20-F 1 d525129d20f.htm FORM 20-F Form 20-F
Table of Contents

As filed with the Securities and Exchange Commission on April 30, 2013

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 20-F

(Mark One)

 

    ¨   REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR (g) OF THE SECURITIES EXCHANGE ACT OF 1934

OR

 

    x   ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2012

OR

 

    ¨   TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from             to            .

OR

 

    ¨   SHELL COMPANY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Date of event requiring this shell company report                    .

Commission file number 000-53445

KB Financial Group Inc.

(Exact name of Registrant as specified in its charter)

KB Financial Group Inc.

(Translation of Registrant’s name into English)

The Republic of Korea

(Jurisdiction of incorporation or organization)

9-1, 2-ga, Namdaemoon-ro, Jung-gu, Seoul 100-703, Korea

(Address of principal executive offices)

Kyu Sul Choi

9-1, 2-ga, Namdaemoon-ro, Jung-gu, Seoul 100-703, Korea

Telephone No.: +82-2-2073-2844

Facsimile No.: +82-2-2073-2848

(Name, telephone, e-mail and/or facsimile number and address of company contact person)

Securities registered or to be registered pursuant to Section 12(b) of the Act.

 

Title of each class

  

Name of each exchange on which registered

American Depositary Shares, each representing
one share of Common Stock
   New York Stock Exchange
Common Stock, par value ₩5,000 per share    New York Stock Exchange*

Securities registered or to be registered pursuant to Section 12(g) of the Act.

None

Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act.

None

Indicate the number of outstanding shares of each of the issuer’s classes of capital or common stock as of the close of the period covered by the annual report.

386,351,693 shares of Common Stock, par value 5,000 per share

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.  x Yes  ¨ No

If this report is an annual or transition report, indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.  ¨ Yes  x No

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  x Yes  ¨ No

Indicate by check mark whether the registrant has submitted electronically and posted on its Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  ¨ Yes  ¨ No

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

  x    Large accelerated filer                ¨    Accelerated filer                ¨    Non-accelerated filer

Indicate by check mark which basis of accounting the registrant has used to prepare the financial statements included in this filing:

 

  ¨    U.S. GAAP

  

  x    International Financial Reporting Standards as issued

by the International Accounting Standards Board

     ¨     Other   

If “Other” has been checked in response to the previous question, indicate by check mark which financial statement item the registrant has elected to follow.  ¨ Item 17  ¨  Item 18

If this is an annual report, indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  ¨ Yes  x No

(APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY PROCEEDINGS DURING THE PAST FIVE YEARS)

Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Sections 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court.  ¨ Yes  ¨ No

 

* Not for trading, but only in connection with the registration of the American Depositary Shares.

 

 

 


Table of Contents

TABLE OF CONTENTS

 

PRESENTATION OF FINANCIAL AND OTHER INFORMATION

     1   

FORWARD-LOOKING STATEMENTS

     2   

Item 1.

   IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS      3   

Item 2.

   OFFER STATISTICS AND EXPECTED TIMETABLE      3   

Item 3.

   KEY INFORMATION      3   
   Item 3.A.    Selected Financial Data      3   
   Item 3.B.    Capitalization and Indebtedness      10   
   Item 3.C.    Reasons for the Offer and Use of Proceeds      10   
   Item 3.D.    Risk Factors      10   

Item 4.

   INFORMATION ON THE COMPANY      30   
   Item 4.A.    History and Development of the Company      30   
   Item 4.B.    Business Overview      33   
   Item 4.C.    Organizational Structure      108   
   Item 4.D.    Property, Plants and Equipment      110   
Item 4A.    UNRESOLVED STAFF COMMENTS      110   

Item 5.

   OPERATING AND FINANCIAL REVIEW AND PROSPECTS      110   
   Item 5.A.    Operating Results      110   
   Item 5.B.    Liquidity and Capital Resources      142   
   Item 5.C.    Research and Development, Patents and Licenses, etc.      147   
   Item 5.D.    Trend Information      147   
   Item 5.E.    Off-Balance Sheet Arrangements      148   
   Item 5.F.    Tabular Disclosure of Contractual Obligations      148   
   Item 5.G.    Safe Harbor      148   

Item 6.

   DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES      148   
   Item 6.A.    Directors and Senior Management      148   
   Item 6.B.    Compensation      152   
   Item 6.C.    Board Practices      153   
   Item 6.D.    Employees      155   
   Item 6.E.    Share Ownership      157   

Item 7.

   MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS      159   
   Item 7.A.    Major Shareholders      159   
   Item 7.B.    Related Party Transactions      159   
   Item 7.C.    Interests of Experts and Counsel      160   

Item 8.

   FINANCIAL INFORMATION      160   
   Item 8.A.    Consolidated Statements and Other Financial Information      160   
   Item 8.B.    Significant Changes      163   

 

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Item 9.

   THE OFFER AND LISTING      163   
   Item 9.A.    Offering and Listing Details      163   
   Item 9.B.    Plan of Distribution      164   
  

Item 9.C.

   Markets      164   
  

Item 9.D.

   Selling Shareholders      171   
  

Item 9.E.

   Dilution      171   
  

Item 9.F.

   Expenses of the Issue      171   

Item 10.

   ADDITIONAL INFORMATION      171   
  

Item 10.A.

   Share Capital      171   
  

Item 10.B.

   Memorandum and Articles of Association      171   
  

Item 10.C.

   Material Contracts      177   
  

Item 10.D.

   Exchange Controls      178   
  

Item 10.E.

   Taxation      179   
  

Item 10.F.

   Dividends and Paying Agents      184   
  

Item 10.G.

   Statements by Experts      184   
  

Item 10.H.

   Documents on Display      184   
  

Item 10.I.

   Subsidiary Information      184   

Item 11.

   QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK      184   

Item 12.

   DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES      205   

Item 13.

   DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES      206   

Item 14.

   MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS AND USE OF PROCEEDS      206   

Item 15.

   CONTROLS AND PROCEDURES      206   

Item 16.

   [RESERVED]      207   

Item 16A.

  

AUDIT COMMITTEE FINANCIAL EXPERT

     207   

Item 16B.

  

CODE OF ETHICS

     207   

Item 16C.

  

PRINCIPAL ACCOUNTANT FEES AND SERVICES

     208   

Item 16D.

  

EXEMPTIONS FROM THE LISTING STANDARDS FOR AUDIT COMMITTEES

     208   

Item 16E.

  

PURCHASE OF EQUITY SECURITIES BY THE ISSUER AND AFFILIATED PURCHASERS

     208   

Item 16F.

  

CHANGE IN REGISTRANT’S CERTIFYING ACCOUNTANT

     208   

Item 16G.

  

CORPORATE GOVERNANCE

     209   

Item 16H.

  

MINE SAFETY DISCLOSURE

     210   

Item 17.

   FINANCIAL STATEMENTS      210   

Item 18.

   FINANCIAL STATEMENTS      210   

Item 19.

   EXHIBITS      210   

 

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PRESENTATION OF FINANCIAL AND OTHER INFORMATION

The financial statements included in this annual report are prepared in accordance with International Financial Reporting Standards, or IFRS, as issued by the International Accounting Standards Board, or IASB. As such, we make an explicit and unreserved statement of compliance with IFRS as issued by the IASB with respect to our consolidated financial statements as of December 31, 2011 and 2012 and for the years ended December 31, 2010, 2011 and 2012 included in this annual report. Unless indicated otherwise, the financial information in this annual report (i) as of and for the years ended December 31, 2010, 2011 and 2012 has been prepared in accordance with IFRS as issued by the IASB, and (ii) as of and for the years ended December 31, 2008 and 2009 has been prepared in accordance with generally accepted accounting principles in the United States, or U.S. GAAP, which is not comparable to information prepared in accordance with IFRS.

In accordance with rule amendments adopted by the U.S. Securities and Exchange Commission which became effective on March 4, 2008, we are not required to provide a reconciliation to U.S. GAAP.

Unless expressly stated otherwise, all financial data included in this annual report are presented on a consolidated basis.

We were established on September 29, 2008 pursuant to a “comprehensive stock transfer” under Korean law, whereby holders of the common stock of Kookmin Bank and certain of its subsidiaries transferred all of their shares to us, a new financial holding company, and in return received shares of our common stock. See “Item 4.A. History and Development of the Company—The Establishment of KB Financial Group.” The consolidated financial data included in this annual report are, as of dates and for periods prior to the date of the stock transfer, for Kookmin Bank and its subsidiaries, and as of dates and for periods from and after the date of the stock transfer, for us and our subsidiaries, including Kookmin Bank.

In this annual report:

 

   

references to “we,” “us” or “KB Financial Group” are to KB Financial Group Inc. and, unless the context otherwise requires, its subsidiaries and, for periods of time prior to the establishment of KB Financial Group on September 29, 2008, Kookmin Bank and, unless the context otherwise requires, its subsidiaries as of such periods;

 

   

references to “Korea” are to the Republic of Korea;

 

   

references to the “government” are to the government of the Republic of Korea;

 

   

references to “Won” or “₩” are to the currency of Korea; and

 

   

references to “U.S. dollars,” “$” or “US$” are to United States dollars.

Discrepancies between totals and the sums of the amounts contained in any table may be a result of rounding.

For your convenience, this annual report contains translations of Won amounts into U.S. dollars at the noon buying rate of the Federal Reserve Bank of New York for Won in effect on December 31, 2012, which was ₩1,063.2 = US$1.00.

 

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FORWARD-LOOKING STATEMENTS

The U.S. Securities and Exchange Commission encourages companies to disclose forward-looking information so that investors can better understand a company’s future prospects and make informed investment decisions. This annual report contains forward-looking statements.

Words and phrases such as “aim,” “anticipate,” “assume,” “believe,” “contemplate,” “continue,” “estimate,” “expect,” “future,” “goal,” “intend,” “may,” “objective,” “plan,” “positioned,” “predict,” “project,” “risk,” “seek to,” “shall,” “should,” “will likely result,” “will pursue,” “plan” and words and terms of similar substance used in connection with any discussion of future operating or financial performance or our expectations, plans, projections or business prospects identify forward-looking statements. In particular, the statements under the headings “Item 3.D. Risk Factors,” “Item 5. Operating and Financial Review and Prospects” and “Item 4.B. Business Overview” regarding our financial condition and other future events or prospects are forward-looking statements. All forward-looking statements are management’s present expectations of future events and are subject to a number of factors and uncertainties that could cause actual results to differ materially from those described in the forward-looking statements.

In addition to the risks related to our business discussed under “Item 3.D. Risk Factors,” other factors could cause actual results to differ materially from those described in the forward-looking statements. These factors include, but are not limited to:

 

   

our ability to successfully implement our strategy;

 

   

future levels of non-performing loans;

 

   

our growth and expansion;

 

   

the adequacy of allowances for credit and investment losses;

 

   

technological changes;

 

   

interest rates;

 

   

investment income;

 

   

availability of funding and liquidity;

 

   

cash flow projections;

 

   

our exposure to market risks; and

 

   

adverse market and regulatory conditions.

By their nature, certain disclosures relating to these and other risks are only estimates and could be materially different from what actually occurs in the future. As a result, actual future gains, losses or impact on our income or results of operations could materially differ from those that have been estimated. For example, revenues could decrease, costs could increase, capital costs could increase, capital investment could be delayed and anticipated improvements in performance might not be fully realized.

In addition, other factors that could cause actual results to differ materially from those estimated by the forward-looking statements contained in this annual report could include, but are not limited to:

 

   

general economic and political conditions in Korea or other countries that have an impact on our business activities or investments;

 

   

the monetary and interest rate policies of Korea;

 

   

inflation or deflation;

 

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unanticipated volatility in interest rates;

 

   

foreign exchange rates;

 

   

prices and yields of equity and debt securities;

 

   

the performance of the financial markets in Korea and globally;

 

   

changes in domestic and foreign laws, regulations and taxes;

 

   

changes in competition and the pricing environments in Korea; and

 

   

regional or general changes in asset valuations.

For further discussion of the factors that could cause actual results to differ, see the discussion under “Item 3.D. Risk Factors” contained in this annual report. We caution you not to place undue reliance on the forward-looking statements, which speak only as of the date of this annual report. Except as required by law, we are not under any obligation, and expressly disclaim any obligation, to update or alter any forward-looking statements, whether as a result of new information, future events or otherwise.

All subsequent forward-looking statements attributable to us or any person acting on our behalf are expressly qualified in their entirety by the cautionary statements contained or referred to in this annual report.

 

Item 1. IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS

Not applicable.

 

Item 2. OFFER STATISTICS AND EXPECTED TIMETABLE

Not applicable.

 

Item 3. KEY INFORMATION

 

Item 3.A. Selected Financial Data

The selected consolidated financial and operating data set forth below as of and for the years ended December 31, 2010, 2011 and 2012 have been derived from our audited consolidated financial statements, which have been prepared in accordance with IFRS as issued by the IASB. Our consolidated financial statements as of and for the years ended December 31, 2010, 2011 and 2012 have been audited by independent registered public accounting firm Samil PricewaterhouseCoopers.

You should read the following data together with the more detailed information contained in “Item 5. Operating and Financial Review and Prospects” and our consolidated financial statements included elsewhere in this annual report. Historical results do not necessarily predict future results.

 

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Consolidated statements of comprehensive income data

 

    Year Ended December 31,  
    2010     2011     2012     2012 (1)  
    (in billions of Won, except common share data)     (in millions of US$,
except common
share data)
 

Interest income

      13,052          13,956          14,156      US$     13,314   

Interest expense

    (6,878     (6,852     (7,040     (6,621
 

 

 

   

 

 

   

 

 

   

 

 

 

Net interest income

    6,174        7,104        7,116        6,693   
 

 

 

   

 

 

   

 

 

   

 

 

 

Fee and commission income

    2,482        2,830        2,779        2,613   

Fee and commission expense

    (777     (1,035     (1,186     (1,115
 

 

 

   

 

 

   

 

 

   

 

 

 

Net fee and commission income

    1,705        1,795        1,593        1,498   
 

 

 

   

 

 

   

 

 

   

 

 

 

Net gains on financial assets and liabilities at fair value through profit or loss

    815        1,036        651        612   
 

 

 

   

 

 

   

 

 

   

 

 

 

Net other operating income (expenses)

    (1,068     (1,092     (1,455     (1,369
 

 

 

   

 

 

   

 

 

   

 

 

 

General and administrative expenses

    (4,367     (3,932     (3,885     (3,655
 

 

 

   

 

 

   

 

 

   

 

 

 

Operating profit before provision for credit losses

    3,259        4,911        4,020        3,779   
 

 

 

   

 

 

   

 

 

   

 

 

 

Provision for credit losses

    (2,871     (1,513     (1,608     (1,512
 

 

 

   

 

 

   

 

 

   

 

 

 

Net operating profit

    388        3,398        2,412        2,267   
 

 

 

   

 

 

   

 

 

   

 

 

 

Share of profit (loss) of associates and joint ventures

    (211     5        (14     (13
 

 

 

   

 

 

   

 

 

   

 

 

 

Net other non-operating income (expense)

    (28     (142     (137     (128
 

 

 

   

 

 

   

 

 

   

 

 

 

Net non-operating profit (loss)

    (239     (137     (151     (141
 

 

 

   

 

 

   

 

 

   

 

 

 

Profit before income tax

    149        3,261        2,261        2,126   
 

 

 

   

 

 

   

 

 

   

 

 

 

Tax income (expense)

    71        (832     (549     (517
 

 

 

   

 

 

   

 

 

   

 

 

 

Profit for the year

  220      2,429      1,712      US$ 1,609   
 

 

 

   

 

 

   

 

 

   

 

 

 

Exchange differences on translating foreign operations

    (7     6        (26     (24

Change in value of financial investments

    108        (240     250        235   

Shares of other comprehensive loss of associates and joint ventures

    (2     (1     (44     (42

Cash flow hedges

    —          (1     (1     (1
 

 

 

   

 

 

   

 

 

   

 

 

 

Other comprehensive income (loss) for the year, net of tax

    99        (236     179        168   
 

 

 

   

 

 

   

 

 

   

 

 

 

Total comprehensive income for the year

  319      2,193      1,891      US$ 1,777   
 

 

 

   

 

 

   

 

 

   

 

 

 

Profit attributable to:

       

Stockholders

  147      2,373      1,703      US$ 1,601   

Non-controlling interests

    73        56        9        8   
 

 

 

   

 

 

   

 

 

   

 

 

 
  220      2,429      1,712      US$ 1,609   
 

 

 

   

 

 

   

 

 

   

 

 

 

Total comprehensive income attributable to:

       

Stockholders

  226      2,134      1,871      US$ 1,759   

Non-controlling interests

    93        59        20        18   
 

 

 

   

 

 

   

 

 

   

 

 

 
  319      2,193      1,891      US$ 1,777   
 

 

 

   

 

 

   

 

 

   

 

 

 

Earnings per share

       

Basic earnings per share

  427      6,461      4,408      US$ 4.15   

Diluted earnings per share

    427        6,445        4,394        4.13   

 

(1) 

Won amounts are expressed in U.S. dollars at the rate of ₩1,063.2 to US$1.00, the noon buying rate in effect on December 31, 2012 as quoted by the Federal Reserve Bank of New York in the United States.

 

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Consolidated statements of financial position data

 

     Year Ended December 31,  
     2010     2011      2012      2012 (1)  
     (in billions of Won)      (in millions of US$)  

Assets

     

Cash and due from financial institutions

   6,830      9,178       10,568       US$ 9,940   

Financial assets at fair value through profit or loss

     4,014        6,326         6,299         5,925   

Derivative financial assets

     2,595        2,449         2,025         1,904   

Loans

     197,621        212,107         212,716         200,064   

Financial investments

     36,190        35,432         36,897         34,703   

Investments in associates and joint ventures

     723        892         1,035         974   

Property and equipment

     3,150        3,186         3,104         2,919   

Investment property

     53        52         53         50   

Intangible assets

     505        468         500         470   

Deferred income tax assets

     4        22         19         17   

Assets held for sale

     9        10         36         33   

Other assets

     7,077        7,479         8,755         8,234   
  

 

 

   

 

 

    

 

 

    

 

 

 

Total assets

       258,771          277,601           282,007       US$ 265,233   
  

 

 

   

 

 

    

 

 

    

 

 

 

Liabilities

          

Financial liabilities at fair value through profit or loss

   1,295      1,388       1,851       US$ 1,741   

Derivative financial liabilities

     2,236        2,059         2,069         1,946   

Deposits

     179,862        190,337         194,403         182,840   

Debts

     11,745        16,824         15,970         15,020   

Debentures

     29,107        27,070         24,132         22,696   

Provisions

     1,020        798         670         630   

Defined benefit liabilities

     125        128         75         71   

Current income tax liabilities

     30        589         265         249   

Deferred income tax liabilities

     284        221         130         122   

Other liabilities

     13,401        15,087         17,738         16,683   
  

 

 

   

 

 

    

 

 

    

 

 

 

Total liabilities

   239,105      254,501       257,303       US$ 241,998   
  

 

 

   

 

 

    

 

 

    

 

 

 

Total Equity

          

Capital stock

   1,932      1,932       1,932       US$ 1,817   

Capital surplus

     15,990        15,842         15,840         14,898   

Accumulated other comprehensive income

     431        191         360         339   

Retained earnings

     2,621        4,953         6,377         5,998   

Treasury shares

     (2,477     —           —           —     
  

 

 

   

 

 

    

 

 

    

 

 

 

Equity attributable to stockholders

     18,497        22,918         24,509         23,052   

Non-controlling interests

     1,169        182         195         183   
  

 

 

   

 

 

    

 

 

    

 

 

 

Total equity

   19,666      23,100       24,704       US$ 23,235   
  

 

 

   

 

 

    

 

 

    

 

 

 

Total liabilities and equity

   258,771      277,601       282,007       US$ 265,233   
  

 

 

   

 

 

    

 

 

    

 

 

 

 

(1) 

Won amounts are expressed in U.S. dollars at the rate of ₩1,063.2 to US$1.00, the noon buying rate in effect on December 31, 2012 as quoted by the Federal Reserve Bank of New York in the United States.

