Korean Corporate Governance Centered on Founding Families... "The Tilted Playing Field Must Be Corrected"

Reigniting Discussions on 'Directors' Duty of Loyalty' in Commercial Law
Academia Highlights Conflict of Interest Between Controlling and Minority Shareholders
Protecting Minority Shareholders' Interests... Need to Strengthen Shareholder Rights

As discussions on amending the Commercial Act related to the 'duty of loyalty of directors' have reignited in the 22nd National Assembly and government, concerns have been raised that the core of corporate governance in domestic listed companies stems from conflicts of interest between controlling shareholders and minority shareholders. This is because cases where controlling shareholders appropriate private benefits at the expense of minority shareholders' interests are increasing. Such structural problems are also a fundamental cause of the so-called 'Korea Discount'?the undervaluation of the domestic stock market by foreign investors. Academic experts have suggested that legal and institutional support to protect minority shareholders and strengthen shareholder rights is necessary to correct the 'tilted playing field' favoring controlling shareholders.

"The 'One-Nth' Principle Collapses When Controlling and Minority Shareholders' Interests Conflict"

On the 12th, the Korea Capital Market Institute and the Korean Securities Association jointly held a policy seminar titled 'Corporate Governance for Capital Market Advancement' at the Bulls Hall in the Financial Investment Center, Yeouido, Seoul. The event was organized to gather opinions on the recent key issue of amending Article 382-3 of the Commercial Act (duty of loyalty of directors).

Professor Woojin Kim of Seoul National University Graduate School of Business, who gave the first presentation, stated, "If there are conflict-of-interest transactions between controlling shareholders (owner families) and minority shareholders in listed companies, obligations must be imposed on decision-makers (the board of directors) to ensure that the interests of minority shareholders are not harmed for the benefit of controlling shareholders." He added, "In Korea, the 'one-nth' principle of wealth transfer among shareholders collapses due to conflicts between controlling and minority shareholders."

Professor Kim pointed out that as cases of controlling shareholders appropriating private benefits through new methods such as preferential business dealings and misuse of opportunities increase, the damage to minority shareholders' interests has become a serious problem. In response, the government has amended laws such as the Fair Trade Act (prohibiting unfair support and private benefit appropriation by controlling families) and the Commercial Act (prohibiting misuse of corporate opportunities and assets) to sanction private benefit appropriation by controlling families.

He explained, "The Fair Trade Act focuses on regulating unfair trade and competition restrictions within the industry, not on wealth transfer among shareholders. Therefore, it is difficult to prove private benefit appropriation by controlling families from the perspective of shareholder wealth transfer."

Considering the management structure of large Korean conglomerates, Professor Kim noted the limitations of regulating wealth transfer among shareholders through the Fair Trade Act. He said, "In Korea, decisions are made at the corporate group level rather than individual companies. Since wealth transfer among shareholders occurs through transactions such as mergers, new stock issuance, and asset sales among affiliates, improving systems centered on individual companies (such as the outside director system) has limitations."

Therefore, while sanctioning unfair support among affiliates is important, he argued that focusing on preventing losses to the supporting party (shareholders of the affiliate) is more reasonable. To this end, Professor Kim proposed, "Let's impose obligations on decision-makers (the board or controlling shareholders) to ensure that the interests of controlling and minority shareholders in listed companies are not harmed," and emphasized the need to strengthen the protection of minority shareholders' rights beyond the current level.

However, Professor Kim advised that the currently proposed amendments to the Commercial Act have limitations. Even if the amendment introduces the concept of 'proportional shareholder interests' into the provisions, considering precedents, courts are likely to interpret proportional shareholder interests similarly to the current concept of corporate interests. He suggested, "It may be possible to specify the duty of loyalty to shareholders only for transaction types where shareholders' gains and losses are difficult to connect to the company's gains and losses, such as mergers, or to introduce new provisions on damages related to mergers." This is because such measures could encourage courts to actively change precedents for these transactions.

He also stressed, "A provision requiring the 'entire fairness' standard, as in the U.S., should be newly introduced for conflict-of-interest transactions between controlling and minority shareholders (self-dealing where the controlling shareholder has an interest on both sides of the transaction)."

Controlling Family-Centered Governance... Principal-Agent Problems Inevitable

Next, Professor Hyunseung Na of Korea University’s Department of Business Administration identified the controlling family-centered governance structure in Korea as a key factor. He pointed out that controlling shareholders exercise absolute control over all affiliates by using shares in affiliates and non-profit corporations despite holding low direct ownership stakes. This inevitably leads to principal-agent problems between controlling shareholders and minority shareholders.

According to the Fair Trade Commission's '2023 Disclosure Target Corporate Group Share Ownership Status,' as of 2023, the internal shareholding ratio of controlling groups was 61.2%, up from 57.5% five years earlier in 2019. Of this, only 3.6% was directly held by the controlling family, while 57.5% was held by entities other than the controlling family. Despite low direct ownership, controlling shareholders exercise control over all affiliates by leveraging shares in affiliates and non-profit corporations. They use their high control rights to engage in preferential business dealings, mergers of affiliates, the 'magic of treasury stock' during spin-offs, and simultaneous listing of subsidiaries after physical spin-offs. This process sometimes results in wealth transfer from minority shareholders.

Professor Na said, "The market reflects the value decline caused by conflicts of interest between controlling and minority shareholders and the infringement of minority shareholders' interests in prices," adding, "This can be seen as a core factor of the 'Korea Discount,' where corporate value and stock prices are undervalued."

As an ideal direction for improving governance, he suggested autonomous improvement through active dialogue between shareholders and companies. He cited that while California's past regulation mandating female directors led to stock price declines, campaigns by large mutual funds from 2017 to 2019 successfully increased the proportion of female directors and garnered shareholder support.

Professor Na emphasized, "Investor protection is key in governance, and strengthening the rights of minority shareholders is necessary," adding, "Strengthening shareholders' rights empowers them to protect, assert, and enforce their own interests. It is about correcting the tilted playing field."

He further stated, "Rather than uniform policies, it is better to let shareholders engage in disputes with companies to find solutions," and added, "There is a need for policy support, such as entrusting National Pension Service funds, to empower domestic activist funds to expand their influence."

Making Shareholder Proposals Easier, Including Director Candidate Recommendations

Researcher Hyunyoung Hwang of the Korea Capital Market Institute emphasized the importance of strengthening shareholders' rights in director appointments and proposed measures such as notifying shareholders of general meeting information via KakaoTalk, staggering general meeting dates, and submitting audit reports with meeting notices.

Researcher Hwang noted, "Under the current Commercial Act, shareholders can recommend director candidates through shareholder proposals," and pointed out, "It is necessary to reasonably improve the shareholder verification procedures required by companies when making shareholder proposals." He also said, "Improvements are needed to allow exercising shareholder proposal rights when appointing directors at extraordinary general meetings," noting that "Currently, shareholder proposal rights cannot be exercised unless the notice of the extraordinary general meeting is given at least seven weeks before the meeting date."

He added, "In particular, Korea has strong sanctions such as voting restrictions for violations of the 5% rule," and emphasized, "To strengthen shareholder rights related to director appointments, it is necessary to review the 5% rule, proxy voting solicitation, and related systems."

This content was produced with the assistance of AI translation services.