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South Korea: Investment prospectus snags

Soonghee Lee
In late 2013, the Supreme Court rendered a decision involving the issue of whether the contents of an investment prospectus is contractually binding if it differs from the contents of the trust agreement provided to the investor under an investment trust agreement. In this case, the plaintiffs claimed damages against financial companies on the grounds that the asset management company, without the plaintiffs' prior consent, changed the transaction counterparty to Lehman Brothers Asia, which was different to that stated in the investment prospectus. Further, they stated that the sales companies sold more than W20 billion ($18.5 million) of beneficiary certificates for the fund without considering the possibility of such change in transaction counterparties, and therefore, since the plaintiffs were provided information which made it impossible for them to be aware of the relevant facts (due to the different investment subject and investment limit from those contained in the investment prospectus) such acts constituted tortious conduct and default of contractual obligations.

At the appellate level (before appeal to the Supreme Court), the plaintiffs partially prevailed against the asset management company. But the Supreme Court reversed the appellate court's decision on the grounds that (among others): (i) since the part of the investment prospectus which stated that the transaction counterparty to the OTC derivative products was BNP Paribas, cannot be viewed as merely an elaboration on the terms of the trust agreement, such contents cannot be viewed as a part of the terms of the investment trust agreement and contractually binding; and (ii) given that the bankruptcy of Lehman Brothers could not have been predicted, the change of the transaction counterparty to the OTC derivative product due to unavoidable circumstances, with a payment guarantee of Lehman Brothers (which has a similar credit rating as BNP Paribas) cannot be viewed as a breach of the investment prospectus or breach of fiduciary duty.

This Supreme Court decision has been criticised by some, who argue that the contents of an investment prospectus on the transaction counterparty is material information which should be deemed incorporated into the investment trust agreement, as a separate agreement that supplements the provisions of the trust agreement, even if it is not expressly prescribed in the trust agreement. Such criticism is based on the arguments that: (i) the credit-risk of the transaction counterparty was stated as a material investment risk, and BNP Paribas, the transaction counterparty to the OTC derivate product, was particularly noted; and (ii) if the contents of the trust agreement and the investment prospectus are not consistent, and if the trust agreement takes priority and the contents of the investment prospectus are given no contractual effect, there would be no contractual disadvantage to the asset management company; even if it prepares an investment prospectus negligently or with contents that differs from the trust agreement, the investor would be forced to confirm the trust agreement rather than relying on the investment prospectus received from the sales company, in which case the existence of the investment prospectus system itself loses meaning.

Due to this Supreme Court decision, it is necessary for investors to carefully consider such risks when making investments.

Soonghee Lee

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