UV0511

RISK EXPOSURE AND RISK MANAGEMENT AT KOREA FIRST BANK

It was the end of December 1998, and Mr. Dong-hyun Kim, chairman of the board of
managing directors and president of Korea First Bank (KFB), was reflecting on the last two
tumultuous years—by far, the most challenging years in the 70-year history of Korea First Bank.
Like many banks in Korea, KFB had suffered tremendously during the Asian crisis of 1997.
What was most present in Kim’s mind, however, was KFB’s many problems, most notably the
exposure of KFB to Hanbo Steel, a member of the Hanbo chaebol, whose bankruptcy in January
1997 threatened the mere existence of KFB. Not only was KFB’s exposure to Hanbo
disproportionally large, but it was also allegedly facilitated by large commissions paid to KFB’s
previous president. Both he and the president of Cho Hung Bank were arrested in early 1997 for
their involvement in the case.1 Would KFB be able to dissociate itself from this event and move
forward, or would its effects linger and come back to haunt the company? Were there other
types of risk that the bank had yet to identify?

Kim took pen in hand and started jotting down all the types of risk that the bank currently
faced: credit, interest rate, exchange rate, market, liquidity, and operational. How were all these
risk exposures identified and managed at KFB? What could KFB have done differently during
the last two years to manage those risks better so that it could have weathered the Asian crisis
and the downturn in the Korean economy? What should the Korean government or the
international regulators have done differently so that KFB would not have reached the brink of
collapse? He immediately started poring over the annual reports of the past two years (Exhibits
1 and 2 show consolidated balance-sheet and income-statement information). He was
determined to propose an exhaustive study of risks and risk-management actions at KFB at the
board’s next meeting.

1
Korea First Bank Report (Thompson Bankwatch Inc., February 11, 1997 and September 27, 1997).

This case was prepared by Yiorgos Allayannis, Assistant Professor of Business Administration. The excellent
research assistance of Ian Zabor (MBA ’02) and the insightful comments of Professor Bill Sihler are gratefully
acknowledged. It was written as a basis for class discussion rather than to illustrate effective or ineffective handling
of an administrative situation. Copyright © 2004 by the University of Virginia Darden School Foundation,
Charlottesville, VA. All rights reserved. To order copies, send an e-mail to [email protected]. No part
of this publication may be reproduced, stored in a retrieval system, used in a spreadsheet, or transmitted in any
form or by any means—electronic, mechanical, photocopying, recording, or otherwise—without the permission of
the Darden School Foundation.
 -2- UV0511

The Korean Banking System

The Korean financial system was largely controlled by the government. Governmental
intervention was even more prevalent in the banking system, where credit was often directed
toward industries deemed essential by the government to Korea’s economic development.2 This
policy was quite successful in the 1980s; however, as the economy continued to grow, becoming
more diverse and multifaceted, the apparent inefficiencies in the system were ultimately
revealed. In the 1980s, the first wave of bank privatizations took place, when five banks were
privatized. But it was not until 1993, when the new government devised its five-year financial-
reform plan, that the first steps toward banking deregulation, liberalization of the market, capital
flows, and foreign exchange took place. The opening of the financial markets also brought a
wave of foreign competition. These liberalization measures were successful enough to earn
Korea a spot in the Organization for Economic Cooperation and Development (OECD) at the
end of 1996. Nevertheless, many of the structural problems in the Korean banking sector
remained, most notably a lack of both rigid credit policies and asset diversification. In addition,
liberalization brought several new issues to light, including the exposure of Korean banks to
foreign competition and to increased foreign-exchange risks.

The banking system in Korea was supervised by the Bank of Korea (BOK). The BOK
was in charge of the stability of the banking system, and performed all functions associated with
a central bank, such as managing foreign-exchange reserves and controlling the money supply.
It also acted as a lender to the banks and oversaw their operations. In the past, BOK had
managed bank credit by setting the maximum rates for loans and deposits. At the end of 1991,
the government began to liberalize interest rates and the financial markets. By 1995, the
majority of interest paid on deposits had been deregulated.

The BOK also implemented and monitored the capital and reserve requirements that
Korean banks had to meet. By early 1996, all Korean banks were required to adhere to the BIS
capital-adequacy standard, which was 8 percent of risk-weighted assets at the time. Moreover,
they also had to maintain a capital reserve of 100 billion won (the Korean unit of currency, or
W).

In 1998, Korea had 16 nationwide commercial banks and 69 branches of foreign banks
(Exhibit 3 shows nationwide commercial banks ranked by size).

