South Korea

Author: | Published: 5 Jan 2004
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In an effort to open its economy by attracting foreign investors, Korea has engineered successive waves of foreign investment laws liberalization since the 1960s. This push for liberalization assumed greater urgency after the Asian financial crisis in 1997. In the aftermath of the financial crisis, foreign investment regulations were further relaxed and the procedures involved have been further streamlined. The Korean foreign investment environment has come into line with its advanced industrial and information economy.

Foreign investment in Korean companies may take place using various structures. The actual investment structure selected will depend on the specific requirements of both the foreign investor and the Korean company, and the legal, regulatory and tax implications arising from using a particular structure. All of these factors should be studied and taken into consideration in order for both the foreign investor and the company to agree an optimum structure meeting both parties' needs. This article will focus on the legal and regulatory environment surrounding investments in Korean companies by means of a share purchase.

Foreign investment in Korea

Basic corporate law - Korean Commercial Code
Any company operating in Korea, whether its shareholders are foreign or domestic, will be subject to various general corporate legal requirements pursuant to the Korean Commercial Code (KCC). The KCC recognizes four kinds of companies, but only two: joint stock companies (chushik hoesa) and limited liability companies (yuhan hoesa) (similar in form to a German GmbH), are eligible for foreign investment.

Most foreign-invested companies in Korea are chushik hoesas, while the yuhan hoesa vehicles are typically used by small family-owned businesses. This is because a chushik hoesa offers a greater variety of investment routes, including preferred stock, bonds and debentures. In addition, the chusik hoesa, unlike a yuhan hoesa, does not have any restriction on the number of its shareholders. The advantage of a yuhan hoesa, on the other hand, is that its corporate organization is treated less formally and share transfers may be restricted pursuant to its articles of incorporation (AOI).

Chushik hoesas having paid-in capital of W500 million ($421,976) or greater must have a board of directors consisting of at least three members. A chusik hoesa is also required to have at least one statutory auditor or an audit committee. In addition, the Securities and Exchange Law (the SEL) and certain other laws require a certain minimum number of outside directors and impose certain other corporate governance requirements.

Foreign direct investment vs portfolio investment
Foreign investment in Korean companies will be categorized as either a foreign direct investment under the Foreign Investment Promotion Law or a portfolio investment under the Foreign Exchange Transaction Law. If a foreign investor either acquires 10% or more of the total outstanding voting shares of a Korean company or participates in the management of the company (generally evidenced by its right to appoint of the company's directors) notwithstanding its acquisition ratio being less than 10%, such investment will be considered as a foreign direct investment under the Foreign Investment Promotion Law. Under this law, foreign direct investments are generally administered by the Ministry of Commerce, Industry and Energy (MOCIE), although other ministries may be involved in certain cases, depending on the industry to which the company belongs. Investments that do not qualify as foreign direct investments under the Foreign Investment Promotion Law are treated as portfolio securities investments under the Foreign Exchange Transaction Law . The Ministry of Finance and Economy, the Bank of Korea and the Financial Supervisory Commission are the main regulatory bodies supervising portfolio investments.

Businesses open to foreign direct investment
Korea uses a negative list system, which means that a business is open to foreign investment unless it is specifically restricted. By virtue of the Korean government's liberalization policy, the number of restricted or prohibited business activities on the negative list has been reduced so that almost all areas of Korean business are open to foreign investment.

For example, it is possible for a foreign investor to own 100% of the shares of a Korean company engaged in most of the manufacturing businesses, Internet content provision, web communications, or other forms of e-commerce. But a foreign investor's ownership of shares in a domestic periodical publication business is limited to amounts that are less than 50% of the total shares in issue. In respect of large telecommunication business companies, aggregate foreign ownership cannot exceed 49% of the total outstanding shares. With respect to the power-generation businesses operated by government invested institutions, the aggregate foreign ownership must be less than 50% of the total outstanding shares and a foreign investor cannot be the largest shareholder.

Publicly listed companies
If the foreign investment involves shares of a Korean company which is listed on the Korea Stock Exchange (the KSE) or registered on the Korea Securities Dealers Automated Quotation (KOSDAQ) market, the SEL and other related rules and regulations will apply.