 

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Profitability ratios and other data

 

     Year Ended December 31,  
             2010                     2011                     2012          
     (Percentages)  

Profit (loss) attributable to stockholders as a percentage of:

      

Average total assets (1)

     0.05     0.86     0.59

Average stockholders’ equity (1)

     0.76        10.07        7.06   

Dividend payout ratio (2)

     28.08        11.72        13.61   

Net interest spread (3)

     2.37        2.64        2.50   

Net interest margin (4)

     2.58        2.88        2.74   

Efficiency ratio (5)

     57.26        44.46        49.15   

Cost-to-average assets ratio (6)

     1.63        1.43        1.36   

Won loans (gross) as a percentage of Won deposits

     107.56        107.97        107.53   

Total loans (gross) as a percentage of total deposits

     111.96        113.25        111.10   

 

(1) 

Average balances are based on daily balances for our banking, credit card and investment and securities operations and monthly or quarterly balances for our other operations.

(2) 

Represents the ratio of total dividends declared on common stock as a percentage of profit attributable to stockholders.

(3) 

Represents the difference between the yield on average interest earning assets and cost of average interest bearing liabilities.

(4) 

Represents the ratio of net interest income to average interest earning assets.

(5) 

Represents the ratio of general and administrative expenses to the sum of net interest income, net fee and commission income, net gain on financial assets and liabilities at fair value through profit or loss and net other operating income.

(6) 

Represents the ratio of general and administrative expenses to average total assets.

Capital ratios

 

     Year Ended December 31,  
             2011                     2012          
     (Percentages)  

Consolidated capital adequacy ratio of KB Financial Group (1)

     13.00     13.90

Capital adequacy ratios of Kookmin Bank

    

Tier I capital adequacy ratio (2)

     10.30     10.87

Tier II capital adequacy ratio (2)

     3.25        3.53   

Average stockholders’ equity as a percentage of average total assets

     8.58        8.42   

 

(1) 

Under applicable guidelines of the Financial Services Commission, we, as a bank holding company, are required to maintain a minimum consolidated capital adequacy ratio of 8%. See “Item 5.B. Liquidity and Capital Resources—Financial Condition—Capital Adequacy.”

(2) 

Kookmin Bank’s capital adequacy ratios are computed in accordance with the guidelines issued by the Financial Services Commission. See “Item 5.B. Liquidity and Capital Resources—Financial Condition—Capital Adequacy.”

Credit portfolio ratios and other data

 

     As of December 31,  
     2010     2011     2012  
     (in billions of Won, except percentages)  

Total loans (1)

   201,377      215,555      215,985   

Total non-performing loans (2)

     1,612        1,180        1,516   

Other impaired loans not included in non-performing loans

     2,204        2,285        2,086   

Total of non-performing loans and other impaired loans

     3,816        3,465        3,602   

Total allowances for loan losses

     3,756        3,448        3,268   

Non-performing loans as a percentage of total loans

     0.80     0.55     0.70

Non-performing loans as a percentage of total assets

     0.62        0.43        0.54   

Total of non-performing loans and other impaired loans as a percentage of total loans

     1.89        1.61        1.67   

Allowances for loan losses as a percentage of total loans

     1.87        1.60        1.51   

 

(1) 

Before deduction of allowances for loan losses.

(2) 

Non-performing loans are defined as those loans, including corporate, retail and other loans, which are past due by 90 days or more.

 

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Selected Statistical Information

Average Balance Sheets and Related Interest

The following table shows our average balances and interest rates for the past three years:

 

    Year Ended December 31,  
    2010     2011     2012  
    Average
Balance (1)
    Interest
Income  (2)(3)
    Average
Yield
    Average
Balance (1)
    Interest
Income  (2)(3)
    Average
Yield
    Average
Balance (1)
    Interest
Income  (2)(3)
    Average
Yield
 
    (in billions of Won, except percentages)  

Assets

                 

Cash and interest earning deposits in other banks

  1,879      38        2.02   2,299      75        3.26   4,867      160        3.29

Financial investment (debt securities) (4)

    32,449        1,502        4.63        32,655        1,469        4.50        33,499        1,428        4.26   

Loans:

                 

Corporate

    92,018        4,938        5.37        94,486        5,132        5.43        102,083        5,283        5.18   

Mortgage

    44,322        1,958        4.42        43,790        2,172        4.96        44,439        2,161        4.86   

Home equity

    26,524        1,258        4.74        29,399        1,513        5.15        30,170        1,534        5.08   

Other consumer

    28,075        1,996        7.11        29,179        2,176        7.46        29,548        2,152        7.28   

Credit cards (5)

    11,924        1,293        10.84        12,378        1,342        10.84        12,072        1,346        11.15   

Foreign

    2,082        69        3.31        2,441        77        3.15        2,744        92        3.35   
 

 

 

   

 

 

     

 

 

   

 

 

     

 

 

   

 

 

   

Loans (total)

    204,945        11,512        5.62        211,673        12,412        5.86        221,056        12,568        5.69   
 

 

 

   

 

 

     

 

 

   

 

 

     

 

 

   

 

 

   

Total average interest earning assets

  239,273      13,052        5.45   246,627      13,956        5.66   259,422      14,156        5.46
 

 

 

   

 

 

     

 

 

   

 

 

     

 

 

   

 

 

   

Cash and due from banks

    6,731        —          —          7,267        —          —          7,653        —          —     

Financial assets at fair value through profit or loss:

                 

Debt securities (3)

    6,891        —          —          5,056        —          —          5,638        —          —     

Equity securities

    369        —          —          674        —          —          1,005        —          —     

Other

    20        —          —          20        —          —          36        —          —     
 

 

 

   

 

 

     

 

 

   

 

 

     

 

 

   

 

 

   

Financial assets at fair value through profit or loss (total)

    7,280        —          —          5,750        —          —          6,679        —          —     

Financial investment (equity securities)

    3,138        —          —          3,687        —          —          2,755        —          —     

Investment in associates

    744        —          —          764        —          —          968        —          —     

Derivative financial assets

    3,061        —          —          2,420        —          —          1,979        —          —     

Premises and equipment

    3,267        —          —          3,224        —          —          3,215        —          —     

Intangible assets

    454        —          —          477        —          —          546        —          —     

Allowances for loan losses

    (4,449     —          —          (4,227     —          —          (4,159     —          —     

Other non-interest earning assets

    8,167        —          —          8,712        —          —          7,329        —          —     
 

 

 

   

 

 

     

 

 

   

 

 

     

 

 

   

 

 

   

Total average non-interest earning assets

    28,393        —          —          28,074        —          —          26,965        —          —     
 

 

 

   

 

 

     

 

 

   

 

 

     

 

 

   

 

 

   

Total average assets

  267,666      13,052        4.88   274,701      13,956        5.08   286,387      14,156        4.94
 

 

 

   

 

 

     

 

 

   

 

 

     

 

 

   

 

 

   

 

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Table of Contents
    Year Ended December 31,  
    2010     2011     2012  
    Average
Balance  (1)
    Interest
Expense
    Average
Cost
    Average
Balance  (1)
    Interest
Expense
    Average
Cost
    Average
Balance  (1)
    Interest
Expense
    Average
Cost
 
    (in billions of Won, except percentages)  

Liabilities

                 

Deposits:

                 

Demand deposits

  48,919      212        0.43   53,824      314        0.58   56,191      336        0.60

Time deposits

    112,621        4,055        3.60        124,713        4,563        3.66        133,728        4,916        3.68   

Certificates of deposit

    11,044        442        4.00        1,746        68        3.89        1,734        67        3.86   
 

 

 

   

 

 

     

 

 

   

 

 

     

 

 

   

 

 

   

Deposits (total)

    172,584        4,709        2.73        180,283        4,945        2.74        191,653        5,319        2.78   

Debts

    15,494        306        1.97        18,475        399        2.16        21,957        464        2.11   

Debentures

    35,426        1,863        5.26        28,400        1,508        5.31        24,446        1,257        5.14   
 

 

 

   

 

 

     

 

 

   

 

 

     

 

 

   

 

 

   

Total average interest bearing liabilities

  223,504      6,878        3.08   227,158      6,852        3.02   238,056      7,040        2.96
 

 

 

   

 

 

     

 

 

   

 

 

     

 

 

   

 

 

   

Non-interest bearing demand deposits

    3,348        —          —          3,249        —          —          3,094        —          —     

Derivative financial liabilities

    2,591        —          —          2,064        —          —          1,921        —          —     

Financial liabilities at fair value through profit or loss

    1,783        —          —          1,847        —          —          1,724        —          —     

Other non-interest bearing liabilities

    15,938        —          —          16,093        —          —          17,292        —          —     
 

 

 

   

 

 

     

 

 

   

 

 

     

 

 

   

 

 

   

Total average non-interest bearing liabilities

    23,660        —          —          23,253        —          —          24,031        —          —     
 

 

 

   

 

 

     

 

 

   

 

 

     

 

 

   

 

 

   

Total average liabilities

    247,164        6,878        2.78        250,411        6,852        2.74        262,087        7,040        2.69   
 

 

 

   

 

 

     

 

 

   

 

 

     

 

 

   

 

 

   

Total equity

    20,502        —          —          24,290        —          —          24,300        —          —     
 

 

 

   

 

 

     

 

 

   

 

 

     

 

 

   

 

 

   

Total average liabilities and equity

  267,666      6,878        2.57   274,701      6,852        2.49   286,387      7,040        2.46
 

 

 

   

 

 

     

 

 

   

 

 

     

 

 

   

 

 

   

 

(1) 

Average balances are based on daily balances for our banking, credit card and investment and securities operations and monthly or quarterly balances for our other operations.

(2) 

We do not invest in any tax-exempt securities.

(3) 

Excludes interest income from debt securities at fair value through profit or loss.

(4) 

Information related to investment securities classified as available-for-sale has been computed using amortized cost, and therefore does not give effect to changes in fair value that are reflected as a component of total equity.

(5) 

Interest income from credit cards includes principally cash advance fees of ₩452 billion, ₩441 billion and ₩447 billion and interest on credit card loans of ₩464 billion, ₩484 billion and ₩457 billion for the years ended December 31, 2010, 2011 and 2012, respectively, but does not include interchange fees.

The following table presents our net interest spread, net interest margin, and asset liability ratio for the past three years:

 

     Year Ended December 31,  
             2010                     2011                     2012          
     (percentages)  

Net interest spread (1)

     2.37     2.64     2.50

Net interest margin (2)

     2.58        2.88        2.74   

Average asset liability ratio (3)

     107.06        108.57        108.98   

 

(1) 

The difference between the average rate of interest earned on interest earning assets and the average rate of interest paid on interest bearing liabilities.

(2) 

The ratio of net interest income to average interest earning assets.

(3) 

The ratio of average interest earning assets to average interest bearing liabilities.

 

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Analysis of Changes in Net Interest Income—Volume and Rate Analysis

The following table provides an analysis of changes in interest income, interest expense and net interest income based on changes in volume and changes in rate for 2010 compared to 2011 and 2011 compared to 2012. Information is provided with respect to: (1) effects attributable to changes in volume (changes in volume multiplied by prior rate) and (2) effects attributable to changes in rate (changes in rate multiplied by prior volume). Changes attributable to the combined impact of changes in rate and volume have been allocated proportionately to the changes due to volume changes and changes due to rate changes.

 

     2011 vs. 2010
Increase/(Decrease)
Due to Change in
    2012 vs. 2011
Increase/(Decrease)
Due to Change in
 
     Volume     Rate     Total     Volume     Rate     Total  
     (in billions of Won)  

Interest earning assets

            

Cash and interest earning deposits in other banks

   10      27      37      84      1      85   

Financial investment (debt securities)

     9        (42     (33     38        (79     (41

Loans:

            

Corporate

     137        57        194        396        (245     151   

Mortgage

     (24     238        214        32        (43     (11

Home equity

     142        113        255        41        (20     21   

Other consumer

     80        100        180        28        (52     (24

Credit cards

     49        —          49        (34     38        4   

Foreign

     11        (3     8        10        5        15   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total interest income

   414      490      904      595      (395   200   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 
     2011 vs. 2010
Increase/(Decrease)
Due to Change in
    2012 vs. 2011
Increase/(Decrease)
Due to Change in
 
     Volume     Rate     Total     Volume     Rate     Total  
     (in billions of Won)  

Interest bearing liabilities

            

Deposits:

            

Demand deposits

   23      79      102      12      10      22   

Time deposits

     440        68        508        328        25        353   

Certificates of deposit

     (362     (12     (374     —          (1     (1

Debts

     62        31        93        74        (9     65   

Debentures

     (373     18        (355     (204     (47     (251
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total interest expense

     (210     184        (26     210        (22     188   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total net interest income

   624      306      930      385      (373   12   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

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Exchange Rates

The table below sets forth, for the periods and dates indicated, information concerning the noon buying rate for Won, expressed in Won per one U.S. dollar. The “noon buying rate” is the rate in New York City for cable transfers in foreign currencies as certified for customs purposes by the Federal Reserve Bank of New York. Unless otherwise stated, translations of Won amounts into U.S. dollars in this annual report were made at the noon buying rate in effect on December 31, 2012, which was ₩1,063.2 to US$1.00. We do not intend to imply that the Won or U.S. dollar amounts referred to herein could have been or could be converted into U.S. dollars or Won, as the case may be, at any particular rate, or at all. On April 26, 2013, the noon buying rate was ₩1,111.1 = US$1.00.

 

     Won per U.S. dollar (noon buying rate)  
     Low      High      Average  (1)      Period-End  

2008

     935.2         1,507.9         1,098.7         1,262.0   

2009

     1,149.0         1,570.1         1,274.6         1,163.7   

2010

     1,104.0         1,253.2         1,155.7         1,130.6   

2011

     1,049.2         1,197.5         1,106.9         1,158.5   

2012

     1,063.2         1,185.0         1,126.2         1,063.2   

October

     1,090.2         1,114.6         1,105.4         1,090.2   

November

     1,081.8         1,091.8         1,087.0         1,081.8   

December

     1,063.2         1,083.7         1,075.2         1,063.2   

2013 (through April 26)

     1,056.0         1,140.3         1,094.7         1,111.1   

January

     1,056.0         1,091.2         1,066.5         1,087.5   

February

     1,078.2         1,095.7         1,087.3         1,083.9   

March

     1,083.9         1,119.2         1,102.9         1,112.5   

April (through April 26)

     1,111.1         1,140.3         1,122.7         1,111.1   

 

Source:    Federal Reserve Bank of New York.

(1) 

The average of the daily noon buying rates of the Federal Reserve Bank in effect during the relevant period (or portion thereof).

 

Item 3.B. Capitalization and Indebtedness

Not applicable.

 

Item 3.C. Reasons for the Offer and Use of Proceeds

Not applicable.

 

Item 3.D. Risk Factors

Risks relating to our retail credit portfolio

Future changes in market conditions as well as other factors may lead to increases in delinquency levels of our retail loan portfolio.

For most of the recent past, consumer debt has increased significantly in Korea. Our portfolio of retail loans, including mortgage and home equity loans, grew from ₩98,996 billion as of December 31, 2010 to ₩103,855 billion as of December 31, 2011, although it decreased slightly to ₩103,264 billion as of December 31, 2012. As of December 31, 2012, our retail loans represented 47.8% of our total lending. Within our retail loan portfolio, the outstanding balance of other consumer loans, which unlike mortgage or home equity loans are often unsecured and therefore tend to carry a higher credit risk, has increased from ₩27,281 billion as of December 31, 2010 to ₩28,275 billion as of December 31, 2011 and ₩28,804 billion as of December 31, 2012; as a percentage of total outstanding retail loans, such balance has also increased from 27.6% as of December 31, 2010 to 27.2% as of December 31, 2011 and 27.9% as of December 31, 2012. The growth of our retail lending business, which generally offers higher margins than other lending activities, contributed significantly to our interest income and profitability in recent years.

 

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Table of Contents

The growth of our retail loan portfolio, together with adverse economic conditions in Korea and globally in recent years, may lead to further increases in delinquency levels and a deterioration in asset quality. The amount of our non-performing retail loans (defined as those that are past due by 90 days or more) increased from ₩642 billion as of December 31, 2011 to ₩762 billion as of December 31, 2012. Higher delinquencies in our retail loan portfolio will require us to increase our loan loss provisions and charge-offs, which in turn will adversely affect our financial condition and results of operations.

Our large exposure to consumer debt means that we are exposed to changes in economic conditions affecting Korean consumers. Accordingly, a rise in unemployment, an increase in interest rates, deterioration of the real estate market or difficulties in the Korean economy may have an adverse effect on Korean consumers, which could result in reduced growth and further deterioration in the credit quality of our retail loan portfolio. See “Risks relating to Korea—Unfavorable financial and economic developments in Korea may have an adverse effect on us.” In order to minimize our risk as a result of such exposure, we are continuing to strengthen our risk management processes, including further improving the retail lending process, upgrading our retail credit rating system, as well as strengthening the overall management of our portfolio. Despite our efforts, however, there is no assurance that we will be able to prevent significant credit quality deterioration in our retail loan portfolio.

In light of adverse conditions in the Korean economy affecting consumers, in March 2009, the Financial Services Commission requested Korean banks, including us, to establish a “pre-workout program,” including a credit counseling and recovery service, for retail borrowers with outstanding short-term debt. The pre-workout program has been in operation since April 2009 and, following extensions by the Korean government, is expected to continue indefinitely. Under the pre-workout program, maturity extensions and/or interest reductions are provided for retail borrowers with total loans of less than ₩500 million who are in arrears on their payments for more than 30 days but less than 90 days. While we believe that our participation in such pre-workout program has not had a material impact on the overall credit quality of our retail loan and credit card portfolio or on our results of operations and financial condition to date, our future participation in such government-led initiatives to provide financial support to retail borrowers may lead us to offer credit terms for such borrowers that we would not otherwise offer, in the absence of such initiatives, which may have an adverse effect on our results of operations and financial condition.

Our credit card operations may generate losses in the future, which could hurt our financial condition and results of operations.

With respect to our credit card portfolio, our delinquency ratio (which represents the ratio of amounts that are overdue by 30 days or more to total outstanding balances) increased from 1.0% as of December 31, 2010 to 1.5% as of December 31, 2011 and then decreased to 1.3% as of December 31, 2012. In line with industry practice, we have restructured a portion of delinquent credit card account balances (defined as balances overdue by 30 days or more) as loans. As of December 31, 2012, these restructured loans outstanding amounted to ₩47 billion. Because these loans are not treated as being delinquent at the time of conversion or for a period of time thereafter, our delinquency ratios may not fully reflect all delinquent amounts relating to our outstanding loans. Including all restructured loans, outstanding balances overdue by 30 days or more accounted for 1.7% of our credit card receivables (including credit card loans) as of December 31, 2012. Delinquencies may increase in 2013 and in the future as a result of, among other things, adverse economic conditions in Korea and the inability of Korean consumers to manage increased household debt.

Despite our continuing efforts to sustain and improve our credit card asset quality and performance, we may experience increased delinquencies or deterioration of the asset quality of our credit card portfolio, which would require us to increase our loan loss provisions and charge-offs and adversely affect our overall financial condition and results of operations.

 

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Table of Contents

Risks relating to our small- and medium-sized enterprise loan portfolio

We have significant exposure to small- and medium-sized enterprises, and any financial difficulties experienced by these customers may result in a deterioration of our asset quality and have an adverse impact on us.

