INTERVIEW Activist fund Align aims to dispel Korean stocks' undervaluation

Align Partners CEO Lee Chang-hwan poses at his firm located in Seoul's financial district in Yeouido during a one-on-one interview with The Korea Times on Feb. 2. Courtesy of Align Partners

Mission-driven CEO advocates strengthening minority shareholders' rights

By Anna J. Park

Lee Chang-hwan, the CEO of activist fund Align Partners, has recently been a vocal figure in various media outlets, calling on businesses to improve corporate governance and enhance their shareholder return policies.

One of the key activist campaigns that he is focusing on aims to get Korea's major financial groups to improve shareholder returns. As a minor shareholder of Shinhan, KB, Hana, Woori and BNK financial groups and the second largest shareholder of JB Financial Group, Lee sent letters to seven banks listed on the Korean stock market, urging them to announce capital allocation frameworks and mid-term shareholder return policies, especially requesting improvements in target shareholder return ratios to over 50 percent.

A low propensity for shareholder returns has long been regarded as one of the main reasons behind the undervaluation of Korean stocks. This phenomenon is also called the “Korea discount.” Many investors are rallying behind the CEO, who succeeded in pressuring Korea;s financial giants to come up with more detailed medium-term capital allocation plans and improved shareholder return policies during their fourth-quarter earnings calls for the fourth quarter held last week.

KB Financial announced last week that its shareholder return ratio for 2022 will be 33 percent ― a dividend payout ratio of 26 percent and 7 percent from share buybacks and cancellation ― which is a 7 percentage point increase from the previous year. Similarly, Shinhan said its shareholder return ratio will be 30 percent for 2022, four percentage points higher than the previous year. If the share buybacks and cancellation announced at the fourth quarter earnings call are included, Shinhan's shareholder return ratio for 2022 would have been 33 percent as well. Woori and Hana also announced late last week a 30 percent and 31 percent shareholder return, respectively, including share buybacks and cancellations planned in the first half of 2023. DGB and BNK also followed suit, increasing their shareholder return ratios by four percentage point to 27 percent.

Align Partners said it welcomes the financial groups' moves to strengthen shareholder returns, aiming to boost the shareholder return ratios to its targeted 50 percent over the mid-term.

Private equity approach to public stocks

The CEO is one of the most notable activist fund investors in Korea who has gained prominence. But he actually built most of his career in the private equity (PE) sector. After graduating summa cum laude from Seoul National University, the most prestigious school in the country, he went on to a series of coveted financial jobs ― investment banking at Goldman Sachs and private equity investment at KKR, a top global PE firm. He said he learned diverse transactional skillsets at those jobs, ranging from deal structuring and financing to legal affairs. But he always aspired to set up his own investment firm.

“I think every investment firm employee wants to become a real, independent investor, not just a worker for an investment firm. The core of investing is making investment decisions, but such a decision is only allowed to a very few at the top echelon of an investment company. As I thought that I could make a good investor, I always aspired to run my own investment company,” he said during a recent one-on-one interview with The Korea Times.

As he prepared for his own investment business, he saw opportunities in Korea's listed stock markets, which he thought were and are seriously undervalued for their worth. He waited for years for the right timing.

“As the local PE sector has started to be saturated, many companies have become swamped in price competition, and I felt the need to explore a blue ocean. That's why I focused on listed stocks. They're too cheap for their values, due mainly to limitations in the local corporate legal framework. And I felt the timing is finally ripe during the pandemic. I saw changes taking place at political, legal and media landscapes, formulating a better investment environment,” he explained.

With the stock market boom during the pandemic, the number of retail investors in Korea surged to 14 million in 2022, from just six million before the COVID-19 outbreak in the country. Now that retail investors constitute about 30 percent of the nation's voting power, the dynamics in the local stock market have finally begun to shift towards the protection of retail investors' interests after being skewed in favor of company owners for a long time.

Until now, activist funds were somewhat demonized in media reports by big business lobby groups, which wielded a considerable influence over the media. But he felt the time has changed with the increase in the number of savvy retail investors. Convinced of the social changes, he started his own activist fund in 2021.

From the start, he decided to apply a private equity strategic approach to the public market, meaning that his firm focuses on a small number of stocks intensively from a medium-term perspective, with a goal of adding sustainable corporate value during its ownership by upgrading corporate governance at the invested firms. With such a clear strategy in mind, he decided to invest in local bank shares.

“Stocks of Korean banks are still too cheap. Their average price-to-earnings ratio (PER) stands at around three, while their average price to book ratio (PBR) is only at around 0.3. Also, as bank shares generally do not have controlling shareholders, unlike most other conglomerates in Korea, they do not have particular incentives to lower stock prices. Thus, I thought applying activist fund strategies would work well for bank shares,” Lee explained.

