Eun Joo Kang, Sung Yun Kang and Jay Lee of Bae Kim & Lee discuss the impact of a proposed relaxation of bank ownership restrictions for internet banks
In Korea, the prohibition on non-financial investors owning equity stakes in commercial banks dates back to the 1960s. Currently, Korean law places strict restrictions on the holding of shares by non-financial investors in commercial banks. A non-financial investor wishing to hold more than four percent of the voting shares in a commercial bank must first obtain prior approval from the Korean Financial Services Commission. In addition, even with such approval, a non-financial investor is not permitted to hold more than 10% of the voting shares, and in any event, may exercise voting rights for only up to four percent of the voting shares.
Who is classified as a non-financial investor? This is determined and calculated with reference to the relevant corporate group – not just the investing entity alone. If the aggregate net assets of all the non-financial companies within a corporate group account for more than 25% of the aggregate net assets of all the companies comprising the corporate group, then each and every company in the corporate group is regarded as a non-financial investor, even if the investor actually engages in a financial business. Also, if the aggregate gross assets of all non-financial companies within a corporate group exceed KRW2 trillion ($1.8 billion), then each and every company in the corporate group is regarded as a non-financial investor, even if the investor actually engages in a financial business.
Rationale behind bank ownership restrictions
There are several main reasons for these:
Commercial banks serve a key function for monetary circulation in the national economy by receiving deposits from customers and extending loans to borrowers from such deposits.
As most deposits are payable upon demand, commercial banks are, by nature, constantly exposed to the threat or risk of a bank run, which can materialise any time there is a deterioration in or concerns about the financial soundness of banks.
The failure of commercial banks can severely damage the national economy.
Non-trivial ownership in a commercial bank by any particular non-financial investor may have a detrimental effect on the above.
A certain social and cultural element idiosyncratic to Korea also feeds into the justification for the bank ownership restrictions: the fear of chaebols (Korean conglomerates). It is feared that a chaebol, which already wields considerable and controversial economic and arguably political power in the Korean economy, may acquire and operate a bank. Such a fear can be dissected into two parts:
A fear that chaebol banks may provide unfair benefits and services to their respective chaebol affiliated companies, granting even more economic power to chaebols and skewing the playing field further against mid/small-sized companies (ie a fear of monopolistic dominance).
A fear that such chaebol banks would extend disproportionate amounts of loans to their respective chaebol affiliated companies that are more prone to economic downturns (for instance shipping companies), thereby risking their own stability and potentially jeopardising the national economy as a whole (ie a fear of industrial risks spreading into the financial system).
Such fears are not entirely baseless. In 2013, the Tongyang Group, one of the chaebols, when faced with financial difficulties, caused its subsidiary brokerage house to sell bonds and commercial papers issued by Tongyang Group to unsophisticated individual investors. Eventually, the Tongyang Group defaulted on those bonds and those commercial papers worth KRW994.2 billion, thereby inflicting losses on approximately 40,000 individual investors.
For such reasons, discussions on the relaxation of the bank ownership restrictions have gained little ground and made only limited progress. Any proposal on the subject was likely to be labelled as either pro- or anti-chaebol, and has quickly come under severe political scrutiny.
Introduction of internet banks and the relaxation of bank ownership restrictions
Recently, the fintech frenzy in Korea ignited discussions on the bank ownership restrictions from a new angle. It is well known that Korea is strong in the IT sector, and has a superb and stable IT infrastructure with a technologically savvy population. Why not become a first mover in the fintech industry? It was one of the Korean government's heavily promoted initiatives and opened new possibilities for information and communications technology (ICT) companies to have significant shareholdings in certain commercial banks – so long as such banks qualified as internet banks.
In 2015, the Korean government granted preliminary internet banking licences to two consortiums. In 2017, it granted the final licences to both consortiums. The internet banking licence is not entirely different from the commercial banking licence. Rather, the two are the same in almost all respects, including the work scope and governing regulations, with the main difference being that the internet banks must operate online only and cannot have a bricks-and-mortar branch office, in principle.
