[Weekend Money] Stock Prices Rise, but Beware of Treasury Share 'Scheme' Sales

Mandatory Cancellation of Existing Treasury Shares Within One Year
Potential Use of Employee Welfare Funds and Scholarship Foundations
Strengthening Control by Reviving Voting Rights Through Such Transfers

As the "Third Amendment to the Commercial Act," which mandates in principle that treasury shares must be canceled within one year, passed the National Assembly's plenary session on February 25, a major shift is expected in how companies utilize treasury shares. The amendment specifies that treasury shares have no rights and requires companies to follow procedures similar to new share issuances when disposing of them. In particular, it allows the board of directors to cancel treasury shares regardless of how they were acquired, effectively aiming for a "complete reset" of treasury shares, which have traditionally been used as a defensive tool for management control.

In South Korea, treasury shares have often been treated as assets, influenced by tax law and court precedents, or have been used to defend management control by disposing them to third parties and reviving voting rights. This structure differs from that of major advanced economies, where treasury shares are strictly regulated as a capital deduction item. The new amendment is designed to address this gap and strengthen shareholder protection.

Yoo Gunho, a researcher at Mirae Asset Securities, commented, "This amendment clearly defines treasury shares as part of capital transactions and aligns regulations with global standards," adding, "It is significant in that it greatly reduces the possibility of expanding indirect control through treasury shares."

The market expects that if the cancellation of treasury shares becomes widespread, it could ease multiple-related burdens. Currently, the domestic stock exchange includes treasury shares in market capitalization calculations. When treasury shares are canceled, market capitalization theoretically declines, while EPS and BPS increase. If the stock price remains unchanged, PER and PBR decrease as a result. A similar trend was observed during Samsung Electronics’ large-scale treasury share cancellation in 2018.

However, concerns are rising about attempts to circumvent the intention of the law by disguising the use of treasury shares as being for "goodwill" purposes. The amendment allows exceptions for the use of treasury shares in employee stock ownership programs and for employee compensation. There is concern that companies could contribute treasury shares to welfare foundations or funds and secure friendly shares by having these foundations exercise voting rights.

Under current law, treasury shares donated to welfare foundations can exercise voting rights up to 5% for major decisions, and in the case of separate funds, voting rights can be exercised without limit. Some point out that if treasury shares are contributed free of charge, the economic effect is similar to a bonus issue, potentially diluting the value per share for existing shareholders.

There are real-life examples of this. Hanjin KAL contributed 440,000 treasury shares to the in-house employee welfare fund, raising the stake of Chairman Walter Cho’s group from 20.09% to 20.75%. KT&G also holds about a 3% stake through welfare and scholarship foundations headed by current and former executives, and KOSDAQ-listed Suprema HQ contributed treasury shares equivalent to a 4.99% stake to a newly established cultural foundation in January this year, only to receive a correction order from the Financial Supervisory Service.

Experts warn that if such structures are repeated, the effectiveness of the mandatory cancellation of treasury shares could be undermined. However, the amendment also includes a provision requiring treasury share holding and disposal plans to be implemented with shareholder meeting approval, which is expected to curb indiscriminate circumvention attempts to some extent.

Researcher Yoo emphasized, "Although it may appear to be for welfare purposes, if the contribution of treasury shares is used as a means to strengthen control, it could harm existing shareholder value. Investors should closely examine not only whether treasury shares are canceled, but also how they are disposed of and where they ultimately end up."

This content was produced with the assistance of AI translation services.