One of our core businesses is lending to small- and medium-sized enterprises (as defined under “Item 4.B. Business Overview—Corporate Banking—Small- and Medium-sized Enterprise Banking”). Our loans to small- and medium-sized enterprises increased from ₩65,132 billion as of December 31, 2010 to ₩69,810 billion as of December 31, 2012. During that period, non-performing loans (defined as those loans that are past due by 90 days or more) to small- and medium-sized enterprises decreased from ₩686 billion as of December 31, 2010 to ₩373 billion as of December 31, 2011 but increased to ₩590 billion as of December 31, 2012, and the non-performing loan ratio for such loans decreased from 1.1% as of December 31, 2010 to 0.5% as of December 31, 2011 but increased to 0.8% as of December 31, 2012 and may further increase in 2013. According to data compiled by the Financial Supervisory Service, the delinquency ratio for Won-currency loans by Korean commercial banks to small- and medium-sized enterprises was 1.3% as of December 31, 2012. The delinquency ratio for loans to small- and medium-sized enterprise is calculated as the ratio of (1) the outstanding balance of such loans in respect of which either principal or interest payments are overdue by one month or more to (2) the aggregate outstanding balance of such loans. Our delinquency ratio for such Won currency loans has remained relatively stable at 1.1% as of December 31, 2010, 1.0% as of December 31, 2011 and 1.1% as of December 31, 2012 but may increase in 2013. In recent years, we have taken measures which sought to stem rising delinquencies in our loans to small- and medium-sized enterprises, including through strengthening the review of loan applications and closer monitoring of the post-loan performance of small- and medium-sized enterprise borrowers in industry sectors that are relatively more sensitive to downturns in the economy and have shown higher delinquency ratios, such as construction, hotels, retail and wholesale, restaurants and real estate. Despite such efforts, however, there is no assurance that delinquency levels for our loans to small- and medium-sized enterprises will not rise in the future. In particular, financial difficulties experienced by small- and medium-sized enterprises as a result of, among other things, adverse economic conditions in Korea and globally in recent years, may lead to a deterioration in the asset quality of our loans to this segment. Any such deterioration would result in increased charge-offs and higher provisioning and reduced interest and fee income from this segment, which could have a material adverse impact on our financial condition and results of operations.

In addition, many small- and medium-sized enterprises have close business relationships with the largest Korean commercial conglomerates, known as “chaebols,” primarily as suppliers. Any difficulties encountered by those chaebols would likely hurt the liquidity and financial condition of related small- and medium-sized enterprises, including those to which we have exposure, also resulting in an impairment of their ability to repay loans.

A substantial part of our small- and medium-sized enterprise lending comprises loans to “small office/home office” customers, or SOHOs. SOHOs, which we currently define to include sole proprietorships and individual business interests, are usually dependent on a limited number of suppliers or customers. SOHOs tend to be affected to a greater extent than larger corporate borrowers by fluctuations in the Korean economy. In addition, SOHOs often maintain less sophisticated financial records than other corporate borrowers. Although we continue to make efforts to improve our internally developed credit rating systems to rate potential borrowers, particularly with respect to SOHOs, and intend to manage our exposure to these borrowers closely in order to prevent any deterioration in the asset quality of our loans to this segment, we may not be able to do so as intended.

In light of the deteriorating financial condition and liquidity position of small- and medium-sized enterprises in Korea since the global financial crisis commencing in the second half of 2008, the Korean government introduced policies and initiatives intended to encourage Korean banks to provide financial support to small- and medium-sized enterprises. For example, in November 2008, we entered into a memorandum of understanding with the Financial Supervisory Service under which we were required to improve the liquidity position of small- and medium-sized enterprises and exporters by providing them with adequate financing and to endeavor to

 

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alleviate burdens on low-income debtors by extending maturity dates or by delaying interest payments on loans owed to us. In addition, in October 2008, the Financial Supervisory Service requested Korean banks, including us, to establish a “fast track” program to provide liquidity assistance to small- and medium-sized enterprises on an expedited basis. Under the fast track program we established, which has been extended until December 31, 2013, we provide liquidity assistance to qualified small- and medium-sized enterprise borrowers applying for such assistance, in the form of new loans or maturity extensions or interest rate adjustments with respect to existing loans, after expedited credit review and approval by us. The overall prospects for the Korean economy in 2013 and beyond remain uncertain, and the Korean government may extend or renew existing or past policies and initiatives or introduce new policies or initiatives to encourage Korean banks to provide financial support to small- and medium-sized enterprises. Our participation in such government-led initiatives may lead us to extend credit to small- and medium-sized enterprise borrowers that we would not otherwise extend, or offer terms for such credit that we would not otherwise offer, in the absence of such initiatives. Furthermore, there is no guarantee that the financial condition and liquidity position of our small- and medium-sized enterprise borrowers benefiting from such initiatives will improve sufficiently for them to service their debt on a timely basis, or at all. Accordingly, increases in our exposure to small- and medium-sized enterprise borrowers resulting from such government-led initiatives may have a material adverse effect on our financial condition and results of operations.

We have exposure to Korean construction and shipbuilding companies, and financial difficulties of these companies may have an adverse impact on us.

As of December 31, 2012, we had loans outstanding to construction companies and shipbuilding companies (many of which are small- and medium-sized enterprises) in the amount of ₩4,486 billion and ₩1,209 billion, or 2.1% and 0.6% of our total loans, respectively. We also have other exposures to Korean construction and shipbuilding companies, including in the form of guarantees extended on behalf of such companies (which included ₩754 billion of confirmed guarantees for construction companies and ₩1,941 billion of confirmed guarantees for shipbuilding companies as of December 31, 2012) and debt and equity securities of such companies held by us. In the case of construction companies, such exposures include guarantees provided to us by general contractors with respect to financing extended by us for residential and commercial real estate development projects. In the case of shipbuilding companies, such exposures include refund guarantees extended by us on behalf of shipbuilding companies to cover their obligation to return a portion of the ship order contract amount to customers in the event of performance delays or defaults under shipbuilding contracts.

The construction industry in Korea has experienced a downturn in recent years, due to excessive investment in residential property development projects, stagnation of real property prices and reduced demand for residential property, especially in areas outside of Seoul, including as a result of the deterioration of the Korean economy commencing in the second half of 2008. In October 2008, the Korean government implemented a ₩9 trillion support package for the benefit of the Korean construction industry, including a program to buy unsold housing units and land from construction companies. The shipbuilding industry in Korea has also experienced a severe downturn in recent years due to a significant decrease in ship orders, primarily due to adverse conditions in the global economy and the resulting slowdown in global trade. In response to the deteriorating financial condition and liquidity position of borrowers in the construction and shipbuilding industries, which were disproportionately impacted by adverse economic developments in Korea and globally, the Korean government implemented a program in 2009 to promote expedited restructuring of such borrowers by their Korean creditor financial institutions, under the supervision of major commercial banks. In accordance with such program, 24 construction companies and five shipbuilding companies became subject to workout in 2009, following review by their creditor financial institutions (including us) and the Korean government. In addition, in June 2010, the Financial Services Commission and the Financial Supervisory Service announced that, following credit risk evaluations conducted by creditor financial institutions (including us) of companies in Korea with outstanding debt of ₩50 billion or more, 65 companies had been selected by such financial institutions for restructuring in the form of workout, liquidation or court receivership. Of such 65 companies, 16 were construction companies and three were shipbuilding companies. More recently, in July 2012, the Financial

 

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Services Commission and the Financial Supervisory Service announced the results of subsequent credit risk evaluations conducted by creditor financial institutions (including us) of companies in Korea, in which 36 companies with outstanding debt of ₩50 billion or more (17 of which were construction companies and one of which was a shipbuilding company) were selected by such financial institutions for restructuring in the form of workout, liquidation or court receivership. However, there is no assurance that these measures will be successful in stabilizing the Korean construction and shipbuilding industries.

The allowances that we have established against our credit exposures to Korean construction and shipbuilding companies may not be sufficient to cover all future losses arising from these and other exposures. If the credit quality of our exposures to Korean construction and shipbuilding companies declines further, we may be required to take substantial additional provisions (including in connection with restructurings of such companies), which could adversely impact our results of operations and financial condition. Furthermore, although a portion of our credit exposures to construction and shipbuilding companies are secured by collateral, such collateral may not be sufficient to cover uncollectible amounts in respect of such credit exposures. See “—Other risks relating to our business—A decline in the value of the collateral securing our loans and our inability to realize full collateral value may adversely affect our credit portfolio.”

We also have construction-related credit exposures under our project financing loans for real estate development projects in Korea. In light of the general deterioration in the asset quality of real estate project financing loans in Korea in recent years, Korean banks, including Kookmin Bank, implemented a uniform set of guidelines regarding the evaluation of real estate development projects and asset quality classification of project financing loans for such projects in September 2010. Under these guidelines, which became effective from the third quarter of 2010, Korean banks are generally required to apply more stringent criteria in evaluating the asset quality of real estate project financing loans. As a result, we may be required to establish additional allowances with respect to our outstanding real estate project financing loans, which could adversely affect our financial condition and results of operations.

Risks relating to our financial holding company structure and strategy

We have a limited operating history as a financial holding company, and we may not succeed in implementing our strategy to take advantage of, or fail to realize the anticipated benefits of, our financial holding company structure.

We were established as a new financial holding company in September 2008 pursuant to a “comprehensive stock transfer” under Korean law, following the completion of which Kookmin Bank, KB Investment & Securities Co., Ltd., KB Asset Management Co., Ltd., KB Real Estate Trust Co., Ltd., KB Investment Co., Ltd., KB Futures Co., Ltd., KB Credit Information Co., Ltd., and KB Data Systems Co., Ltd. became our wholly-owned subsidiaries. See “Item 4.A. History and Development of the Company—The Establishment of KB Financial Group.” In addition, as a part of our strategy to promote the growth of our credit card operations and enhance its synergies with our other businesses, we effected a horizontal spin-off of Kookmin Bank’s credit card business in March 2011. As a result, our credit card business is operated by a newly established wholly-owned subsidiary, KB Kookmin Card Co., Ltd.

One of our principal strategies is to take advantage of our financial holding company structure to become a comprehensive financial services provider capable of offering a full range of products and services to our large existing base of retail and corporate banking customers. The continued implementation of these plans may require additional investments of capital, infrastructure, human resources and management attention. This strategy entails certain risks, including the possibility that we may face significant competition from other financial holding companies and more specialized financial institutions in particular segments. If our strategy does not succeed, we may incur losses on our investments and our results of operations and financial condition may suffer.

 

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Furthermore, our success under a financial holding company structure depends on our ability to realize the anticipated synergies, growth opportunities and cost savings from coordinating the businesses of our various subsidiaries. Although we are integrating certain aspects of our subsidiaries’ operations into our financial holding company structure, our subsidiaries will generally continue to operate as independent entities with separate management and staff and our ability to direct our subsidiaries’ day-to-day operations may be limited. For example, we may not be able to realize the anticipated benefits of the 2011 horizontal spin-off of the credit card business from Kookmin Bank into a new wholly-owned subsidiary, KB Kookmin Card Co., Ltd., due to various factors, including increased expenses arising from the operation of a separate credit card company, unexpected business disruptions, difficulties in reorganizing personnel and administrative functions and potential loss of customers.

In addition, one of the intended benefits of our financial holding company structure is that it enhances our ability to engage in mergers and acquisitions which we decide to pursue in the future as part of our strategy. For example, we may consider acquiring or merging with a financial institution in Korea, including one of the government-controlled financial institutions that becomes privatized in the future, or overseas. The integration of our subsidiaries’ separate businesses and operations, as well as those of any companies we may acquire or merge with in the future, under our financial holding company structure could require a significant amount of time, financial resources and management attention. Moreover, that process could disrupt our operations (including our risk management operations) or information technology systems, reduce employee morale, produce unintended inconsistencies in our standards, controls, procedures or policies, and affect our relationships with customers and our ability to retain key personnel. The realization of the anticipated benefits of our financial holding company structure and any mergers or acquisitions we decide to pursue may be blocked, delayed or reduced as a result of many factors, some of which may be outside our control. These factors include:

 

   

difficulties in integrating the diverse activities and operations of our subsidiaries or any companies we may merge with or acquire, including risk management operations and information technology systems, personnel, policies and procedures;

 

   

difficulties in reorganizing or reducing overlapping personnel, branches, networks and administrative functions;

 

   

restrictions under the Financial Holding Company Act and other regulations on transactions between a financial holding company and, or among, its subsidiaries;

 

   

unforeseen contingent risks, including lack of required capital resources, increased tax liabilities or restrictions in our overseas operations, relating to our financial holding company structure;

 

   

unexpected business disruptions;

 

   

failure to attract, develop and retain personnel with necessary expertise;

 

   

loss of customers; and

 

   

labor unrest.

Accordingly, we may not be able to realize the anticipated benefits of our financial holding company structure, and our business, results of operations and financial condition may suffer as a result.

We depend on limited forms of funding to fund our operations at the holding company level.

We are a financial holding company with no significant assets other than the shares of our subsidiaries. Our primary sources of funding and liquidity are dividends from our subsidiaries, direct borrowings and issuances of equity or debt securities at the holding company level. In addition, as a financial holding company, we are required to meet certain minimum financial ratios under Korean law, including with respect to liquidity, leverage and capital adequacy. Our ability to meet our obligations to our direct creditors and employees and our other liquidity needs and regulatory requirements at the holding company level depends on timely and adequate distributions from our subsidiaries and our ability to sell our securities or obtain credit from our lenders.

 

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The ability of our subsidiaries to pay dividends to us depends on their financial condition and operating results. In the future, our subsidiaries may enter into agreements, such as credit agreements with lenders or indentures relating to high-yield or subordinated debt instruments, that impose restrictions on their ability to make distributions to us, and the terms of future obligations and the operation of Korean law could prevent our subsidiaries from making sufficient distributions to us to allow us to make payments on our outstanding obligations. See “—As a financial holding company, we depend on receiving dividends from our subsidiaries to pay dividends on our common stock.” Any delay in receipt of or shortfall in payments to us from our subsidiaries could result in our inability to meet our liquidity needs and regulatory requirements, including minimum liquidity and capital adequacy ratios, and may disrupt our operations at the holding company level.

In addition, creditors of our subsidiaries will generally have claims that are prior to any claims of our creditors with respect to their assets. Furthermore, our inability to sell our securities or obtain funds from our lenders on favorable terms, or at all, could also result in our inability to meet our liquidity needs and regulatory requirements and may disrupt our operations at the holding company level.

As a financial holding company, we depend on receiving dividends from our subsidiaries to pay dividends on our common stock.

Since our principal assets at the holding company level are the shares of our subsidiaries, our ability to pay dividends on our common stock largely depends on dividend payments from those subsidiaries. Those dividend payments are subject to the Korean Commercial Code, the Bank Act and regulatory limitations, generally based on capital levels and retained earnings, imposed by the various regulatory agencies with authority over those entities. For example:

 

   

under the Korean Commercial Code, dividends may only be paid out of distributable income, an amount which is calculated by subtracting the aggregate amount of a company’s paid-in capital and certain mandatory legal reserves as well as certain unrealized profits from its net assets, in each case as of the end of the prior fiscal period;

 

   

under the Bank Act, a bank also must credit at least 10% of its net profit to a legal reserve each time it pays dividends on distributable income until that reserve equals the amount of its total paid-in capital; and

 

   

under the Bank Act and the requirements of the Financial Services Commission, if a bank fails to meet its required capital adequacy ratio or otherwise becomes subject to management improvement measures imposed by the Financial Services Commission, then the Financial Services Commission may restrict the declaration and payment of dividends by that bank.

Our subsidiaries may not continue to meet the applicable legal and regulatory requirements for the payment of dividends in the future. If they fail to do so, they may stop paying or reduce the amount of the dividends they pay to us, which would have an adverse effect on our ability to pay dividends on our common stock.

Although increasing our fee income is an important part of our strategy, we may not be able to do so.

We have historically relied on interest income as our primary revenue source. While we have developed new sources of fee income as part of our business strategy, our ability to increase our fee income and thereby reduce our dependence on interest income will be affected by the extent to which our customers generally accept the concept of fee-based services. Historically, customers in Korea have generally been reluctant to pay fees in return for value-added financial services, and their continued reluctance to do so will adversely affect the implementation of our strategy to increase our fee income. Furthermore, the fees that we charge to customers are subject to regulation by Korean financial regulatory authorities, which may seek to implement regulations or measures that may also have an adverse impact on our ability to achieve this aspect of our strategy.

 

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We may suffer customer attrition or our net interest margin may decrease as a result of our competition strategy.

We have been pursuing, and intend to continue to pursue, a strategy of maintaining or enhancing our margins where possible and avoid, to the extent possible, entering into price competition. In order to execute this strategy, we will need to maintain relatively low interest rates on our deposit products while charging relatively higher rates on loans. If other banks and financial institutions adopt a strategy of expanding market share through interest rate competition, we may suffer customer attrition due to rate sensitivity. In addition, we may in the future decide to compete to a greater extent based on interest rates, which could lead to a decrease in our net interest margins. Any future decline in our customer base or our net interest margins as a result of our future competition strategy could have an adverse effect on our results of operations and financial condition.

Risks relating to competition

Competition in the Korean financial industry is intense, and we may lose market share and experience declining margins as a result.

Competition in the Korean financial industry has been and is likely to remain intense. Some of the financial institutions that we compete with have longer operating histories as financial holding companies, greater financial resources or more specialized capabilities than us and our subsidiaries. In the retail and small- and medium-sized enterprise lending business, which has been our traditional core business, competition has increased significantly and is expected to increase further. Most Korean banks have been focusing on retail customers and small- and medium-sized enterprises in recent years, although they have begun to generally increase their exposure to large corporate borrowers. In addition, the profitability of our retail and credit card operations may decline as a result of growing market saturation in the retail lending and credit card segments, increased interest rate competition, pressure to lower the fee rates applicable to our credit cards (particularly merchant fee rates) and higher marketing expenses. Intense and increasing competition has made and continues to make it more difficult for us to secure retail, credit card and small- and medium-sized customers with the credit quality and on credit terms necessary to achieve our business objectives in a commercially acceptable manner.

In addition, we believe that regulatory reforms and the general modernization of business practices in Korea will lead to increased competition among financial institutions in Korea. We also believe that foreign financial institutions, many of which have greater experience and resources than we do, will seek to compete with us in providing financial products and services either by themselves or in partnership with existing Korean financial institutions. Furthermore, a number of significant mergers and acquisitions in the industry have taken place in Korea over the past decade, including the acquisition of Koram Bank by an affiliate of Citibank in 2004, Standard Chartered Bank’s acquisition of Korea First Bank in 2005, Chohung Bank’s merger with Shinhan Bank in April 2006 and Hana Financial Group’s acquisition of a controlling interest in Korea Exchange Bank in February 2012. We expect that consolidation in the financial industry will continue. In particular, the Korean government has announced that it plans to dispose of or reduce its controlling interest in Woori Finance Holdings Co., Ltd. (the financial holding company of Woori Bank), which may involve sales of its subsidiaries. Other financial institutions may seek to acquire or merge with such entities, and the financial institutions resulting from this consolidation may, by virtue of their increased size and business scope, provide significantly greater competition for us. Increased competition and continuing consolidation may lead to decreased margins, resulting in a material adverse impact on our future profitability. Accordingly our results of operations and financial condition may suffer as a result of increasing competition in the Korean financial industry.

Risks relating to our large corporate loan portfolio

We have exposure to chaebols, and, as a result, financial difficulties of chaebols may have an adverse impact on us.

Of our 20 largest corporate exposures (including loans, debt and equity securities, guarantees and acceptances and other exposures) as of December 31, 2012, ten were to companies that were members of the 34 largest chaebols

 

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in Korea designated as such by the Financial Supervisory Service based on their outstanding exposures. As of that date, the total amount of our exposures to such 34 chaebols was ₩21,130 billion, or 7.9% of our total exposures. If the credit quality of our exposures to chaebols declines, we could require substantial additional loan loss provisions, which would hurt our results of operations and financial condition. See “Item 4.B. Business Overview—Assets and Liabilities—Loan Portfolio—Exposure to Chaebols.”

We cannot assure you that the allowances we have established against these exposures will be sufficient to cover all future losses arising from these exposures. In addition, with respect to those companies that are in or in the future enter into workout or liquidation proceedings, we may not be able to make any recoveries against such companies. We may, therefore, experience future losses with respect to those loans.

We have exposure to companies that are currently or may in the future be put in restructuring, and we may suffer losses as a result of additional loan loss provisions required and/or the adoption of restructuring plans with which we do not agree.

As of December 31, 2012, our loans and guarantees to companies that were in workout, restructuring or rehabilitation amounted to ₩1,060 billion or 0.5% of our total loans and guarantees, most of which was classified as impaired. As of the same date, our allowances for credit losses on these loans and guarantees amounted to ₩669 billion, or 63.1% of these loans and guarantees. These allowances may not be sufficient to cover all future losses arising from our exposure to these companies. Furthermore, we have other exposure to such companies, in the form of debt and equity securities of such companies held by us (including equity securities we acquired as a result of debt-to-equity conversions). Our exposures as of December 31, 2012 with respect to such securities of companies in workout, restructuring or rehabilitation amounted to ₩116 billion, or less than 0.3% of our total exposures, but may increase in the future. In addition, in the case of borrowers that are or become subject to workout, we may be forced to restructure our credits pursuant to restructuring plans approved by other creditor financial institutions of the borrower, or to dispose of our credits to other creditors on unfavorable terms.

