KDI - Korea Development Institute - RESEARCH - Research Areas

Summary

Policy Study KOR Candidate Selection Systems and Legislative Incentive

We explore theoretically and empirically the implications of the political party's candidate selection systems on politicians’ incentives. Through a contract theory model for the problem of multiple principles and an agent with multi-task, we have shown that the bottom-up nomination system is socially optimal, and the politician's effort for re-election under the top-down nomination system is much less than social optimal. By utilizing the partial introduction of the bottom-up nomination system in the 17th general election, we empirically have found that the legislative effort of politicians elected through bottom-up nomination is greater than that of politicians elected through top-down nomination.

Summary

Policy Study KOR Corporate Governance in Large Enterprises: Family Firms and CEO Ownership

This study aims to find the implications of a separation between ownership and control and the autonomy of the board of directors through an empirical analysis focusing on the management of founding families and control by a professional executive. New databases were established by directly gathering information on the management and board of directors of the top 445 listed non-financial and private companies in terms of sales from 2010 to 2017. Analysis of the data revealed that the incentives for CEOs can vary depending on whether the company is operated by the founding family or a professional executive. It also found that the impact of the autonomy of the board of directors on company performance is also contingent on whether the founding family is involved in management. Generally, an increase in the CEO’s stake improves a company’s operational performance, and such an effect appears to be stronger in companies managed by founding families, or at least similar to those operated by a professional executive. Additionally, having more outside board members who have social ties with the CEO (school, hometown, etc.) was found to adversely affect operational performance, which was observed only in companies run by professional executives. This means that, contrary to the common belief that a ‘friendly’ outside board member can serve as an advisor and expert who has a positive influence on the company, when the autonomy of outside board members is compromised, their role as supervisor weakens significantly when a professional executive is in charge of operations. These findings imply that although it is a common belief that ownership and control should be separated, professional executives should have control and the founding family should be excluded from management, the optimum governance structure can differ based on the conditions of each company.

Summary

KDI Policy Forum Business Groups and Declining Allocative Efficiency in Korea

□ The allocative efficiency in Korea is on a rapid downturn.

- Based on Statistics Korea’s Survey of Business Activities, an analysis was conducted on firms with over 50 regular employees and 300 million won in equity during 2006-2015 to find that allocative efficiency has continued to decline since 2008 (labor productivity from 2008, TFP from 2011).

- Using the methodology proposed by Melitz and Polanec (2015), allocative efficiency was measured through the covariance between firms’ productivity and market share―a decline in allocative efficiency means that resources are being excessively allocated to low-productivity firms while the opposite is true for high-productivity firms.

□ Since 2011, the decline in allocative efficiency has been observed mostly among affiliates of large business groups that are designated by the Korea Fair Trade Commission (KFTC) for limitations on cross-shareholding.

- Considering large business groups’ immense share of inputs (labor and capital), their diminishing efficiency in resource allocation accounts for much of the recent productivity slowdown in Korea.

□ To improve overall economic growth, efforts must be made to offset the declining allocative efficiency engendered by large business groups.

- The holding company system needs an overhaul to prevent the growth of business-group firms from eroding allocative efficiency.

- Actions need to be taken so that any problems incurred from the misconduct of controlling shareholders do not lead to misallocation within business groups.

Summary

KDI FOCUS The Sale of Treasury Stocks and Protection of Management Rights

□ Treasury stocks play a vital role in retaining, protecting and transferring management rights in large enterprises. However, the sale of treasury stocks is essentially identical to the issuance of new shares in economic nature. Therefore, using treasury stocks to protect management rights could obscure the equal treatment of shareholders. Even if such practices are permitted for policy purposes, the government needs to put other measures into place to protect general and minority shareholders from the damages that may arise.

- The sale of treasury stocks and the issuance of new shares are the same in economic nature since both increase stock trade volume and seek outside funding.

- Within the legal system, the difference between the sale of treasury stocks and issuance of new shares seems to have been created intentionally during the legislative process. As a result, controlling shareholders are able to use treasury stocks to defend their management rights.

- Although identical economic natures do not necessitate identical regulations, policy considerations can be rationalized if the positive economic impact from the protection of management rights, through the sale of treasury stocks, is significant.

- It is often the case that having a single managing executive to control two companies is more economically efficient, in terms of business synergy and reduced transaction costs.

- Affiliated companies that are mobilized to help the controlling shareholder protect his/her management rights could suffer from a loss in efficiency, for instance lost opportunities for better investments.

- Unlike general and minority shareholders, because controlling shareholders take into account the control premium when deciding on the sale of treasury stocks, the gains are highly likely to be focused on them, creating losses for the others.

- The controlling shareholders’ decision to sell treasury shares to white knights could generate losses for general and minority shareholders since it is a ‘rushed sale,’ while the controlling shareholders reap the benefits of maintaining the control premium.

- Selling treasury shares to affiliated companies is mostly aimed at strengthening management control by increasing the holding stake and restructuring the entire group.

- If it is difficult to expect certain business synergies, the sale will not be welcomed by the purchasing company’s general and minority shareholders.

