The only social responsibility of business executives is to maximize shareholder profits.Milton Friedman, New York Times, Sept. 13, 1970
The column by Milton Friedman published in the New York Times in 1970 created an unprecedented response. Friedman, a Nobel Prize-winning economist, redefined the concept of "corporate social responsibility" with this phrase, establishing it as a dominant proposition in the economic community until the 2008 global financial crisis.
Friedman's theory has also served as a basis for justifying hostile mergers and acquisitions (M&A). If a private equity firm seeks to acquire management control at a price significantly above the current market level, do the executives have the right to refuse? It could be seen as depriving shareholders of the opportunity to gain greater profits.
This is precisely the reason why existing executives must be particularly cautious in preparing defenses against hostile M&A. Since the defense against hostile takeovers is inherently prone to conflict with the maximization of shareholder interests, existing executives must minimize potential harm to shareholders while also having sufficient justification. They must convince shareholders that the need for defense against hostile M&A is not merely to protect the interests of current executives but to ensure the long-term stability of the entire corporation.
We have examined which companies have been vulnerable to hostile takeover attempts and what appropriate defense strategies exist.
◇ Like the U.S. manufacturing industry in the 1980s … Will secondary battery companies become M&A targets amid industrial changes?
According to a 2000 study by U.S. finance scholar William Schwert, the greater the information asymmetry in the market about a corporation's intrinsic value, the higher the likelihood of exposure to hostile M&A. In other words, companies that are not well-known and undervalued in the market are more likely to become targets of hostile M&A.
There is also a tendency for hostile M&A attempts to occur in industries that are undergoing structural changes. During the restructuring of the U.S. manufacturing sector in the 1980s, automotive and steel companies that had been phased out became the main targets of hostile M&A.
A typical example is RJR Nabisco, a tobacco producer acquired by Kohlberg Kravis Roberts (KKR) in 1988. After the value of Nabisco plummeted following Black Monday in 1987, its management pursued a share buyback, but KKR sought to acquire management control at a higher price. At that time, KKR valued Nabisco's tobacco business for its stable profitability and diversification opportunities, borrowing vast amounts of money using Nabisco's assets as collateral to secure management control. KKR's acquisition of Nabisco involved a total of $25 billion, which was recorded as an unprecedented leveraged buyout (LBO).
Carl Icahn, known as a 'corporate raider' who gained recognition domestically by acquiring a stake in KT&G, successfully executed a hostile takeover of Trans World Airlines (TWA) in 1985. TWA was targeted for acquisition due to its high asset value, including aircraft.
Considering this, companies suffering from the effect of the electric vehicle chasm (temporary demand stagnation), such as materials for secondary batteries, and corporations with advanced AI semiconductor technology but struggling with financial difficulties may become targets for hostile M&A.
Companies like Korea Zinc that have low shareholding ratios among existing executives or have a small gap in equity holdings between the first and second largest shareholders are also likely to be targets of hostile M&A. Additionally, insights can be gained from the company’s articles of association. A lawyer specializing in capital markets at a major law firm stated, "Companies that do not have a cap on the number of directors in their articles of association are highly likely to become targets of hostile M&A," explaining that while special resolutions (requiring more than two-thirds of attending shareholders' votes) are needed to dismiss directors, only ordinary resolutions (requiring a majority of attending shareholders' votes) are sufficient to appoint directors, allowing many directors to be installed to take over the board.
Additionally, a 2011 study by Jon Armer and others showed that companies with a low Q-ratio (the market value divided by the asset value) or those with high liquidity and healthy cash flow are more likely to become targets of hostile M&A. It was also found that companies with low earnings per share (EPS) and those that have separable subsidiaries or assets are also more exposed to hostile M&A. Moreover, companies with long-term investment plans that have yet to be reflected in stock prices are also likely to be targeted.
The dilemma of hostile M&A is that 'the better the company, the easier it is to be attacked from the outside.' Therefore, it is very important for a company that could be a target of hostile M&A to consider what defense measures to employ.
◇ Korea Zinc mobilizes typical defense measures
Typical defense strategies against hostile M&A can be broadly divided into preventive and active defenses. Active defenses are primarily employed after an opponent's hostile takeover attempt has materialized.
Preventive defenses include poison pills, dual-class shares (disproportionate voting rights), golden parachutes, amendments to the articles of association, and mobilizing white knights. Among these, the strategies legally usable in the country are golden parachutes, amendments to the articles of association, and mobilizing white knights.
A poison pill gives existing shareholders the right to purchase additional shares at a discounted price. This creates a dilution effect on the acquirer's equity, reducing the attractiveness of hostile M&A. Disproportionate voting rights allow for different voting rights to be assigned to each share based on the corporation's articles, ranging from 0.5 to 1000 per share. This practice is prohibited under securities law in Korea.
A golden parachute refers to providing substantial severance pay or stock options as financial compensation to existing executives. From the acquirer's perspective, the costs of replacing executives may be high, which can diminish their desire for the acquisition. Previously, Jinwon Life Science included a clause in its articles of association stating, "If the CEO resigns, they receive 10 billion won; if a director resigns, they receive 6 billion won," which led to controversy before being abolished in 2023.
Amendments to the articles of association can include establishing a cap on the number of directors. If there is a cap, existing directors cannot be dismissed and new individuals appointed unless terms are expired, which requires passing a special resolution, making the cost to gather a quorum much greater than for an ordinary resolution. In other words, if there is a cap on the number of directors, the cost of acquiring management control rises significantly, reducing the desire for hostile M&A.
Staggered board terms are also a management defense measure that can be introduced through amendments to the articles of association. By stipulating that directors' terms expire in succession, it prevents a third party from being able to replace the entire board all at once, even if they succeed in hostile M&A. For example, if the entire board's terms expire in thirds, even if the hostile M&A proponent secures a majority of the shares, it becomes impossible to replace the board all at once.
Active defense strategies include recapitalization, which involves altering the capital structure to reduce the attractiveness of the corporation or issuing special dividends to raise the cost of acquisition. Other strategies include selling key assets, proxy fights, legal disputes, and share buybacks to dilute the acquirer's equity stake.
In the current management dispute case involving Korea Zinc, it appears that Chairman Choi Yun-beom has mobilized almost all of the active defense strategies available in this country. The attempt to publicly buy back and cancel shares through large-scale borrowing, as well as the planned 2.5 trillion won capital increase, can be seen as a form of recapitalization. Additionally, Chairman Choi is waging a proxy fight with MBK Partners and Youngpoong ahead of an extraordinary shareholders' meeting on the 23rd, and legal disputes, including allegations of breach of fiduciary duty, are already underway.
Meanwhile, industry insiders agree that defense measures against hostile M&A should not exclude acquirers entirely or excessively restrict shareholder choice. It is also very important whether the defense strategy is proportional to the level of threat faced by the corporation.
The issue of proportionality in defense emerged during the 1985 corporate control dispute involving Unocal (now Chevron) in the United States. Unocal was the holding company for California Union Oil Company. When Mesa Petroleum attempted a hostile takeover through a tender offer of $54 per share, Unocal responded with a share buyback. They proposed to buy back all shares except those held by Mesa at $72 per share. Mesa later filed a lawsuit, asserting that Unocal's exclusion of them from the buyback was unfair, but the Delaware Supreme Court ruled that Unocal's defensive measures were lawful in comparison to the level of threat posed by Mesa.