Multiple Voting Rights Set for November Rollout...Issuance Rules Should Be Eased and the Barrier to Excluding Managers Lowered

Multiple Voting Rights to Take Effect in November... Issuance Requirements Should Be Relaxed and the Barrier Excluding Managers Lowered

▪ First introduction of “multiple voting shares” in Korea... barely passed the National Assembly after 34 months of wrangling, welcomed by the venture industry

▪ Founders whose stakes have already been significantly diluted cannot use the system, so shortcomings inconsistent with the purpose of the law need to be addressed

▪ Expected to serve as a catalyst for expanding means of defending management control in the future, and a consensus should form that the benefits outweigh the drawbacks

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Details of the amended law

In April 2023, the 21st National Assembly passed the Partial Amendment to the Special Act on Measures for the Promotion of Venture Businesses, which grants up to 10 voting rights per share to founders of unlisted companies. This is the bill introducing so-called “multiple voting rights.” It crossed the National Assembly threshold roughly 34 months after the first bill was introduced in June 2020 by Yang Kyungsook of the Democratic Party of Korea, followed by another bill in August of the same year by Lee Young of the United Future Party (now the People Power Party), and then by the Moon Jae-in administration in December. The 21st National Assembly thus resolved a task left unfinished by the 20th National Assembly. The law is relatively strict in terms of who qualifies for multiple voting rights, their scope, and the conditions attached. Let us examine the details in a Q&A format.

Q. Why is this law necessary?

For the continued growth of venture businesses, the founder’s philosophy, experience, and affection for the company are critically important. However, in the process of attracting outside investment, founders may lose their rights as controlling shareholders, putting management control at risk. To prevent this, it is necessary to recognize greater voting power for shares held by founders. Venture investment should be encouraged in order to generate successful venture businesses and synergy with external capital. Multiple voting shares were therefore recognized so that companies can attract large-scale investment while preventing loss of control caused by equity dilution.

Q. To whom can multiple voting shares be issued?

The recipient must be a promoter listed in the articles of incorporation prepared in accordance with the Commercial Act at the time the venture company, as a stock company, was established. In other words, this refers to the founder. In addition, at the time the multiple voting shares are issued, that person must be a director engaged in the company’s business as a Director. If the person has been sentenced to imprisonment without prison labor or a heavier punishment, at least two years must have passed since completion or exemption of the sentence. The person must also have continuously held at least a 30% stake and remained the largest shareholder from the time of incorporation until immediately before the most recent investment. However, there may be cases of joint founders. In such cases, if they have continuously held a combined stake of at least 50% from incorporation until the time of the most recent investment, multiple voting shares may be issued to each founder as well. The founder must no longer remain the largest shareholder with at least a 30% stake as a result of the most recent investment. In other words, a founder becomes eligible to hold multiple voting shares when the ownership stake falls below 30% due to investment fundraising.

Q. Does this apply to all venture businesses that have received outside investment?

It does not apply where the investment was received from specially related parties. In addition, the company must have received investment above a certain threshold. The scope of specially related parties and the investment amount standard are to be set by presidential decree. The venture industry is paying close attention to these standards. The enforcement decree is expected to be prepared before the law takes effect this coming November.

Q. What is the maximum number of voting rights that can be recognized?

The number of votes attached to multiple voting shares may be set in the articles of incorporation at more than one and up to ten votes per share. However, in cases involving amendment of the articles to change the duration of multiple voting shares, matters concerning reduction of directors’ compensation or liability, appointment and dismissal of auditors (or audit committee members), resolutions to reduce capital, profit dividends, or dissolution of the company under the Commercial Act, multiple voting shares may exercise only one vote per share.

Q. Once recognized, do multiple voting shares remain valid indefinitely?

① They are converted into common shares on the day after the duration of the multiple voting shares expires. Under the law, the maximum duration is 10 years.

② If they are inherited or transferred, they cease to be multiple voting shares.

③ If the founder loses the position of director, they are converted into common shares.

④ They become common shares three years after the date of listing on a securities market.

⑤ If the company is designated as a business group subject to disclosure under the Fair Trade Act, or incorporated into one of its affiliates, they become common shares.

✓ A noteworthy point here is that multiple voting shares are converted into common shares at whichever comes first: the day after the expiration of their duration or the day three years after listing on a securities market.

Q. How does a founder acquire multiple voting shares?

Multiple voting shares are issued to a founder by a shareholders’ meeting with the approval of at least three-fourths of the total issued voting shares. If unanimous consent of all shareholders is obtained at the shareholders’ meeting, the founder may pay in his or her existing common shares and receive multiple voting shares in exchange. If even one shareholder objects, the founder must inevitably make payment in cash.

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Legislative revision process and handling status

Before being submitted to the plenary session, this bill had once been effectively shelved by the Legislation and Judiciary Committee, the standing committee responsible for reviewing legal wording and structure. On March 27, 2023, the ruling People Power Party and the main opposition Democratic Party of Korea agreed to process the bill, but Rep. Cho Junghun of the Transition Korea Party opposed it alone, and the bill ultimately failed to advance. This was the result of the standing committee’s customary emphasis on consensus. After the committee failed to process the bill, the Innovative Venture Organizations Council, which includes the Korea Venture Business Association and the Korea Startup Forum, expressed regret the following day and strongly argued for the urgency and necessity of the legislation. At the time, the association made the following arguments.

