According to CHOSUNBIZ reporting, many investment bank (IB) industry and legal and academic experts indicated the likelihood of an increase in hostile M&A or management disputes caused by foreign private equity funds or domestic activist funds.
However, there was a skeptical view on whether domestic mid-sized and large houses managing buy-out funds would engage in hostile M&A. Given the nature of domestic asset management firms managing public funds from national pension funds and other public entities, pursuing aggressive acquisitions is difficult. Experts noted that MBK Partners was able to attempt a management dispute with Korea Zinc because most of its fund investors were foreign institutions, but it should be pointed out that as a result, they faced repeated setbacks in investment projects from domestic public funds.
◇ British snack company becomes 'prey' after experiencing a financial crisis... How about Korea?
Is the current South Korean capital market equipped with conditions for hostile M&A and management disputes to become active? Generally speaking, it is difficult to say that the current capital market environment fits the increase in hostile M&A.
Marina Martinova divided the 'M&A wave' into five major stages in her 2006 study, discovering common characteristics that transcended all periods. Each time M&A was actively pursued, the economy was in an expansion phase, external capital markets were activated, and stock prices rose. This is the opposite of the current South Korean capital market.
However, there is a tendency for M&A to increase during the recovery process after market collapse or recession. This is because companies experiencing financial difficulties may have to attract external capital, or major shareholders might sell their equity or borrow against it, leading to weakened governance. Particularly, when a corporation is in a financially and structurally vulnerable state, it becomes even harder to establish defenses against attempts at hostile M&A. Conversely, it means that the conditions for hostile M&A to succeed become more favorable.
A representative example is the British confectionery company Cadbury, which was acquired by Kraft Foods in 2010. Cadbury faced a crisis due to poor management strategies, excessive investments in emerging markets, the growth of competitors, and compounded by the 2008 global financial crisis. As a result, amid declining stock prices, it became prey for hostile M&A. Despite the vigorous opposition from Cadbury's employees, labor unions, and the British public, the company ultimately fell into the embrace of Kraft Foods.
While our current economic situation cannot be compared to the global financial crisis, overseas precedents can serve as a gauge for predicting the future of the domestic M&A market. If corporations have become financially weaker due to the effects of economic recession and high interest rates, they are likely to be targets of hostile M&A by large corporations or private equity funds with capital.
However, many domestic large corporations are restructuring and divesting subsidiaries, which makes private equity firms with significant dry powder (capital raised but not yet invested) likely candidates to engage in hostile M&A. An official from a private equity firm noted, "It is difficult to achieve the target return with only traditional buy-out strategies," and added, "Many see MBK Partners' consecutive attempts at hostile M&A against Hankook Tire two years ago and Korea Zinc last year as a breakthrough to discover new sources of income."
◇ High inheritance tax rates reduce owner family's equity and suppress stock prices
The fact that domestic chaebol corporations are transitioning leadership from the founder's first or second generation to the third or fourth generation is also considered a factor that could lead to an increase in hostile M&A attempts. This is often due to the frequent decline in major shareholder equity because of inheritance tax payments. South Korea's current inheritance tax rate reaches 50% if the taxable standard exceeds 3 billion won. A legislative amendment to reduce the maximum tax rate from 50% to 40% and adjust the taxable standard was proposed but was rejected last month on the 10th.
An anonymous representative of a mid-sized private equity firm stated, "While sourcing deals, I often find that there are indeed quite a few companies whose governance has weakened as ownership transitions from the founding generation to the next due to inheritance tax payments," and added, "In such cases, financial investors (FIs) frequently approach the founder's children or grandchildren, suggesting that they transfer management rights at a reasonable price." They also noted, "Many of these firms have accumulated considerable tangible assets such as real estate rather than technology, allowing FIs to recover the amount invested in acquiring management rights through internal asset sales."
A specialist in M&A from a large law firm explained, "Because the inheritance tax rate is excessively high, it often puts the controlling shareholder in a disadvantaged position when the company's stock price is high. For that reason, if stock prices are suppressed and shareholder discontent accumulates, there is ample incentive for a third party to step in, saying, 'I will manage it.'"
The so-called Korea Discount (the phenomenon where Korean listed companies are undervalued compared to similar overseas companies) is considered a chronic issue our stock market faces. Hence, it is said that companies whose stock prices are undervalued compared to their intrinsic value easily become targets of hostile M&A.
Choi Seong-hwan, CEO of Research Alum, explained, "Value-up programs lack enforceability and have limitations in inducing short-term stock price increases, while hostile M&A is a very effective method for re-evaluating corporate value and immediately affecting stock prices."
◇ Private equity can be both 'attackers' and 'defenders'... Attention to cases of Hyundai Elevator and Hanmi Pharmaceutical
The current relationships among conglomerates are not as strong as in the past, which creates favorable conditions for an increase in hostile M&A. Representative A stated, "Just looking at the management dispute at Korea Zinc, the stock price rose, and companies previously classified as allies of Chairman Choi Yoon-bum sold their stocks to realize profits. This was something unimaginable in the past," adding that Hankook Tire & Technology and the investment firm of Yoon Kwan of BRV Capital reportedly sold all their holdings in Korea Zinc around last November.
Representative A pointed out, "Founders from the third or fourth generation often study abroad and lack the tight-knit relationships characteristic of the first and second generations. Furthermore, these days, helping fellow companies due to personal connections can easily lead to accusations of breach of duty from minority shareholders and activist funds, making it burdensome to assist other companies with corporate funds."
In such an environment, private equity can become 'attackers,' but on the flip side, they can also assist in defending corporations' management rights. Opportunities for income can increase in both directions.
A representative from a large private equity firm remarked, "Large houses that receive money from pension funds and public corporations find it burdensome to engage in hostile M&A, but they can certainly play a role in assisting owner families that are struggling to raise funds for inheritance taxes or have faced hostile M&A attacks."
In fact, H&Q Korea, a pioneer private equity firm in Korea, supported Hyundai Elevator with 310 billion won in 2014 to assist CEO Hyun Jeong-eun in defending management rights. Hyundai Elevator has faced management attacks primarily from its second-largest shareholder, Schindler, and KCGI Asset Management. After massive inheritance tax payments, Hanmi Pharmaceutical's Chairman Song Young-sook and Vice Chairman Lim Joo-hyun faced management disputes within the family and teamed up with Radiphan Partners, which acquired some of the shares from mother and daughter, acting as a white knight. It has been reported that DI Dongil, which faced management attacks from minority shareholders last year, also received offers from a domestic private equity firm to assist in defending management rights.