Monopoly regulation and the Fair Trade Law
Lastly, depending upon the amount of the investment and the general market structure of the Korean company's business, certain reports or approvals may be required to be filed or obtained pursuant to the Fair Trade Law.

Regulatory framework for acquisition of shares in a Korean company

Acquiring new shares
KCC requirements - preemptive rights
The KCC is the basic statute governing preemptive rights and conditions under which new shares may be issued to allow an outside third party's participation in the capital increase of a domestic company.

By law, the existing shareholders possess a preemptive right to subscribe for newly issued shares in proportion to their respective shareholdings. If any shareholder waives or loses its preemptive rights by failing to exercise them, the company's board of directors may determine the allotment of such non-subscribed shares. Notwithstanding the above principle, the board may resolve to issue new shares to a person who does not hold any existing shares (or to a certain shareholder(s) not in accordance with its shareholding ratio) if the company's AOI so permits.

Foreign Invesment Promotion Law requirements - prior report
A foreign investor's direct investment in the form of an acquisition of newly issued shares of a Korean company will normally be subject to a prior report/acceptance procedure under the Foreign Investment Promotion Law.

To be more specific, in order to acquire shares in a Korean company that engages in an unrestricted business, the foreign investor must report such acquisition to the proper authorities after entering into an investment contract for such shares but before their actual acquisition. The MOCIE has delegated its authority under the Foreign Investment Promotion Law to grant such acceptance to certain authorized foreign exchange banks. These authorized foreign exchange banks are comprised of such domestic banks and Korean branches of foreign banks that the MOCIE has designated to perform certain tasks related to foreign direct investments. The foreign investor is required to submit a foreign investment report to any of these banks and such report is normally accepted within one to two days.

After the foreign investment acceptance is issued, the foreign investor can subscribe for the new shares in the Korean company. Once the full amount of the invest­ment has been deposited into the Korean company's share subscription account, the foreign investor will become a shareholder on the immediately following day and the company can register with the government as a foreign invested enterprise.

SEL requirements - deemed public offering and issue price restrictions
When acquiring newly issued shares of a listed company, the SEL and related regulations impose certain restrictions on the issue price where such shares are not being issued based upon the preemptive rights of existing shareholders. The SEL and its subordinate regulations contain a detailed formula to determine the minimum issuance price of such new shares. Investors may not be able to acquire new shares at a price which, in general, reflects more than a 10% discount from the prevailing market price.

Under the SEL, the issuance of new shares in a listed company is generally deemed to be a public offering and such company is required to file a registration statement with the Financial Supervisory Commission in respect thereof, even if the purchaser is only one person and such person is an institutional investor. In order to be exempted from the filing requirement, the purchaser must deposit the new shares with the Korea Securities Depository and agree not to withdraw or dispose of such shares for one year.

Acquiring outstanding shares
KCC requirements
Under the KCC, the delivery of share certificates is required to effect a share transfer. In the case of a listed company, the share certificates are usually deposited with the Korea Securities Depository, in which case share certificates can be delivered through electronic account transfers. Therefore, the Korean company should have issued share certificates to the existing Korean shareholders before the closing. But if the Korean company has not issued share certificates and the company was set up longer than six months ago, it may be possible to transfer shares through a deed-of-share transfer.

Foreign Investment Promotion Law requirements
A foreign investor must file a prior report on the acquisition of shares with MOCIE (through a designated foreign exchange bank) pursuant to the Foreign Investment Promotion Law in accordance with the relevant regulatory requirements, which are similar to those for the acquisition of newly issued shares (as described above).

SEL requirements - tender offer rules
Under the SEL, any person who, together with any specially related persons (which includes affiliated persons and persons acting in concert as defined under the SEL) intends to acquire with consideration or purchase 5% or more of the total issued and outstanding shares of a listed company or already holds 5% or more of the shares of listed company purchases additional share(s) in such company, in each case, outside the KSE or the KOSDAQ from 10 or more persons during any six-month period, is required to make a public tender offer.