The Korean Financial Crisis, 1997–98

The early signs of the crisis were visible in 1996. The current-account deficit increased
to 5 percent of GNP from 2 percent the year before. Foreign debt rose to 76 percent of total
exports, Korea’s traditional “engine” behind its vibrant economy, which experienced a major
slowdown: the rate of growth decreased to 15 percent from a high of 31 percent the previous

2
Banking System Report: South Korea (Thompson Bankwatch Inc., April 28, 1998).
 -3- UV0511

year.3 Much of the decrease in exports growth was due to the relative appreciation of the Korean
won versus the yen, which affected the competitiveness of Korean exporters and caused a sharp
decline in the price of computer chips, automobiles, and ships, which were among Korea’s major
exports. At the same time, interest rates increased, putting even more pressure on corporate
profits. In January 1997, Hanbo Steel, the fourteenth-largest chaebol, went bankrupt. Another
steel producer, the Samni group, followed suit. Then came Jinro’s turn—the nineteenth-largest
chaebol—and the Ssangyong business group, the sixth largest. In July 1997, Kia Motors, the
third-largest automotive company, defaulted on its loans. The stock market responded, and by
November, it was down 50 percent compared with its peak in mid-1997. The won fell by 50
percent in the course of two weeks in November. Korean bonds were downgraded by Moody’s
and S&P to junk status in early December, and many foreign institutional investors had to drop
them from their portfolios.

The Korean government sought the help of the IMF, and in January 1998, Korea was able
to sign a deal with a consortium of international lenders for the rollover of $60 billion of its debt
under quite favorable terms. This, in turn, allowed the Korean government to guarantee $24
billion of bank debt. The Korean banks desperately needed the help. With huge exposure to
faltering industrial conglomerates and mounting losses from equity investments in the Korean
market, many banks were close to bankruptcy. Some argued that the Korean banking system,
modeled after the Japanese system (a so-called relationship banking system), was, in part, to
blame for the situation.4 Relationship banking allowed for close contact and communication
between borrowers and lenders—the idea was that lenders had access to information regarding
business conditions and investments on an ongoing and timely basis. The system was open to
manipulation, however, and information often took time to reach lenders.5

Korea First Bank: A Brief History

Korea First Bank was founded on July 1, 1929, in the capital of Korea, Seoul.6 KFB was
the first Korean bank to specialize in retail banking, and established its operations under the
name “Chosun Deposit Bank.” By the end of 1935, Chosun had expanded nationwide, and was
operating four branches and one office. In December 1957, Chosun was privatized under a
banking law that had gone into effect earlier that year. In December 1958, Chosun changed its
name to Korea First Bank. A new growth period started for the bank then, and many new
products were created. Among other innovations, KFB had the first check-issuing machines in
Korea. In 1968, the bank began its international expansion with the opening of a branch in
Osaka, Japan. Since then, KFB had established a network of 10 branches in such international
centers as New York, London, and Hong Kong. On the forefront of automation, KFB was the

3
I. Adelman and Song Byung Nak, “The Korean Financial Crisis of 1997–98,” working paper, University of
California–Berkeley, n.d.
4
Ibid.
5
An alternative system, that of “arms-length” relationships, was the foundation of the banking system in the
United States and the United Kingdom, among other countries.
6
Korea First Bank Annual Report, 1998.
 -4- UV0511

first bank to connect all of its 105 domestic branches with on-line banking services, in December
1980. The 1990s saw continued expansion in other areas of banking, and despite increasing
competition from foreign banks, KFB reported its highest profits for three consecutive years in
the early 1990s.

Korea First Bank, 1997–98

By far the most significant event in the two-year period for KFB was the bankruptcy of
Hanbo Steel Corporation, one of the bank’s largest borrowers. Specifically, KFB’s exposure to
Hanbo Steel was on the order of $1 billion, out of Hanbo’s total debt of $6 billion.7 Hanbo was
founded, in 1974, by Mr. Tai-soo Chung as a construction company. Chung took advantage of
his government contacts to obtain scarce bank capital from state-controlled banks. Like other
chaebols, Hanbo expanded into unrelated businesses, acquiring a steel company in 1989, a
pharmaceutical company in 1993, and a mutual-savings-and-finance company in 1994.8 Hanbo
decided to build the world’s largest steel mill in 1993. Costs for the project grew to W5,700
billion, almost double the amount that was budgeted; at the same time, steel demand was in
decline. With only W315 billion in shareholders’ equity, Hanbo Steel’s debt-to-equity ratio shot
to 1,600 percent. Analysts were puzzled by Korean banks’ lending W5,000 billion without
conducting a feasibility study of the steel project and without securing adequate collateral for the
loans. The banks obviously paid no attention to governmental restrictions on excessive lending
to chaebols.9

Hanbo had a very close relationship with KFB, its main creditor. In 1995, when Youone,
a big construction company, went into bankruptcy, becoming a serious threat to KFB’s
nonperforming loans and earnings, Hanbo acquired Youone to decrease KFB’s exposure. In
June 1997, four former executives of KFB were sued for negligence in the handling of Hanbo
Steel’s loans—apparently, the first such lawsuit in South Korea. Two former presidents of the
bank mentioned in the lawsuit had already been convicted of accepting bribes from Hanbo in
exchange for the loans. Figure 1 shows a picture of KFB as reflected by its stock price during
1997–98, together with a graph of the Korean Total Market Index for comparison. Figure 2
compares the normalized market values of KFB, the Korean Finance Index, and the Total Market
Value.

