Treasury stock cancellation rule feared to pressure SK, Lotte, HD Hyundai

Lawmakers pass a revision to the Commercial Act during a plenary session at the National Assembly in Seoul, Wednesday. Yonhap

With Korea passing a revision to the Commercial Act requiring companies to cancel treasury shares within a set period, major firms including SK Inc., Lotte Corp. and HD Hyundai are facing mounting pressure over how to manage their holdings.

During a plenary session on Wednesday, the National Assembly passed the third revision to the country’s Commercial Act, under the goals of “preventing firms from exploiting treasury shares” and “improving shareholder value.”

The revision requires companies to cancel newly acquired treasury shares within a year. For treasury shares already held, companies are given a six-month grace period and must cancel them within 18 months.

If a company seeks to retain treasury shares for specific reasons, such as employee compensation, it must obtain shareholder approval annually at a general meeting.

Unintentionally acquired treasury shares were also brought under the rule, though an exception was made to simplify the procedure at the request of business groups.

President Lee Jae Myung hailed the revision Thursday during a meeting with his secretaries, saying the new rule will "normalize the country's capital market."

A number of major companies here, including Samsung Electronics and LG Electronics, had already announced plans to cancel treasury shares before the revision was enacted.

However, several others, particularly holding companies of conglomerates possessing large amounts of treasury shares, have yet to unveil their plans.

According to a report by the Korea Capital Market Institute, 1,723 out of 2,601 companies listed on Korean stock markets, or 66.2 percent, held treasury shares as of December last year. Among them, 8.4 percent had treasury share holdings exceeding 10 percent, while 2.3 percent held more than 20 percent.

Of them, Lotte Corp. was holding 27.37 percent, SK Inc. held 24.8 percent and HD Hyundai had 10.5 percent.

The three companies, the holding firms of Lotte, SK and HD Hyundai groups, have yet to announce how they will handle their treasury shares.

Reportedly, these companies are reviewing their options and scenarios to align with the revised Commercial Act, but struggling to set up a fixed timeline for their plans as they still have multiple factors to consider.

President Lee Jae Myung presides over a meeting with his secretaries at Cheong Wa Dae in Seoul, Thursday. During the meeting, Lee said the new rule of obliging companies to cancel their treasury shares will "normalize the capital market." Yonhap

Industry officials said the delay in the companies’ decisions stems from several factors.

A number of domestic business lobby groups have opposed the revision to the Commercial Act, arguing that mandatory cancellation of treasury shares would weaken companies’ ability to fend off potential management control disputes.

Korean companies have been defending their management control against hostile funds by selling or swapping treasury shares with friendly parties. In 2003, SK Group sold treasury shares to domestic financial institutions to fend off Sovereign Asset Management’s attempt to challenge its governance.

As the revised rule effectively bars such tactics, companies may have to consider alternative methods such as tender offers. This could raise costs for companies and increase market volatility. Capital reduction followed by canceling own shares can also decline a company’s creditworthiness.

Another factor is tax. The holding companies acquired substantial treasury shares unintentionally during mergers between affiliates as they were restructuring their group governance into a holding company system in line with government policy.

When shares held during a merger are converted into treasury shares, no tax is imposed. However, if those shares are later canceled and the market price at the time of cancellation is higher than at acquisition, a tax is levied on the difference.

DS Investment and Securities assumes that SK Inc. will have to shoulder approximately 500 billion won in such taxes.

Industry officials are speculating on various moves that SK Inc. may make to avoid this burden, such as exchanging stakes with friendly overseas companies or converting treasury shares into American Depositary Receipts. However, officials said nothing appears to be decided yet.

“As the season for annual general meetings approaches, these companies are reaching a point where they need to at least set a direction on how to proceed,” one official said.