Corporate Governance: The Korean Perspective

By Atty. Herbert A. Tria

Korea's corporate governance system was widely regarded as one of the main causes of the 1997 financial crisis. In response, the Korean government introduced a number of new legal provisions designed to overhaul the system. These laws are generally aimed at removing the controlling shareholder's exclusive management as well as ensuring greater transparency. The Commercial Code and the Securities Exchange Act were amended to strengthen the rights of minority shareholders. The Commercial Code was also amended to protect shareholders from having their shareholdings diluted. Following the financial crisis, it was determined that false accounting carried out between companies and accounting firms was a contributing cause. In response to the problem, the Korean government introduced systems including international accounting standards and U.S.-style audit committees to strengthen auditing activities.

STRENGTHENING SHAREHOLDERS' RIGHTS

The Commercial Code and the Securities and Exchange Act were amended to strengthen the rights of minority shareholders. For example, the shareholding requirement for a minority shareholder's exercise of certain rights was reduced. A shareholder of a listed company holding 0.01 percent or more of the company's stock now has the right to file a derivative lawsuit, a shareholder holding 0.05 percent or more may examine the company's accounting books and request the dismissal of a director or a statutory auditor, and a shareholder holding 0.3 percent or more may attend general meetings of shareholders. For large listed companies, these stockholding percentages are reduced by half.

Encouraged by such changes in the law, minority shareholders have recently filed legal actions claiming damages. For instance, the minority shareholders of Korea First Bank, a major Korean bank, filed a derivative lawsuit against the directors of the bank for damages caused by the provision of credit to Hanbo Steel, which was in financial distress. In that case, the minority shareholders were successful in their claim for damages in the amount of 40 billion won (about $31 million). In another case, some of Samsung Electronics' minority shareholders (holding 0.0139 percent in total of the issued shares) filed a derivative lawsuit against the directors of the company for damages they caused by providing capital or payment guarantees to companies in financial distress. The minority shareholders were also successful in this case in their claim for damages against the directors in the amount of Wn97.7 billion.

The Commercial Code was also amended to protect shareholders from having their shareholdings diluted. Now, issuance of new shares to a third party, which excludes the existing shareholders' preemptive rights to purchase new shares, will only be allowed if such issuance is for purposes of introducing new technology, improving the financial structure or providing other contributions that are necessary for the business aims of the company.

RESPONSIBILITIES OF DIRECTORS

The amended Commercial Code provides that a listed company is required to appoint outside directors up to one-quarter of the total number of directors, and a listed company whose total asset value amounts to Wn2 trillion or more is required to appoint at least either three outside directors or one-half the total number of directors, whichever is greater in number. With respect to large listed companies, a minority shareholder who owns 1 percent or more of the shares should nominate the outside directors. One of the purposes of the provision is encourage the introduction of specialist managers into the business management of the company.

The Commercial Code sets forth requirements regarding director's responsibilities, including obligations of loyalty and confidentiality to the company, and also provides directors with rights to information on the company.

The Commercial Code was amended to overcome a previous practice by Korean conglomerates whereby certain "business instructors" would be employed to manage the companies within the conglomerate group through use of the company's management and executive facilities. Such persons were not appointed as directors and did not bear any responsibilities to the company in such roles. Under the new provision, persons acting in such capacity are deemed to bear the same responsibilities as appointed directors of the company.

REFORM OF ACCOUNTING AND AUDITING SYSTEM

Following the financial crisis, it was determined that false accounting carried out between companies and accounting firms was a contributing cause. This practice not only caused Korea's credit rating to fall sharply, both domestically and overseas, but also caused some Korean accounting firms to be subject to lawsuits or to go bankrupt due to sanctions imposed by the government. In response to this problem the Korean government introduced the following systems:

· international accounting standards;
· a US-style audit committees to strengthen auditing activities;
· requirement to report any change of accounting firm executing an outside audit during the same accounting year; and
· appointment of the same outside auditors for three years in case of a listed company.

In addition, a listed company or a corporate group with assets amounting to Wn7 billion or more is under a statutory obligation to have an internal accounting manager and an internal accounting management system.

REGULATIONS ON KOREAN CONGLOMERATES UNDER THE FAIR TRADE ACT

Under the amended Anti-monopoly and Fair Trade Act (AFTA), a corporate group with a total asset value of Wn2 trillion or more is prohibited from engaging in cross shareholding or providing debt guarantees within the corporate group. AFTA also places a restriction on the total sum of equity investment by a corporate group whose total asset value amounts to Wn5 trillion or more and whose equity debt ratio is 100% or more in the combined financial statements. The Fair Trade Commission is responsible for enforcing such regulations on Korean conglomerate groups and has been given the authority to track down and investigate any Korean corporate company accounts until February 4, 2004.

CLASS ACTION SYSTEM

Presently, the Class Action Bill is under legislative deliberation, which will allow securities investors who have suffered financial loss by reason of, for instance, a false public disclosure, a false auditing by an auditor or an inside trade, to file a claim for damages through a representative against companies or accounting firms which were engaged in such activities.

Source: Hoil Yoon, Yoong Neung Kee, Young Jae Shin. International Financial Law Review: The IFLR Guide to Korea 2002 London: 2002. p. 37-38.