- In the mid- to long-run, the current laws and systems need to be revised so that the transaction of treasury stocks fits the economic nature.

- Even if the current laws and systems are maintained, regulations that could generate losses for general and minority shareholders need to be overhauled as soon as possible.

Summary

Research Monograph KOR A New Discipline for the Inter-Corporate Shareholding

This monograph studies the governance structure in large business conglomerates, especially focusing on the inter-corporate shareholding between firms affiliated in the same conglomerate. The discipline for the corporate governance starts from monitoring firm’s decision making process, and every stakeholder, including the government, small shareholders, investors, potential investors, and takeover bidders, can join in disciplining. We analyze the discipline process in the view of a collective monitoring system for corporate governance.

The authors examine a lot of equity investment cases for the affiliated firm’s shares, to get qualitative insights on shareholding structure in the large conglomerate. The every case of Samsung, Hyundai, Hyundai Motors since 2000 is recorded in detail in the appendix.

In the earlier part of the monograph, the authors examine the effectiveness of the existing monitoring system for the corporate governance. The regulations by public authorities, like the prohibition of circular shareholding, are not sufficient for disciplining the inter-corporate shareholding. There are many loopholes, including bypass reinvestment, to avoid the public regulations. It implies we need additional monitoring mechanisms, whether in the form of public regulations or private enforcement. In many developed countries, the autonomous disciplines by the capital market have played a regulatory role.

Regrettably, the autonomous disciplines in Korea have not been matured enough. The stock market can punish vicious decisions by the owner-manager through dumping the firm’s stocks. The stock market in Korea has also responded well when the relevant information is properly provided. We, however, also found many cases in which the information delivery malfunctioned. Thus, there is an urgent necessity for improving the corporate disclosure system in the stock market. The stewardship code may be a monitoring tool for the corporate governance, to encourage funds to perform actively.

The M&A market in Korea is not considered as an active market. There are only a few instances to try on M&A and no meaningful success case. We need to reorganize the market in the principle of “who can manage better should manage.” The monitoring efforts by small shareholders should be increased. To do so, we need to reform the class action system: expansion of applicable events, introduction of discovery procedures, curtailment of permission processes, and etc. In addition, the combination of the class action and punitive damage reimbursement can boost the expected benefit from the case, and so enhance the monitoring efforts by small shareholders.

We can consider an ex-post regulation to make up for the existing public regulation. Firm’s decisions may be fruitful or harmful, according to the intention and consequences. Thus, it is helpful to consider the mixture of ex-ante laissez faire and ex-post regulation and punishment. The public interference, however, should fade out gradually and the market discipline replace the public ex-post regulation in the long run.

In the point of public regulations and M&A market reformation, we should examine treasury stocks. Sales of treasury stocks has used as a tool for defense of management rights in Korea, unlike other countries. In fact, the existing law and institution misunderstand the economic nature of the treasury stock. Thus, the law should be revised and sales of treasury stocks should be treated as a new stock issuance procedure. Until the law is revised, we need to regulate sales of treasury stocks incurring small shareholder’s loss.

Summary

Policy Study KOR Chaebol Internal Trading and Policy Responses

With a market economy not yet fully mature or yet to fully function, the “chaebol” issue is a major problem for the Korean economy. A prime example of the dilemmas related to the chaebol system is internal trading, conducted, in particular, by the owner families to siphon away corporate profits.

According to the findings of this study obtained through statistics analyses, chaebol affiliates with a high level of share ownership by the owner families are more prone to internal trading, and the profit margin is significantly large. This strongly implies that there is a transfer of wealth from chaebol affiliates with a low level of share ownership by the owner families to those with a high level. It is, therefore, statistically reasonable to suspect that the owner families are seeking personal gains through internal trading.

To regulate illegal internal trading practices, public regulatory measures should be scaled down in the long-term, based on the premise that relevant systems will operate at an optimum level. Private enforcement should also be strengthened. For now, however, given the prevalence of internal trading by the owner families, the regulatory measures should be maintained via the government’s administrative capacity.

Summary

KDI FOCUS The Retention of Underperforming CEOs and the Implications on Collusion – Controlling Management and Preventing Collusion by Strengthening the Independence of the Board

□ An analysis of Korean firm data reveals that there is a higher tendency for CEOs in cartel firms to maintain their posts when the overall industrial performance, and not the individuals’ relative performance, is high. This implies that an incentive for collusion, instead of competition, is created. Meanwhile, the outside directors of cartel firms have more social connections with the CEO in many cases and cast fewer opposing votes than those at competitive firms. Considering that CEO replacement is not pertinent to relative performance when a large proportion of the board of directors is close to the CEO or when there are no dissenting votes, enhancing board independence can deter the inclination to collude.

- Replacing an underperforming CEO is the basic incentive for stimulating efforts.

- Incentive mechanism for CEOs can have an impact on market competition as well as internal corporate management.

- If CEO replacement is not sensitive to relative performance, collusion is more likely than competition.

