Korean Corporate Governance Opinion
Doosan throws cold water on Value-Up, Capital Market Act takes no action
- This is a serious case of exploiting the Capital Market Act's provisions on merger ratios of listed companies.
- When will the outdated 30-year-old Capital Market Act's enforcement decree, which allows for the exchange of shares of two affiliates with a revenue gap of 183 times at a 1:1 ratio (based on value), be revised?
- It is impossible to block each and every new method emerging every week. Without implementing the principle of duty of loyalty to all shareholders, this vicious cycle will continue to repeat itself.
It is disheartening to see such an incident occur again in broad daylight.
On July 11, four Doosan Group companies, including Doosan Corp, the parent company of Doosan Group, Doosan Enerbility, Doosan Robotics, and Doosan Bobcat, simultaneously disclosed a highly complex series of transactions. And the following morning, articles promoting Doosan Group's strategies and synergies flooded the web.
However, all of this is from the control shareholders’ perspective.
While the 70% minority shareholders of Doosan Enerbility must be concerned by the spin-off of the prized Doosan Bobcat, let's consider a simpler perspective. What kind of situation are the 54% minority shareholders of Doosan Bobcat, a listed company with annual revenue of nearly W10 trillion and operating profit exceeding W1.3 trillion, facing?
It is a shocking situation that Doosan Bobcat shareholders must exchange their shares for those of Doosan Robotics, a company with a revenue scale of only 1/183rd and a massive operating loss of W192 billion.
This company, which went public at the end of last year, and share price has been highly volatile. With a price-to-sales ratio (PSR) of over 100 times its annual revenue from last year (PER calculation is not possible as it is not yet profitable), it is in a state of extreme overvaluation and has not yet received a proper valuation in the market.
However, Doosan Bobcat shareholders are forced to make a binary choice: either accept the exchange for robotics-themed shares or sell their shares to the company for cash at the current low share price. This is a sudden blow to countless shareholders who believed in the intrinsic value of Doosan Bobcat as a good undervalued company with significant long-term potential
What’s behind all this?
This is because the Capital Markets Act mandates that the enterprise value of listed companies be determined by their market capitalization in all merger cases. Specifically, it is the weighted average of the share price for the preceding month, week, and day. It is the easiest and most powerful method in the world to calculate the enterprise value, bypassing all traditional financial valuation techniques, as anyone can calculate it with just one run of Excel.
However, this method is unique to Korea.
As clearly demonstrated by the Korea Capital Market Institute's research findings from last year (2023), neither the US nor Japan rely solely on a company's market capitalization to determine its enterprise value for merger scenarios. In fact, there are numerous cases where the enterprise value deviates from the market capitalization by more than 30%.
However, the Financial Services Commission (FSC) recently proposed a system reform, recognizing problems with the current method. It stated that it would apply the revised system only to non-affiliated mergers, while maintaining the current practice of forcing market capitalization for affiliated mergers.
In Korea, 99% of mergers are between affiliated companies. The most critical issue in these cases is that mergers or equity swaps are conducted at a time and price that favor the controlling shareholder, who holds the power in affiliated companies. As a result, minority shareholders repeatedly miss profit opportunities.
This is underlying reality of the Korea Discount.
Genuine value creation in the Korean market can only be achieved by fundamentally preventing these unfavorable transactions.
While Doosan's actions have directly dampened the anticipated value-up momentum, it is our legal and regulatory frameworks, the Capital Markets Act and its enforcement decree, that go beyond enabling such practices and instead prevent from effective intervention.
Moreover, in the absence of a duty of loyalty and fiduciary duty to shareholders, Doosan Bobcat's directors have no legal grounds to object, even if they deem the situation unfair (contrary to common sense) and believe that "exchanging shares with a highly overvalued robotics stock at this price and time is not right."
In the Korean capital market, where new techniques favorable to controlling shareholders emerge almost every week, without general and enforceable principles such as the duty of loyalty and fiduciary duty to shareholders, the law is ineffective as in Korean saying "fixing the barn door after the cow is gone" or "looking up at the roof after chasing the chicken."
Who bears more responsibility: Doosan's controlling shareholders, who exploited the 54% of minority shareholders who invested in an undervalued, high-quality company with an unexpected equity swap with a highly overvalued stock that has 1/183rd of revenue size, or the Capital Markets Act and its enforcement decree, which condone and even facilitate this?
This is all about the responsibility towards the Korean investors who are witnessing the US and Japanese markets break new records every day, while the Korean stock market remains bleak under the persistent Korea Discount.