7
See Exhibit 3 in “Korea First Bank (A),” Harvard Business School (9-701-022).
8
Financial Times, January 28, 1997.
9
Ibid.
 -5- UV0511

KFB’s Risk Exposure and Risk Management

Dong-hyun Kim wondered whether KFB’s credit policies needed a complete overhaul to
prevent future threats to its existence, such as the one from Hanbo. He also wondered whether
the asset base was sufficiently diversified and whether there were hidden risks. Exhibit 4 shows
KFB’s loan data at the end of 1996, 1997, and 1998, broken down by currency (won versus
foreign) and by industry. Exhibit 5 shows equity-return correlations among the main industrial
segments in Korea, and Figure 3 graphs the relative stock-price performance of four of the main
industries in which KFB’s loans were concentrated. Exhibits 6 and 7 show KFB’s
nonperforming-loan data and its loan-loss reserves, while Exhibit 8 shows related data for some
of KFB’s main Korean competitors as well as for a U.S. bank of similar size. Kim was also
concerned about lending excessively to chaebols—it was unclear whether the data he had
collected could definitively allow him to address this question, but at a minimum, it was a good
start.

Kim then moved on to the data describing KFB’s investment holdings (see Exhibit 9).
He thought that these data could help him better understand KFB’s market risk. Two of his
major concerns were the exposures to interest and foreign-exchange risk, which he feared were
high and could potentially threaten KFB’s operations. How could he quantify these exposures?
He thought that data on interest-rate sensitivity (Exhibit 10), interest-generating assets and
liabilities broken down by won and foreign currency (Exhibit 11), and KFB’s net interest
income and expense (Exhibit 12) would be most helpful. He also took a look at two graphs, one
depicting a normalized country prime-rate comparison (Figure 4) and the other depicting
normalized Asia-Pacific currencies versus the U.S. dollar (Figure 5). Finally, he thought that the
maturity-gap data would give him a good indication of KFB’s liquidity risk (see Exhibit 13).

Clearly, identifying the risk exposures would be KFB’s first priority, but the most
important step by far would be to decide how to manage those risks. Did KFB possess any
competitive advantages in any of the risks? Should it manage some risks and not others? Should
it manage all of them? To what extent should they be managed? He realized that he needed to
quantify some of the risks, and had heard about the KMV methodology, which was used to
estimate credit risk (default probability) by using the standard deviation of the assets as one of
the inputs. By making some assumptions, he hoped that data on equity volatility (Exhibit 14)
could be used instead. He believed that he had to estimate the default probabilities and see for
himself whether KFB could have done anything differently to avoid the crisis. He knew that
some board members would say, “Our shareholders are trusting us to take some risks: if we do
not take any risks, we are not enhancing shareholder value.” What should he say to them?
 -6- UV0511

Exhibit 1

RISK EXPOSURE AND RISK MANAGEMENT AT KOREA FIRST BANK

Korea First Bank

Consolidated Balance Sheet
(all figures in millions of Korean won except for exchange-rate data)

1998 1997 1996

Exchange Rate 1204 1600 841
(Korean won to US Dollar as of year end)
ASSETS
cash and due from banks 2,614,021 3,176,037 3,708,713
loans 15,025,982 20,360,639 20,208,399
call loans 577,694 218,819 321,010
securities 8,309,811 9,022,784 11,781,655
foreign exchange 1,422,998 2,481,595 2,674,736
customers liabilities on guarantees 1,466,348 3,510,978 4,475,788
premises and equipment 1,830,423 1,093,474 876,068
other assets 2,250,808 1,876,511 1,968,187
consolidation adjustment debit - 50,362 100,724
33,498,085 41,791,199 46,115,280

LIABILITIES
deposits 22,478,076 27,581,402 26,910,616
call money 179,718 1,031,542 2,162,595
borrowings 4,211,966 5,908,450 7,291,511
guarantees outstanding 1,466,348 3,510,978 4,475,788
provisions 2,430,539 1,206,061
other liabilities 2,570,805 2,367,466 3,361,945
33,337,452 41,605,899 44,202,455

MINORITY INTERESTS 109,389 115,277 144,367

SHAREHOLDERS EQUITY
common stock 1,600,000 820,000 820,000
capital surplus 16,610 213,820 502,361
retained earnings (1,914,597) (963,881) 446,446
capital adjustment 349,231 (408) (1,180)
consolidation adjustment credit 492 831
51,244 70,023 1,768,458

Total Liabilities, Minority Interest 33,498,085 41,791,199 46,115,280

and Shareholders Equity

Source: Korea First Bank Annual Reports; 1997, 1998.