- As the performance of the overall industry, and not the CEO's relative performance, increases, the chances of CEO replacement at cartel firms declines.

- In the case of owner-family CEOs, relative performance of the CEO does not determine replacement regardless of participation in collusion.

- Underperforming CEOs have more chances of keeping their jobs in a company whose board has a high proportion of outside directors with social connections to the CEO or does not have dissenting outside directors.

- In cartel firms, the boards have a higher proportion of outside directors with social ties to the CEO, and they serve longer terms.

- Outside directors in cartel firms are less likely to oppose board agendas than those in non-cartel firms and are more likely to be replaced if he/she dissents.

- Collusion can be deterred by strengthening independence of the board and implementing proper monitoring and punishment mechanism for underperforming CEOs.

Summary

Policy Study KOR The Impact of Tax-regime Change on Investment and Dividend Policies

This paper shows that while the Korean corporate tax rate is relatively low compared to other major economies, the ratio of corporate tax income to GDP is relatively high. In particular, as the dividend capacity of listed companies, i.e. profitability and cash-flow, deteriorates the corporate investment in Korea could shrink on the reduction in the dividend tax rate.

In addition, it is shown using a theoretical model that the reduction on the corporate tax rate affects the investment and dividend policy the most by allowing managers to take advantage of or Tunnelings from the corporate cash holdings. However, the dividend tax cut expands the dividend income but has a negative effect on the whole economy. On the other hand, the impact of the corporate tax cut increases under corporate governance that does not have managerial Tunnelings because healthy governance without managerial private incentives reduces the relationship between investment and cash equivalents, and dividends and cash equivalents. Thus, policy makers should focus on improving the fundamental business environment rather than short-term stimulus such as a temporary corporate income tax cut or dividend tax cut.

Finally, this paper investigates the impact of financial variables and corporate tax cuts on dividend and investment policies by using a reduced model. The empirical results show that corporate cash holdings, cash flow, sales growth and average effective tax rate influence corporate investment. Also, it is shown that the dividend payout ratio at the previous period, cash flow, and average effective tax rate affect the dividend payout ratio

Summary

Policy Study KOR Governance of commercial SOEs in Korea: Main issues and a proposal for reform

This monograph summarizes the policies of the successive administrations on the governance of large commercial SOEs in Korea since the early 1980s, explains the forces behind major changes in the policies in the last three decades, analyzes the properties of the current policies that are based on the Act on the Management of Public Institutions of 2007. It also identifies the major problems that exist in the current policy and proposes a set of measures that could potentially lead to the improvement in the internal efficiency of large commercial SOEs in Korea as well as in the allocative efficiency of the relevant industries.

Successive administrations since the early 1960s generally perceived commercial SOEs as policy instruments of the line ministries rather than commercial enterprises. However, during 1993 ~ 2002, two successive administrations attempted to privatize large commercial SOEs or to install a profit oriented governance structure in them. The efforts of the Kim Young-Sam administration to prepare large commercial SOEs for eventual privatization while at the same time expose them to the market principles culminated in the passing of the Special Act on Privatization of 1997, which paved the way to eventual mass privatization of commercial SOEs during the Kim Dae-Jung administration. However, the movement for privatization, efficiency, and competition in the SOE sector in Korea halted in 2003. Further, the Act on the Management of Public Institutions enacted in 2007, which provides details of the governance structures of commercial SOEs as well as a host of non-commercial public institutions, treats commercial SOEs as policy instruments of the line ministries and gives politicians and bureaucrats a near absolute power to intervene in the affairs of SOEs.

Current governance structure gives CEOs, board members, and employees of SOEs a weak incentive to pursue efficiency while giving them a strong incentive to take actions that would significantly undermine the firm value in order to meet the demands of the government. The monograph ends with a set of recommendations for a group of commercial SOEs that could potentially improve their efficiency as well as the allocative efficiency of the industries they belong to, including a proposal to establish a holding company for commercial SOEs. The proposal can be applied to other commercial SOEs in Korea.

Summary

Policy Study KOR Corporate Governance of Cartel Firms

Firm strategies in a product market are determined by management. Therefore product market competition cannot be free from corporate governance which directly affects the decision-making process of management. To examine the relationship between corporate governance and collusion, a unique data set is collected on cartel case details, board composition and activities, and socio-demographic characteristics of outside directors and CEOs in 155 listed companies in South Korea for 2007-2012. We observed more dissenting votes from outside directors in collusive firms than in competitive firms. Not only that casting a dissenting vote raises the risk of being replaced, the risk increase is found to be significantly larger in collusive firms than in other firms. In addition, CEO turnover sensitivity to relative performance is high in competitive firms while such relationship is not found in collusive firms. Rather, the turnover probability goes down with industry performance in collusive firms. These empirical results suggest that collusive firms have weaker governance than competitive firms.

SITEMAP

HOT ISSUE

Summary

Summary

Summary

Summary

Summary

Summary

Summary

Summary

Summary

Summary

Law and Economics

Summary

Summary

Summary

Summary

Summary

Summary

Summary

Summary

Summary

Summary