We have exposure to member companies of the Kumho Asiana Group, and financial difficulties of these companies may adversely impact us.

Several member companies of the Kumho Asiana Group, one of Korea’s largest chaebols, have been experiencing financial difficulties, including as a result of their heavily leveraged acquisition of Daewoo Engineering & Construction Co., Ltd. in 2006 and the subsequent global financial crisis commencing in the second half of 2008. In January 2010, Kumho Tires Co., Inc. and Kumho Industrial Co., Ltd. agreed with their creditors, including us, to begin an out-of-court debt restructuring program under the Corporate Restructuring Promotion Act. In addition, Kumho Petrochemical Co., Ltd. and Asiana Airlines announced that they would undergo a voluntary restructuring, in return for which their creditors, including us, agreed to a suspension of payments on the two companies’ debt until the end of 2010. These four companies are member companies of the Kumho Asiana Group. As of December 31, 2012, our aggregate loans and guarantees to Kumho Tires, Kumho Industrial, Kumho Petrochemical and Asiana Airlines amounted to ₩308 billion, none of which was classified as impaired. As of December 31, 2012, our allowances for credit losses with respect to such loans and guarantees amounted to ₩82 billion. Moreover, in 2012, we extended additional loans to Kumho Tires in the aggregate amount of approximately US$6 million to provide additional liquidity in connection with its restructuring program. In 2010, we also converted an aggregate of ₩38 billion of our loans to Kumho Tires and ₩9 billion of our loans to Kumho Industrial into equity interests in connection with their restructuring programs. Our allowances may not be sufficient to cover all future losses arising from our exposures to these companies. Furthermore, in the event that the financial condition of these companies deteriorates further in the future, we may be required to record additional provisions for credit losses, as well as charge-offs and valuation or impairment losses or losses on disposal, which may have a material adverse effect on our financial condition and results of operations.

 

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A large portion of our credit exposure is concentrated in a relatively small number of large corporate borrowers which increases the risk of our corporate credit portfolio.

As of December 31, 2012, our loans and guarantees to our 20 largest borrowers totaled ₩7,031 billion and accounted for 3.1% of our total loans and guarantees. As of that date, our single largest corporate credit exposure was to Hyundai Heavy Industries, to which we had outstanding credit exposures (most of which was in the form of guarantees and acceptances) of ₩1,547 billion, representing 0.7% of our total loans and guarantees. Any further deterioration in the financial condition of our large corporate borrowers may require us to record substantial additional provisions and may have a material adverse impact on our results of operations and financial condition.

Other risks relating to our business

Difficult conditions in the global financial markets could adversely affect our results of operations and financial condition.

While the rate of deterioration of the global economy since the commencement of the global financial crisis in 2008 has slowed, with some signs of stabilization and improvement, the overall prospects for the Korean and global economy in 2013 and beyond remain uncertain. Starting in the second half of 2011, the global financial markets have experienced significant volatility as a result of, among other things, the financial difficulties affecting many governments worldwide, in particular in Cyprus, Greece, Spain, Italy and Portugal. In addition, recent political and social instability in various countries in the Middle East and Northern Africa, including in Egypt, Libya, Syria and Yemen, have resulted in volatility and uncertainty in the global energy markets. Any of these or other developments could potentially trigger another financial and economic crisis. In light of the recent slowdown in Korea’s growth and uncertain global economic prospects, the Bank of Korea reduced its policy rate to 3.00% in July 2012 and further reduced such rate to 2.75% in October 2012 to support Korea’s economy. Furthermore, in response to China’s slowing gross domestic product growth rates that began in 2011, the Chinese government implemented stimulus measures, including a decrease in the benchmark interest rate for deposits and loans as announced by the People’s Bank of China in June 2012, but the overall impact of such stimulus measures remains uncertain. Although China’s economy began to show signs of recovery in the fourth quarter of 2012, falling real estate price levels in certain urban areas, excess liquidity and China’s investment-driven growth may lead to an economic correction. In light of the high level of interdependence of the global economy, any of the foregoing developments could have a material adverse effect on the Korean economy and financial markets, and in turn on our business, financial condition and results of operations.

We are also exposed to adverse changes and volatility in global and Korean financial markets as a result of our liabilities and assets denominated in foreign currencies and our holdings of trading and investment securities, including structured products. Since the second half of 2008, the value of the Won relative to major foreign currencies in general and the U.S. dollar in particular has fluctuated widely. See “Item 3.A. Selected Financial Data—Exchange Rates.” A depreciation of the Won will increase our cost in Won of servicing our foreign currency-denominated debt, while continued exchange rate volatility may also result in foreign exchange losses for us. Furthermore, as a result of adverse global and Korean economic conditions, there has been significant volatility in securities prices, including the stock prices of Korean and foreign companies in which we hold an interest. Such volatility has resulted in and may lead to further trading and valuation losses on our trading and investment securities portfolio as well as impairment losses on our investments accounted for under the equity method, including our noncontrolling equity stake in JSC Bank CenterCredit, a Kazakhstan bank, the initial stake in which we acquired in 2008. See “Item 4.B. Business Overview—Capital Markets Activities and International Banking—International Banking.”

Our business may be materially and adversely affected by legal claims and regulatory actions against us.

We are subject to the risk of legal claims and regulatory actions in the ordinary course of our business, which may expose us to substantial monetary damages and legal costs, injunctive relief, criminal and civil

 

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penalties and regulatory restrictions on our operations, as well as significant reputational harm. In particular, in connection with certain amendments to standard loan policy conditions for mortgage loan agreements that were instituted by the Korea Fair Trade Commission in January 2008 (which require banks to be responsible for the payment of mortgage registration expenses when issuing mortgage loans and which were upheld by the Supreme Court of Korea in August 2010), a number of Kookmin Bank’s customers have filed lawsuits in recent years seeking the return of mortgage registration expenses paid by such customers. See “Item 8A. Consolidated Statements and Other Financial Information—Legal Proceedings.” We are unable to predict the outcome of these and other lawsuits and regulatory actions, and the total amount in dispute in these actions may increase during the course of litigation. Furthermore, adverse final decisions or resolutions in such actions could encourage other parties to bring similar claims and actions against us. Accordingly, the outcome of current and future legal claims and regulatory actions, particularly those (such as the lawsuits seeking repayment of mortgage registration expenses) for which it is difficult to assess the maximum potential exposure or the ultimate adverse impact with any degree of certainty, may materially and adversely impact our business if such claims and actions are determined against us.

Our risk management system may not be effective in mitigating risk and loss.

We seek to monitor and manage our risk exposure through a group-wide risk management platform, encompassing a multi-layered risk management governance structure, reporting and monitoring systems, early warning systems, a centralized credit risk management system for our banking operations and other risk management infrastructure, using a variety of risk management strategies and techniques. See “Item 11. Quantitative and Qualitative Disclosures about Market Risk.” However, such risk management strategies and techniques employed by us and the judgments that accompany their application cannot anticipate the economic and financial outcome in all market environments, and many of our risk management strategies and techniques have a basis in historic market behavior that may limit the effectiveness of such strategies and techniques in times of significant market stress or other unforeseen circumstances. Furthermore, our risk management strategies may not be effective in a difficult or less liquid market environment, as other market participants may be attempting to use the same or similar strategies as us to deal with such market conditions. In such circumstances, it may be difficult for us to reduce our risk positions due to the activity of such other market participants.

We are generally subject to Korean corporate governance and disclosure standards, which may differ from those in other countries.

Companies in Korea, including us, are subject to corporate governance standards applicable to Korean public companies which may differ in some respects from standards applicable in other countries, including the United States. As a reporting company registered with the U.S. Securities and Exchange Commission and listed on the New York Stock Exchange, we are subject to certain corporate governance standards as mandated by the Sarbanes-Oxley Act of 2002. However, foreign private issuers, including us, are exempt from certain corporate governance requirements under the Sarbanes-Oxley Act or under the rules of the New York Stock Exchange. There may also be less publicly available information about Korean companies, such as us, than is regularly made available by public or non-public companies in other countries. Such differences in corporate governance standards and less public information could result in corporate governance practices or disclosures that are perceived as less than satisfactory by investors in certain countries.

A decline in the value of the collateral securing our loans and our inability to realize full collateral value may adversely affect our credit portfolio.

A substantial portion of our loans is secured by real estate, the values of which have fluctuated significantly in recent years. Although it is our general policy to lend up to 40% to 80% of the appraised value of collateral (except in areas of high speculation designated by the government where we generally limit our lending to between 40% to 60% of the appraised value of collateral) and to periodically re-appraise our collateral, the

 

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downturn in the real estate market in Korea in recent years has resulted in declines in the value of the collateral securing our mortgage and home equity loans. If collateral values decline further in the future, they may not be sufficient to cover uncollectible amounts in respect of our secured loans. Any future declines in the value of the real estate or other collateral securing our loans, or our inability to obtain additional collateral in the event of such declines, could result in a deterioration in our asset quality and may require us to take additional loan loss provisions.

In Korea, foreclosure on collateral generally requires a written petition to a court. An application, when made, may be subject to delays and administrative requirements that may result in a decrease in the value realized with respect to such collateral. We cannot guarantee that we will be able to realize the full value on our collateral as a result of, among other factors, delays in foreclosure proceedings and defects in the perfection of our security interest in collateral. Our failure to recover the expected value of collateral could expose us to losses.

The secondary market for corporate bonds in Korea is not fully developed, and, as a result, we may not be able to realize the full “marked-to-market” value of debt securities we hold at the time of any sale of such securities.

As of December 31, 2012, we held debt securities issued by Korean companies and financial institutions (other than those issued by government-owned or -controlled enterprises or financial institutions, which include Korea Electric Power Corporation, the Bank of Korea, Korea Development Bank, Korea Finance Corporation and Industrial Bank of Korea) with a total carrying amount of ₩17,837 billion in our trading and investment securities portfolio. The market value of these securities could decline significantly due to various factors, including future increases in interest rates or a deterioration in the financial and economic condition of any particular issuer or of Korea in general. Any of these factors individually or a combination of these factors would require us to write down the fair value of these debt securities, resulting in impairment losses. Because the secondary market for corporate bonds in Korea is not fully developed, the market value of many of these securities as reflected on our statements of financial position is determined by references to suggested prices posted by Korean rating agencies or the Korea Securities Dealers Association. These valuations, however, may differ significantly from the actual value that we could realize in the event we elect to sell these securities. As a result, we may not be able to realize the full “marked-to-market” value at the time of any such sale of these securities and thus may incur losses.

We may be required to make transfers from our general banking operations to cover shortfalls in our guaranteed trust accounts, which could have an adverse effect on our results of operations.

We manage a number of money trust accounts through Kookmin Bank, our banking subsidiary. Under Korean law, trust account assets of a bank are required to be segregated from the assets of that bank’s general banking operations. Those assets are not available to satisfy the claims of a bank’s depositors or other creditors of its general banking operations. For some of the trust accounts we manage, we have guaranteed either the principal amount of the investor’s investment or the principal and a fixed rate of interest.

If, at any time, the income from our guaranteed trust accounts is not sufficient to pay any guaranteed amount, we will have to cover the shortfall first from the special reserves maintained in these trust accounts, then from our fees from such trust accounts and finally from funds transferred from our general banking operations. As of December 31, 2012, we had ₩89 billion as special reserves in trust account assets for which we provided guarantees of principal. There was no transfer from general banking operations to cover deficiencies in guaranteed trust accounts in 2010, 2011 and 2012. However, we may be required to make transfers from our general banking operations to cover shortfalls, if any, in our guaranteed trust accounts in the future. Such transfers may adversely impact our results of operations.

 

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Our activities are subject to cybersecurity risk.

Our activities have been, and will continue to be, subject to an increasing risk of cyber attacks, the nature of which is continually evolving. Cybersecurity risks include unauthorized access to privileged and sensitive customer information, including passwords and account information of our retail and corporate customers. For example, many of our customers increasingly rely on our Internet banking services for various types of transactions and while such transactions are protected by encryption and other security programs, they are not free from security breaches. We have made substantial investments to build systems and defenses to address threats from cyber attacks and we are not aware of any significant breaches to our systems from such attacks to date. However, we may experience security breaches or unexpected disruptions in connection with our services in the future, which may result in liability to our customers and third parties and have an adverse effect on our business, reputation and results of operations.

We may experience disruptions, delays and other difficulties from our information technology systems.

We rely on our information technology systems for our daily operations including customer service, transactions, billing and record keeping. We may experience disruptions, delays or other difficulties from our information technology systems, which may have an adverse effect on our business and adversely impact our customers’ confidence in us.

Risks relating to liquidity and capital management

A considerable increase in interest rates could decrease the value of our debt securities portfolio and raise our funding costs while reducing loan demand and the repayment ability of our borrowers, which, as a result, could adversely affect us.

Interest rates in Korea have been subject to significant fluctuations in recent years. In late 2008 and early 2009, the Bank of Korea reduced its policy rate by a total of 325 basis points to support Korea’s economy amid the global financial crisis, and left such rate unchanged at 2.00% throughout 2009. In an effort to stem inflation amid improved growth prospects, the Bank of Korea gradually increased its policy rate in 2010 and 2011. However, the Bank of Korea reduced its policy rate to 3.00% in July 2012 and further reduced such rate to 2.75% in October 2012 to support Korea’s economy in light of the recent slowdown in Korea’s growth and uncertain global economic prospects. All else being equal, an increase in interest rates leads to a decline in the value of our portfolio of debt securities, which generally pay interest based on a fixed rate. A sustained increase in interest rates will also raise our funding costs, while reducing loan demand, especially among consumers. Rising interest rates may therefore require us to re-balance our asset portfolio and our liabilities in order to minimize the risk of potential mismatches and maintain our profitability.

In addition, rising interest rate levels may adversely affect the Korean economy and the financial condition of our corporate and retail borrowers, including holders of our credit cards, which in turn may lead to a deterioration in our credit portfolio. Since most of our retail and corporate loans bear interest at rates that adjust periodically based on prevailing market rates, a sustained increase in interest rate levels will increase the interest costs of our retail and corporate borrowers and could adversely affect their ability to make payments on their outstanding loans.

Our funding is highly dependent on short-term deposits, which dependence may adversely affect our operations.

We meet a significant amount of our funding requirements through short-term funding sources, which consist primarily of customer deposits. As of December 31, 2012, approximately 96.5% of our deposits had maturities of one year or less or were payable on demand. In the past, a substantial proportion of our customer deposits have been rolled over upon maturity. We cannot guarantee, however, that depositors will continue to roll over their deposits in the future. In the event that a substantial number of our short-term deposit customers withdraw their funds or fail to

 

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roll over their deposits as higher-yielding investment opportunities emerge, our liquidity position could be adversely affected. We may also be required to seek more expensive sources of short-term and long-term funding to finance our operations. See “Item 5.B. Liquidity and Capital Resources—Financial Condition—Liquidity.”

We may be required to raise additional capital if our capital adequacy ratio deteriorates or the applicable capital requirements change in the future, but we may not be able to do so on favorable terms or at all.

Under the capital adequacy requirements of the Financial Services Commission, we, as a bank holding company, are required to maintain a minimum consolidated capital adequacy ratio, which is the ratio of equity capital as a percentage of risk-weighted assets on a consolidated basis, of 8.0%. In addition, pursuant to the capital adequacy requirements of the Financial Services Commission, Kookmin Bank, our banking subsidiary, is required to maintain a minimum Tier I capital adequacy ratio of 4.0% and a combined Tier I and Tier II capital adequacy ratio of 8.0%, on a consolidated basis. Tier II capital is included in calculating the combined Tier I and Tier II capital adequacy ratio up to 100% of Tier I capital. As of December 31, 2012, our consolidated capital adequacy ratio was 13.90%, and Kookmin Bank’s Tier I capital adequacy and its combined Tier I and Tier II capital adequacy ratio was 10.87% and 14.40%, respectively, all of which exceeded the minimum levels required by the Financial Services Commission. However, our capital base and capital adequacy ratios may deteriorate in the future if our results of operations or financial condition deteriorates for any reason, including as a result of a deterioration in the asset quality of our retail loans (including credit card balances) and loans to small- and medium-sized enterprises, or if we are not able to deploy our funding into suitably low-risk assets.

In December 2009, the Basel Committee on Banking Supervision introduced a new set of measures to supplement Basel II which include, among others, a requirement for higher minimum capital, introduction of a leverage ratio as a supplementary measure to the capital adequacy ratio and flexible capital requirements for different phases of the economic cycle. Additional details regarding such new measures, including an additional capital conservation buffer and countercyclical capital buffer, liquidity coverage ratio and other supplemental measures, were announced by the Group of Governors and Heads of Supervision of the Basel Committee on Banking Supervision in September 2010. After further impact assessment and observation periods, the Basel Committee on Banking Supervision will begin phasing in the new set of measures, referred to as Basel III, starting from 2013. In September 2012, the Financial Services Commission announced its plans to implement a new set of regulations that will, among other things, require Korean banks to comply with stricter minimum capital ratio requirements beginning in 2013 and additional minimum capital conservation buffer requirements starting in 2016. Under the proposed regulations, Korean banks will be required to maintain a minimum ratio of Tier I common capital (which principally includes equity capital, capital surplus and retained earnings less reserve for credit losses) to risk-weighted assets of 3.5% and Tier I capital to risk-weighted assets of 4.5% in 2013, which minimum ratios are to increase to 4.0% and 5.5%, respectively, in 2014 and 4.5% and 6.0%, respectively, in 2015. Such requirements would be in addition to the existing requirement for a minimum ratio of Tier I and Tier II capital (less any capital deductions) to risk-weighted assets of 8.0%, which will remain unchanged. The proposed regulations also contemplate an additional capital conservation buffer of 0.625% starting in 2016, with such buffer to increase to 2.5% by 2019. In December 2012, however, the Financial Services Commission announced that the implementation of the proposed Basel III measures in Korea will be delayed pending the implementation of Basel III in the European Union, the United States and other countries. Accordingly, the timing and scope of implementation in Korea of Basel III measures remain uncertain. The implementation of Basel III in Korea may have a significant effect on the capital requirements of Korean financial institutions, including us. See “Item 5.B. Liquidity and Capital Resources—Financial Condition—Capital Adequacy.”

We may be required to obtain additional capital in the future in order to remain in compliance with more stringent capital adequacy and other regulatory requirements. However, we may not be able to obtain additional capital on favorable terms, or at all. Our ability to obtain additional capital at any time may be constrained to the extent that banks or other financial institutions in Korea or from other Asian countries are seeking to raise capital at the same time. To the extent that we fail to comply with applicable capital adequacy ratio or other regulatory requirements in the future, Korean regulatory authorities may impose penalties on us ranging from a warning to suspension or revocation of our banking license.

 

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Risks relating to government regulation and policy

The Korean government may promote lending and financial support by the Korean financial industry to certain types of borrowers as a matter of policy, which financial institutions, including us, may decide to follow.

Through its policies and recommendations, the Korean government has promoted and, as a matter of policy, may continue to attempt to promote lending by the Korean financial industry to particular types of borrowers. For example, the Korean government has in the past provided and may continue to provide policy loans, which encourage lending to particular types of borrowers. It has generally done this by identifying sectors of the economy it wishes to promote and making low-interest funding available to financial institutions that may voluntarily choose to lend to these sectors. The government has in this manner provided policy loans intended to promote mortgage lending to low-income individuals and lending to small- and medium-sized enterprises. All loans or credits we choose to make pursuant to these policy loans would be subject to review in accordance with our credit approval procedures. However, the availability of policy loans may influence us to lend to certain sectors or in a manner in which we otherwise would not in the absence of such loans from the government.

