South Korean President Roh Moo Hyun has promised to make improving corporate accountability and transparency a top priority. Now, with 10 executives of SK Group, the nation's third-largest conglomerate, or chaebol, convicted on June 13 for their role in accounting fraud and illegal share transactions, how its creditors and other stakeholders reshape the group will have significant implications on Korea's corporate reform.
A key question is whether to liquidate the group's trading arm, SK Global, whose debts exceed assets by $3.7 billion. Foreign shareholders, led by Monaco-based Sovereign Asset Management, oppose a bailout of the troubled trading affiliate. Global's collapse would lead to the chaebol's virtual breakup and the introduction of a new corporate-governance system.
In his first on-the-record interview about why Sovereign wants the shakeup of SK Corp. and an end to business with Global, Sovereign Chief Operating Officer James Fitter spoke on June 23 to BusinessWeek Seoul Bureau Chief Moon Ihlwan. Edited excerpts of their conversation follow:
Q: Why has Sovereign Asset Management has called for new leadership at SK Corp.?
A: The existing leadership has already demonstrated its abilities. SK Corp. is in crisis due to mismanagement and accounting irregularities at SK Securities, SK Global, and SK Shipping. The scale of the losses at SK Global is in the billions, and what's more shocking is that no one has yet given a full accounting of where the money went. This is a key criticism currently being leveled by foreign creditor banks.
Three key executives at SK Corp. have received criminal convictions for breaches of fiduciary responsibility. Neither shareholders nor banks can have any confidence in SK Corp. until all convicted directors have been removed and a new, ethical corporate culture has been instilled in SK Corp.
Q: Sovereign has been against a plan to bail out SK Global. What are the biggest problems of the bailout plan?
A: Until we know where the billions of dollars missing from SK Global have gone, it would be foolhardy to assume that the leaks have been plugged. Proposals to simply pour more money into SK Global's financial black hole clearly lack any commercial logic.
Secondly, rather than demanding that the 10 convicted directors of SK Global step down, the domestic creditors led by Hana Bank have shockingly sought to strengthen the grip of [SK Corp. Chairman] Chey [Tae Won] and co-directors over not only SK Global but over the entire SK chaebol.
One has to ask why the domestic banks would wish to entrust the funds of their shareholders and other foreign banks to directors who have been convicted as directly responsible for a long-term program of corporate pillage.
Q: What steps are necessary to improve corporate governance of SK Corp. and the company's shareholder value?
A: Corporate culture always comes from the top of an organization. Any reform must start with the removal of the convicted directors who presided over one of Korea's greatest financial scandals. New leadership must start to make capital-allocation decisions based upon commercial principles rather than relationships with family, friends, and affiliated companies. There needs to be a demonstration of the understanding that companies are run for the benefit of all shareholders alike.
Systems need to be put in place that promote and ensure transparent business practices, with all trading relationships being based on arms-length commercial merit. The adoption of an ethics code, annual election of directors, and improved communication with shareholders would all improve accountability and strengthen corporate governance.
Q: What's the worst habit of the chaebol?
A: The chaebol concept itself unduly encourages the misallocation of capital among affiliated companies [because it's] based on relationships instead of compelling commercial logic.
While this "group" concept may have provided a positive foundation for the development of embryonic industries in Korea, the insistence on not only seeding new businesses but also on sustaining them indefinitely irrespective of their commercial merits, has led to the sustained misallocation of capital by both chaebol companies and their banks.
The collapse of the Korean economy in 1998 under tens of billions of dollars of chaebol debt highlighted the accumulated results of years of this exaggerated strategy. While the businesses of founding families have evolved into public companies, the practices of some chaebol have yet to match this development. The assets of some public companies are still too frequently used for private purposes.
Q: How could South Korea break away from past malfeasance?
A: The country must commence by improving its accountability. This has two components. Firstly, restitution of previously misappropriated assets provides a strong deterrent to future malfeasance. This is why it's imperative to have a full accounting of the money missing from SK Global.
Secondly, directors of public companies must be made responsible for their actions. When systems are created which break the link between actions and consequences, it leads to dysfunctionality and corruption.
One suggestion to strengthen the accountability of directors to shareholders would be introducing a law requiring that company directors be reelected annually and barring individuals with criminal convictions from serving as the directors of public companies for five years.
Q: Do you see significant changes made in Korea's corporate sector?
A: Clearly, Korea is making progress, but not as quickly as it may appear on the surface. Many cosmetic changes have left the underlying problems intact. What the market needs to see is the continued and consistent application of the spirit of the Korean law, rather than its arbitrary and legalistic use to promote economic nationalism.
Q: How do you see Korea's corporate governance situation at the end of President Roh Moo Hyun's term?
A: President Roh has espoused a vision for Korea to become the financial hub of North Asia. If this vision is to become a reality, then Korea must provide a level playing field for investors, both domestic and foreign, otherwise capital and business will inevitably flow to where it's treated with appropriate respect.
The ability to do this will be one of the determinants of Korea's future well-being, as manufacturing jobs move to low-cost China and Korea seeks to compensate by growing its financial-services industry.
Q: Given your experience with Korean banks over the SK Group case, what changes do you think banks should introduce?
A: Accountability is also the central issue for the banks. Bankers must play their part in demanding accountability by the managers of companies to which they lend. They themselves must also acknowledge their own accountability for making poor lending decisions to non-viable companies.
Q: Could you elaborate on Sovereign's investment plan in Korea?
A: Sovereign believes in the inventiveness and industriousness of the Korean people. We remain confident in their ability to continue to develop the country and its world-leading industries.
Our observation is that the country is being held back by poor corporate governance. If Korea can raise its corporate governance to the international level of its technological prowess, the economy will be liberated to perform and produce sustainable prosperity. We see the investment in SK Corp. as an opportunity to be a catalyst and hopefully accelerate this process.