Korea's debate on foreign capital
rages on By Andrew Salmon
SEOUL - With the shadow of US corporate
raider Carl Icahn hanging over former tobacco
monopoly Korea Tobacco & Ginseng (KT&G)
Corp, and with Dallas-based investment fund Lone
Star set to make close to US$4 billion in profits
when it divests its majority stake in Korea
Exchange Bank, debate is raging in South Korea
over whether - and how - to stymie mergers and
acquisitions (M&As) by overseas investment
funds.
The debate - which has been
simmering, with frequent flare-ups, since
Dubai-based private investment fund Sovereign
Asset
Management tried to unseat
the head of refiner SK Corp in 2003 - has, of
late, been taking place in the highest circles.
"We have no plan to adopt additional
defensive measures that do not conform to the
global standard," Finance Minister Han Duck-soo
said last month when asked about defense
mechanisms against hostile M&As. "We already
have sufficient tools and systems for companies to
defend themselves."
He cited the "golden
parachute" and "supermajority shareholding"
systems, both permitted under local law, as
defensive gambits. The golden-parachute system
requires the payment of massive compensation to
executives booted during a hostile takeover;
supermajority voting requires two-thirds of
shareholders to vote for a major managerial shift.
The chairman of the governing Uri Party's
Policy Committee, Kang Byon-kyun, has also weighed
in. On a radio show, he said the Foreign
Investment Promotion Act should not be changed to
protect local firms. M&A activity carries
"positive effects", he said, such as "accelerating
corporate structural reform and improving
governance structures". He added that the best
defense for local firms would be to attract more
domestic shareholders.
Koreans have
customarily preferred real estate to stock-market
investments, a situation that has left foreign
players with larger stakes in companies than in
comparable economies regionally. A report by the
Korea Center for International Finance discovered
that foreign investors held 39.7% of locally
listed companies at the end of 2005 - the
eighth-highest ratio among 33 major nations
surveyed. These numbers are a sea change for South
Korea: Prior to reforms mandated by the
International Monetary Fund and instituted after
the Asian financial crisis of 1997-98, there was a
33% foreign-shareholding ceiling on any domestic
firm.
But other high-profile figures are
at odds with Han and Kang. No less a personage
than President Roh Moo-hyun has said that
potential hostile M&As are one negative
byproduct of privatizations. Both Fair Trade
Commissioner Kang Chul-kyu and Financial
Supervisory Commission chairman Yoon Jeung-hyun
have publicly suggested that regulations governing
hostile M&As could, in fact, be revised,
though neither made clear exactly what steps
should be taken. The Financial Supervisory Service
has also said it would step up monitoring and
supervision of unfair trading by foreign investors
and offshore funds.
Some steps have
already been taken. In the midst of the
Sovereign-SK proxy battle last year - which was
widely painted in Korea as a hostile M&A
attempt, though Sovereign insisted it was merely
trying to dethrone convicted chairman Chey Tae-won
- changes were made to rules requiring investors
holding more than 5% who wish to "influence
management" (by such means as voting at
shareholders' meetings) to disclose their
intentions.
The media and business lobby
groups have also attacked rules preventing local
conglomerates (chaebol) from taking major
stakes in privatized state-run firms. "Some feel
it unfair that the government hobbles
chaebol so that they cannot take major
stakes in privatized companies, and as there is no
major shareholder, it makes [the privatized
companies] targets for corporate raiders like
Icahn," said Hank Morris, a financial specialist
at Seoul-based consultancy IRC Ltd.
Even
so, the threat appears minimal. "There is no
evidence that it is easy to pick off Korean
companies, although the local press ballyhoos this
as if it has some special insight," Morris said.
"There have been attempts at hostile takeovers by
local companies, but I believe they have been
blocked in every case, and the numbers are small:
you can count them on the fingers of one hand."
Amid concern over KT&G, some players
in South Korea's nascent asset-management industry
have responded patriotically. The nation's
second-largest financial group, Woori, has
announced the creation of a "white knight"
investment fund that would buy into the nation's
most vulnerable industries. Daehan Investment
Trust announced the formation of a similar fund.
And the Korean National Pension Fund has announced
that it would support the KT&G board's
candidates at the next shareholders' meeting.
However, it remains early days for South
Korea's heavily regulated and historically
under-invested capital markets. "Korea's capital
markets have been stunted," said Brendon Carr, a
lawyer at Seoul Law Group, referring to the heavy
regulatory hand of the recent past, "For now,
Korea does not have the capital markets or the
funds it needs for local white-knight investors to
emerge."