In the past, the Korean government has also announced policies under which financial institutions in Korea are encouraged to provide financial support to particular sectors. For example, in light of the deteriorating financial condition and liquidity position of small- and medium-sized enterprises in Korea as a result of the global financial crisis commencing in the second half of 2008 and adverse conditions in the Korean economy affecting consumers, the Korean government introduced measures intended to encourage Korean banks to provide financial support to small- and medium-sized enterprise and retail borrowers. See “—Risks relating to our retail credit portfolio—Future changes in market conditions as well as other factors may lead to increases in delinquency levels of our retail loan portfolio.” The Korean government may in the future request financial institutions in Korea, including us, to make investments in or provide other forms of financial support to particular sectors of the Korean economy as a matter of policy, which financial institutions, including us, may decide to accept. We may incur costs or losses as a result of providing such financial support.

The Financial Services Commission may impose burdensome measures on us if it deems us or one of our subsidiaries to be financially unsound.

If the Financial Services Commission deems our financial condition or the financial condition of our subsidiaries to be unsound, or if we or our subsidiaries fail to meet applicable regulatory standards, such as minimum capital adequacy and liquidity ratios, the Financial Services Commission may order or recommend, among other things:

 

   

capital increases or reductions;

 

   

stock cancellations or consolidations;

 

   

transfers of business;

 

   

sales of assets;

 

   

closures of subsidiaries or branch offices;

 

   

mergers with other financial institutions; and

 

   

suspensions of a part or all of our business operations.

If any of these measures are imposed on us by the Financial Services Commission, they could hurt our business, results of operations and financial condition. In addition, if the Financial Services Commission orders us to partially or completely reduce our capital, you may lose part or all of your investment.

 

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Risks relating to Korea

Escalations in tensions with North Korea could have an adverse effect on us and the market price of our ADSs.

Relations between Korea and North Korea have been tense throughout Korea’s modern history. The level of tension between the two Koreas has fluctuated and may increase abruptly as a result of future events. In particular, since the death of Kim Jong-il in December 2011, there has been increased uncertainty with respect to the future of North Korea’s political leadership and concern regarding its implications for political and economic stability in the region. Although Kim Jong-il’s third son, Kim Jong-eun, has assumed power as his father’s designated successor, the long-term outcome of such leadership transition remains uncertain.

In addition, there have been heightened security concerns in recent years stemming from North Korea’s nuclear weapon and long-range missile programs as well as its hostile military actions against Korea. Some of the significant incidents in recent years include the following:

 

   

In late March 2013, North Korea stated that it had entered “a state of war” with Korea, declaring the 1953 armistice invalid, and put its artillery at the highest level of combat readiness to protest the Korea-United States allies’ military drills and additional sanctions imposed on North Korea for its missile and nuclear tests.

 

   

North Korea renounced its obligations under the Nuclear Non-Proliferation Treaty in January 2003 and conducted three rounds of nuclear tests between October 2006 to February 2013, which increased tensions in the region and elicited strong objections worldwide. In response, the United Nations Security Council unanimously passed resolutions that condemned North Korea for the nuclear tests and expanded sanctions against North Korea, most recently in March 2013.

 

   

In December 2012, North Korea launched a satellite into orbit using a long-range rocket, despite concerns in the international community that such a launch would be in violation of the agreement with the United States as well as United Nations Security Council resolutions that prohibit North Korea from conducting launches that use ballistic missile technology.

 

   

In March 2010, a Korean naval vessel was destroyed by an underwater explosion, killing many of the crewmen on board. The Korean government formally accused North Korea of causing the sinking, while North Korea denied responsibility. Moreover, in November 2010, North Korea fired more than one hundred artillery shells that hit Korea’s Yeonpyeong Island near the Northern Limit Line, which acts as the de facto maritime boundary between Korea and North Korea on the west coast of the Korean peninsula, causing casualties and significant property damage. The Korean government condemned North Korea for the attack and vowed stern retaliation should there be further provocation.

North Korea’s economy also faces severe challenges. For example, in November 2009, the North Korean government redenominated its currency at a ratio of 100 to 1 as part of a currency reform undertaken in an attempt to control inflation and reduce income gaps. In tandem with the currency redenomination, the North Korean government banned the use or possession of foreign currency by its residents and closed down privately run markets, which led to severe inflation and food shortages. Such developments may further aggravate social and political tensions within North Korea. There can be no assurance that the level of tension on the Korean peninsula will not escalate in the future. Any further increase in tensions, which may occur, for example, if North Korea experiences a leadership crisis, high-level contacts between Korea and North Korea break down or military hostilities occur, could have a material adverse effect on the Korean economy and on our business, financial condition and results of operations and the market value of our common stock and ADSs.

 

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Unfavorable financial and economic developments in Korea may have an adverse effect on us.

We are incorporated in Korea, and substantially all of our operations are located in Korea. As a result, we are subject to political, economic, legal and regulatory risks specific to Korea. The economic indicators in Korea in recent years have shown mixed signs of growth and uncertainty, and future growth of the economy is subject to many factors beyond our control.

In recent years, adverse conditions and volatility in the worldwide financial markets, fluctuations in oil and commodity prices and the general weakness of the U.S. and global economy have contributed to the uncertainty of global economic prospects in general and have adversely affected, and may continue to adversely affect, the Korean economy. See “Other risks relating to our business—Difficult conditions in the global financial markets could adversely affect our results of operations and financial condition.” Since the second half of 2008, the value of the Won relative to major foreign currencies in general and the U.S. dollar in particular has fluctuated widely. See “Item 3.A. Selected Financial Data—Exchange Rates.” Furthermore, as a result of adverse global and Korean economic conditions, there has been significant volatility in the stock prices of Korean companies in recent years, particularly in light of the financial difficulties affecting many governments worldwide, including Cyprus, Greece, Spain, Italy and Portugal. Future declines in the Korea Composite Stock Price Index (known as the “KOSPI”) and large amounts of sales of Korean securities by foreign investors and subsequent repatriation of the proceeds of such sales may adversely affect the value of the Won, the foreign currency reserves held by financial institutions in Korea, and the ability of Korean companies to raise capital. Any future deterioration of the Korean or global economy could adversely affect our business, financial condition and results of operations.

Developments that could hurt Korea’s economy in the future include:

 

   

difficulties in the financial sectors in Europe and elsewhere and increased sovereign default risks in select countries and the resulting adverse effects on the global financial markets;

 

   

adverse changes or volatility in foreign currency reserve levels, commodity prices (including oil prices), exchange rates (including fluctuation of the U.S. dollar, the euro or the Japanese yen exchange rates or revaluation of the Chinese renminbi), interest rates, inflation rates or stock markets;

 

   

continuing adverse conditions in the economies of countries and regions that are important export markets for Korea, such as the United States, Europe, Japan and China, or in emerging market economies in Asia or elsewhere;

 

   

further decreases in the market prices of Korean real estate;

 

   

increasing delinquencies and credit defaults by retail or small- and medium-sized enterprise borrowers;

 

   

declines in consumer confidence and a slowdown in consumer spending;

 

   

increasing levels of household debt;

 

   

difficulties in the financial sector in Korea, including the savings bank sector;

 

   

the continued emergence of the Chinese economy, to the extent its benefits (such as increased exports to China) are outweighed by its costs (such as competition in export markets or for foreign investment and the relocation of the manufacturing base from Korea to China);

 

   

social and labor unrest;

 

   

a decrease in tax revenues and a substantial increase in the Korean government’s expenditures for fiscal stimulus measures, unemployment compensation and other economic and social programs that, together, would lead to an increased government budget deficit;

 

   

financial problems or lack of progress in the restructuring of chaebols, other large troubled companies, their suppliers or the financial sector;

 

   

loss of investor confidence arising from corporate accounting irregularities and corporate governance issues concerning certain chaebols;

 

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increases in social expenditures to support an aging population in Korea or decreases in economic productivity due to the declining population size in Korea;

 

   

the economic impact of any pending or future free trade agreements;

 

   

geo-political uncertainty and risk of further attacks by terrorist groups around the world;

 

   

natural disasters that have a significant adverse economic or other impact on Korea or its major trading partners;

 

   

the occurrence of severe health epidemics in Korea or other parts of the world;

 

   

deterioration in economic or diplomatic relations between Korea and its trading partners or allies, including deterioration resulting from territorial or trade disputes or disagreements in foreign policy;

 

   

political uncertainty or increasing strife among or within political parties in Korea;

 

   

hostilities or political or social tensions involving oil producing countries in the Middle East and North Africa and any material disruption in the global supply of oil or increase in the price of oil;

 

   

an increase in the level of tensions or an outbreak of hostilities between North Korea and Korea or the United States; and

 

   

changes in financial regulations in Korea.

Labor unrest in Korea may adversely affect our operations.

Economic difficulties in Korea or increases in corporate reorganizations and bankruptcies could result in layoffs and higher unemployment. Such developments could lead to social unrest and substantially increase government expenditures for unemployment compensation and other costs for social programs. According to statistics from the Korea National Statistical Office, the unemployment rate was 3.7% in 2010, decreased to 3.4% in 2011 and further decreased to 3.2% in 2012. Future increases in unemployment and any resulting labor unrest in the future could adversely affect our operations, as well as the operations of many of our customers and their ability to repay their loans, and could adversely affect the financial condition of Korean companies in general, depressing the price of their securities. These developments would likely have an adverse effect on our financial condition and results of operations.

Risks relating to our common stock and ADSs

We or our major stockholders may sell shares of our common stock or ADSs in the future, and these and other sales may adversely affect the market price of our common stock and ADSs and may dilute your investment and relative ownership in us.

In September 2009, we issued 30,000,000 new shares of our common stock (including 2,775,585 new shares in the form of ADSs) at a subscription price of ₩37,250 per share (and US$29.95 per ADS), pursuant to a rights offering to our existing shareholders. In July 2011, Kookmin Bank, our wholly-owned subsidiary, sold 34,966,962 shares of our common stock in a block sale. We have no current plans for any subsequent public offerings of our common stock, ADSs or securities exchangeable for or convertible into such securities. However, it is possible that we may decide to offer or sell such securities in the future. In February 2013, ING Bank N.V., one of our major stockholders that held 5.02% of our total issued common stock as of December 31, 2012, sold its entire stake in our company in a block sale. In addition, our major stockholder, the Korean National Pension Service, held approximately 8.58% of our total issued common stock as of December 31, 2012, which it may sell at any time.

Any future offerings or sales by us of our common stock or ADSs or securities exchangeable for or convertible into such securities, significant sales of our common stock by a major stockholder, or the public

 

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perception that an offering or sales may occur, could have an adverse effect on the market price of our common stock and ADSs. Furthermore, any offerings by us in the future of any such securities could have a dilutive impact on your investment and relative ownership interest in us.

Ownership of our common stock is restricted under Korean law.

Under the Financial Holding Company Act, a single stockholder, together with its affiliates, is generally prohibited from owning more than 10.0% of the issued and outstanding shares of voting stock of a bank holding company such as us that controls a nationwide bank, with the exception of certain stockholders that are non-financial business group companies, whose applicable limit is 9.0%. To the extent that the total number of shares of our common stock (including those represented by ADSs) that a holder and its affiliates own together exceeds the applicable limits, that holder will not be entitled to exercise the voting rights for the excess shares, and the Financial Services Commission may order that holder to dispose of the excess shares within a period of up to six months. Non-financial business group companies are required to obtain approval from the Financial Services Commission in order to (i) become the largest shareholder of a bank holding company or (ii) acquire 4% or more of the issued and outstanding shares of voting stock of a bank holding company and participate in the management of such company in the manner prescribed in the Enforcement Decree of the Financial Holding Company Act. If non-financial business group companies hold voting stock of a bank holding company in excess of the foregoing limits as a result of unavoidable circumstances, such as sales by other stockholders’ of their shareholding, such non-financial business group companies are required to obtain approval from the Financial Services Commission to hold the portion of shares that exceeds the limit, dispose of such portion or take measures so that they no longer fall under the definition of “non-financial business group companies” under the Financial Holding Company Act. Non-compliance with such requirement will prohibit non-financial business group companies from exercising their voting rights of the shares that exceed the limit and prompt the issuance of an order by the Financial Services Commission directing such non-financial business group companies to dispose of their shares that exceed the limit. Failure to comply with such an order would result in an administrative fine of up to 0.03% of the carrying amount of such shares per day until the date of disposal. See “Item 4.B. Business Overview—Supervision and Regulation—Principal Regulations Applicable to Financial Holding Companies—Restrictions on Ownership of a Financial Holding Company.”

A holder of our ADSs may not be able to exercise dissent and appraisal rights unless it has withdrawn the underlying shares of our common stock and become our direct stockholder.

In some limited circumstances, including the transfer of the whole or any significant part of our business and the merger or consolidation of us with another company, dissenting stockholders have the right to require us to purchase their shares under Korean law. However, holders of our ADSs will not be able to exercise such dissent and appraisal rights if the depositary refuses to do so on their behalf. Our deposit agreement does not require the depositary to take any action in respect of exercising dissent and appraisal rights. In such a situation, holders of our ADSs must withdraw the underlying common stock from the ADS facility (and incur charges relating to that withdrawal) and become our direct stockholder prior to the record date of the stockholders’ meeting at which the relevant transaction is to be approved, in order to exercise dissent and appraisal rights.

A holder of our ADSs may be limited in its ability to deposit or withdraw common stock.

Under the terms of our deposit agreement, holders of common stock may deposit such stock with the depositary’s custodian in Korea and obtain ADSs, and holders of ADSs may surrender ADSs to the depositary and receive common stock. However, to the extent that a deposit of common stock exceeds the difference between:

 

  (1) the aggregate number of common shares we have deposited or we have consented to allow to be deposited for the issuance of ADSs (including deposits in connection with offerings of ADSs and stock dividends or other distributions relating to ADSs); and

 

  (2) the number of shares of common stock on deposit with the custodian for the benefit of the depositary at the time of such proposed deposit,

 

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such common stock will not be accepted for deposit unless

 

  (A) our consent with respect to such deposit has been obtained; or

 

  (B) such consent is no longer required under Korean laws and regulations.

Under the terms of the deposit agreement, no consent is required if the shares of common stock are obtained through a dividend, free distribution, rights offering or reclassification of such stock. We have consented, under the terms of the deposit agreement, to any deposit to the extent that, after the deposit, the number of deposited shares does not exceed such number of shares as we determine from time to time (which number shall at no time be less than 100,000,000 shares), unless the deposit would be prohibited by applicable laws or violate our articles of incorporation. We might not consent to the deposit of any additional common stock. As a result, if a holder surrenders ADSs and withdraws common stock, it may not be able to deposit the stock again to obtain ADSs.

A holder of our ADSs will not have preemptive rights in some circumstances.

The Korean Commercial Code of 1962, as amended, and our articles of incorporation require us, with some exceptions, to offer stockholders the right to subscribe for new shares of our common stock in proportion to their existing shareholding ratio whenever new shares are issued. If we offer any rights to subscribe for additional shares of our common stock or any rights of any other nature, the depositary, after consultation with us, may make the rights available to holders of our ADSs or use reasonable efforts to dispose of the rights on behalf of such holders and make the net proceeds available to such holders. The depositary, however, is not required to make available to holders any rights to purchase any additional shares of our common stock unless it deems that doing so is lawful and feasible and:

 

   

a registration statement filed by us under the U.S. Securities Act of 1933, as amended, is in effect with respect to those shares; or

 

   

the offering and sale of those shares is exempt from or is not subject to the registration requirements of the Securities Act.

Similarly, holders of our common stock located in the United States may not exercise any such rights they receive absent registration or an exemption from the registration requirements under the Securities Act.

We are under no obligation to file any registration statement with the U.S. Securities and Exchange Commission or to endeavor to cause such a registration statement to be declared effective. Moreover, we may not be able to establish an exemption from registration under the Securities Act. Accordingly, a holder of our ADSs may be unable to participate in our rights offerings and may experience dilution in its holdings. If a registration statement is required for a holder of our ADSs to exercise preemptive rights but is not filed by us or is not declared effective, the holder will not be able to exercise its preemptive rights for additional ADSs and it will suffer dilution of its equity interest in us. If the depositary is unable to sell rights that are not exercised or not distributed or if the sale is not lawful or feasible, it will allow the rights to lapse, in which case the holder will receive no value for these rights.

Dividend payments and the amount a holder of our ADSs may realize upon a sale of its ADSs will be affected by fluctuations in the exchange rate between the U.S. dollar and the Won.

Our common stock is listed on the KRX KOSPI Market and quoted and traded in Won. Cash dividends, if any, in respect of the shares represented by the ADSs will be paid to the depositary in Won and then converted by the depositary into U.S. dollars, subject to certain conditions. Accordingly, fluctuations in the exchange rate between the Won and the U.S. dollar will affect, among other things, the amounts a holder of our ADSs will receive from the depositary in respect of dividends, the U.S. dollar value of the proceeds that it would receive upon sale in Korea of the shares of our common stock obtained upon surrender of ADSs and the secondary market price of ADSs. Such fluctuations will also affect the U.S. dollar value of dividends and sales proceeds received by holders of our common stock.

 

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The market value of an investment in our ADSs may fluctuate due to the volatility of the Korean securities market.

Our common stock is listed on the KRX KOSPI Market, which has a smaller market capitalization and is more volatile than the securities markets in the United States and many European countries. The market value of ADSs may fluctuate in response to the fluctuation of the trading price of shares of our common stock on the KRX KOSPI Market. The KRX KOSPI Market has experienced substantial fluctuations in the prices and volumes of sales of listed securities and the KRX KOSPI Market has prescribed a fixed range in which share prices are permitted to move on a daily basis. The KOSPI declined from 1,897.1 on December 31, 2007 to 938.8 on October 24, 2008. The KOSPI was 1,944.6 on April 26, 2013. There is no guarantee that the stock prices of Korean companies will not decline again in the future. Like other securities markets, including those in developed markets, the Korean securities market has experienced problems including market manipulation, insider trading and settlement failures. The recurrence of these or similar problems could have a material adverse effect on the market price and liquidity of the securities of Korean companies, including our common stock and ADSs, in both the domestic and the international markets.

The Korean government has the potential ability to exert substantial influence over many aspects of the private sector business community, and in the past has exerted that influence from time to time. For example, the Korean government has promoted mergers to reduce what it considers excess capacity in a particular industry and has also encouraged private companies to publicly offer their securities. Similar actions in the future could have the effect of depressing or boosting the Korean securities market, whether or not intended to do so. Accordingly, actions by the government, or the perception that such actions are taking place, may take place or has ceased, may cause sudden movements in the market prices of the securities of Korean companies in the future, which may affect the market price and liquidity of our common stock and ADSs.

If the Korean government deems that emergency circumstances are likely to occur, it may restrict holders of our ADSs and the depositary from converting and remitting dividends and other amounts in U.S. dollars.

If the Korean government deems that certain emergency circumstances, including, but not limited to, severe and sudden changes in domestic or overseas economic circumstances, extreme difficulty in stabilizing the balance of payments or implementing currency exchange rate and other macroeconomic policies, have occurred or are likely to occur, it may impose certain restrictions provided for under the Foreign Exchange Transaction Law, including the suspension of payments or requiring prior approval from governmental authorities for any transaction. See “Item 10.D. Exchange Controls—General.”

A holder of our ADSs may not be able to enforce a judgment of a foreign court against us.

We are a corporation with limited liability organized under the laws of Korea. Substantially all of our directors and officers and other persons named in this document reside in Korea, and all or a significant portion of the assets of our directors and officers and other persons named in this document and substantially all of our assets are located in Korea. As a result, it may not be possible for holders of our ADSs to effect service of process within the United States, or to enforce against them or us in the United States judgments obtained in United States courts based on the civil liability provisions of the federal securities laws of the United States. There is doubt as to the enforceability in Korea, either in original actions or in actions for enforcement of judgments of United States courts, of civil liabilities predicated on the United States federal securities laws.

 

Item 4. INFORMATION ON THE COMPANY

Item 4.A.    History and Development of the Company

Overview

We were established as a new financial holding company on September 29, 2008 pursuant to a “comprehensive stock transfer” under Korean law, whereby holders of the common stock of Kookmin Bank and

 

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certain of its subsidiaries transferred all of their shares to us in return for shares of our common stock. We were established pursuant to the Financial Holding Company Act, which was enacted in October 2000 and which, together with associated regulations and a related presidential decree, has enabled banks and other financial institutions, including insurance companies, investment trust companies, credit card companies and securities companies, to be organized and managed under the auspices of a single financial holding company.

