[At a Turning Point: Private Equity Funds] ① The 'Regulatory Trap' Tightening Private Equity Funds

Flood of Bills Targeting Private Equity Funds After the "Homeplus Incident"
Proposal to Require PEFs to Report at Public Fund Standards
Mandatory Treasury Share Cancellation and Public Tender Offers Awaiting Legislation
Concerns Over Diminished Role of Private Sector Restructuring as M&A Becomes More Difficult

Editor's NoteThis year marks the 20th anniversary of the introduction of buyout private equity funds (PEFs) in South Korea. Now that the PEF industry has reached maturity, a sense of crisis is spreading. Criticism of PEFs has intensified following the Homeplus incident, and amendments to the Commercial Act and the Capital Markets Act-both emphasizing the principle of shareholder equality-are narrowing the scope of PEF activities. This three-part series examines the present and future of domestic PEFs standing at a turning point.

In early March this year, Homeplus, the nation’s second-largest hypermarket chain, suddenly filed for corporate rehabilitation, sparking a wave of criticism against MBK Partners, the private equity fund (PEF) manager and largest shareholder. Subsequently, not only MBK but the entire domestic PEF industry came under fire, from leveraged buyouts (LBOs) to management capabilities.

Public outcry quickly led to a series of regulatory measures tightening restrictions on PEF activities. Some bills even proposed regulating PEFs in the same way as public funds. In addition, the Commercial Act-now mandating directors’ fiduciary duty to shareholders-has taken effect, and amendments to the Capital Markets Act requiring mandatory share buybacks and public tender offers for listed companies are under discussion. The entire PEF process, which has been in place for 20 years, now faces the need for fundamental change.

Capital Markets Act Amendments Restricting Private Equity Funds

Back in 2004, when the shadow of the 1997 Asian financial crisis still lingered, the government amended the Indirect Investment Asset Management Business Act (later integrated into the Capital Markets Act in 2007), establishing the domestic buyout PEF system for acquiring and selling management rights. The following year saw the emergence of firms like MBK Partners. In 2015, the PEF system was reorganized: buyout funds became “management participation-type,” while hedge funds became “professional investor-type.” After retail investors suffered significant losses in the Lime and Optimus hedge fund scandals, the PEF system was revised again in 2021, dividing funds into “institutional-only” and “general” PEFs based on investor type.

Buyout funds-today’s institutional-only PEFs-grew rapidly around the time of the 2008 global financial crisis. They played a key role in private-sector restructuring by acquiring distressed assets from conglomerates such as Woongjin, Hyundai, and Hanjin. While there were failures, most PEFs managed to rescue companies on the brink and generate profits. In recent years, PEFs have also actively participated in business rebalancing for groups like SK, LG, and Lotte.

However, criticism of PEFs has intensified since the Homeplus incident. The National Assembly has introduced a series of amendments to the Capital Markets Act aimed at regulating PEF activities. The practice of LBOs-raising loans secured by the target company’s shares and real estate, and issuing corporate bonds to fund acquisitions-was the first to come under scrutiny. Amendments have been proposed requiring reporting of LBOs, asset sales, and dividends to both limited partners (LPs) and the Financial Services Commission.

Eventually, some bills have emerged that undermine the very purpose of the institutional-only PEF system. One amendment to the Capital Markets Act, proposed by the ruling party, would require institutional-only PEFs to prepare and distribute quarterly asset management reports and submit business reports, just like public funds. This imposes excessive disclosure obligations on PEFs, even though LPs are highly sophisticated institutions such as the National Pension Service. One domestic PEF CEO commented, “While LBO regulations are acceptable as they address past abuses, the disclosure requirements fundamentally undermine the original purpose of buyout funds, which is to enable a small group of experts to quickly and strategically restructure large corporations.” There are also concerns that domestically registered PEFs may face reverse discrimination compared to foreign funds.

Major Overhaul Needed for Existing Practices Due to Commercial Act Amendments

With amendments to the Commercial Act and Capital Markets Act affecting the entire capital market, the practices that PEFs have built over the past 20 years are inevitably being forced to change. Notable examples include Affinity Equity Partners’ acquisition of Lotte Rental and domestic VIG Partners’ acquisition of Viol.

On the same day that Lotte Rental’s largest shareholder, Hotel Lotte, decided to sell its management rights, the board of directors convened and resolved to issue new shares to a third party at a price more than twice as low as the sale price. In response, VIP Asset Management sent an open letter to the Lotte Rental board, warning that “if the capital increase is pushed through, it could violate the amended Commercial Act’s ‘fiduciary duty to the company and shareholders,’ resulting in civil and criminal liability.” In contrast, VIG Partners, in its acquisition of Kosdaq-listed medical device company Viol, is conducting a public tender offer at the same per-share price as the management rights acquisition.

From the perspective of board members, the fiduciary duty to shareholders under the Commercial Act means they must be cautious about issues that could create conflicts of interest between controlling and minority shareholders, such as comprehensive stock swaps for spin-off mergers, new share issuances through capital increases, and dual listings of subsidiaries. A recent example is SK Innovation abandoning its listing plans and buying back all shares of SK Enmove held by IMM Credit Solution.

Furthermore, the ruling party’s push for mandatory treasury share cancellation and expanded mandatory public tender offers for listed companies is bound to fundamentally change PEFs’ acquisition strategies. Lim Yoochul, chairman of the Korea Private Equity Association, stated, “The PEF industry, which has endured countless ups and downs over the past 20 years, is now facing its greatest crisis. Nevertheless, PEFs will continue to develop in ways that strengthen their positive role in industrial restructuring.”