Diverse Dynamics of Korea’s Market for Corporate Control

In the U.S., hostile takeovers reached their peak during the 1980s. However, the introduction of the poison pill, the “game changer” of the market for corporate control, made hostile takeovers impractical, if not impossible. Throughout the 1980s and 1990s, the poison pill, the most effective anti-takeover defense measure, evolved into the “Just Say No” pill (though not the invincible “Just Say Never”). Another game changer was the development of large executive compensation packages, including severance payments (e.g., golden parachutes). These two factors shifted takeovers to friendly deals, with sufficient compensation to a target company’s senior executives as a “legalized bribe,” facilitating a change in control of corporations with disperse ownership. Thus, a market for corporate control still survives even without many hostile takeovers.

What about other countries? In this blog post, I would like to explore the complicated terrain of Korea’s market for corporate control from diverse aspects that are not often discussed in depth by the existing literature. 

In Korea, historically, there have been several events involving the market for corporate control where foreign investors engaged, but there are hardly any successful cases, and none involving large family-controlled corporate groups, i.e., chaebols. Accordingly, many scholars, experts, and policymakers seem to consider it virtually impossible for a control change to occur through hostile takeovers, especially with chaebols. 

Despite the dormant market for corporate control in Korea, the legal system for defending against hostile takeovers is considerably weak. For instance, poison pills are not permitted. Also, Korean companies are not allowed to issue shares or convertible bonds to friendly third parties for the purpose of control-contest defense.[1] As an alternative defense measure, Korean companies often rely on the disposal of treasury shares to friendly third parties. However, compared to poison pills, this method is quite limited in terms of effectiveness. Additionally, this method requires substantial preparation over a long period from the target corporation’s side. By contrast, in the case of a poison pill, due to the legal availability of a “shadow pill,” it can be adopted within just a few hours if the board of directors believes it is needed.

In this light, the business circle in Korea argues that the takeover legal system should adopt more effective defense measures. Although this complaint seems valid, it only considers half of the overall situation. Korean chaebols often rely on a “controlling minority structure (CMS)”, where controlling shareholders own a mere 2-3% of shares while leveraging voting rights (such as 40 or 50%) through pyramiding or complicated cross-ownership among affiliated companies. From the standpoint of controlling shareholders, the CMS serves as a built-in anti-takeover defense system within the corporate ownership structure, reinforcing control. Under these circumstances, the aforementioned weak defense system could potentially be justified by the built-in anti-takeover defense with severe CMS and high voting leverage in favor of controlling shareholders. However, this situation indicates that companies with a less severe CMS and low voting leverage, which are relatively favorable to public investors, end up with the same weak defense system as those with a severe CMS and high voting leverage. As a result, ironically, these companies with low voting leverage—i.e., companies with a better ownership structure for investors—are often put at a disadvantage in terms of control contests.

Additionally, it is noteworthy that to dispose of treasury shares to a third party, a company must pre-purchase its own shares using its corporate funds. In other words, this method distorts the company’s capital structure, funding operations and plans, and related business strategies, potentially diverting funds that could otherwise be used for business development, new product development, or R&D. By contrast, poison pills do not generate these distortions since they are similar to a “neutron bomb”: they are effective in warding off only bidders, but they do not change or distort the company’s capital structure, funding operations and plans, or related business strategies. Also, it is noteworthy that share repurchases only achieve the goal of promoting shareholder wealth maximization when the repurchased shares are retired. However, share repurchases for the purpose of defending control do not aim to retire the shares, as they are intended to be disposed of to third parties favorable to the current controlling shareholders.

Another point is that, although there have been no successful cases of hostile takeovers involving chaebols, this does not mean that it is impossible, just highly improbable. The impact of a hostile takeover of one chaebol would be significantly greater in Korea than that of a large company in the U.S. or China. This is because the size of Korea’s economy is much smaller compared to the U.S. or China, and the scale of chaebols is global, with their domestic stature being massively dominant. Thus, in Korea, with a very low probability of a chaebol experiencing a control change, the magnitude of such an event, if it were to occur, would be astronomical. This can be likened to the 2011 Fukushima tsunami and its subsequent catastrophic impact—a low-probability event but with extremely significant effects. In this regard, Korea’s takeover laws and policies need to pay attention to and prepare for this small probability. Indeed, in 2003, Sovereign Asset Management, a foreign institutional investor, almost deprived the controlling shareholder of SK Group of control over the entire group.[2]

