Express in 2008, bidding over 6 trillion won and 4 trillion won, respectively, or about 5.4 billion US dollars and 3.6 billion dollars. To make matters worse, the group was hit by the global financial crisis in 2009, and state-lender Korea Development Bank assumed its management rights.

The group continued to stretch itself thin, overleveraging buyouts of Kumho Industrial and Kumho Tire in 2015 and leading to a group-wide liquidity crunch. This was demonstrated when some Asiana Airlines were delayed last year because they were unable to get airline food in a timely manner. This year, an auditor’s negative evaluation of the airline’s financial conditions raised further concerns that the company’s credit rating might fall even further.

Ineffective management resulting from excessive business expansion is largely blamed for Kumho Asiana Group’s financial woes. Its key subsidiaries, Kumho Industrial and Kumho Tire, were put under a debt relief program in 2009, but this apparently failed to change management’s behavior. As a result, the group is struggling to pay back some 1 trillion won in loans maturing this year, forcing the sale of Asiana Airlines and its other airlines.

Asiana is not the only major Korean airline facing difficulties. The nation’s largest, Korean Air, is also dealing with adversity as management control is in the midst of being transferred from the late chairman Cho Yang-ho to his son and president of Korean Air, Cho Won-tae. 

To fully assume his father’s responsibilities, Cho Won-tae would have to pay an inheritance tax to take over his father’s controlling shares in Korean Air’s holding company, Hanjin KAL. But that’s easier said than done.

The inheritance taxes are estimated at between 170 billion won and 200 billion won, roughly 150 million and 180 million US dollars. It won’t be easy for the third-generation successor of Hanjin Group to raise such a huge sum. Moreover, the younger Cho needs to purchase even more stakes, in addition to the inherited ones, to strengthen an otherwise vulnerable corporate governance structure. Other challenges include opposition from a fund called Korea Corporate Governance Improvement, which is Hanjin KAL’s second-largest shareholder. 

Hanjin KAL is the holding firm of Hanjin Group, which has Korean Air, Jin Air, Hanjin Corporation and some others as subsidiaries. The late Cho owned a 17.84 percent stake in Hanjin KAL at the time of his death. His son, Cho Won-tae, has only a 2.34 percent stake. The combined stake held by the younger Cho’s immediate and extended family, along with close aides, is less than 29 percent. As his appointment would require the approval of two-thirds of attending shareholders, Cho needs to secure a 34-percent stake, a threshold he won’t reach even with his father’s shares.

Clearly, both Asiana Airlines and Korean Air are facing their own unique crises, and many industry watchers believe that both companies are facing the challenges they are because of risks triggered by investor distrust in the owner of the respective businesses. This dynamic can be summed up in the phrase ‘owner risk’.

I think the two air carriers’ current difficulties have much to do with owner risk. In the case of Korean Air, the owner’s families’ have been embroiled in controversies over abuse and mistreatment of company employees, overshadowing the management decisions of the owner himself.

The National Pension Service, which owns more than 11-percent of Korean Air shares, has been criticized for diminishing the late chairman’s decision-making capacity. But I think the National Pension Service concluded that the chronic abuse of others by the Cho family damaged the corporate value of Korean Air and infringed on investors’ rights. 

Kumho Asiana Group’s predicament demonstrates how an owner’s reckless judgment can throw a company into serious crises. The board of directors failed to restrain the owner, even as poor decisions continued to mount. This is a stark reminder that the corporate governance structure in Korean businesses is outdated and inefficient. Indeed, family-monopolized management may increase owner risk and is no longer feasible. 

Both of Korea’s flag carriers demonstrate the concept of owner risk. A string of power abuse scandals involving the late Cho’s wife and children, including the infamous “nut rage” incident, caused a public uproar and Korean Air share prices to plummet. Meanwhile, a string of bad decisions led to massive debt and an inability for Asiana Airlines’ to even serve in-flight meals properly.

But changes that two airlines will inevitably be forced to make are seen as a positive signal by the industry. 

From a business point of view, both Korean Air and Asiana Airlines have performed pretty well. The bullish response of the local stock market to the news of Asiana’s sale shows that investors are optimistic about the company’s future. Both air carriers have seen their sales increase over the last five years. The global aviation market is expected to grow an average of 3.6 percent every year over the next two decades to meet growing demand for travel. That’s relatively high growth. The two flag carriers should thus learn from their current difficulties and use them as an opportunity to sharpen their competitiveness and make their governance structure more transparent.

Expectations are high that Korean Air will begin to improve its governance structure, while Asiana’s sell-off is expected to ease Kumho Group’s owner risk and massive debt burden. Given their relatively strong competitiveness and favorable industry conditions, the two should hopefully be able to turn crisis into opportunity.