Korean directors may soon be more accountable to shareholders

Attempts to extend directors’ duty of loyalty to shareholders are gaining momentum with a draft bill working its way through the legislature. These initiatives began as early as 2022 when members of the Democratic Party proposed an amendment to the Commercial Code. However, these expired after the conclusion of the 21st National Assembly in May 2024 and in early June, a Democrat lawmaker reintroduced a similar bill at the start of the 22nd National Assembly to include “proportional interests of shareholders" into the duty of loyalty for directors.

If the amendment is passed, general shareholders would have the authority to file direct civil lawsuits against directors when their decisions reduce the profits and interests of general shareholders, even if the company's interests are not directly impacted. This provision is particularly significant in capital transactions such as mergers and acquisitions and issuance of new securities like convertible bonds and treasury stocks, where the interests of controlling shareholders (or senior management) may not always align with those of the general shareholders.

While this revision may not be a panacea for resolving all corporate governance issues in Korea, it is a positive step. Several foreign investors we have spoken with have expressed their support for the amendment. The goal is to not only bring about changes in directors' behavior by holding them legally accountable to shareholders but also to incentivize directors to prevent transactions that could infringe upon the rights of minority shareholders. The revision may also promote greater engagement between directors and minority shareholders.

In Korea, directors are obligated to act in good faith for the benefit of the company as stated in Article 382-3 of the Korean Commercial Code, known as the "Duty of Loyalty by Directors". While other jurisdictions have a similar duty of loyalty clause, Korea’s Supreme Court has interpreted the clause literally, making a clear distinction between the company’s interests and those of the general shareholders.

In a 2009 landmark ruling, the Supreme Court distinguished the interests of the company from those of general shareholders when determining whether directors have violated their duty of loyalty. As the company did not incur damages, directors could not be accused of breach of trust, a decision which strictly limited the scope of the director’s duty of loyalty to the company. In other jurisdictions, the company’s interests would also include the shareholders.

While the proposed bill seems to have received bipartisan support, with endorsements from President Yoon and the head of the Financial Supervisory Services (FSS), Lee Bok-hyun (although Lee is also proposing abolishing criminal charges for breach of trust), its passage remains uncertain. The business community has expressed strong opposition to the amendment, claiming that it would impede directors from making entrepreneurial decisions. The Ministry of Justice (MOJ) initially adopted a conservative stance but there is hope that it may have softened its position. While the MOJ does not have the power to prevent a bill passed by the National Assembly, the lawmaking body does take the MOJ's perspective into consideration during the legislative process.

The amendment bill is also being closely watched in respect of any redrafts which could introduce the prospect of poison pills and dual-class shares. Since the launch of the Corporate Value-up Program early this year, the business community reportedly has been pushing hard for the inclusion of poison pills and dual-class shares as defenses against hostile takeover attempts (though its advocating for the introduction of poison pills is not new).

Currently, the Commercial Code mandates a one-share-one-vote rule. In 2023, the amendment to the Special Measures for the Promotion of Venture Businesses was passed, making an exception to the one-share-one-vote rule for venture capital businesses. If poison pills and dual class shares for all companies were to be included in the amendment of the Commercial Code, it would be a significant setback for the development of corporate governance in Korea.

On a positive note, the Financial Services Commission released plans on 3 June to amend the Enforcement Decree of the Financial Investment Services and Capital Markets Act (FSCMA). The amendment will:

• Prohibit the allocation of treasury shares in a spin-off
• Require listed companies with a treasury stock holding equal to or greater than 5 percent of the total volume of stocks issued to disclose their treasury stock holding status, reasons for holding, and plans for the use of these treasury stocks
• Require listed companies to disclose the purpose of any disposal of treasury stock and information about the counterparty, as well as expected effects on the stock price
• Require the same acquisition and disposal disclosure requirements for treasury stocks acquired via a trust

While the amendment is a step in the right direction, it would be helpful to establish a cancellation date for companies' unused treasury shares, as we previously mentioned in our wish list for Korea in 2023. The consultation was open until 16 July, and the revised rules are expected to take effect within this year.

For more information please contact:

Stephanie Lin, Research Manager

stephanie@acga-asia.org