 -7- UV0511

Exhibit 2

RISK EXPOSURE AND RISK MANAGEMENT AT KOREA FIRST BANK

Korea First Bank

Statement of Operations
(all figures in millions of Korean won except for exchange-rate figures)

1998 1997 1996

Exchange Rate 1204 1600 841
(Korean won to US Dollar as of year end)

Revenue
interest income 2,359,264 2,401,889 2,183,425
interest and dividends on securites for sale 356,054 857,854 1,207,088
interest and dividends on investment securities 420,353 263,505 -
fees and commissions 299,710 318,821 294,614
other operating income 737,430 612,296 178,448
non-operating income 122,577 157,077 98,297
4,295,388 4,611,442 3,961,872
Expenses
Interest expense 3,158,489 3,024,548 2,718,878
fees and commissions 24,138 26,567 23,568
general and administrative 390,406 477,510 451,442
other operating expenses 2,932,734 1,745,687 726,742
non-operating expenses 478,425 980,884 20,740
6,984,192 6,255,196 3,941,370

Gain(Loss) before income tax expense (2,688,804) (1,643,754) 20,502

Income tax expense 320 5,402 10,451

Loss before minority interest (2,689,124) (1,649,156) 10,051

Net loss attributable to minority interest 14,655 14,243 (4,898)
amortization of consolidation adjustment, net 50,178 50,130 50,064
equity in net loss of affiliates, net 6,382 117 (5,400)
Consolidated Net gain(loss) (2,731,029) (1,685,160) (39,511)

Source: Korea First Bank Annual Reports; 1997, 1998.

 -8- UV0511

Exhibit 3

RISK EXPOSURE AND RISK MANAGEMENT AT KOREA FIRST BANK

Nationwide Commercial Banks Ranked by Size

1 Korea Exchange Bank

2 Cho Hung Bank
3 Hanil Bank
4 Kookmin Bank
5 Korea First Bank
6 Commercial Bank of Korea
7 Shinhan Bank
8 Seoulbank
9 Housing and Commercial Bank
10 Boram Bank
11 Donghwa Bank
12 Hana Bank
13 KorAm Bank
14 DongNam Bank
15 Daedong Bank
16 Peace Bank

______________________

Source: Banking System Report: South Korea (Thompson Bankwatch Inc., April 28, 1998).
 -9- UV0511

Exhibit 4

RISK EXPOSURE AND RISK MANAGEMENT AT KOREA FIRST BANK

Korea First Bank

Loan Data
(all figures in billions of Korean won)

1998 % 1997 % 1996 %

total total total
Exchange Rate 1204 1600 841
(Korean won to US Dollar as of year end)
Won Denominated
Business Loans** 6,457.6 50.4% 7,479.7 45.1% 8,787.0 53.3%
Household Loans 1,374.0 10.7% 1,948.3 11.7% 1,626.8 9.9%
Local L/C Bills Bought 58.6 0.5% 29.4 0.2% 112.1 0.7%
Advances to Customers 506.1 3.9% 146.2 0.9% 252.9 1.5%
Total 8,396.3 9,603.6 10,778.8
Foreign Currency Denominated
Onshore 3,554.6 27.7% 6,397.6 38.5% 5,159.0 31.3%
Offshore 596.8 4.7% 441.1 2.7% 278.9 1.7%
Domestic Import Usance Bills 0.1 0.0% 5.8 0.0% 1.4 0.0%
Advances to Customers 267.8 2.1% 151.1 0.9% 252.9 1.5%
Total 4,419.3 6,995.6 5,692.2
TOTAL LOAN PORTFOLIO 12,815.6 16,599.2 16,471.0

% % %
1998 total 1997 total 1996 total
** Won Denominated Business Loans
(By Industry)
Automobiles 233.5 3.6% 288.9 3.9% 402.8 4.6%
Chemicals 407.7 6.3% 432.5 5.8% 486.9 5.5%
Textile & Garments 571.4 8.8% 544.6 7.3% 668.3 7.6%
Construction 586.4 9.1% 651.5 8.7% 1278 14.5%
Wholesale & Retail 616.3 9.5% 941.7 12.6% 1057.1 12.0%
Others 4042.3 62.6% 4620.5 61.8% 4893.9 55.7%
TOTAL 6457.6 7479.7 8787

Source: Korea First Bank Annual Reports; 1997, 1998.

 -10- UV0511

Exhibit 5

RISK EXPOSURE AND RISK MANAGEMENT AT KOREA FIRST BANK

Industry Correlations
(Korean stock-market industry index data, 1993-98)

General Market Paper Natural Metals Wholesale Transport. Textile/Apparel Construction Financial Electronics Food/Beverage Basic Metals Chemicals Transport Eqpt. Machinery Investments Insurance Medical

General Market 100.0% 89.4% 97.5% 90.1% 95.7% 96.9% 96.4% 87.6% 70.8% 70.8% 85.7% 95.9% 90.0% 82.0% 91.3% 55.5% 53.1%

Paper 89.4% 100.0% 87.5% 74.1% 91.4% 93.8% 85.8% 72.0% 69.3% 84.3% 76.7% 94.4% 73.7% 65.7% 84.7% 47.0% 71.1%

Natural Metals 97.5% 87.5% 100.0% 94.4% 91.8% 97.1% 97.7% 90.4% 57.5% 65.3% 82.1% 95.3% 93.9% 87.3% 92.2% 44.0% 48.9%

Wholesale 90.1% 74.1% 94.4% 100.0% 81.2% 90.1% 95.6% 96.9% 37.5% 41.4% 68.4% 85.4% 99.2% 96.3% 90.4% 22.9% 26.9%

Transportation 95.7% 91.4% 91.8% 81.2% 100.0% 94.7% 90.5% 76.6% 78.5% 73.8% 87.3% 94.3% 81.2% 70.6% 85.7% 55.1% 52.4%