July 17, 2024
Korean Corporate Governance Forum
Chairman, Namuh Rhee
Vice Chairman, Joonbum Cheon
Korean Corporate Governance Opinion
Doosan throws cold water on Value-Up, Capital Market Act takes no action
- This is a serious case of exploiting the Capital Market Act's provisions on merger ratios of listed companies.
- When will the outdated 30-year-old Capital Market Act's enforcement decree, which allows for the exchange of shares of two affiliates with a revenue gap of 183 times at a 1:1 ratio (based on value), be revised?
- It is impossible to block each and every new method emerging every week. Without implementing the principle of duty of loyalty to all shareholders, this vicious cycle will continue to repeat itself.
It is disheartening to see such an incident occur again in broad daylight.
On July 11, four Doosan Group companies, including Doosan Corp, the parent company of Doosan Group, Doosan Enerbility, Doosan Robotics, and Doosan Bobcat, simultaneously disclosed a highly complex series of transactions. And the following morning, articles promoting Doosan Group's strategies and synergies flooded the web.
However, all of this is from the control shareholders’ perspective.
While the 70% minority shareholders of Doosan Enerbility must be concerned by the spin-off of the prized Doosan Bobcat, let's consider a simpler perspective. What kind of situation are the 54% minority shareholders of Doosan Bobcat, a listed company with annual revenue of nearly W10 trillion and operating profit exceeding W1.3 trillion, facing?
It is a shocking situation that Doosan Bobcat shareholders must exchange their shares for those of Doosan Robotics, a company with a revenue scale of only 1/183rd and a massive operating loss of W192 billion.
This company, which went public at the end of last year, and share price has been highly volatile. With a price-to-sales ratio (PSR) of over 100 times its annual revenue from last year (PER calculation is not possible as it is not yet profitable), it is in a state of extreme overvaluation and has not yet received a proper valuation in the market.
However, Doosan Bobcat shareholders are forced to make a binary choice: either accept the exchange for robotics-themed shares or sell their shares to the company for cash at the current low share price. This is a sudden blow to countless shareholders who believed in the intrinsic value of Doosan Bobcat as a good undervalued company with significant long-term potential
What’s behind all this?
This is because the Capital Markets Act mandates that the enterprise value of listed companies be determined by their market capitalization in all merger cases. Specifically, it is the weighted average of the share price for the preceding month, week, and day. It is the easiest and most powerful method in the world to calculate the enterprise value, bypassing all traditional financial valuation techniques, as anyone can calculate it with just one run of Excel.
However, this method is unique to Korea.
As clearly demonstrated by the Korea Capital Market Institute's research findings from last year (2023), neither the US nor Japan rely solely on a company's market capitalization to determine its enterprise value for merger scenarios. In fact, there are numerous cases where the enterprise value deviates from the market capitalization by more than 30%.
However, the Financial Services Commission (FSC) recently proposed a system reform, recognizing problems with the current method. It stated that it would apply the revised system only to non-affiliated mergers, while maintaining the current practice of forcing market capitalization for affiliated mergers.
In Korea, 99% of mergers are between affiliated companies. The most critical issue in these cases is that mergers or equity swaps are conducted at a time and price that favor the controlling shareholder, who holds the power in affiliated companies. As a result, minority shareholders repeatedly miss profit opportunities.
This is underlying reality of the Korea Discount.
Genuine value creation in the Korean market can only be achieved by fundamentally preventing these unfavorable transactions.
While Doosan's actions have directly dampened the anticipated value-up momentum, it is our legal and regulatory frameworks, the Capital Markets Act and its enforcement decree, that go beyond enabling such practices and instead prevent from effective intervention.
Moreover, in the absence of a duty of loyalty and fiduciary duty to shareholders, Doosan Bobcat's directors have no legal grounds to object, even if they deem the situation unfair (contrary to common sense) and believe that "exchanging shares with a highly overvalued robotics stock at this price and time is not right."
In the Korean capital market, where new techniques favorable to controlling shareholders emerge almost every week, without general and enforceable principles such as the duty of loyalty and fiduciary duty to shareholders, the law is ineffective as in Korean saying "fixing the barn door after the cow is gone" or "looking up at the roof after chasing the chicken."
Who bears more responsibility: Doosan's controlling shareholders, who exploited the 54% of minority shareholders who invested in an undervalued, high-quality company with an unexpected equity swap with a highly overvalued stock that has 1/183rd of revenue size, or the Capital Markets Act and its enforcement decree, which condone and even facilitate this?
This is all about the responsibility towards the Korean investors who are witnessing the US and Japanese markets break new records every day, while the Korean stock market remains bleak under the persistent Korea Discount.
July 17, 2024
Korean Corporate Governance Forum
Chairman, Namuh Rhee
Vice Chairman, Joonbum Cheon