Will South Korea’s Corporate Value-up Program unlock value in the KOSPI?

The announcement of the Korean Corporate Value-up Program in February has brought the ‘Korean discount’ to the attention of global investors once again. The plan, which was announced by the Financial Services Commission (FSC),¹ aims to support listed companies’ voluntary disclosure of their corporate value plans, and to provide tax incentives and benefits for companies taking steps to increase their corporate value.²

The plan is widely interpreted as South Korea seeking to replicate Japan’s successful, decade-long strategy for increasing valuations through corporate governance reform. About two-thirds of KOSPI-listed companies trade at a price-to-book value ratio (PBR) of less than 1, indicating they are undervalued,³ with the average also significantly below their peers in other key markets.^{4, 5}

The current South Korean government added corporate governance reform to its agenda of restoring confidence in the market in 2020. This is not the first time the government has announced measures to address South Korea’s financial management system and regain foreign investors’ confidence, with the previous two rounds of measures implemented after the 1997 Asian financial crisis and the 2008 global financial crisis.⁶

Origins of the Korean discount

While it is not uncommon in Asia to have controlling shareholders, the Korea discount is believed to be rooted in the coalition built between the government and the Chaebols – large conglomerates ruled by a family or an individual – after the Korean War.⁷ This coalition, intended to boost economic growth, also produced a legal mechanism often skewed in favour of the controlling family owners. This resulted in a persistent imbalance of power between controlling shareholders and minority shareholders.

As we learned from our Asian Corporate Governance Association delegation trip⁸ to Seoul in March, the Korea Exchange (KRX) will issue further guidelines in May 2024. KRX is also expected introduce an ETF in September 2024 to track a ‘Korea Value-up Index’, composed of best-practice companies with proven records of profitability and those expected to see higher valuations, which institutional investors can use as a benchmark.

Unlike the Japan Revitalization Strategy first announced in 2014 to improve corporate governance, which was led by Japan Exchange Group, the latest plan is led by the South Korean government and supported by various agencies beyond KRX. It’s not intended to be a one-off programme, but to drive valuations in the long term.  

The FSC emphasised that the Corporate Value-up Program is part of the three pillars of the capital market development plan to establish a transparent and fair market order, increase capital market accessibility, and enhance shareholder value.

The rationale for implementing the programme on a voluntary basis is to provide incentives to companies, rather than imposing penalties. Although companies are encouraged to disclose their plan based on KRX’s guidelines with draft guidelines released in early May,⁹ the success of the programme will depend on whether these further details to provide sufficient motivation for controlling shareholders to voluntarily improve companies’ valuations.

Power of the people

With retail investors having surged from 5.6 million in 2018 to 14.2 million in 2022, they have risen up the government’s agenda,¹⁰ as they now account for around a third of eligible voters.¹¹ Despite the ruling conservative party having lost in the recent National Assembly Election, it should be in both parties’ interests to push the programme through to serve the needs of retail investors.

Meanwhile, various international and domestic stakeholders are urging boards and regulators to address the systemic issue of favouring majority shareholders’ interests. Conflicts of interest between majority shareholders and minority shareholders remain ever-present. The collective interests focused on the Korean market have contributed to the rise of shareholder activism.

While there has been wide debate about whether the government will announce dividend tax, inheritance tax and/or gift tax reductions that might alleviate the Korean discount, the current announcement from the FSC does not seem to provide sufficient levers to move the dial.

As we mentioned in a previous blog, to drive effective change, Asian markets need a clear carrot and stick approach. The measures announced so far, in our opinion, provide neither a strong stick nor a juicy carrot yet.

As a global investor on behalf of our clients, it is our fiduciary duty to address the imbalance between controlling shareholders on the one hand and minority shareholders such as institutional investors including LGIM and Korean retail investors on the other. To effect this, we believe understanding the local context, and reflecting this in our investment stewardship approach, holds the key to progress.

Based on our investment stewardship activities in South Korea, we believe several outstanding corporate governance issues need to be addressed before we have confidence that the Corporate Value-up Program will result in higher valuations.

In part two of this blog, we’ll summarise our voting actions during South Korea’s AGM season, and share our thoughts on the corporate governance issues that need to be resolved in the country.

Sources

1. The FSC is a government agency with the statutory authority over financial policy and regulatory supervision

2. The key components of the expected disclosures include a company overview, current status analysis, goal setting, planning, implementation, evaluation and communication. For more information, visit https://www.fsc.go.kr/eng/pr010101/81778

3. https://www.reuters.com/markets/asia/south-korea-unveils-reform-measures-tackle-korea-discount-2024-02-26/

4. https://www.reuters.com/markets/asia/south-korea-unveils-reform-measures-tackle-korea-discount-2024-02-26/

5. Bloomberg, data as of 31 Dec 2023

6. https://www.adb.org/sites/default/files/publication/29659/economics-wp-298.pdf

7. https://insights.issgovernance.com/posts/2024-korea-proxy-season-preview/

8. Further details of the delegation trip is available at LGIM Q1 2024 Quarterly engagement report P21 – 22 https://www.lgim.com/landg-assets/lgim/cro_q1_esg_engagement_report-final.pdf

9. https://www.fsc.go.kr/eng/pr010101/82213

10. https://www.koreatimes.co.kr/www/biz/2024/04/602_367184.html

11. https://www.koreatimes.co.kr/www/nation/2024/04/113_372452.html