The ball was then back in the National Assembly’s court. A month later, on April 26, the Legislation and Judiciary Committee held another plenary meeting and passed the bill. That day, Rep. Cho Junghun was absent on a business trip. The following day, debate over the bill continued after it was submitted to the National Assembly plenary session. Eight lawmakers took part in the discussion.

After intense debate for and against, the bill passed the plenary session with 173 votes in favor, 44 against, and 43 abstentions. Unlike other contentious bills, this one was marked more by internal divisions within the Democratic Party of Korea.

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Assessment of the bill

1. Symbolic significance as a catalyst for expanding means of defending management control

Multiple voting shares are one type of dual-class voting share. In contrast to multiple voting shares, which grant two or more votes per share, there are also “partial voting shares,” which grant less than one vote per share; golden shares, which confer veto rights regardless of ownership stake; and tenure voting, which differentiates voting rights according to the holding period. There are also non-voting shares, which carry no voting rights.

Dual-class share systems have been widely adopted around the world in open capital markets to defend corporate management control and the controlling shareholder’s authority from threats posed by aggressive speculative capital and hostile M&A. Leading companies such as Google, Facebook, LinkedIn, Dropbox, and Berkshire Hathaway in the United States have issued dual-class voting shares. China’s Alibaba issued multiple voting shares when listing on the New York Stock Exchange, and Xiaomi did the same when listing on the Hong Kong Stock Exchange.

Among the OECD’s 36 member countries, 17 recognize dual-class voting shares. The more developed the capital market, the more varied the types of dual-class voting shares tend to be.

Article 369(1) of Korea’s Commercial Act clearly provides that “each share shall have one vote,” explicitly establishing the principle of shareholder equality, and this has remained in place since it was first introduced in 1962. The business community and some political circles have consistently raised the need to introduce dual-class voting rights, but progress was blocked by concerns over strengthening so-called chaebol control. Then, when Coupang, a well-known Korean retail company, decided to list on a U.S. stock market rather than in Korea, calls grew louder for the introduction of dual-class voting rights domestically. Upon listing, Coupang issued Class B multiple voting shares carrying 29 times the voting rights of its Class A common shares, which carry one vote per share. The Class B multiple voting shares were issued only to founder Chairman Bom Suk Kim. In effect, a 1% equity stake could exercise 29% of the voting rights. In addition, eight other classes of stock, from Class C to Class J, were also issued. The fact that Korea has recognized multiple voting shares on a limited basis for unlisted venture companies is viewed as having opened the door to broader expansion of the domestic dual-class share system in the future. Of course, resistance remains strong against allowing listed non-venture companies, for example large corporations, to issue multiple voting shares. There is also a high possibility of controversy over favoritism toward chaebol and disguised inheritance. Still, as consensus forms regarding the effectiveness of multiple voting rights after their introduction, the case for expansion may gain momentum.

2. Limitations due to the gap with reality; supplementation is needed through clear enforcement decrees and further legislative amendment

① Mere pie in the sky for founders whose stakes have already been heavily diluted

The law provides that founders may acquire multiple voting shares only if, up to the last round of investment, they remained the largest shareholder with at least a 30% stake. This means that if a founder’s stake has already fallen below 30% during the process of attracting large-scale investment, the multiple voting rights system cannot be used. In other words, the paradox arises that founders of venture businesses whose ownership has already been diluted cannot enjoy the benefits of the system. A representative company excluded under this rule is Kurly, because founder and CEO Seul-A Kim holds only 6.25%. The same applies to the fabless semiconductor company Fadu, which joined the unicorn ranks, and the fintech startup Toss. This has led to calls for easing the requirements for issuing multiple voting shares.

② Conversion into common shares three years after listing... governance confusion and greater risk to founders’ management control

The government emphasizes that the three-year grace period before conversion into common shares was intended to prevent venture businesses from avoiding listing. In practice, however, the founder’s voting rights will shrink after three years, and depending on the proportion of multiple voting shares, a fundamental change in governance structure could follow. Founders may also feel compelled to steadily buy common shares in preparation for listing in order to secure means of defending management control. This could ultimately force founders to inject additional capital of their own. That does not fit the purpose of the law, which is to ease financial constraints on founders’ business funding. The venture industry appears to hope for a legislative amendment on this point.

③ Regrettable exclusion of managers who made substantive contributions after establishment through M&A, investment, and the like

The law restricts the issuance of multiple voting shares to promoters at the time of incorporation. Therefore, substantive managers who took over after establishment cannot receive multiple voting shares. This includes cases where a company is acquired through M&A by another entrepreneur due to deteriorating management, or where the governance structure changes through inheritance or transfer following a founder’s sudden incapacity or death. It is regrettable that those who made decisive contributions to the company’s growth are not guaranteed defensive rights despite their substantial role.

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Original title: 복수의결권, 11월 시행 예정...발행요건 완화하고 경영자 배제 문턱 낮춰야

Author: Ju-jin Yoon

Date: 2023-07-27

Source: https://www.cfe.org/bbs/bbsDetail.php?cid=bill&pn=3&idx=25910