Textile/Aparel 96.9% 93.8% 97.1% 90.1% 94.7% 100.0% 96.3% 87.4% 63.4% 73.0% 78.8% 95.5% 89.7% 81.4% 94.8% 46.8% 57.6%

Construction 96.4% 85.8% 97.7% 95.6% 90.5% 96.3% 100.0% 95.0% 53.1% 58.5% 74.2% 91.8% 94.4% 88.7% 95.5% 42.1% 40.7%

Financial 87.6% 72.0% 90.4% 96.9% 76.6% 87.4% 95.0% 100.0% 32.8% 37.5% 57.1% 80.9% 95.8% 93.7% 92.3% 24.3% 24.6%

Electronics 70.8% 69.3% 57.5% 37.5% 78.5% 63.4% 53.1% 32.8% 100.0% 76.7% 80.1% 67.4% 38.6% 26.3% 48.4% 77.9% 61.8%

Food/Beverage 70.8% 84.3% 65.3% 41.4% 73.8% 73.0% 58.5% 37.5% 76.7% 100.0% 69.0% 75.3% 41.1% 29.1% 61.6% 68.4% 89.8%

Basic Metals 85.7% 76.7% 82.1% 68.4% 87.3% 78.8% 74.2% 57.1% 80.1% 69.0% 100.0% 87.0% 70.3% 61.7% 62.1% 53.1% 50.0%

Chemicals 95.9% 94.4% 95.3% 85.4% 94.3% 95.5% 91.8% 80.9% 67.4% 75.3% 87.0% 100.0% 86.2% 79.7% 85.2% 43.0% 57.5%

Transport Eqpt. 90.0% 73.7% 93.9% 99.2% 81.2% 89.7% 94.4% 95.8% 38.6% 41.1% 70.3% 86.2% 100.0% 97.0% 88.4% 20.9% 26.4%

Machinery 82.0% 65.7% 87.3% 96.3% 70.6% 81.4% 88.7% 93.7% 26.3% 29.1% 61.7% 79.7% 97.0% 100.0% 80.3% 7.2% 15.2%

Investments 91.3% 84.7% 92.2% 90.4% 85.7% 94.8% 95.5% 92.3% 48.4% 61.6% 62.1% 85.2% 88.4% 80.3% 100.0% 43.4% 49.9%

Insurance 55.5% 47.0% 44.0% 22.9% 55.1% 46.8% 42.1% 24.3% 77.9% 68.4% 53.1% 43.0% 20.9% 7.2% 43.4% 100.0% 59.8%

Medical 53.1% 71.1% 48.9% 26.9% 52.4% 57.6% 40.7% 24.6% 61.8% 89.8% 50.0% 57.5% 26.4% 15.2% 49.9% 59.8% 100.0%

Source: Bloomberg Data

 -11- UV0511

Exhibit 6

RISK EXPOSURE AND RISK MANAGEMENT AT KOREA FIRST BANK

Korea First Bank

Nonperforming-Loan Data
(in billions of Korean won)

Loan Classification 1998 1997 1996

Exchange Rate 1204 1600 841
(Korean won to US Dollar as of year end)
Normal 11,663.9 21,221.4 23,268.4
Precautionary 3,295.3 2,563.0 2,792.2
Substandard 2,188.5 1,566.5 1,525.8
Doubtful 1,522.3 1,433.9 261.7
Estimated Loss 121.5 55.5 82.2
TOTAL CREDITS** 18,791.5 26,840.3 27,930.3
Bad Loans*** 1,643.8 1,489.4 343.9
% of credits 8.7% 5.5% 1.2%
Non-Performing Loans*** 3,832.3 3,055.9 1,869.7
% of credits 20.4% 11.4% 6.7%
Systemwide NPL as % of credits 7.4%
(Defined as Total Non-Performing Loans held by Korea's 20 Commercial Banks)

** Under FSC guidelines, Total Credits includes loans in banking accounts,

advances to customers, domestic import usuance bills, local L/C bills bought,
credit card loans, customers liabilities on guarantees, and loans in trust accounts.
*** Bad Loans is an aggregation of Doubtful plus estimated loss loans. Non-Performing Loans
represents the sum of Bad Loans plus Substandard Loans

FSC (Financial Supervisory Commision) guidelines on Loan Status Classification

NORMAL
Credits in arrears for less than one month (previous standard was three months)
PRECAUTIONARY
Credits in arrears for one to three months (previously three to six months)
SUBSTANDARD
Secured portion of total credits in arrears more than three months and where
loss is expected but still undetermined (previously six months)
DOUBTFUL
Unsecured portion of credits in arrears for more than three months and where
loss is expected but still undetermined (previously six months)
ESTIMATED LOSS
Unsecured portion of credits deemed impossible to recover and where loss is
expected but still undetermined

Source: Korea First Bank Annual Reports; 1997, 1998,

 -12- UV0511

Exhibit 7

RISK EXPOSURE AND RISK MANAGEMENT AT KOREA FIRST BANK

Korea First Bank

Loan-Loss Reserves
(in billions of Korean won)

1998 1997
Exchange Rate 1204 1600
(Korean won to US Dollar as of year end)
Reserve at January 1st 642.7 419.5
Provision for Loan Losses 796.8 451.4
Write-Offs 226.8 259
Adjustments 298.4 30.8
Reserve at December 31st 1511.1 642.7

FSC guidelines stipulate that Korean commercial banks set aside a reserve
for loan losses at the end of each fiscal year. The reserve requirements
(at full coverage) are as follows:
Normal Credits: .5%
Precautionary Credits: 2%
Substandard Credits: 20%
Doubtful Credits: 75%
Estimated Loss: 100%

The minimum permissible loan loss reserve is currently set at 100%

of full coverage. This is up from 75% in 1996 and 88% in 1997.

