Hostile mergers and acquisitions should not be taken lightly. As ownership transitions from the founding generation to the third and fourth generations, the shareholding ratio of major shareholders is decreasing, resulting in more corporations becoming targets of hostile takeovers.
From the perspective of corporations, the best defense is to seek professional help. Consulting a lawyer specialized in management disputes with substantial experience is one approach. Attorney Yoon Young-kyun from the law firm Hwawoo, a well-known figure in management disputes, successfully represented Chairwoman Song Young-sook and her daughter in a management dispute case last year involving Hanmi Science. In 2023, during the management dispute at SM Entertainment, he obtained a decision in favor of founder Lee Soo-man in an injunction against issuing new shares. He has also played roles in management disputes and shareholder meetings for corporations such as Hanjin KAL, Hanjin, Kumho Petrochemical, and Hyundai Elevator, among others.
Recently, I met with Attorney Yoon at the Hwawoo law firm office in Samseong-dong, Gangnam, Seoul, to ask what defense strategies domestic corporations can prepare against attempts of hostile M&A. Here is a Q&A.
─What conditions might make corporations targets for hostile M&A?
“There are 'three criteria' that make a company a target for activist fund attacks or hostile M&A. First, the stock value must be fundamentally undervalued. Second, the major shareholder's equity must be low enough that equity can potentially be reversed (by the second-largest shareholder) at any time. It is beneficial if there is already a second-largest shareholder with a high equity ratio. Third, the major shareholder or existing management must have moral shortcomings. This makes it easier to unify minority shareholders and target the existing major shareholder or management for an attack. If these three criteria are met, the company is a very attractive target for outside attacks.”
―Do you think hostile M&A will increase in the country this year?
“First, we need to clarify the terms. Hostile M&A and activism are included in the broad definition of 'management disputes.' Management disputes may also involve disputes among relatives, and minority shareholder alliances can raise various issues against the management and apply for injunctions for document inspection and copying.
Generally, activist funds do not attempt to seize management control of a company. In contrast, hostile M&A involves making a company their own. However, activist activities and hostile M&A cannot be completely separated. In the case of Hanjin KAL, KCGI initially entered as an activist fund but later formed a third-party alliance to obtain management control.
The initiation of hostile M&A in the country has not happened suddenly. Good corporations like Hyundai Elevator and KT&G have been attacked by foreign funds over time. However, if MBK Partners were to win in the management dispute of Korea Zinc this time, it could lead to an increase in the attempts of foreign funds to acquire domestic corporations.
―What defense strategies can domestic corporations employ to prepare for hostile M&A, considering that anti-takeover measures like poison pills (preference to purchase new shares) are legally not allowed in our country?
“Poison pills are impossible until the Commercial Act is amended. However, there are still methods to achieve similar effects. For example, buying back shares at a very high price could damage the company's financial structure and reduce its attractiveness for acquisition.
Rather, proactive preparations are important. Corporations must prepare well in advance through their articles of incorporation. For instance, if a corporation wants to execute a third-party allocation of paid-in capital against a white knight in response to hostile M&A attempts, it might not be possible due to the articles of incorporation. If the articles state, 'Third-party allocations of new shares or stock-related bonds can only be made to foreign investors,' there will inevitably be restrictions on mobilizing a white knight until this provision is changed.
If securing a white knight proves difficult, corporations should prepare to have allies who could support the major shareholder or management during emergencies, similar to an employee stock ownership association. They should not be complacent with the thought that 'our company has nothing to do with management disputes.'
―The need to prepare in advance to secure friendly shareholders raises the question of whether there are any points to consider during this process.
“Attention must be paid to the disclosure of shared equity ownership. A shared equity relationship means a bond of agreement for joint exercise of voting rights and collective disposal of equity. Shareholders bound by this relationship must disclose their combined equity stakes. In other words, they must reveal that 'we are one body.' If shareholders are in a shared equity relationship but do not disclose their combined stakes, this could be a violation of disclosure rules, which may result in a restriction on exercising voting rights for six months after correcting the disclosure.
Thus, if the management has secured friendly shareholders, and the opposing party becomes aware of this, they may file for an injunction against exercising voting rights in advance. Alternatively, they could later file a lawsuit arguing that 'there are defects in this shareholders meeting.' Therefore, it is crucial to always pay attention to this issue during the process of expanding friendly equity.
Restrictions on voting rights are a legal effect. It is possible to impose restrictions on voting rights without an action by the financial authorities, but a disposition order requires the action of the Financial Services Commission.
―What effects can management seeking to defend against an attack gain from concealing friendly shareholders?
“The obligation of due diligence may be problematic for friendly shareholders willing to help. In other words, there could be shareholder backlash against buying equity with company funds for the benefit of a third party. The necessity for 'business synergy' or 'mutual cooperation between corporations' must be acknowledged; otherwise, friendly shareholders may hesitate to disclose their relationships.
