Korea
Billions of dollars have gone missing from the coffers of a major conglomerate, allegedly channelled into criminal slush funds, reckless futures speculation and other as yet unexplained causes. Key members of the family-controlled management have been convicted of accounting fraud and imprisoned. Upon release, they are back to work at the helm of the same company they defrauded, as if nothing had happened.
Sounds like an implausible plot from a pulp-fiction thriller? Not in Korea. For shareholders in oil refinery SK Corp, it’s reality. And it is looking increasingly likely that this tale might not have a happy ending.
One shareholder, SK Corp’s largest single investor, is not giving up without a fight.
James Fitter, CEO at Sovereign Asset Management, says: “We went into this 18 months ago in the belief that after Roh Moo-hyun’s
inauguration as president of Korea, chaebol reform was going to get a tailwind, not face a headwind.”
That has clearly not happened. Despite government attempts to clean them up, Korean businesses are still dominated by family-controlled chaebols, or conglomerates, some of which have been party to egregious cases of misgovernance and even criminal activity.
Almost since it first invested in SK Corp, Sovereign, which owns a 14.9% stake in Korea’s largest oil refinery, has been at loggerheads with its management, principally the chief executive officer, Chey Tae-won, who served three months in prison for his role in a $1.2 billion accounting fraud at affiliate SK Networks. In fact, Sovereign’s first dust-up with SK Corp came over the bail-out of SK Networks, since renamed SK Global, which collapsed under the weight of $7 billion of debts in March 2003.
In true chaebol style, cash in profitable parts of the SK business empire (that is, SK Corp) was happily siphoned off by management to repay billions of won of debt aggressively lent to SK Global, largely by domestic banks, now desperate to get their money back.
“In Korea, they call it ebitda support,” says Fitter. “The banks insisted that SK Corp provided money to SK Networks. The creditor banks all have charges over Chey’s assets. All they care about is getting their money back.”
All of which proved too much for Sovereign. Having tried and failed narrowly in March at SK Corp’s AGM to have the key management replaced, in October 2004, Sovereign lobbied the board of SK Corp, now apparently chockfull of independent directors, to call an extraordinary general meeting to propose amendments to the articles of the company suspending directors indicted for, and barring directors convicted of, a criminal offence.
It might not sound too controversial. After all, what sane shareholder would want convicted or even suspected criminals in charge of company cashflow and assets? Sanity it seems, has yet to prevail at the board of SK Corp however. In early November, the SK Corp board, meeting apparently without two key ‘interested’ parties, including Chey, voted unanimously against Sovereign’s request. In a press release, the board claimed that the issue of barring convicted directors had already been defeated at the last AGM and that holding an EGM now would be nothing but an exhaustive battle for management control [of SK Corp].
Board chauvinism?
Fitter claims that the board’s comment is simply a tactic to stir up nationalistic feeling against Sovereign and other international investors, which, some Koreans claim, are out to steal the nation’s crown jewels. Other disputes over chaebol misdemeanours in the past that have pitched entrenched Korean management interests against those of international investors and businesses have generated at times violent anti-foreign feeling.
Fitter claims this is merely a smoke screen. Sovereign has no interest in gaining control of SK Corp, he says. For the kind of long-term investor that Sovereign claims to be, the issue is one of value creation. “When you had Asia’s largest oil refinery valued at $800 million,” he says, “we felt that it had to be cheap and undervalued.”
He was right. Since Sovereign acquired its stake in March 2003, the SK Corp share price has risen strongly – up some 380% year to date. Fitter believes, however, that there is much more value to unlock. “The stock trades at a 5.5 times PE prospective,” says Fitter. “We think it should trade at around 10 times.”
If he is right, there is still a lot on the table. In fact, says Fitter, Korean stocks generally trade at lower valuations than many of their regional and international comparables. He draws a link between this inherent discount and his travails with SK Corp. “Look at the Korean bond market,” he says. “It trades at 50 basis points over treasuries, yet the stock market trades at a 30% discount [to comparables] – that’s a seven times PE. Why? It’s because shareholders have no rights [in Korea].”
There is evidence that SK Corp is not an isolated example. “We’ve identified 20 directors with criminal records sitting on boards of Korean companies,” says Fitter. “Those records are for crimes against the same companies they’re working for.”
Curiously, in Korea, while the law bars an individual with a criminal record from sitting on the board of a Korean company as an independent, it is silent on executive directors. And possession of a criminal record does not carry the same stigma in Korean boardrooms as one might expect.
“We met with one of the [Korean government] ministers,” says Fitter. “He said to us: ‘Why have you guys got such a big problem? There’s a lot of convicted criminals on boards in Korea. Why are you worried?’”
Some observers criticize Sovereign for the use of heavy-handed tactics that, by and large, they say, do not work in Korea, where consensus and behind-the-scenes negotiations are the order of the day. Fitter rejects such criticism. “We think we’re absolutely doing things the right way,” he says. “There’s a lot of people that don’t want to face the issue. They say: ‘We’ll sit down, we’ll do a deal, make some concessions.’ It would be the easiest thing in the world for us to sell and go away. We’re up significantly on our original investment.”
Naïve trust
Push him a little, however and Fitter admits that initially Sovereign underestimated the situation. After all, Sovereign invested its cash after the SK Networks scandal had surfaced and the three SK Corp directors had been fingered. “We felt that a lot of the issues with the chaebol were on the table,” he says. “We were naïve enough to believe the company – that the three directors were in jail and not coming back.”
Now Sovereign is paying for its naivety. Observers believe it has little chance of winning any resolution, since it would require a two-thirds majority. Management proved at the last meeting that it is able to command much of the Korean vote at SK Corp. Fitter claims that there is support for his proposals. “We can’t find anyone inside or outside Korea who thinks it’s a good thing having a convicted criminal on the board of the company,” he says.
Maybe, but as anyone who has ever transacted business in Korea knows, what is said publicly and what is done anonymously are often two entirely different things. As matters stand currently, Sovereign might not even get to have its day at an EGM. It is currently seeking a court decision in Korea overturning the board’s rejection of Sovereign’s request. The outcome of that hearing is far from certain. There is a hint of resignation over this particular battle in Fitter’s voice, but no sign that he is giving up the war. “We’ll have a chance to vote on another couple of things at the AGM,” he says. “Some of the directors are up for re-election.”
So Sovereign might yet win its battle. Time will tell. What is certain is that there will be a few more twists in the plot of this unlikely Korean boardroom thriller before it reaches its dénouement.