Source: Korea First Bank Annual Reports; 1997, 1998.

 -13- UV0511

Exhibit 8
RISK EXPOSURE AND RISK MANAGEMENT AT KOREA FIRST BANK
Korea First Bank
Comparable Company Metrics
(all nonpercent figures in billions of won; the financials of Summit Bancorp, a U.S. bank of similar size, were converted to won for purposes of comparison)

Company Hana Bank Cho-Hung Bank Hanvit Bank Korea First Bank Summit Bancorp
For the Year Ended 1998 1998 1998 1997 1998 1997 1998 1997
Total Interest Earning Assets 20279 32726.3 60938.4 59442.4 25109.0 26629.5 36439.3 45212
By Type
Loans 60.9% 65.6% 61.0% 64.8% 58.3% 70.2% 65.3% 65.3%
Securities 28.1% 27.9% 20.5% 20.4% 20.9% 16.1% 31.1% 30.6%
Liquid Assets/other 11.0% 6.5% 18.4% 14.7% 20.8% 13.7% 3.4% 4.1%
By Currency
Won currency 86.4% 58.7% 57.4% 58.9% 62.6% 59.6% n/a n/a
Foreign currency 13.6% 41.3% 42.6% 41.1% 37.4% 40.4% n/a n/a
Average Interest Rate For Assets 14.4% 11.2% 11.2% 8.7% 10.6% 8.4% 7.5% 7.6%
Total Interest Bearing Liabilities 19685.2 32891.2 60843.7 57994.7 25346.8 11855.1 28149.8 35073.8
By Type
Deposits 61.7% 53.1% 69.9% 64.0% 73.1% 60.0% 75.1% 81.4%
Borrowings 31.0% 40.8% 22.9% 26.0% 22.4% 33.2% 24.9% 18.6%
Liquid Liabilities/Other 7.3% 6.1% 7.2% 10.0% 4.5% 6.8% - -
By Currency
Won currency 86.1% 62.4% 57.8% 50.6% 63.5% 59.5% n/a n/a
Foreign currency 13.9% 37.6% 42.2% 49.4% 36.5% 40.5% n/a n/a
Average Interest Rate For Liabilities 11.6% 8.9% 9.5% 6.8% 10.4% 7.2% 4.3% 4.2%
Spread 2.8% 2.2% 1.7% 1.9% 0.2% 1.2% 3.2% 3.4%
Total Shareholders Equity 929.3 135 3844.9 2939.0 51.2 70.0 3277.8 4179.9

Revenue 2911.2 5706 9679.1 7583.4 4295.4 4611.4 3040.6 3786.5

Expense 2766.9 7677 13039.5 8028.2 6984.2 6255.2 2479.8 3193.0
Net Income 144.3 -1971 -3360.4 -444.8 -2688.8 -1643.8 560.8 593.5
BIS Capital Ratio
Tier 1 7.9% 0.47% 7.92% 3.98% -1.27% 0.57% n/a n/a
Tier 2 5.2% 0.46% 4.16% 3.25% 0.00% 0.57%
NPL/total credits outstanding n/a 5.5% 5.4% 4.2% 20.4% 11.4% 0.7% 0.9%
Loan Loss Provision/Total Credits 2.9% 2.5% 2.8% 1.3% 8.0% 2.4% 1.6% 1.6%
Securities Investments 6966.5 6274 16633.4 12308 5662.5 4454.6 12000.0 14715.4
corporate securities./ total sec. 46.5% 36.7% 45.5% 28.0% 36.4% 34.1% 4.2% 3.4%

Exchange Rate
(Korean won to US Dollar as of year end 1998, 1997 of 1204, 1600 respectively)
Data Source: Annual Reports; Hana Bank 1999, Cho-Hung Bank 1999, Hanvit Bank 1998, Korea First Bank 1998, and Summit Bank 1998.
 -14- UV0511

Exhibit 9

RISK EXPOSURE AND RISK MANAGEMENT AT KOREA FIRST BANK

Korea First Bank

Investment Holdings
(in billions of Korean won)

1998 1997 1996

Exchange Rate 1204 1600 841
(Korean won to US Dollar as of year end)
Won Currency
Government Bonds 660.8 504.8 398.4
Local Government Bonds 23.6 15.1 -
Financial Business Bonds 542.9 233.9 1,119.5
Government Guaranteed Debentures 1,395.9 1,213.7 -
Debentures 696.8 651.9 657.7
Equity Investments 1,366.2 868.9 1,268.4
Other 293.3 68.1 116.9
Total Won Investments 4979.5 3556.4 3560.9

Foreign Currency
Onshore 644.4 811 802.9
Offshore 38.6 87.2
Total Foreign Investments 683 898.2 802.9

Valuation Allowance 99.2

TOTAL INVESTMENT HOLDINGS 5662.5 4454.6 4264.6
% corporate exposure 36.4% 34.1% 45.2%
(equity + debentures)

Source: Korea First Bank Annual Reports; 1997, 1998.