―What other management defense measures are available?
“First, there is the method of specifying an upper limit on the number of directors in the articles of incorporation. This would limit the number of directors, providing a defense against the appointment of directors by attackers. Dismissals of directors require a special resolution at a shareholders' meeting, while appointments can usually be made through a general resolution. Thus, without an upper limit on the number of directors, even with a majority shareholding, it would be possible to easily appoint one's own people to the board and seize control of the company.
Additionally, one could introduce a staggered election system based on the assumption that there is a limit on the board. The staggered system makes it possible to elect directors sequentially, thereby preventing multiple vacancies from occurring simultaneously on the board. For instance, if the board's total number is hypothetically seven, and the terms of all seven members expire at once, then those securing a majority equity could fill all vacancies at once with their preferred candidates.
In contrast, if there are only three vacancies among the seven, the defending side can maintain control of at least four seats. To take the remaining four seats, they would need to dismiss the existing directors through a special resolution at a shareholders' meeting, which requires controlling 67% of voting rights – a reality that is quite challenging.
A supermajority requirement for director removal is also a weapon available through amendments to the articles of incorporation. Generally, dismissing a director requires a special resolution supported by at least two-thirds of voting shareholders (based on the number of shares), but one could consider specifying in the articles that 'for the dismissal of a director in specific situations, over 90% approval is required.' The courts have been divided in their judgments regarding whether this complies with the Commercial Act.
─Is there a strategy that can be used directly in a shareholders' meeting without being able to amend the articles of incorporation?
“One method is to rearrange the agenda of the shareholders' meeting to aim for the automatic cancellation of the opposing party's motions. For example, assume a company limits its board size to seven in its articles of incorporation, and two directors' terms have expired amid a management dispute between A and B, each leading two candidates. If the appointments for each candidate are voted on, the moment two appointments are passed, the motions for the remaining candidates automatically become void.
Therefore, how the order of each candidate's appointment is arranged is extremely important. There have been cases where the parties in the management dispute opposed this and filed for injunctions, yet many court precedents suggest that 'the order of agenda items is at the chairperson's discretion.'
─It's also important which side chairs the meeting.
“Exactly. Therefore, if minority shareholders request the convening of an extraordinary shareholders' meeting against the existing management, the company must properly accept that request. If the company refuses and a court grants a summoning decision, the minority shareholders can directly convene the meeting and take the temporary chairperson's seat. This allows the minority shareholders to proceed with the shareholders' meeting favorably through methods such as limiting voting rights.
─What other advantages can the existing management (board) leverage from leading the shareholders' meeting?
“An extraordinary shareholders' meeting of a listed company can be held as early as six weeks from the decision date. However, since shareholder proposals must be submitted six weeks prior to the extraordinary meeting, if the company schedules the meeting within that timeframe, the opposing party will not be able to make any shareholder proposals.
―Is it also possible to use treasury shares for defensive measures in management rights?
“If there are sufficient distributable profits, it is advantageous to hold a large quantity of treasury shares. Since there is no legal obligation to retire shares, merely acquiring them conveys the significance of enhancing shareholder value. This can have the effect of propping up the stock price.
Disposing of retained treasury shares to friendly shareholders is not strictly prohibited and can be utilized in management dispute situations. In the past, selling treasury shares to friendly shareholders was viewed as akin to issuing new shares and faced legal prohibitions, but subsequently, contrary rulings have gained some traction. Currently, holding a substantial amount of treasury shares remains one of the strongest preemptive defense measures against management rights takeovers.
―Is there anything noteworthy in the corporate law amendment being pushed by the opposition?
“Until now, the duty of directors has been to protect the company's interests. Therefore, in management dispute situations, it has not been a significant issue to work in favor of the major shareholders' defense against management control.
However, if the amendment to the Commercial Act changes the duty of directors from 'the interests of the company' to 'the interests of all shareholders,' the narrative will inevitably change. The board will find it more challenging to comfortably engage in actions that support major shareholders in defense of their management rights.
―The concentrated voting system, which is gaining attention due to Korea Zinc, is also included in the corporate law amendment.
“The amendment states that listed companies with total assets of over 2 trillion won cannot exclude the concentrated voting system in their articles of incorporation. Currently, more than 90% of domestic corporations have excluded the concentrated voting system, and disputes have arisen within the remaining companies that have adopted it.
However, even without mandating the concentrated voting system by law, it can be adopted if minority shareholders desire it. To amend the articles to exclude the concentrated voting system, a special resolution at the shareholders' meeting is required, in which case the voting right is limited to 3%. Regardless of how much equity the major shareholder holds, they can only exercise their voting rights up to 3%. Minority shareholders already possess the means to prevent the major shareholders from overstepping their authority. Thus, there is room to reconsider whether it is indeed essential to mandate the concentrated voting.