Our legal and commercial name is KB Financial Group Inc. Our registered office and principal executive offices are located at 9-1, 2-ga, Namdaemoon-ro, Jung-gu, Seoul, Korea 100-703. Our telephone number is 822-2073-7114. Our agent in the United States, Kookmin Bank, New York Branch, is located at 565 Fifth Avenue, 24th Floor, New York, NY 10017. Its telephone number is (212) 697-6100.

History of the Former Kookmin Bank

The former Kookmin Bank was established by the Korean government in 1963 under its original name of Citizens National Bank under the Citizens National Bank Act of Korea with majority government ownership. Under this Act, we were limited to providing banking services to the general public and to small- and medium-sized enterprises. In September 1994, we completed our initial public offering in Korea and listed our shares on the KRX KOSPI Market.

In January 1995, the Citizens National Bank Act of Korea was repealed and replaced by the Repeal Act of the Citizens National Bank Act. Our status was changed from a specialized bank to a nationwide commercial bank and in February 1995, we changed our name to Kookmin Bank. The Repeal Act allowed us to engage in lending to large businesses.

History of H&CB

H&CB was established by the Korean government in 1967 under the name Korea Housing Finance Corporation. In 1969, Korea Housing Finance Corporation became the Korea Housing Bank pursuant to the Korea Housing Bank Act. H&CB was originally established to provide low and middle income households with long-term, low-interest mortgages in order to help them purchase their own homes, and to promote the increase of housing supply in Korea by providing low-interest housing loans to construction companies. Under the Korea Housing Bank Act, up to 20% of H&CB’s lending (excluding lending pursuant to government programs) could be non-mortgage lending. Until 1997 when the Korea Housing Bank Act was repealed, H&CB was the only entity in Korea allowed to provide mortgage loans with a term of longer than ten years. H&CB also had the exclusive ability to offer housing-related deposit accounts offering preferential rights to subscribe for newly-built apartments.

In July 1999, H&CB entered into an investment agreement with certain affiliates of the ING Groep N.V., a leading global financial services group. Through ING Insurance International B.V. and ING International Financial Holdings, ING Groep N.V. invested ₩332 billion to acquire 9,914,777 new common shares of H&CB representing 9.99999% of H&CB’s outstanding common shares. As of December 31, 2012, ING Groep N.V. beneficially owned, through its consolidated subsidiary ING Bank N.V., 5.02% of our issued common stock. In February 2013, ING Bank N.V. sold all of its stake in our company in a block trade. For more details regarding our relationship with ING Groep N.V., see “Item 7.B. Related Party Transactions” and “Item 10.C. Material Contracts.”

The Merger of the Former Kookmin Bank and H&CB

Effective November 1, 2001, the former Kookmin Bank and H&CB merged into a new entity named Kookmin Bank. This merger resulted in Kookmin Bank becoming the largest commercial bank in Korea. Kookmin Bank’s ADSs were listed on the New York Stock Exchange on November 1, 2001 and its common shares were listed on the KRX KOSPI Market on November 9, 2001. As of October 31, 2001, H&CB’s total

 

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assets were ₩67,399 billion, its total deposits were ₩51,456 billion, its total liabilities were ₩64,537 billion and it had stockholders’ equity of ₩2,849 billion. As required by U.S. GAAP, we recognized H&CB’s total assets and liabilities at their estimated fair values of ₩68,329 billion and ₩64,840 billion, respectively. These amounts reflect the recognition of ₩562 billion of negative goodwill, which was allocated to the fixed assets, core deposit intangible assets and credit card relationship intangible assets assumed.

The Establishment of KB Financial Group

We were established on September 29, 2008 pursuant to a “comprehensive stock transfer” under Article 360-15 of the Korean Commercial Code, whereby holders of the common stock of Kookmin Bank and certain of its subsidiaries transferred all of their shares to us, a new financial holding company, and in return received shares of our common stock. In the stock transfer, each holder of one share of Kookmin Bank common stock received one share of our common stock, par value ₩5,000 per share. Holders of Kookmin Bank ADSs and global depositary shares, each of which represented one share of Kookmin Bank common stock, received one of our ADSs for every ADS or global depositary share they owned. In addition, holders of the common stock of KB Investment & Securities Co., Ltd., KB Asset Management Co., Ltd., KB Real Estate Trust Co., Ltd., KB Investment Co., Ltd., KB Futures Co., Ltd., KB Credit Information Co., Ltd., and KB Data Systems Co., Ltd., all of which were Kookmin Bank’s subsidiaries, transferred all of their shares to us and, as consideration for such transferred shares, received shares of our common stock in accordance with the specified stock transfer ratio applicable to each such subsidiary. Following the completion of the stock transfer, Kookmin Bank, KB Investment & Securities Co., Ltd., KB Asset Management Co., Ltd., KB Real Estate Trust Co., Ltd., KB Investment Co., Ltd., KB Futures Co., Ltd., KB Credit Information Co., Ltd., and KB Data Systems Co., Ltd. became our wholly-owned subsidiaries. The stock transfer was accounted for under U.S. GAAP as a transaction between entities under common control and, with respect to the transfer by noncontrolling stockholders of Kookmin Bank’s subsidiaries included in the stock transfer, the acquisition by us of such noncontrolling interests of such subsidiaries was accounted for using the purchase method.

The following chart illustrates the organizational structure of Kookmin Bank prior to the completion of the stock transfer:

 

LOGO

 

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The following chart illustrates our organizational structure after the completion of the stock transfer:

 

LOGO

The purpose of the stock transfer and our establishment as a financial holding company was to reorganize the different businesses of Kookmin Bank and its subsidiaries under a holding company structure, the adoption of which we believe will:

 

   

assist us in creating an integrated system that facilitates the sharing of customer information and the development of integrated products and services by the different businesses within our subsidiaries;

 

   

assist us in expanding our business scope to include new types of business with higher profit margins;

 

   

enhance our ability to pursue strategic investments or reorganizations by way of mergers, acquisitions, spin-offs or other means;

 

   

maximize our management efficiency; and

 

   

further enhance our capacity to expand our overseas operations.

Following the stock transfer, our common stock was listed on the KRX KOSPI Market on October 10, 2008 and our ADSs were listed on the New York Stock Exchange on September 29, 2008.

In connection with the stock transfer, Kookmin Bank common stockholders who opposed the stock transfer were entitled to exercise appraisal rights and require Kookmin Bank to repurchase their shares in the event the stock transfer was completed. The purchase price for shares in respect of which appraisal rights were exercised was set at ₩63,293 per share. Kookmin Bank repurchased 38,263,249 shares of its common stock as a result of the exercise of appraisal rights by dissenting stockholders. In addition, prior to the stock transfer, Kookmin Bank executed a share buy back program, pursuant to which it repurchased 16,840,000 shares of its common stock. Accordingly, as a result of the transfer by Kookmin Bank of such treasury shares and the shares it held in its subsidiaries to us, Kookmin Bank received 73,607,601 shares of our common stock in the stock transfer, all of which it subsequently sold.

Item 4.B.    Business Overview

Business

We are one of the largest financial holding companies in Korea, in terms of consolidated total assets, and our operations include Kookmin Bank, the largest commercial bank in Korea in terms of total assets (including loans). Our subsidiaries collectively engage in a broad range of businesses, including commercial banking, credit

 

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cards, asset management, life insurance, capital markets activities and international banking. As of December 31, 2012, we had consolidated total assets of ₩282 trillion, consolidated total deposits of ₩194 trillion and consolidated stockholders’ equity of ₩25 trillion.

We were established as a financial holding company in September 2008, pursuant to a “comprehensive stock transfer” under Korean law. See “Item 4.A. History and Development of the Company—The Establishment of KB Financial Group.”

On the asset side, we provide credit and related financial services to individuals and small- and medium-sized enterprises and, to a lesser extent, to large corporate customers. On the deposit side, we provide a full range of deposit products and related services to both individuals and enterprises of all sizes. We provide these services predominantly through Kookmin Bank.

By their nature, our core consumer and small- and medium-sized enterprise operations place a high premium on customer access and convenience. Our combined banking network of 1,193 branches as of December 31, 2012, one of the most extensive in Korea, provides a solid foundation for our business and is a major source of our competitive strength. This network provides us with a large, stable and cost effective funding source, enables us to provide our customers convenient access and gives us the ability to provide the customer attention and service essential to conducting our business, particularly in an increasingly competitive environment. Our branch network is further enhanced by automated banking machines and fixed-line, mobile telephone and Internet banking. As of December 31, 2012, we had a customer base of approximately 29.5 million retail customers, which represented over one-half of the Korean population.

The following table sets forth the principal components of our lending business as of the dates indicated. As of December 31, 2012, retail loans and credit card loans and receivables accounted for 53.3% of our total loan portfolio:

 

     As of December 31,  
     2010     2011     2012  
     (in billions of Won, except percentages)  

Retail

               

Mortgage and home equity (1)

   71,715         35.7   75,580         35.1   74,460         34.5

Other consumer (2)

     27,281         13.5        28,275         13.1        28,804         13.3   
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total retail

     98,996         49.2        103,855         48.2        103,264         47.8   
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Credit card

     12,413         6.2        12,421         5.8        11,874         5.5   

Corporate

     88,275         43.8        97,239         45.1        98,922         45.8   

Foreign

     1,693         0.8        2,040         0.9        1,925         0.9   
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total loans

   201,377         100.0   215,555         100.0   215,985         100.0
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

 

(1) 

Includes ₩1,022 billion, ₩991 billion and ₩942 billion of overdraft loans secured by real estate in connection with home equity loans as of December 31, 2010, 2011 and 2012, respectively.

(2) 

Includes ₩8,603 billion, ₩8,622 billion and ₩7,978 billion of overdraft loans as of December 31, 2010, 2011 and 2012, respectively.

We provide a full range of personal lending products and retail banking services to individual customers, including mortgage loans. We are the largest private sector mortgage lender in Korea.

Lending to small- and medium-sized enterprises is the single largest component of our non-retail credit portfolio and represents a widely diversified exposure to a broad spectrum of the Korean corporate community, both by type of lending and type of customer, with one of the categories being collateralized loans to SOHO customers that are among the smallest of the small- and medium-sized enterprises. The volume of our loans to small- and medium-sized enterprises requires a customer-oriented approach that is facilitated by our large and geographically diverse branch network.

 

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With respect to large corporate customers, we continue to seek to maintain and expand quality relationships by providing them with an increasing range of fee-related services.

Since the former Kookmin Bank initiated the issuance of domestic credit cards in 1980, we have seen our credit card business grow rapidly over the past decade as the nationwide trend towards credit card use accelerated. In March 2011, we effected a horizontal spin-off of the credit card business from Kookmin Bank. As a result, our credit card business is operated by a newly established wholly-owned subsidiary, KB Kookmin Card Co., Ltd. As of December 31, 2012, we had approximately 10.5 million holders of KB Kookmin Card.

Strategy

Our strategic focus is to become a world-class financial group that ranks among the leaders of the financial industry in Asia and globally. We plan to continue to solidify our market position as Korea’s leading bank, enhance our ability to provide comprehensive financial services to our retail and corporate customers and strengthen our overseas operating platform and network. We believe our strong market position in the commercial banking area in Korea is an important competitive advantage, which will enable us to compete more effectively based on convenient delivery, product breadth and differentiation, and service quality while focusing on our profitability.

The key elements of our strategy are as follows:

Providing comprehensive financial services and maximizing synergies among our subsidiaries through our financial holding company structure

We believe the Korean financial services market has been undergoing and will continue to undergo significant change, resulting from, among other things, fluctuations in the Korean and global economy and the evolving social landscape in Korea, including the acceleration of population aging in Korea, the prevalence of smartphone usage, developments in digital and mobile technologies and the ensuing trend toward high-tech “smart banking” in the banking sector. In the context of such changes, we plan to become a comprehensive financial services provider capable of offering a full range of products and services to our large existing base of retail and corporate banking customers, as well as a global firm that can effectively compete with leading international financial institutions. To that end, we are continuing to implement specific initiatives including the enhancement of our group-wide integrated customer relationship management system to facilitate the sharing of customer information and the integration of various customer loyalty programs among our subsidiaries.

We believe our financial holding company structure gives us a competitive advantage over commercial banks and unaffiliated financial services providers by:

 

   

allowing us to offer a more extensive range of financial products and services;

 

   

enabling us to share customer information, which is not permitted outside a financial holding company structure, thereby enhancing our risk management and cross-selling capabilities;

 

   

enhancing our ability to reduce costs in areas such as back-office processing and procurement; and

 

   

enabling us to raise and manage capital on a centralized basis.

Identifying, targeting and marketing to attractive customer segments and providing superior customer value and service to such segments

In recent years, rather than focusing on developing products and services to satisfy the overall needs of the general population, we have increasingly targeted specific market segments in Korea that we expect to generate superior growth and profitability. We will continue to implement a targeted marketing approach that seeks to identify the most attractive customer segments and to develop strategies to build market share in those segments. In particular, we intend to increase our “wallet share” of superior existing customers by using our advanced

 

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customer relationship management technology to better identify and meet the needs of our most creditworthy and high net worth customers, on whom we intend to concentrate our marketing efforts. For example, as part of this strategy, we operate a “priority customer” program called KB Star Club through four of our subsidiaries: Kookmin Bank, KB Investment & Securities, KB Life Insurance and KB Kookmin Card. We select and classify KB Star Club customers based on their transaction history with the four subsidiaries and provide such customers with preferential treatment in various areas, including interest rates and transaction fees, depending upon how they are classified. We also provide private banking services, including personal wealth management services through our exclusive brand “Gold & Wise,” to increase our share of the priority customer market and in turn increase our profitability and strengthen our position in retail banking.

We are also focusing on attracting and retaining creditworthy customers by offering more differentiated fee-based products and services that are tailored to meet their specific needs. The development and marketing of our products and services are, in part, driven by customer segmentation to ensure we meet the needs of each customer segment. For instance, we continue to develop hybrid financial products with enhanced features, including various deposit products and investment products, for which consumer demand has increased in recent years. We are also focusing on addressing the needs of our customers by providing the highest-quality products and services and developing an open-architecture strategy, which allows us to sell such products through one of the largest branch networks in Korea. In short, we aim to offer our customers a convenient one-stop financial services destination where they can meet their traditional retail and corporate banking requirements, as well as find a broad array of fee-based products and services tailored to address more specific financial needs, including in investment banking, insurance and wealth management. We believe such differentiated, comprehensive services and cross-selling will not only enhance customer loyalty but also increase profitability.

One of our key customer-related strategies continues to be creating greater value and better service for our customers. We intend to continue improving our customer service, including through:

 

   

Improved customer relationship management technology. Management has devoted substantial resources toward development of our customer relationship management system, which is designed to provide our employees with the needed information to continually improve the level of service and incentives offered to our preferred customers. Our system is based on an integrated customer database, which allows for better customer management and streamlines our customer reward system. We have also developed state-of-the-art call centers and online Internet capabilities to provide shorter response times to customers seeking information or to execute transactions. Our goals are to continually focus on improving customer service to satisfy our customer’s needs through continuing efforts to deliver new and improved services and to upgrade our customer relationship management system to provide the best possible service to our customers in the future.

 

   

Enhanced distribution channels. We also believe we can improve customer retention and usage rates by increasing the range of products and services we offer and by developing a differentiated, multi-channel distribution network, including branches, ATMs, call centers, mobile-banking and Internet banking. We believe that our leading market position in the commercial banking area in Korea gives us a competitive advantage in developing and enhancing our distribution capabilities.

Focusing on expanding and improving credit quality in our corporate lending business and increasing market share in the corporate financial services market

We plan to focus on corporate lending as one of our core businesses through attracting top-tier corporate customers and providing customized and distinctive products and services to build our position as a leading service provider in the Korean corporate financial market. To increase our market share in providing financial services to the corporate market, we intend to:

 

   

promote a more balanced and strengthened portfolio with respect to our corporate business by developing our large corporate customer base and utilizing our improved credit management operations to better evaluate new large corporate and small- and medium-sized enterprise customers;

 

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develop and sell more varied corporate financial products, consisting of transactional banking products which provide higher margin and less risk;

 

   

generate more fee income from large corporate customers through business-to-business transactions, foreign exchange transactions and derivative and other investment products, as well as investment banking services;

 

   

strengthen our marketing system based on our accumulated expertise in order to attract top-tier corporate customers;

 

   

focus on enhancing our channel network in order to provide the best service by strengthening our corporate customer management; and

 

   

further develop and train our core professionals with respect to this market, including through programs such as the “Career Development Path.”

Strengthening internal risk management capabilities

We believe that ensuring strong asset quality through effective credit risk management is critical to maintaining stable growth and profitability and risk management will continue to be one of our key focus areas. One of our highest priorities is to improve our asset quality and more effectively price our lending products to take into account inherent credit risk in our portfolio. Our goal is to maintain the soundness of our credit portfolio, profitability and capital base. To this end, we intend to continue to strengthen our internal risk management capabilities by tightening our underwriting and management policies and improving our internal compliance policies. To accomplish this objective, we have undertaken the following initiatives:

 

   

Strengthening underwriting procedures with advanced credit scoring techniques. We have centralized our credit management operations into our Credit Management & Analysis Group. Through such centralization, we aim to enhance our credit management expertise and improve our system of checks-and-balances with respect to our credit portfolio. We have also improved our ability to evaluate the credit of our small- and medium-sized enterprise customers through assigning experienced credit officers to our regional credit offices. We also require the same officer to evaluate, review and monitor the outstanding loans and other credits with respect to a customer, which we believe enhances the expertise and improves the efficiency and accountability of such officer, while enabling us to maintain a consistent credit policy. We have also, as a general matter, implemented enhanced credit analysis and scoring techniques, which we believe will enable us to make better-informed decisions about the credit we extend and improve our ability to respond more quickly to incipient credit problems. We are also focusing on enhancing our asset quality through improvement of our early monitoring systems and collection procedures.

 

   

Improving our internal compliance policy and ensuring strict application in our daily operations. We have improved our monitoring capabilities with respect to our internal compliance by providing training and educational programs to our management and employees. We have also implemented strict compliance policies to maintain the integrity of our risk management system.

Cultivating a performance-based, customer-oriented culture that emphasizes market best practices

We believe a strong and dedicated workforce is critical to our ability to offer our customers the highest quality financial services and is integral to our goal of maintaining our position as one of Korea’s leading financial services providers. In the past, we have dedicated significant resources to develop and train our core professionals, and we intend to continue to enhance the productivity of our employees, including by regularly sponsoring in-house training and educational programs. We have also been seeking to cultivate a performance-based culture to create a work environment where members of our staff are incentivized to maximize their potential and in which our employees are directly rewarded for superior performance. We intend to maintain a professional workforce whose high quality of customer service reflects our goal to achieve and maintain global best practice standards in all areas of operations.

 

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Retail Banking

Due to Kookmin Bank’s history and development as a retail bank and the know-how and expertise we have acquired from our activities in that market, retail banking has been and will continue to remain one of our core businesses. Our retail banking activities consist primarily of lending and deposit-taking.

Lending Activities

We offer various loan products that target different segments of the population, with features tailored to each segment’s financial profile and other characteristics. The following table sets forth the balances and the percentage of our total retail lending represented by the categories of our retail loans as of the dates indicated:

 

     As of December 31,  
     2010     2011     2012  
     (in billions of Won, except percentages)  

Retail:

               

Mortgage and home equity loans

   71,715         72.4   75,580         72.8   74,460         72.1

Other consumer loans (1)

     27,281         27.6        28,275         27.2        28,804         27.9   
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total

   98,996         100.0   103,855         100.0   103,264         100.0
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

 

(1) 

Excludes credit card loans, but includes overdraft loans.

Our retail loans consist of:

 

   

Mortgage loans, which are loans made to customers to finance home purchases, construction, improvements or rentals; and home equity loans, which are loans made to our customers secured by their homes to ensure loan repayment. We also provide overdraft loans in connection with our home equity loans.

 

   

Other consumer loans, which are loans made to customers for any purpose (other than mortgage and home equity loans). These include overdraft loans, which are loans extended to customers to cover insufficient funds when they withdraw funds from their demand deposit accounts with us in excess of the amount in such accounts up to a limit established by us.

