many South Korean consumers, the
conglomerates that are into everything fromelectronics to amusement
parks, are a source of pride. For investors, they can be a headache.
Shareholders were reminded of this in May when Samsung proposed to
merge two of its affiliates: Cheil Industries, the group’s de facto holding
company, and Samsung C&T, the country’s biggest construction firm (it
put up the world’s tallest building, the Burj Khalifa in Dubai).
When the deal was announced, Cheil’s share price was around its
highest since its IPO in December, and that of C&T was near a five-
year low. CLSA, a stockbroker, said the deal would give Cheil the core
operations of C&T “effectively for free”, after subtracting the value of its
stakes in other group companies. That would suit Lee Jae-yong, the only
son of Samsung’s chairman, Lee Kun-hee. The elder Mr Lee has been
in hospital for over a year since a heart attack; his son is preparing to
pay about $5 billion in inheritance tax while keeping family control of
the group, through small stakes in a hairball of cross-shareholdings. The
merger allows Mr Lee to consolidate that structure, and to gain more
than $12 billion in stakes in other Samsung companies, including a
further 4.1% stake in Samsung Electronics, its flagship firm.
In an effort to sort things out, Ohio’s state legislature now requires greater
precision when its members draw up new statutes. At the end of last
year John Kasich, the governor, signed a first-of-its-kind law that requires
new crimes to specify a threshold level of intent, or be declared void.
So, for example, if legislators want an action to be criminal regardless of
intent, they must state that in the law. Where the existing code is unclear,
the threshold for guilt becomes “reckless” behaviour. The bill passed
with unanimous support.
Not so fast, said Elliott Management. The American hedge fund (widely
known as a “vulture” fund for its investments in distressed debt)
boosted its C&T stake after the merger was announced, becoming its
third-largest investor, and filed a lawsuit to block the deal. Elliott argues
that the merger is unfair for C&T shareholders, who it says will lose $7
billion due to the huge disparity in the two firms’ valuations: when
the merger was announced, Cheil’s stock was trading at over 130 times
forecast earnings, whereas C&T’s ratio had slipped to around 20. (Firms
in South Korea’s KOSPI index on average have a forward price-earnings
ratio of about 11.)
A court in Seoul has rejected two injunctions filed by Elliott to try to halt
the deal; it ruled that the ratio by which shares in C&T will be swapped
for Cheil shares did not indicate any price manipulation. South Korean
law says that the ratio must be based on average stock prices over the
previous month, a formula that Samsung used. Samsung contends
that the deal will “ultimately increase shareholder value” by fusing the
global network of its construction arm with Cheil’s food and fashion
businesses, though it is vague on how bringing together outfits from
such different industries will save much money.
Business has often been the victim of Congress’s shoddy lawmaking.
The conflict will come to a head on July 17th, when C&T’s shareholders
vote on the deal. Two influential investor-advisory firms, ISS and
Glass Lewis, have urged them to reject it. Each side is lobbying other
shareholders, made up of foreign investors (who hold about a third of
C&T shares), domestic private investors (who have just over a third)
and South Korea’s National Pension Service (NPS), which has a stake
of almost 12% and could be the swing voter. In November an attempt
to merge two other group companies, Samsung Heavy Industries and
(loss-making) Samsung Engineering, was blocked by the NPS, which
threatened to exercise an option to sell its shares in both firms rather
than end up with a stake in the merged entity.
Shin Jang-sup, an economist at the National University of Singapore,
says Elliott has already benefited handsomely from its investment in
C&T, with gains he estimates at more than 100 billion won ($100m).
In Mr Shin’s view, South Korea has strict trading regulations and a
crippling tax on inherited management rights: it is because the
are under such strict regulation, he says, that they have looked for
ways around them.
Sweeping reforms after the Asian financial crisis of 1997-98 boosted
shareholders’ rights and required large listed companies to bring in
more outside directors, for a time placing South Korea ahead of Japan
in the strength of its corporate-governance laws. But lobbying by the
chaebol has since undone much of the good work, says KimWoo-chan,
an economist at Korea University in Seoul. Only one big
has swapped its cross-shareholdings for a transparent holding-company
structure. South Korea now ranks at the bottom of Asian corporate-
governance league tables, with Indonesia and the Philippines.
The low valuation of South Korean firms relative to their developed-
country peers, known as the “Korea discount”, is blamed on corporate-
governance worries. Last year Hyundai Motors caused investor concern
when it bought land in Seoul for 10.6 trillion won, triple its assessed
value, for a glitzy new headquarters. The heads of four
Samsung, Hanwha, Hyundai Motors and SK Telecoms—have been
convicted of crimes in the past decade.
The government has begun to push firms to redistribute their huge piles
of cash in increased wages or dividends. The president, Park Geun-
hye, initially championed “economic democratisation”—passing a law
to give the country’s Fair Trade Commission greater powers in levying
fines on illegal transactions benefiting
family members, and
another preventing new cross-shareholdings. But she has since focused
on reviving a sluggish economy that is dependent on the
year two of her ministers suggested that convicted tycoons be pardoned
if they could contribute to boosting economic growth.
Bruce Lee, head of Zebra Investments, one of South Korea’s few funds
focused on corporate governance, says that even if Elliott’s bid fails, it
is only “the start of growing pains”: its challenge comes at a time when
succession issues loom at other
—and as South Koreans become
increasingly frustrated with the families’ sense of entitlement. In a rare
show of solidarity, a group of small C&T shareholders have delegated
their voting rights to Elliott. Some have even bought their first shares in
C&T, simply to vote against the merger.
Business ı July 11th, 2015
Corporate governance in South Korea
A bid to merge two of the group’s companies raises wider questions
Eprinted and posted with permission to Elliott Associates, L.P. from The Economist
July © 2015 The Economist Newspaper Ltd.
Keeping it in the family
*Ifmergerproceedson current terms
Shares held by the company itself
Shareholdings in Samsung group companies
2015, % of total
Electronics Industries C&T
Other Samsung cos.