He said what his firm demands from the banks is improving their capital allocation framework and adopting mid-term shareholder return policies. While such policies are a must to major global firms in any sector, Korea's major financial companies did not implement them until this year.

He also pointed out that there's another important reason that banks should return their profits to investors through dividends, share buybacks and cancellations. He argued that cumulative low dividend payouts by banks over the years resulted in one of the highest private sector leverage ratio, which burdens the Korean economy's soundness as pointed out by the governor of the Bank of Korea. He explained that the country's loans have increased at a higher rate than the nominal GDP growth rate, due mainly to excessive cash reserves by the lenders.

“As local banks had been returning only some 25 percent of their net profits to investors, the remaining 75 percent had been mostly used in their loan businesses. Banks' returns on equity is about 10 percent annually, and it means that banks' loan expansion rate is about seven to eight percent annually. Given that Korea's GDP growth rate is roughly three percent a year, banks' loans have expanded at twice the economy's growth rates, and it will not be sustainable for the economy in the end,” he stressed, warning that further loan expansion should be stemmed.

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Prerequisites for KOSPI reaching 4,000 points

The CEO thinks one of the major stumbling blocks to the KOSPI reaching 4,000 or even 5,000 points lies in limitations posed by local corporate law and stock market structures in Korea.

“From the perspective of global investors, it must be shocking that there's no fiduciary duties imposed on corporate board directors in Korea. Directors of boards have duties only to a company itself, unlike the U.S. where their primary responsibilities is to protect shareholders' assets and interests,” he said. “Without the boards' fiduciary duties, shareholders in Korea cannot sue them over corporate decisions that cause stock price plunges, which is starkly different from the U.S. market,” he added.

Korea's corporate law and stock market structures have been skewed to serve the interests of major shareholders of a company, rather than focusing on minor shareholders' rights, which in fact should be given an equal weight of importance. Aiming to bring changes to such a reality in Korea, the Financial Services Commission (FSC), the top financial regulator of the country, has recently been announcing a series of moves to protect the rights of minor shareholders, such as adopting a mandatory bid rule in M&A deals from 2024, and changing Korean companies' dividend systems to follow global standards, forcing companies to disclose the amount of dividend payouts before locking their shareholder registrar lists at the end of a year.

The CEO views such recent changes positively, believing that the law should be changed to further protect minor shareholders' rights. In order to solve the problem of the Korean discount, Lee thinks the country's corporate legal framework should find a healthy balance between the interests of company owners and minor shareholders.

“We see changes are taking place. Yet, I think it will take another 10 years for more real changes to come,” he said, stressing that the country's corporate legal structure that puts excessive emphasis on protecting company owners has resulted in the discounts of Korean stocks.

Revolutionary electronic proxy voting at shareholders' meeting

One thing that the meticulous CEO has also contributed to in raising minor shareholders' rights is that he's been a key figure behind the development of an electronic proxy voting system used at shareholders' meetings. He invested in launching an application called “Bside,” which is a mobile application platform that enables shareholders to gather in one place.

“As I was planning to launch an activist fund, I knew I would be in need of such an electronic proxy voting platform. So I suggested an idea to create it, asking a friend, who's a computer whiz, to make the site,” CEO Lee said.

Without the presence of Bside, shareholders had to collect proxies only through postal addresses, if they want to make a united voice against a company at shareholders' meetings. It was almost impossible to collect enough proxies during a given time period of two weeks.

Lee believes it could revolutionize shareholder movements in Korea, as minor shareholders, who used to remain voiceless, can now unite their power to make an effective proposal to companies they hold. Bside can be used by shareholders of all listed companies in Korea, helping them to gather proxies to make a united voice. It was already used about five times, including at the SM Entertainment shareholders' meeting.

He describes his work at Align Partners as mission-driven, as he knows what he does could benefit the growth of Korean capital markets and strengthen minor shareholders' rights.

“I'm not doing this solely for a social cause. It is basically an investment strategy to make profits. Yet, I have always been passionate about value investment, and it felt frustrating that value investing didn't work well in Korean stocks due to systemic shortages and a lack of protection of minor shareholders' rights. As I fortunately have the necessary skillsets and networks to contribute to solving the issue, I do this,” he said.

“Also, this is what I can do the best, while the social value of my work is also significant. Thus, it serves both my vision and the society's advancement at the same time,” the CEO highlighted, adding that he receives so much encouragement from other retail investors. “Somebody has to represent all the shareholders and serve as the checks and balances against companies, so that corporations do not veer from serving all shareholders' interests,” he said.