 -15- UV0511

Exhibit 10

RISK EXPOSURE AND RISK MANAGEMENT AT KOREA FIRST BANK

Korea First Bank

Interest-Rate Sensitivity at December 31, 1998
(in billions of Korean won except for foreign-currency exposure, which is in U.S. dollars)

Within
3 mos 4mos - 1yr over 1 yr Total
BANKING ACCOUNTS
Won Currency
rate sensitive assets 7,739.5 1,375.3 4,905.6 14,020.4
rate sensitive liabilities 9,399.4 3,346.9 2,125.3 14,871.6
Gap (1,659.9) (1,971.6) 2,780.3 (851.2)
assets/liabilities 82.3% 41.1% 230.8% 94.3%

Foreign Currencies
rate sensitive assets 5,201.0 1,281.0 46.0 6,528.0
rate sensitive liabilities 5,488.0 1,332.0 48.0 6,868.0
gap (287.0) (51.0) (2.0) (340.0)
assets/liabilities 94.8% 96.2% 95.8% 95.0%

TRUST ACCOUNTS**
rate sensitive assets 2,917.0 824.4 729.4 4,470.8
rate sensitive liabilities 502.8 1,048.3 2,088.0 3,639.1
gap 2,414.2 (223.9) (1,358.6) 831.7
assets/liabilities 580.2% 78.6% 34.9% 122.9%
** Trust accounts with guaranteed principal and/or interest

Source: Korea First Bank Annual Reports; 1997, 1998.

 -16- UV0511

Exhibit 11

RISK EXPOSURE AND RISK MANAGEMENT AT KOREA FIRST BANK

Korea First Bank

Average Interest-Generating Assets and Liabilities
(in billions of Korean won)

Avg. Avg. Avg.

1998 Rate 1997 Rate 1996 Rate
Exchange Rate 1204 1600 841
(Korean won to US Dollar as of year end)
ASSETS
Won Currency
Loans 9,120.3 13.4% 11,908.3 10.0% 10,322.9 10.1%
Securites 4,526.9 8.7% 3,293.4 7.9% 3,385.8 8.1%
Other Assets 2,075.3 13.3% 676.6 12.2% 548.5 10.8%
Foreign Currencies
Loans 5,529.3 6.7% 6,773.1 6.6% 5,526.0 6.4%
Securites 721.5 4.5% 1,001.7 5.2% 728.3 6.1%
Other Assets 3,135.7 11.7% 2,976.4 7.4% 717.4 4.6%
TOTAL ASSETS 25,109.0 10.6% 26,629.5 8.4% 21,228.9 8.5%

LIABILITIES
Won Currency
Deposits 11,326.1 9.9% 11,855.1 7.1% 11,466.9 6.7%
Debts 3,655.2 9.9% 2,895.7 9.0% 2,298.7 7.4%
Other Liabilities 1,103.7 30.7% 648.1 19.8%
Foreign Currency
Deposits 7,200.0 9.4% 3,668.3 6.2% 2,626.8 5.2%
Debts 2,016.7 6.6% 5,710.7 6.3% 5,201.7 5.8%
Other Liabilities 45.1 10.7% 1,115.7 5.0%
TOTAL LIABILITIES 25,346.8 10.4% 25,893.6 7.2% 21,594.1 6.3%

Source: Korea First Bank Annual Reports; 1997, 1998

 -17- UV0511

Exhibit 12

RISK EXPOSURE AND RISK MANAGEMENT AT KOREA FIRST BANK

Korea First Bank

Net Interest Income
(in billions of Korean won)

1998 1997 1996

Exchange Rate 1204 1600 841
(Korean won to US Dollar as of year end)
Interest Income
Won Currency Loans 1,223.3 1,186.1 1,034.8
Foreign Currency Loans 370.2 447.6 350.9
Won Currency Securities 395.7 261.1 273.8
Foreign Currency Securites 32.2 52.1 44.4
Call Loans 122.4 30.9 11.6
Due from banks 183.3 88.5 92.4
Other Interest Income 337.4 182.9 180.0
Total Interest Income 2,664.5 2,249.2 1,987.9

Interest Expense
Won Currency Deposits 1,125.1 842.6 762.8
Foreign Currency Deposits 679.7 228.4 135.5
Won Currency Debts 360.2 259.5 170.9
Foreign Currency Debts 133.1 362.1 302.1
Call Money 152.5 127.5 76.4
Other Interest Expenses 190.9 56.8 40.0
Total Interest Expense 2,641.5 1,876.9 1,487.7

NET INTEREST INCOME 23.0 372.3 500.2

Source: Korea First Bank Annual Reports; 1997, 1998.