For secured loans, including mortgage and home equity loans, our policy is to lend up to 100% of the adjusted collateral value (except in areas of high speculation designated by the government where we generally limit our lending to between 40% to 60% of the appraised value of collateral) minus the value of any lien or other security interests that are prior to our security interest. In calculating the adjusted collateral value for real estate, we use the appraisal value of the collateral multiplied by a factor, generally between 40% to 80% (40% to 60% in the case of mortgage and home equity loans). This factor varies depending upon the location and use of the real estate and is established in part by taking into account court-supervised auction prices for nearby properties.

A borrower’s eligibility for our mortgage loans depends on the value of the mortgage property, the appropriateness of the use of proceeds and the borrower’s creditworthiness. A borrower’s eligibility for home equity loans is determined by the borrower’s credit and the value of the property, while the borrower’s eligibility for other consumer loans is primarily determined by the borrower’s credit. If the borrower’s credit deteriorates, it may be difficult for us to recover the loan. As a result, we review the borrower’s creditworthiness, collateral value, credit scoring and third party guarantees when evaluating a borrower. In addition, to reduce the interest rate of a loan or to qualify for a loan, a borrower may provide collateral, deposits or guarantees from third parties.

 

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Mortgage and Home Equity Lending

The housing finance market in Korea is divided into public sector and private sector lending. In the public sector, two government entities, the National Housing Fund and the National Agricultural Cooperative Federation, are responsible for most of the mortgage lending.

Private sector mortgage and home equity lending in Korea has expanded substantially in recent years. We provide customers with a number of mortgage and home equity loan products that have flexible features, including terms, repayment schedules, amounts and eligibility for loans, and we offer interest rates on a commercial basis. The maximum term of mortgage loans is 35 years and the majority of our mortgage loans have long-term maturities, which may be renewed. Non-amortizing home equity loans have an initial maturity of one year, which may be extended on an annual basis for a maximum of five years. Home equity loans subject to amortization of principal may have a maximum term of up to 35 years. As of December 31, 2012, we had ₩23,698 billion of amortizing home equity loans, representing 80.1% of our total home equity loans, and ₩5,888 billion of non-amortizing home equity loans, representing 19.9% of our total home equity loans. Any customer is eligible for a mortgage or an individual home equity loan regardless of whether it participates in one of our housing related savings programs and so long as that customer is not barred by regulation from obtaining a loan because of bad credit history. However, customers with whom we frequently transact business and provide us with significant revenue receive preferential interest rates on loans.

As of December 31, 2012, 72.2% of our mortgage loans were secured by residential property which is the subject of the loan, 15.9% of our mortgage loans were guaranteed by the Housing Finance Credit Guarantee Fund, a government housing-related entity, and the remaining 11.9% of our mortgage loans, contrary to general practices in the United States, were unsecured (although the use of proceeds from these loans are restricted for the purpose of financing home purchases and some of these loans were guaranteed by a third party). One reason that a relatively high percentage of our mortgage loans are unsecured is that we, along with other Korean banks, provide advance loans to borrowers for the down payment of new housing (particularly apartments) that is in the process of being built. Once construction is completed, which may take several years, these mortgage loans become secured by the new housing purchased by these borrowers. For the year ended December 31, 2012, the average initial loan-to-value ratio of our mortgage loans, which is a measure of the amount of loan exposure to the appraised value of the security collateralizing the loan, was approximately 47.4%. There are three reasons that our loan-to-value ratio is relatively lower (as is the case with other Korean banks) compared to similar ratios in other countries, such as the United States. The first reason is that housing prices are high in Korea relative to average income, so most people cannot afford to borrow an amount equal to the entire value of their collateral and make interest payments on such an amount. The second reason relates to the “jeonsae” system, through which people provide a key money deposit while residing in the property prior to its purchase. At the time of purchase, most people use the key money deposit as part of their payment and borrow the remaining amount from Korean banks, which results in a loan that will be for an amount smaller than the appraised value of the property for collateral and assessment purposes. The third reason is that Korean banks discount the appraised value of the borrower’s property for collateral and assessment purposes so that a portion of the appraised value is reserved in order to provide recourse to a renter who lives at the borrower’s property. This is in the event that the borrower’s property is seized by a creditor, and the renter is no longer able to reside at that property. See “Item 3.D. Risk Factors—Other risks relating to our business—A decline in the value of the collateral securing our loans and our inability to realize full collateral value may adversely affect our credit portfolio.” In response to the implementation in recent years of various government initiatives designed to curtail extension of new or refinanced loans secured by housing (as described in “—Supervision and Regulation—Principal Regulations Applicable to Banks—Recent Regulations Relating to Retail Household Loans”), we have tightened our mortgage loan guidelines, principally by decreasing our maximum loan-to-value ratios and borrower debt-to-income ratios in accordance with the revised limits set forth in the related regulations.

 

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The following table sets forth our unsecured and secured mortgage loans and home equity loans as of December 31, 2010, 2011 and 2012, based on their loan classification categories under IFRS and our internal credit ratings for loans (which are described in Note 4.2.4 of the notes to our consolidated financial statements):

 

    As of December 31, 2010  
    Non-impaired     Impaired     Total  
    Not Past Due     Past Due                          
    Grade 1     Grade 2     Grade 3     Grade 4     Grade 5           Past Due up to
89 Days
    Past Due 90 Days to
179 Days
    Past Due 180
Days or

More
       
                                  (In billions of Won)                    

Mortgage

                   

Secured (1)

  28,944      4,249      735      117      179      424      87      35      40      34,810   

Unsecured

    4,309        3,056        402        41        93        249        19        102        242        8,513   

Home Equity

                   

Secured

    23,349        3,827        589        69        158        275        67        29        29        28,392   

Unsecured

    —          —          —          —          —          —          —          —          —          —     
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total

  56,602      11,132      1,726      227      430      948      173      166      311      71,715   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 
    As of December 31, 2011  
    Non-impaired     Impaired     Total  
    Not Past Due     Past Due              
    Grade 1     Grade 2     Grade 3     Grade 4     Grade 5           Past Due up to
89 Days
    Past Due 90 Days to
179 Days
    Past Due 180
Days or

More
       
                                  (In billions of Won)                    

Mortgage

                   

Secured (1)

  33,606      4,205      440      136      87      650      57      30      40      39,251   

Unsecured

    4,297        1,108        105        75        85        188        12        74        325        6,269   

Home Equity

                   

Secured

    25,420        3,478        429        107        87        450        48        20        21        30,060   

Unsecured

    —          —          —          —          —          —          —          —          —          —     
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total

  63,323      8,791      974      318      259      1,288      117      124      386      75,580   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 
    As of December 31, 2012  
    Non-impaired     Impaired     Total  
    Not Past Due     Past Due                          
    Grade 1     Grade 2     Grade 3     Grade 4     Grade 5           Past Due up to
89 Days
    Past Due 90 Days to
179 Days
    Past Due 180
Days or

More
       
                                  (In billions of Won)                    

Mortgage

                   

Secured (1)

  33,782      4,270      478      141      98      665      45      70      55      39,604   

Unsecured

    3,442        989        135        72        94        94        5        53        386        5,270   

Home Equity

                   

Secured

    25,081        3,269        472        106        102        452        44        30        30        29,586   

Unsecured

    —          —          —          —          —          —          —          —          —          —     
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total

  62,305      8,528      1,085      319      294      1,211      94      153      471      74,460   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

(1) 

Includes advance loans guaranteed by the Housing Finance Credit Guarantee Fund to borrowers for the down payment of new housing that is in the process of being built.

Our home equity loan portfolio includes loans that are in a second lien position. In addition to the underwriting procedures we perform when we issue home equity loans in general, we perform additional underwriting procedures with respect to home equity loans secured by a second lien to assess and confirm the value and status of any loans secured by security interests on the collateral which would be prior to our security interest under the second lien home equity loan. Under regulations implemented by the Financial Supervisory Service, our home equity loans are subject to maximum loan-to-value ratios (i.e., the ratio of the aggregate principal amount of loans, including first and second lien loans, secured by a particular item of collateral to the appraised value of such collateral) of between

 

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40% and 60%. As such, for home equity loans, we do not lend more than an amount equal to the adjusted collateral value (i.e., the collateral value as discounted by the required loan-to-value ratio) minus the value of any loans secured by security interests on the collateral that are prior to our security interest. Accordingly, in order to ascertain the value of loans secured by security interests on the collateral which would be prior to our security interest and to confirm the status of such loans, we perform additional underwriting procedures including a review of the relevant title and security interest registration documents and bank documents and certificates regarding such loans. In addition, for purposes of calculating debt-to-income ratios applicable to loans secured by certain types of housing under regulations implemented by the Financial Supervisory Service (see “—Supervision and Regulation—Principal Regulations Applicable to Banks—Recent Regulations Relating to Retail Household Loans”), which we apply on a nationwide basis for our home equity loans, we perform additional adjustments in our debt-to-income ratio calculations with respect to second lien home equity loans to account for the value of loans secured by security interests on the collateral that are prior to our security interest.

Following the issuance of a home equity loan, we make use of the Korea Federation of Bank’s database of delinquent borrowers to generally monitor the compliance of our borrowers with their other loan obligations, including the compliance of our second lien borrowers with their first lien loans. If a borrower in Korea is past due on payments of interest or principal for more than three months on any of its outstanding loans to Korean financial institutions (including mortgage, home equity, other consumer and credit card loans), such borrower is registered on the Korea Federation of Banks’ database of delinquent borrowers, which we monitor on a daily basis. The information disclosed by such database, which includes the outstanding loan amount which is past due, the identity of the delinquent borrower and the name of the applicable lending institution for such loan, provides an early warning about such borrower to our loan officers at the branch level, who then closely monitor our outstanding loans to such delinquent borrower and take appropriate preventive and remedial measures (including requiring such borrower to provide additional collateral) as necessary. Upon the occurrence of a default in the first lien position, we treat the second lien home equity loan as part of our potential problem loans or non-performing loans. More specifically, upon learning of the occurrence of a default in the first lien position, we examine our second lien home equity loan to determine whether the loan should be re-classified as “precautionary,” “substandard” or “doubtful” according to the asset classification guidelines of the Financial Services Commission. Assuming that such second lien home equity loan is not delinquent, if the outstanding principal amount of the relevant first lien loan is less than ₩15 million, we classify the entire amount of the second lien home equity loan as “precautionary” and closely monitor it as a loan that may potentially become problematic. If the outstanding principal amount of the relevant first lien loan is ₩15 million or above or the borrower is undergoing, or preparing to undergo, foreclosure proceedings with respect to the underlying collateral, we classify the estimated recoverable amount of the second lien home equity loan as “substandard” and the rest of such loan amount as “doubtful.”

Pricing. The interest rates on our retail mortgage loans are generally based on a periodic floating rate (which is based on a base rate determined for three-month, six-month or twelve-month periods using our Market Opportunity Rate system, which reflects our internal cost of funding, further adjusted to account for our expenses related to lending). Our interest rates also incorporate a margin based among other things on the type of security, the credit score of the borrower and the estimated loss on the security. We can adjust the price to reflect the borrower’s current and/or expected future contribution to us. The applicable interest rate is determined at the time of the loan. If a loan is terminated prior to its maturity, the borrower is obligated to pay us an early termination fee of approximately 0.7% to 1.4% of the loan amount in addition to the accrued interest.

The interest rates on our home equity loans are determined on the same basis as our retail mortgage loans.

As of December 31, 2012, our three-month, six-month and twelve-month base rates were 2.89%, 2.88% and 2.89%, respectively.

As of December 31, 2012, 82.6% of our outstanding mortgage and home equity loans were priced based on a floating rate.

 

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Table of Contents

Other Consumer Loans

Other consumer loans are primarily unsecured. However, such loans may be secured by real estate, deposits or securities. As of December 31, 2012, approximately ₩16,642 billion, or 57.8% of our consumer loans (other than mortgage and home equity loans) were unsecured loans (although some of these loans were guaranteed by a third party). Overdraft loans are also classified as other consumer loans, are primarily unsecured and generally have an initial maturity of one year, which is typically extended automatically on an annual basis and may be extended up to a maximum of five years. The amount of overdraft loans as of December 31, 2012 was approximately ₩7,978 billion.

In January 2012, we established KB Savings Bank to provide small-loan finance services to retail customers. KB Savings Bank was established in connection with our purchase of the assets of Jeil Savings Bank and assumption of its liabilities pursuant to a purchase and assumption agreement among Jeil Savings Bank, the Korea Deposit Insurance Corporation and us. In May 2012, pursuant to the purchase and assumption agreement, we transferred to the Korea Deposit Insurance Corporation a portion of the assets we purchased and related liabilities we assumed. In connection with such purchase and assumption (and after giving effect to the transfer to the Korea Deposit Insurance Corporation), we recognized an acquisition of ₩2,546 billion of assets and an assumption of ₩2,654 billion of liabilities and also ₩108 billion of goodwill. See Note 44 of the notes to our consolidated financial statements included elsewhere in this annual report.

Pricing. The interest rates on our other consumer loans (including overdraft loans) are determined on the same basis as on our mortgage and home equity loans, except that, for unsecured loans, the borrower’s credit score as determined during our loan approval process is also taken into account. See “Item 11. Quantitative and Qualitative Disclosures about Market Risk—Credit Risk Management.”

As of December 31, 2012, 97.4% of our other consumer loans had interest rates that were not fixed but were variable in reference to our base rate, which is based on the Market Opportunity Rate.

Deposit-taking Activities

Due to our extensive nationwide network of branches, together with our long history of development and our resulting know-how and expertise, as of December 31, 2012, we had the largest number of retail customers and retail deposits among Korean commercial banks. The balance of our deposits from retail customers was ₩111,484 billion, ₩119,707 billion and ₩123,711 billion as of December 31, 2010, 2011 and 2012, respectively, which constituted 62.0%, 62.9% and 63.6%, respectively, of the balance of our total deposits.

We offer many deposit products that target different segments of our retail customer base, with features tailored to each segment’s financial profile, characteristics and needs, including:

 

   

Demand deposits, which either do not accrue interest or accrue interest at a lower rate than time deposits. Demand deposits allow the customer to deposit and withdraw funds at any time and, if they are interest bearing, accrue interest at a variable rate depending on the amount of deposit. Retail and corporate demand deposits constituted 30.7% of our total deposits as of December 31, 2012 and paid average interest of 0.60% for 2012.

 

   

Time deposits, which generally require the customer to maintain a deposit for a fixed term, during which the deposit accrues interest at a fixed rate or a variable rate based on the KOSPI, or to deposit specified amounts on an installment basis. If the amount of the deposit is withdrawn prior to the end of the fixed term, the customer will be paid a lower interest rate than that originally offered. The term for time deposits typically ranges from one month to five years, and the term for installment savings deposits ranges from six months to ten years. Retail and corporate time deposits constituted 63.0% of our total deposits as of December 31, 2012 and paid average interest of 3.68% for 2012. Most installment savings deposits offer fixed interest rates.

 

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Table of Contents
   

Certificates of deposit, the maturities of which typically range from 30 days to 730 days with a required minimum deposit of ₩5 million. Interest rates on certificates of deposit are determined based on the length of the deposit and prevailing market rates. Our certificates of deposit are sold at a discount to their face value, reflecting the interest payable on the certificates of deposit.

 

   

Foreign currency deposits, which accrue interest at an adjustable rate and are available to Korean residents, non-residents and overseas immigrants. We offer foreign currency time deposits and checking and passbook accounts in ten currencies.

We offer varying interest rates on our deposit products depending upon average funding costs, the rate of return on our interest earning assets and the interest rates offered by other commercial banks.

We also offer deposits that provide the holder with preferential rights to housing subscriptions and eligibility for mortgage loans. These products include:

 

   

Housing subscription time deposits, which are special purpose time deposit accounts providing the holder with a preferential right to subscribe for new private apartment units under the Housing Law. This law is the basic law setting forth various measures supporting the purchase of houses and the supply of such houses by construction companies. These products accrue interest at a fixed rate for one year, and at an adjustable rate after one year. Deposit amounts per account range from ₩2 million to ₩15 million depending on the location of the holder’s current residence and the size of the desired apartment unit. These deposit products target high and middle income households.

 

   

Housing subscription installment savings deposits, which are monthly installment savings programs providing the holder with a preferential subscription right for new private apartment units under the Housing Law. Account holders are also eligible for our mortgage loans. These deposits require monthly installments of ₩50,000 to ₩500,000, have maturities of between two and five years and accrue interest at fixed or variable rates depending on the term. These deposit products target low- and middle-income households.

In 2002, after significant research and planning, we launched private banking operations at Kookmin Bank’s headquarters. Shortly thereafter, we launched a comprehensive strategy with respect to customers with higher net worth, which included staffing appropriate representatives, marketing aggressively, establishing IT systems, selecting appropriate branch locations and readying such branches with the necessary facilities to service such customers. As of December 31, 2012, we operated 23 private banking centers through Kookmin Bank.

The Monetary Policy Committee of the Bank of Korea (the “Monetary Policy Committee”) imposes a reserve requirement on Won currency deposits of commercial banks based generally on the type of deposit instrument. The reserve requirement is currently up to 7%. See “—Supervision and Regulation—Principal Regulations Applicable to Banks—Liquidity.”

The Depositor Protection Act provides for a deposit insurance system where the Korea Deposit Insurance Corporation guarantees to depositors the repayment of their eligible bank deposits. The deposit insurance system insures up to a total of ₩50 million per depositor per bank. See “—Supervision and Regulation—Principal Regulations Applicable to Banks—Deposit Insurance System.” We pay a premium rate of 0.02% of our average deposits for each quarter and we paid ₩294 billion for 2012.

Credit Cards

Credit cards are another of our core retail products. We issue most of our credit cards under the “KB Kookmin Card” brand. In March 2011, we effected a horizontal spin-off of the credit card business from Kookmin Bank. As a result, our credit card business is operated by a newly established wholly-owned subsidiary, KB Kookmin Card Co., Ltd.

 

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The following table sets forth certain data relating to our credit card operations, on a non-consolidated basis, as of the dates and for the periods indicated:

 

     As of and for the Year Ended December 31,  
             2010                     2011                     2012          
    

(in billions of Won, except

number of holders,

accounts and percentages)

 

Number of credit cardholders (at year end) (thousands)

      

General accounts

     10,169        10,364        10,112   

Corporate accounts

     341        407        424   
  

 

 

   

 

 

   

 

 

 

Total

     10,510        10,771        10,536   
  

 

 

   

 

 

   

 

 

 

Number of merchants (at year end) (thousands)

     2,114        2,265        2,024   

Active ratio (at year end) (1)

     74.0     77.4     81.0

Credit card fees

      

Merchant fees (2)

   1,306      1,441      1,484   

Installment and cash advance fees

     629        648        683   

Annual membership fees

     51        51        66   

Other fees

     519        566        542   
  

 

 

   

 

 

   

 

 

 

Total

   2,505      2,706      2,775   
  

 

 

   

 

 

   

 

 

 

Charge volume (3)

      

General purchase

   48,527      46,771      45,768   

Installment purchase

     10,790        11,644        12,153   

Cash advance

     12,262        12,220        11,606   

Card loan (4)

     4,535        4,306        3,800   
  

 

 

   

 

 

   

 

 

 

Total

   76,114      74,941      73,327   
  

 

 

   

 

 

   

 

 

 

Outstanding balance (at year end)

      

General purchase

   4,684      4,410      4,533   

Installment purchase

     2,581        2,770        2,679   

Cash advance

     2,224        2,276        2,032   

Card loan (4)

     2,926        2,982        2,647   
  

 

 

   

 

 

   

 

 

 

Total

   12,415      12,438      11,891   
  

 

 

   

 

 

   

 

 

 

Average outstanding balances

      

General purchase

   4,512      4,569      4,461   

Installment purchase

     2,457        2,579        2,728   

Cash advance

     2,192        2,238        2,134   

Card loan (4)

     2,756        2,996        2,759   
  

 

 

   

 

 

   

 

 

 

Total

   11,917      12,382      12,082   
  

 

 

   

 

 

   

 

 

 

Delinquency ratios (at year end) (5)

      

From 1 month to 3 months

     0.73        1.00        0.94   

From 3 months to 6 months

     0.11        0.34        0.25   

Over 6 months

     0.18        0.17        0.13   
  

 

 

   

 

 

   

 

 

 

Total

     1.02     1.51     1.32
  

 

 

   

 

 

   

 

 

 

Non-performing loan ratio

     0.31     0.50     0.40

Write-offs (gross)

   389      413      541   

Recoveries (6)

     245        204        185   
  

 

 

   

 

 

   

 

 

 

Net write-offs

   144      209      356   
  

 

 

   

 

 

   

 

 

 

Gross write-off ratio (7)

     3.26     3.34     4.48

Net write-off ratio (8)

     1.21     1.69     2.95

 

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Table of Contents

 

(1) 

The active ratio represents the ratio of accounts used at least once within the last six months to total accounts as of year end.