Various reporting requirements
SEL requirements ­- large shareholding report
Once the foreign investor holds (or is deemed to hold) 5% (when aggregated with shares or other equity related securities held or deemed to be held by a person having a special relationship (essentially, affiliates) or acting in concert with such foreign investor) of the voting shares and/or certain other equity related securities issued by a listed company, it will be required to file a report with the Financial Supervisory Commission within five business days. For the purpose of this report, the foreign investor (together with its specially related persons and persons acting in concert) is deemed to hold the shares upon entering into a share purchase agreement. In addition, another report should be filed within five business days of any change of 1% or more in such holdings.

Should the holdings of the foreign investor reach 10% or more of the issued and outstanding voting shares of the Korean company, a separate report should be filed within 10 days and any change in shareholding (even if it only involves one share) must be reported on a monthly basis.

Fair Trade Law requirements - Fair Trade Commission filing
In certain circumstances, investments in Korea may trigger Fair Trade Law filing requirements and scrutiny. The Fair Trade Law regulates various types of mergers and acquisitions, including the acquisition of shares or a business.

In general, anti-trust clearance filing should be filed, among others, in the following circumstances:

  • the acquisition of all or a large portion of a target company's business or assets, if the acquirer or the target company has assets or revenues (including those of its affiliates as prescribed under the Fair Trade Law) which are equal to or exceed W100 billion;
  • the purchase of the existing or new shares of an existing company, if the acquirer company or the target company has assets or revenues (including those of their respective affiliates as prescribed under the Fair Trade Law) that are equal to or exceed W100 billion and the acquirer intends to effect a transaction as a result of which the acquirer becomes a shareholder holding 20% (15% if a listed company) or more of the voting shares of another company; or
  • a merger between companies, one of which has assets or revenues (including those of its affiliates, as prescribed under the Fair Trade Law) which are equal to or exceed W100 billion.

If the FTC finds that any of the above investments will substantially restrain competition in the relevant market, it has the authority to take various countermeasures to eliminate or reduce such anti-competitive effects, including issuing an order prohibiting the transaction (in the case of pre-closing anti-trust clearance filing) and an order to dispose of shares or divest the relevant business or assets.

In certain circumstances a presumption of anti-competitive effect will arise and the burden of proof will shift to the parties in question to show that the investment will not have anti-competitive effects on the relevant market. Once established, it is quite difficult to overcome such presumption.

The Alien Land Acquisition Law
Foreign investors acquiring outstanding shares of a Korean company should be mindful of the implications of the Alien Land Acquisition Law (the ALAL). Under this law, where a foreigner acquires 50% or more shares of a Korean company that already owns land in Korea, such Korean company would be regarded as a foreigner and must file a report with the relevant local authority within six months of the acquisition.

Foreign Exchange Transaction Law requirements
In connection with their investment in a Korean company, some foreign investors enter into shareholders agreements with the major Korean shareholders of such company, which may include put/call option arrangements. Such contractual arrangements are regarded as a derivative transaction under the Foreign Exchange Transaction Law and should be reported to, and accepted by, the Bank of Korea before entering into the arrangements.

Legal issues upon exit

Reporting requirements
Under the Foreign Investment Promotion Law, shares acquired pursuant thereto can be sold by the foreign investor on or off the market at any time, but subject to certain reporting requirements, which are similar to those applicable at the time the foreign investor acquired the shares. To the contrary, the shares acquired under the Foreign Exchange Transaction Law for portfolio investment purposes can, in principle, only be sold on the market (that is, through the KSE or KOSDAQ).

Lock-ups in connection with IPO
If the shares of the Korean company are, or soon will be, traded on the KSE or the KOSDAQ market, the foreign investor must consider certain other issues. Furthermore, where investments are made in unlisted companies, one of the exit strategies for many of such investments is to assist the relevant company in listing or registering its shares on the KSE or KOSDAQ.

A Korean company planning to list its shares on the KSE or the KOSDAQ are subject to certain pre- and post-listing/registration lock-up restrictions. With respect to a KSE listing, the shareholding ratio of the largest shareholder and its specially related persons, and any shareholder owning 1% or more of the total issued and outstanding shares of the company must not change during the one-year period before its application for listing, subject to certain exceptions. KOSDAQ requires an analogous (but not identical) lock-up. After the KSE listing or the KOSDAQ registration, the largest shareholder of the company and certain other shareholders are required to deposit their shares with the Korea Securities Depository and are not allowed to dispose of the shares for a certain period.