This means KT&G remains
vulnerable. It is 62% owned by overseas
shareholders, and unlike conglomerates such as
Samsung and SK, lacks cross-affiliate
shareholdings. It also cannot rely on "white
knight" behavior by fellow chaebol. Even
so, the company, which hired Goldman Sachs and
Lehman Brothers for advice, has fought a smart
fight.
KT&G has infuriated the
predatory alliance of foreign investment funds led
by famed New York-based investor Carl Icahn by
refusing all his demands; unlike those in the
United States, South Korean boards have no
fiduciary duty to consider buyout proposals.
KT&G also blocked Icahn's three board nominees
from winning seats on its board at the company's
annual general meeting by stating that only two
new outside directors could be elected. That move
was challenged in a local court by the US funds;
the court overruled the attempted injunction three
days before the annual stockholders' meeting.
Although Icahn ally Warren Lichtenstein
won a seat on the board at last month's meeting,
granting him full access to corporate information,
it remains uncertain how much influence he will be
able to wield when it comes to altering managerial
practices.
Regardless of what happens at
KT&G, one question circulating in the market
lately has been: Who's next? Media speculation has
it that the next target for an Icahn-style dawn
raid could be POSCO, the world's fifth-largest
steelmaker and a former state-run company
privatized in 2000.
The steel giant is
almost 70% held by foreign investors, analysts say
it is undervalued compared with foreign rivals,
and the sector is in the midst of consolidation
moves, highlighted by Mittal Steel's January bid
for Arcelor. POSCO executives have told the local
press that they could ask Japan's Nippon Steel, a
key investor, to act as a white knight, adding
that they plan to raise local stakeholdings to 40%
by the end of the year.
But it is not just
hostile M&A moves that are shaking South
Korea. Foreign buyout funds that acquired bankrupt
financial institutions and office buildings from
government-run agencies and government-controlled
banks face heavy flak in the media and resultant
public disfavor.
Newbridge Capital
realized US$1 billion in profits on its turnaround
and sale of Korea First Bank to Standard Chartered
Plc, while Carlyle Group made $675 million on its
turnaround and sale of KorAm Bank to Citigroup.
Those profits - as well as profits generated by
Lone Star when it sold the landmark Star Tower in
Seoul for $230 million in profit in 2001 - have
generated a vicious public and regulatory backlash
against "vulture funds" that still plagues the
Dallas-based fund today, just at it stands on the
verge of making the biggest gains of all: about
$3.7 billion off its Korea Exchange Bank
divestment.
In South Korea, where negative
press coverage often prompts official action, Lone
Star has twice suffered office raids and is facing
a battery of charges. Tax authorities have slapped
it with a $200 million fine for tax evasion: the
fund has appealed. State prosecutors are also
looking into tax irregularities, and a
parliamentary audit committee is investigating
whether the fund leveraged falsified information
during the acquisition of the then-distressed bank
in 2003.
These attacks on foreign
investment funds - whose crimes appear to be
making large (in local parlance, "excessive")
profits without paying Korean taxes, as their
investments were structured via territories such
as Malaysia's Labuan, which have dual taxation
treaties with South Korea - by opinion leaders and
regulators are simply the latest manifestation of
a long-held Korean suspicion of foreign commerce
and investment.
In the early 1990s,
nationalistic consumer groups agitated against
imported products in campaigns against "excessive
consumption". After the 1997-98 economic crisis
pried South Korea's local markets open and raised
ceilings on foreign investment, voices in media,
academia and labor circles howled that Korea's
"crown jewels" were being flogged to foreign
investors at "fire sale" prices.
In
reality, many of the direct investments made
during this period - such as General Motors'
acquisition of Daewoo Motors and Renault's buyout
of Samsung Motor - have been positively assessed
for keeping the firms alive, maintaining
employment, aiding exports and importing needed
technologies and managerial practices.
Investment funds, however, continue to
face a rough ride. While the considerable risks
the funds took by investing in companies that were
on the brink of bankruptcy are often overlooked,
many local opinion leaders say that, unlike direct
investors, the "vulture funds" have added little
value, and are instead diminishing national wealth
by focusing on generating profits rapidly, then
cashing out.
With the concepts of
shareholder activism and value creation having
barely taken root in South Korea, the contrast
between foreign and local investors' perspectives
came into clear focus at KT&G's meeting last
month. One unidentified shareholder, presumably
supporting Icahn, stood up and said: "This is the
first time I have ever met shareholders who are
not interested in value creation." He was rebuffed
by another shareholder, who insisted that foreign
investors did not understand the South Korean
tobacco business, and with their focus on
short-term profitability, were endangering
long-term strategies.
Andrew
Salmon is the Seoul-based author of
American Business and the Korean Miracle: US
Enterprises in Korea, 1866-the Present and a
frequent contributor to the South China Morning
Post, the Washington Times and The Times.
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