As discussed, until recently, challengers in control contests involving chaebols and other large corporate groups have tended to be foreigners. This is perhaps because in Korea, it was politically and socially unacceptable for a chaebol’s affiliated company or its funds to acquire control of another chaebol company, and there have been many legal restrictions, including the Monopoly Regulation and Fair Trade Act (competition law in Korea). In recent years, however, Korean funds independent of chaebols have also been engaged in shareholder activism and the market for corporate control. Examples include the KCGI Fund, which was actively involved in the control contest of Hanjin Group, and Align Partners, which challenged SM Entertainment, a famous K-Pop powerhouse. In the SM Entertainment case, Align Partners was not a bidder, but its shareholder activism can be seen as the catalyst that ultimately led to the control change at SM Entertainment.

Moreover, shareholder activism by the National Pension Service (NPS), the largest institutional investor in Korea, represents a new variable in the context of Korea’s market for corporate control. In 2015, the NPS cast a pivotal vote in favor of the merger of two affiliated companies within the Samsung Group, which was crucial for Lee Jae-yong’s succession within Samsung’s controlling family. After a series of political upheavals, then-President Park Geun-hye was ultimately impeached in 2017. One of the reasons for this unprecedented impeachment was closely related to the Samsung succession and the Park administration’s support for it. Eventually, the NPS’s vote in the Samsung merger faced significant criticism, and the NPS chairperson at the time was imprisoned as a result of the fallout from this incident. Later, the Korean government also lost an investor-state dispute with Elliott Management, a hedge fund and challenger in the Samsung merger case. 

Having experienced enormous political trauma from this period of turmoil, the NPS finds it nearly impossible to support a chaebol’s side in future control, even if there are rational reasons to do so. Indeed, I support the NPS taking a leading role in shareholder activism as Korea’s largest institutional investor and criticize the use of voting rights in corporate decisions for political deals. However, I also view it as undesirable for the NPS to be structurally pushed to one side in control contest situations, making decisions unfavorable to chaebols and favorable to bidders (including foreign bidders) without thorough consideration.

Finally, as discussed, in the U.S., the poison pill—a powerful defense mechanism—has been combined with advances in executive compensation, such as the golden parachute, to create a variant of the friendly but still active market for corporate control: inefficient management is replaced with a severance payment. In this light, the market for corporate control is not perfect, but its disciplinary mechanism—replacing incapable executives—works to some extent.[3] By contrast, in Korea, if strong anti-takeover defense measures such as poison pills are introduced, there would be much less room for the market for corporate control to occur, even in a friendly way, than in the United States. This is because executive compensation in Korea is much lower than in the U.S., even when adjusted for GDP per capita, making severance payments for a change of control less attractive. In this respect, although the phenomenon known as the “golden parachute” exists in Korea, I argue elsewhere that it should be called the “bronze parachute.” This difference in the magnitude of parachutes is partly due to cultural differences, and also because, contrary to the U.S., company ownership in Korea is skewed toward controlling ownership in family-controlled corporate groups. In a controlling shareholder system, it is the control premium for controlling shareholders, not the golden parachute for executives, that should be mainly considered in the market for corporate control.

In summary, the landscape related to Korea’s market for corporate control is extremely complex. Naturally, there are many issues not mentioned here due to space limitations. I hope this blog post will spark new discussions on the market for corporate control in Korea. 

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[1] Supreme Court in Korea.

[2] In this incident, Sovereign could not take control due to its small investment in SK Group. However, because of the complicated voting regulations in the Korean telecommunications industry, Sovereign could have dismantled the SK Group, which was built on complex cross-shareholding in relation to SK Telecommunication, a company that could be imposed by the voting regulations. In this light, Sovereign participated as a major player in the market for corporate control. In my analogy, while Sovereign could not “eat the lavish food on the table” themselves, they could “flip the table,” preventing those who were originally eating from continuing to do so.

[3] However, it can be said that the nature of the “disciplinary mechanism” is somewhat scathed, as legalized bribery is involved in replacing incumbent management in the market for corporate control.

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By Sang Yop Kang (School of Transnational Law, Peking University and ECGI)

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