 -18- UV0511

Exhibit 13

RISK EXPOSURE AND RISK MANAGEMENT AT KOREA FIRST BANK

Korea First Bank

Maturity Gap at December 31, 1998
(in billions of Korean won except for foreign-currency exposure, which is in U.S. dollars)

Within 3 mos. 3mos - 6mos. 6mos. - 1year Over 1yr Total

BANKING ACCOUNTS 5,938 7,945 21,382
Won Currency 6,636 9,454 21,382
rate sensitive assets 4,748 1,190 2,007 13,437 21,382
rate sensitive liabilities 5,287 1,349 2,818 11,928 21,382
accumulated gap (539) (698) (1,509) - -
accumulated assets/liabilities 89.8% 89.5% 84.0% 100.0% -
3,538 4,589 5,269 7,368
Foreign Currencies 5,452 6,429 6,543 7,368
rate sensitive assets 3,538 1,051 680 2,099 7,368
rate sensitive liabilities 5,452 977 114 825 7,368
accumulated gap (1,914) (1,840) (1,274) - -
accumulated assets/liabilities 64.9% 71.4% 80.5% 100.0% -
4,065 5,026 6,488 8,828
TRUST ACCOUNTS** 1,774 2,746 4,175 8,828
rate sensitive assets 4,065 961 1,463 2,340 8,828
rate sensitive liabilities 1,774 971 1,429 4,654 8,828
accumulated gap 2,291 2,280 2,314 - -
accumulated assets/liabilities 229.1% 98.9% 102.3% 50.3% -
** Trust accounts with guaranteed principal and/or interest

Source: Korea First Bank Annual Reports; 1997, 1998.

 -19- UV0511

Exhibit 14

RISK EXPOSURE AND RISK MANAGEMENT AT KOREA FIRST BANK

Korea First Bank

Equity Volatility

US Financials Korea Financials KFB

1998 25.46% 71.79% 174%

1997 18.49% 59.83% 77%

1996 13.98% 25.15% 36%

1995 10.93% 29.18% 35%

1994 11.37% 30.96% 33%

Source: Yahoo Finance.

Ja Ja

0
10000
20000
30000
40000
50000
60000
70000
80000
n-

0
200
400
600
800
1000
1200
n-

FIGURE 1
M 96 M 96
ar ar
- -
M 96 M 96
ay ay
-9 -9
Ju 6 Ju 6
l- l-
Se 9 6 Se 96
p- p-
N 96 N 96
ov ov
- -
Ja 9 6 Ja 9 6
n- n-
M 97 M 97
ar ar
- -
M 97 M 97
ay ay
-9 -9
-20-

Ju 7 Ju 7
l- l-
Se 9 7 Se 97
p- p-
N 97 N 97
ov ov
- -
Ja 9 7 Ja 9 7
n- n-
M 98 M 98
ar ar
- -
M 98 M 98

Korean Total Market Index (KOSPI)

Korea First Stock Price (in Korean Won)

ay ay
-9 -9
Ju 8 Ju 8
l- l-
Se 98 Se 98
p- p-
N 98 N 98
ov ov
-9 -9
8 8
UV0511
 -21- UV0511

FIGURE 2

Normalized Market Value Comparison

Finance Index Korea First Total Market Index

120
100
80
60
40
20
0

9 7 7 9 7 7 9 7 9 7 9 8 8 9 8 8 9 8 9 8
n- r -9 y- -9 p- v- n- r -9 y- -9 p- v-
a a J ul o a a J ul o
Ja M M Se N Ja M M Se N
 -22- UV0511

FIGURE 3

Relative Performance of Korean Industry Specific

Stock Indices
Construction Chemicals Textile/Apparel Transports
120
100
80
60
40
20
0

Apr-96
Oct-96
Apr-97
Oct-97
Apr-98
Oct-98

Jun-96
Jun-97
Jun-98

Feb-96
Feb-97
Feb-98

Dec-95
Aug-96
Dec-96
Aug-97
Dec-97
Aug-98
Dec-98
 -23- UV0511

FIGURE 4

Normalized Country Prime Rate Comparison

140 United States

120

100
Honk Kong
80

60

40
Australia
20

0
9 6 6 6 6 9 7 7 7 7 9 8 8 8 8
n- -9 -9 -9 n- -9 -9 -9 n- -9 -9 -9
pr J ul ct pr J ul ct pr J ul ct
Ja A O Ja A O Ja A O Korea
 -24- UV0511

FIGURE 5

Normalized Asia Pacific Currencies (vs. US Dollar)

Japanese
250 Yen

Korean Won
200

Hong Kong
150
Dollar

Taiwan
100
Dollar

Thai Baht
50

Malaysian
0
Riggit

96 96 96 96 96 96 97 97 97 97 97 97 98 98 98 98 98 98
J an- ar- ay- ul- ep- ov- an- ar- ay- ul- ep- ov- an- ar- ay- ul- ep- ov-
M J S N J M J S N J M J S N
Singapore
M M M
Dollar