Even After a 500 Million Won Investment Fails, 1.2 Billion Won Recovered? Industry Reacts to Court Ruling Upholding Share Purchase Right

Partial Victory in Share Purchase Lawsuit
Industry Voices Concern Over Potential Contraction of Investment Market

When a venture capital firm invests in a venture company and enters into a contract stipulating that the founder is designated as a stakeholder and may be required to purchase shares if rehabilitation or similar proceedings are initiated, a recent court ruling has determined that the founder must personally pay the share purchase price. The venture industry has expressed concerns that this ruling could have a chilling effect on founders seeking investment.

On July 16, the 46th Civil Division of the Seoul Central District Court (Presiding Judge Kim Hyungcheol) rendered a partial ruling in favor of the plaintiff in a lawsuit (2024Gahap59259) filed by venture capital firm A against the CEO of the invested company, Mr. B, seeking payment based on the exercise of a share purchase right.

In 2017, A invested KRW 500 million in startup C, where Mr. B was the CEO, in the form of redeemable convertible preference shares (RCPS). At the time, Mr. B was both the largest shareholder and CEO of C, and was a party to the contract. The contract included a clause allowing A to require Mr. B to purchase all or part of A's shares in C if proceedings such as rehabilitation, liquidation, or bankruptcy were initiated.

In December 2023, C filed for a simplified rehabilitation procedure with the Seoul Bankruptcy Court due to management difficulties. The court decided to commence rehabilitation proceedings in January 2024. Based on the contract, A filed a lawsuit demanding that Mr. B pay approximately KRW 1.2 billion, calculated as KRW 500 million plus 15% annual compound interest.

Mr. B argued, "Even though neither C nor I have any fault, holding the founder as a stakeholder liable solely because of the commencement of rehabilitation proceedings is invalid under Article 103 (contrary to good morals) and Article 104 (unfair legal acts) of the Civil Act."

The court did not accept Mr. B's argument. The court stated, "As the CEO of C, Mr. B appears to have thoroughly reviewed the terms of the contract and signed as a stakeholder," and added, "It is difficult to see that imposing certain responsibilities on a third party with a substantial interest in the contract is contrary to the basic order or good morals of our society."

The court further noted, "There is no evidence that Mr. B entered into the contract under distress, recklessness, or inexperience, nor that A took advantage of such circumstances," and concluded, "It is difficult to regard this as an act with antisocial characteristics that would invalidate the binding force of a legal act based on mutual agreement between the parties."

Legal professionals and the startup industry described the lawsuit and ruling as "unusual" and characterized the investment recovery as "somewhat excessive." Kim Joohyun, an attorney at Law Firm Sugar Square (41, 7th bar exam), commented, "The startup industry is concerned that if this ruling is finalized, it could discourage founders from seeking investment," and added, "There is room to consider future legislation to prevent holding company representatives personally liable without fault when their companies face financial difficulties."

Kim Hyunji, an attorney at Law Firm Byeol (43, 3rd bar exam), stated, "In 2017, when this investment contract was signed, it was common practice to require founders to provide comprehensive joint guarantees or to include share purchase right clauses in contracts," and explained, "This investment practice essentially ran counter to the principle of limited liability for corporations under commercial law." She continued, "Venture investment naturally involves a certain level of risk, yet investors have taken the position that they will never accept losses, leading to lawsuits such as this." She added, "Since then, the Venture Investment Act has added regulations restricting joint guarantees, and the current standard contracts provided by the Venture Capital Association discourage both joint guarantees and share purchase rights. Considering this, the ruling could actually serve as an opportunity to promote mutual discussion regarding standard investment contracts within the startup and venture investment sectors."

A startup CEO who requested anonymity said, "This contract designates the CEO as a stakeholder and grants the investor a share purchase right, which, when exercised, is effectively an excessive demand for a joint guarantee by the investor. I am very surprised by the court's decision to recognize this." The CEO continued, "If we want to allow venture founders to try again even after failure, there needs to be discussion on legislative or court discretion to ensure that basic living standards can be maintained."

A representative from the venture capital (VC) industry also pointed out, "Going forward, founders may refuse investment based on similar clauses, or VCs may refuse to invest if such clauses are absent," and warned, "There is a possibility that the venture investment market could be somewhat contracted, considering the positions of both sides."

Han Suhyeon, Legal Times Reporter

※This article is based on content supplied by Law Times.