Short-swing profit disgorgement
The short-swing profits rule set forth in the SEL provides that, where an officer, employee or major shareholder of a listed company realizes profits from the purchase and sale (or sale and purchase) of the shares of such company within any six-month period, such company may demand that any such profits be disgorged to it. Any shareholder holding as least 10% of the shares of a listed company or who can exercise influence on the management of such company will be deemed a major shareholder under the SEL.

Restriction on share repurchases
With respect to put option arrangements, a Korean company's obligation to repurchase its own shares is, in general, strictly regulated. In the case of a non-listed company the most typical method of accomplishing such repurchase is through a capital reduction, which is time consuming, requires a shareholders meeting and the provision of one month's notice to its creditors, among other procedures and requirements. A listed company may repurchase its own shares through an open market purchase or by means of a tender offer. In addition, a Korean company entering into an agreement to purchase shares from a particular shareholder would be in violation of the principle of equal treatment of shareholders, which is one of the fundamental principles of Korean corporate law. Therefore, one typical option is to find an appropriate third party to be the counterparty to the put option.

Korea increasingly investor friendly

A more simplified and predictable regulatory regime serves to make Korea an increasingly foreign investor friendly country. Likewise, more streamlined procedural requirements for foreigners investing in Korea results in greater efficiency and more profitable ventures. As Korea takes its place among the great industrial countries of the world, it embraces the vision of a more interconnected economy in which foreign investors can share in the great development and prosperity that it has achieved.

Author biographies

Joon Park

Kim & Chang

Joon Park, a member of Kim & Chang, has studied at Seoul National University (LLB 1977), the Judicial Research and Training Institute of the Supreme Court of Korea (1979) and Harvard Law School (LLM 1988). Since joining Kim & Chang in 1982, he has specialized in securities offerings, securitizations, derivatives, mergers and acquisitions, foreign investment, banking and other capital market transactions. He is also active in advising on the operation of the Korean financial market in various capacities, including as member of the futures and options development committee of the Korea Stock Exchange and director of the Korea Securities Dealers Association. He has written a number of articles and spoken at a number of conferences on corporate law and financial law.

Chang Sik Hwang

Kim & Chang

Chang Sik Hwang, a member of Kim & Chang, has studied at Seoul National University (LLB 1985 and MJur 1992), the Judicial Research and Training Institute of the Supreme Court of Korea (1988) and Harvard Law School (LLM 1996). Between 1998 and 1991 Mr Hwang was a judge advocate for the Korean Air Force. He is a member of the Korean Bar and the Bar of the State of New York. Since joining Kim & Chang in 1991, he has specialized in mergers and acquisitions, anti-trust, foreign investment, anti-dumping and international trade. In such practice areas, he has actively participated in government policy-making processes and has written various articles and research books, including Mergers & Acquisitions and Environmental Liability, Commentary on the WTO Antidumping Code and a Study on its Domestic Application and Study on Improvement of Korea Trade and Commerce Policy.

Do Young Kim

Kim & Chang

Do Young Kim, a member of Kim & Chang, has studied at Seoul National University (LLB 1990 and MJur 1997), the Judicial Research and Training Institute of the Supreme Court of Korea (1992) and Harvard Law School (LLM 2000). He was a judge advocate for the Republic of Korea Air Force and Ministry of National Defence from 1992 to 1995 and between 1995 and 1997 a Judge at Seoul District Court. He is a member of the Korean Bar Association, New York State Bar Association and The Civil Case Researcher Association.

Since joining Kim & Chang in 1997, he specializes in corporate, mergers and acquisitions and insolvency. Apart from his career at Kim & Chang, Mr Kim was a visiting associate with Cleary, Gottlieb, Steen & Hamilton from 2000 to 2001.

Kim & Chang
Seyang Building
223 Naeja-dong
Seoul 110-720
T: +82 2 3703 1114
F: +82 2 737 9091

This article is general in nature and specific advice should be sought in respect of a particular transaction structure, particularly the tax implications thereof.