(2) 

Merchant fees consist of maintenance fees and costs associated with prepayment by us (on behalf of customers) of sales proceeds to merchants, processing fees relating to sales and membership applications, costs relating to the management of delinquencies and recoveries, provision for loan losses, general variable expenses and other fixed costs that are charged to our member merchants. We typically charge our member merchants fees that range from 1.5% to 2.7%.

(3) 

Represents the aggregate cumulative amount charged during the year.

(4) 

Card loans consist of loans that are provided on either a secured or unsecured basis to cardholders upon prior agreement. Payment on such a loan can be due either in one payment or in installments after a fixed period, in the case of principal payments, and will be due in installments, in the case of interest payments.

(5) 

Represents ratio of credit card balances overdue by one month or more to outstanding balance. In line with industry practice, we have restructured a portion of delinquent credit card account balances as loans. As of December 31, 2012, these restructured loans amounted to ₩47 billion. Because these restructured loans are not treated as being delinquent at the time of conversion or for a period of time thereafter, our delinquency ratios may not fully reflect all delinquent amounts relating to our outstanding balances.

(6) 

Does not include proceeds that we received from sales of our non-performing loans that were written off.

(7) 

Represents the ratio of gross write-offs for the year to average outstanding balance for the year. Our charge-off policy is generally to write off balances which have been overdue for four payment cycles or more or which have been classified as expected loss.

(8) 

Represents the ratio of net write-offs for the year to average outstanding balances for the year. Our charge-off policy is generally to write off balances which have been overdue for four payment cycles or more or which have been classified as expected loss.

In contrast to the system in the United States and many other countries, where most credit cards are revolving cards that allow outstanding amounts to be rolled over from month to month so long as a required minimum percentage is repaid, credit cardholders in Korea are generally required to pay for their purchases within approximately 14 to 44 days of purchase depending on their payment cycle. However, we also offer revolving payment plans to individuals that allow outstanding amounts to be rolled over to subsequent payment periods. Delinquent accounts (defined as amounts overdue for one day or more) are charged penalty interest and closely monitored. For installment purchases, we charge interest on unpaid installments at rates that vary according to the individual cardholder’s membership level, which is based on, among others, transaction history, the length of the cardholder’s relationship with us and contribution to our profitability.

We are committed to continuing to enhance our credit card business by strengthening our risk management and maximizing our operational efficiency. In addition, we believe that our extensive branch network, brand recognition and overall size will enable us to cross-sell products such as credit cards to our existing and new customers.

To promote our credit card business, we offer services targeted to various financial profiles and customer requirements and are concentrating on:

 

   

strengthening cross-sales to existing customers and offering integrated financial services;

 

   

offering cards that provide additional benefits such as frequent flyer miles and reward program points that can be redeemed by the customer for complementary services, prizes and cash;

 

   

offering platinum cards, VVIP cards and other prime members’ cards, which have a higher credit limit and provide additional services in return for a higher fee;

 

   

acquiring new customers through strategic alliances and cross-marketing with retailers;

 

   

encouraging increased use of credit cards by existing customers through special offers for frequent users;

 

   

introducing new features such as travel services and insurance through alliance partners; and

 

   

developing fraud detection and security systems to prevent the misuse of credit cards.

As of December 31, 2012, we had approximately 10.5 million cardholders. Of the credit cards outstanding, approximately 81.0% were active, meaning that they had been used at least once during the previous six months.

 

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Our card revenues consist principally of cash advance fees, merchant fees, credit card installment fees, interest income from credit card loans, annual fees paid by cardholders, interest and fees on late payments and, with respect to revolving payment plans we offer, interest and fees relating to revolving balances. Cardholders are generally required to pay for their purchases within 14 to 44 days after the date of purchase, depending on their payment cycle. Except in the case of installment purchases, accounts which remain unpaid after this period are deemed to be delinquent.

We generate other fees through a processing charge on merchants, which ranges from 1.5% to 2.7%.

Under non-exclusive license agreements with overseas financial services corporations, we also issue MasterCard, Visa, American Express, JCB and China UnionPay credit cards.

We issue debit cards and charge merchants commissions that range from 1.0% to 2.0% of the amounts purchased using a debit card. We also issue “check cards,” which are similar to debit cards except that “check cards” are accepted by all merchants that accept credit cards, and charge merchants commissions that range from 1.0% to 1.7%. Much like debit cards, check card purchases are also debited directly from customers’ accounts with us.

In the second half of 2012, we (through KB Kookmin Card Co., Ltd.) commenced accounts receivable factoring activities in partnership with SK Telecom Co., Ltd., a leading Korean mobile telecommunications company, pursuant to which we purchase accounts receivable arising from SK Telecom’s installment sale of mobile handsets to its customers. The outstanding balance of factored receivables amounted to ₩1,215 billion as of December 31, 2012.

Corporate Banking

We lend to and take deposits from small- and medium-sized enterprises and, to a lesser extent, large corporate customers. We had over 220,000 small- and medium-sized enterprise borrowers as of December 31, 2010 and over 230,000 small- and medium-sized enterprise borrowers as of December 31, 2011 and 2012, respectively, for Won-currency loans. As of December 31, 2010, 2011 and 2012, we had 993, 1,210 and 1,486 large corporate borrowers, respectively, for Won-currency loans. For 2010, 2011 and 2012, we received fee revenue from cash management services offered to corporate customers, which include “firm-banking” services such as inter-account transfers, transfers of funds from various branches and agencies of a company (such as insurance premium payments) to the account of the headquarters of such company and transfers of funds from various customers of a company to the main account of such company, in the amount of ₩112 billion, ₩117 billion and ₩115 billion, respectively. Of our branch network as of December 31, 2012, we had eight branches that primarily handled large corporate banking.

The following table sets forth the balances and the percentage of our total corporate lending represented by our small- and medium-sized enterprise business loans and our large corporate business loans as of the dates indicated, estimated based on our internal classifications of corporate borrowers:

 

     As of December 31,  
     2010     2011     2012  
     (in billions of Won, except percentages)  

Corporate:

               

Small- and medium-sized enterprise loans

   65,132         73.8   68,730         70.7   69,810         70.6

Large corporate loans

     23,143         26.2        28,509         29.3        29,112         29.4   
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total

   88,275         100.0   97,239         100.0   98,922         100.0
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

 

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On the deposit-taking side, we currently offer our corporate customers several types of corporate deposits. Our corporate deposit products can be divided into two general categories: (1) demand deposits that have no restrictions on deposits or withdrawals, but which offer a relatively low interest rate; and (2) deposits from which withdrawals are restricted for a period of time, but offer higher interest rates. We also offer installment savings deposits, certificates of deposit and repurchase instruments. We offer varying interest rates on deposit products depending upon the rate of return on our income-earning assets, average funding costs and interest rates offered by other nationwide commercial banks.

The total amount of deposits from our corporate customers amounted to ₩65,079 billion as of December 31, 2012, or 33.5% of our total deposits.

Small- and Medium-sized Enterprise Banking

Our small- and medium-sized enterprise banking business has traditionally been and will remain one of our core businesses because of both our historical development and our accumulated expertise. We believe that we possess the necessary elements to succeed in the small- and medium-sized enterprise market, including our extensive branch network, our credit rating system for credit approval, our marketing capabilities (which we believe have provided us with significant brand loyalty) and our ability to take advantage of economies of scale.

We use the term “small- and medium-sized enterprises” as defined in the Small and Medium Industry Basic Act and related regulations. Under the Small and Medium Industry Basic Act and related regulations, an enterprise must meet each of the following criteria in order to meet the definition of a small- and medium-sized enterprise: (i) the number of regular employees must be fewer than 1,000, (ii) total assets at the end of the immediately preceding fiscal year must be less than ₩500 billion, (iii) paid-in capital at the end of the immediately preceding fiscal year must be less than ₩100 billion, (iv) average annual sales revenue for the most recent three fiscal years must be less than ₩150 billion, (v) the standards as prescribed by the Presidential Decree that are applicable to the enterprise’s primary business must be met and (vi) the standards of management independence as prescribed by the Presidential Decree must be met. Further, beginning in January 2012, a non-profit enterprise with no more than 300 regular employees and annual sales revenue of less than ₩30 billion that satisfies the requirements prescribed in the Small and Medium Industry Basic Act may also qualify as a small- and medium-sized enterprise.

Industry-wide delinquency ratios for Won-denominated loans to small- and medium-sized enterprises decreased in 2012 and further decreased in the first quarter of 2013. Our delinquency ratio for loans to small- and medium-sized enterprises may increase in the future as a result of, among other things, adverse economic conditions in Korea and globally. See “Item 3.D. Risk Factors—Other risks relating to our business—Difficult conditions in the global financial markets could adversely affect our results of operations and financial condition” and “—Risks relating to our small- and medium-sized enterprise loan portfolio—We have significant exposure to small- and medium-sized enterprises, and any financial difficulties experienced by these customers may result in a deterioration of our asset quality and have an adverse impact on us.”

Lending Activities

Our principal loan products for our small- and medium-sized enterprise customers are working capital loans and facilities loans. Working capital loans are provided to finance working capital requirements and include notes discounted and trade financing. Facilities loans are provided to finance the purchase of equipment and the establishment of manufacturing assembly plants. As of December 31, 2012, working capital loans and facilities loans accounted for 62.6% and 37.4%, respectively, of our total small- and medium-sized enterprise loans. December 31, 2012, we had over 230,000 small- and medium-sized enterprise customers on the lending side.

Loans to small- and medium-sized enterprises may be secured by real estate or deposits or may be unsecured. As of December 31, 2012, secured loans and guaranteed loans accounted for, in the aggregate, 80.9%

 

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of our small- and medium-sized enterprise loans. Among the secured loans, 94.3% were secured by real estate and 5.7% were secured by deposits or securities. Working capital loans generally have a maturity of one year, but may be extended for additional terms of up to one year in length for an aggregate term of five years. Facilities loans have a maximum maturity of 15 years.

When evaluating the extension of working capital loans, we review the corporate customer’s creditworthiness and capability to generate cash. Furthermore, we take credit guaranty letters from other financial institutions and use time deposits that the borrower has with us as collateral, and may require additional collateral.

The value of any collateral is defined using a formula that takes into account the appraised value of the property, any prior liens or other claims against the property and an adjustment factor based on a number of considerations including, with respect to property, the value of any nearby property sold in a court-supervised auction during the previous five years. We revalue any collateral on a periodic basis (generally every year) or if a trigger event occurs with respect to the loan in question.

We also offer mortgage loans to home builders or developers who build or sell single- or multi-family housing units, principally apartment buildings. Many of these builders and developers are categorized as small- and medium-sized enterprises. We offer a variety of such mortgage loans, including loans to purchase property or finance the construction of housing units and loans to contractors used for working capital purposes. Such mortgage loans subject us to the risk that the housing units will not be sold. As a result, we review the probability of the sale of the housing unit when evaluating the extension of a loan. We also review the borrower’s creditworthiness and the adequacy of the intended use of proceeds. Furthermore, we take a lien on the land on which the housing unit is to be constructed as collateral. If the collateral is not sufficient to cover the loan, we also take a guarantee from the Housing Finance Credit Guarantee Fund as security.

A substantial number of our small- and medium-sized enterprise customers are SOHOs, which we currently define to include sole proprietorships and individual business interests. With respect to SOHOs, we apply credit risk evaluation models, which not only use quantitative analysis related to a customer’s accounts, personal credit and financial information and due amounts but also require our credit officers to perform a qualitative analysis of each potential SOHO customer. With respect to SOHO loans in excess of ₩1 billion, our credit risk evaluation model also includes a quantitative analysis of the financial statements of the underlying business. We generally lend to SOHOs on a secured basis, although a small portion of our SOHO exposures are unsecured.

Pricing

We establish the price for our corporate loan products based principally on transaction risk, our cost of funding and market considerations. Transaction risk is measured by such factors as the credit rating assigned to a particular borrower, the size of the borrower and the value and type of collateral. Our loans are priced based on the Market Opportunity Rate system, which is a periodic floating rate system that takes into account the current market interest rate. As of December 31, 2012, the Market Opportunity Rate was 2.89% for three months, 2.88% for six months and 2.89% for one year.

While we generally utilize the Market Opportunity Rate system, depending on the price and other terms set by competing banks for similar borrowers, we may adjust the interest rate we charge to compete more effectively with other banks.

Large Corporate Banking

Large corporate customers include all companies that are not small- and medium-sized enterprise customers. Kookmin Bank’s articles of incorporation provide that financial services to large corporate customers must be no more than 40% of the total amount of our Won-denominated loans. Our business focus with respect to large

 

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corporate banking is to selectively increase the proportion of high quality large corporate customers. Specifically, we are carrying out various initiatives to improve our customer relationship with large corporate customers and have been seeking to expand our service offerings to this segment.

Lending Activities

Our principal loan products for our large corporate customers are working capital loans and facilities loans. As of December 31, 2012, working capital loans and facilities loans accounted for 79.5% and 20.5%, respectively, of our total large corporate loans. We also offer mortgage loans to large corporate clients who build or sell single- or multi-family housing units, as described above under “—Small- and Medium-sized Enterprise Banking—Lending Activities.”

As of December 31, 2012, secured loans and guaranteed loans accounted for, in the aggregate, 13.1% of our large corporate loans. Among the secured loans, 77.1% were secured by real estate and 22.9% were secured by deposits or securities. Working capital loans generally have a maturity of one year, but may be extended for additional terms ranging from three months to one year in length for an aggregate term of five years. Facilities loans have a maximum maturity of 15 years.

In our unsecured lending to large corporate customers, a critical consideration in our policy regarding the extension of such unsecured loans is the borrower’s creditworthiness. We assign each borrower a credit rating based on the judgment of our experts or scores calculated using the appropriate credit rating system, taking into account both financial factors and non-financial factors (such as our perception of a borrower’s reliability, management and operational risk and risk relating to the borrower’s industry). The credit ratings, along with such factors, are key determinants that inform our lending to large corporate customers. Large corporate customers generally have higher credit ratings due to their higher repayment capability compared to other types of borrowers, such as small- and medium-sized enterprise borrowers. In addition, large corporate borrowers generally are affected to a lesser extent than small- and medium-sized enterprise borrowers by fluctuations in the Korean economy and also maintain more sophisticated financial records. As of December 31, 2012, 81.1% of our large corporate customers had credit ratings or BBB- or above according to the internal credit rating system of Kookmin Bank, compared to 31.7% of our small- and medium-sized enterprise customers. A credit rating of BBB- is assigned to customers whose ability to repay the principal and interest on their outstanding loans is determined by us to be generally satisfactory but nonetheless subject to adverse effects under unfavorable economic conditions or during downturns in the business environment. Based on our internal analysis of historical data, we believe that the probability of default for loans extended to large corporate customers with a credit rating of BBB- or above is between 0.00% and 2.26%.

We monitor the credit status of large corporate borrowers and collect information to adjust our ratings appropriately. We also manage and monitor our large corporate customers through a dedicated Corporate Banking Branch and Kookmin Bank’s Large Corporate Business Department. In addition, Kookmin Bank’s Credit Risk Department manages the exposures to each large corporate customer and conducts in-depth analysis of various economic and industry-related risks that are relevant to large corporate customers.

As of December 31, 2012, in terms of our outstanding loan balance, 36.2% of our large corporate loans was extended to borrowers in the manufacturing industry, 23.4% was extended to borrowers in the financial institutions industry, and 20.8% was extended to borrowers in the service industry.

Pricing

We determine pricing of our large corporate loans in the same way as we determine the pricing of our small- and medium-sized enterprise loans. See “—Small- and Medium-sized Enterprise Banking—Pricing” above. As of December 31, 2012, the Market Opportunity Rate, which is utilized in pricing loans offered by us, was the same for our large corporate loans as for our small- and medium-sized enterprise loans.

 

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Capital Markets Activities and International Banking

Through our capital markets operations, we invest and trade in debt and equity securities and, to a lesser extent, engage in derivatives and asset securitization transactions and make call loans. We also provide investment banking services to corporate customers.

Securities Investment and Trading

We invest in and trade securities for our own account in order to maintain adequate sources of liquidity and to generate interest and dividend income and capital gains. As of December 31, 2010, 2011 and 2012, our investment portfolio, which consists primarily of held-to-maturity financial assets and available-for-sale financial assets, and our trading portfolio had a combined total carrying amount of ₩40,926 billion, ₩42,650 billion and ₩44,232 billion and represented 15.8%, 15.4% and 15.7% of our total assets, respectively.

Our trading and investment portfolios consist primarily of Korean treasury securities and debt securities issued by Korean government agencies, local governments or certain government-invested enterprises and debt securities issued by financial institutions. As of December 31, 2010, 2011 and 2012, we held debt securities with a total carrying amount of ₩36,571 billion, ₩37,966 billion and ₩39,142 billion, respectively, of which:

 

   

held-to-maturity debt securities accounted for ₩13,908 billion, ₩13,055 billion and ₩12,256 billion, or 38.0%, 34.4% and 31.3%, respectively;

 

   

available-for-sale debt securities accounted for ₩19,126 billion, ₩19,734 billion and ₩21,833 billion, or 52.3%, 52.0% and 55.8%, respectively; and

 

   

debt securities at fair value through profit or loss accounted for ₩3,537 billion, ₩5,177 billion and ₩5,052 billion, or 9.7%, 13.6% and 12.9%, respectively.

Of these amounts, debt securities issued by the Korean government and government agencies as of December 31, 2010, 2011 and 2012 amounted to:

 

   

₩6,340 billion, ₩5,436 billion and ₩4,449 billion, or 45.6%, 41.6% and 36.3%, respectively, of our held-to-maturity debt securities;

 

   

₩6,741 billion, ₩5,989 billion and ₩6,256 billion, or 35.2%, 30.3% and 28.7%, respectively, of our available-for-sale debt securities; and

 

   

₩743 billion, ₩1,508 billion and ₩1,672 billion, or 21.0%, 29.1% and 33.1%, respectively, of our debt securities at fair value through profit or loss.

From time to time we also purchase equity securities for our securities portfolios. Our equity securities consist primarily of marketable beneficiary certificates and equities listed on the KRX KOSPI Market or the KRX KOSDAQ Market. As of December 31, 2010, 2011 and 2012:

 

   

equity securities in our available-for-sale portfolio had a carrying amount of ₩3,156 billion, ₩2,643 billion and ₩2,808 billion, or 14.2%, 11.8% and 11.4% of our available-for-sale portfolio, respectively; and

 

   

equity securities in our trading portfolio had a carrying amount of ₩461 billion, ₩546 billion and ₩1,015 billion, or 11.5%, 8.6% and 16.1% of our debt and equity trading portfolio, respectively.

Our trading portfolio also includes derivative instruments. See “—Derivatives Trading.”

 

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The following tables show, as of the dates indicated, the gross unrealized gains and losses on available-for-sale and held-to-maturity financial assets within our investment portfolio, and the amortized cost and fair value of the portfolio by type of financial asset:

 

     As of December 31, 2010  
     Amortized
Cost
     Gross
Unrealized Gain
     Gross
Unrealized Loss
     Fair Value  
     (in billions of Won)  

Available-for-sale financial assets:

           

Debt securities

           

Korean treasury securities and government agencies

   6,649       96       4       6,741   

Financial institutions (1)

     5,735         29         5         5,759   

Corporate (2)

     4,501         90         5         4,586   

Asset-backed securities

     1,822         9         —           1,831   

Others

     208     &nb