Given that internet banking licences are identical in most aspects to commercial banking licences, it would be a fair question to ask why Korea wants to add these two commercial banks instead of utilising the existing ones. Indeed, what the Korean government appears to expect from the new players is to become game-changers in the fintech field in Korea with their fresh perspectives and know-how in the IT industry. The existing commercial banks have little incentive to innovate their online services because launching new competitive online products may adversely impact the more lucrative existing products sold offline. From the perspective of the existing commercial banks, considering the time and effort that will be required to change the regulatory environment, the prize is at best enough to break even, as it will likely be shared with the other banks. On the other hand, the internet banks, with no offline operations to fall back on, are strongly incentivised to launch new online products and to navigate through such regulatory hurdles. With feedback from the internet banks, the Korean government hopes to be able to adjust the regulatory framework to be more fintech friendly.
Effect of bank ownership restrictions on internet banks
Each of the two internet banks has an ICT company as a major shareholder (Kakao Corporation and KT respectively). These shareholder ICT companies' role is critical to the success of the internet banks. Their experience, culture, incentive scheme, know-how and drive to succeed must somehow permeate the new internet banks.
However, under the current bank ownership restrictions, the shareholder ICT companies may only hold up to 10% of the voting shares, with voting rights exercisable with respect to only four percent of the voting shares. At the time of issuance of the preliminary internet bank licences, there were discussions about relaxing the restrictions, but proposed amendments to the Banking Act are still pending at the National Assembly. In the unfortunate case the existing restrictions remain in force, the shareholder ICT companies may gradually lose interest in the internet banks, since their small shareholding ratio and limited voting rights will neither provide sufficient incentives to strive for the success of the internet banks nor enough influence over the composition of the management to affect the operation of the internet banks.
The bank ownership restrictions have restricted shareholding in commercial banks by non-financial investors to prevent the commercial banks from having incentives to grant unjust favours to non-financial investors. Lawmakers in the past may have been preoccupied with not allowing any manufacturing, shipping, aviation or construction company to gain an influential shareholding in any commercial bank, as such companies typically require large capital expenditures. However, it is a different case for the ICT companies, such as messaging app companies, as a typical ICT company does not require any level of capital expenditure comparable to that required by automakers or shipbuilders, and tends to be less susceptible to cyclical downturns. Moreover, as internet banks will neither have physical branch offices nor offline marketing networks, their marketing strategy, products and customer base will be different from those of the existing commercial banks. Given such differences, arguments may be made that a different set of rules should be applicable to the internet banks for substantively effective regulation.
In light of all the circumstances surrounding the internet banks, it appears that a reasonable solution would be to relax the restrictions to a certain extent for the internet banks so as to keep ICT companies interested and incentivised to align their interests with the success of the internet banks. Despite such relaxation of restrictions, it may be desirable to limit the provision of loans by the internet banks to their major shareholders or affiliates. Although the fear of risks associated with chaebol or monopolistic behavior is understandable, maintaining the current bank ownership restrictions should not be the only way to manage such risks – especially when the policymakers have clear objectives for fintech in their sights.
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Eun Joo KangPartner, Bae, Kim & Lee Seoul, South Korea T: +82-2-3404-0450 Eun Joo Kang joined Bae, Kim & Lee in 2007 and has expertise in cross-border M&A and financial regulatory matters. She has represented corporate clients in large-scale M&As including the acquisition of Oriental Brewery and Korea Exchange Bank, sale of Hyundai E&C and SK Hynix, the merger between Hana Bank and Korea Exchange Bank (currently known as KEB Hana Bank) and Kakao Bank consortium's obtaining internet banking licence. She studied at Harvard Law School from 2012 to 2013 and then was seconded to Cleary, Gottlieb, Steen & Hamilton's Hong Kong office from 2013 to 2014. She was recently profiled in the 40 Under 40 by ALB, a Thomson Reuters-affiliated legal publication. |
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Sung Yun KangAssociate, Bae, Kim & Lee Seoul, South Korea T: +82-2-3404-0860 Sung Yun Kang joined Bae, Kim & Lee in 2014 and her practice is focused on M&As and financial regulations with specialisation in fintech area. She advises domestic and foreign financial institutions and fintech companies on e-finance, foreign exchange and IT related regulations. Recent cases she has worked on include Kakao Bank consortium's obtaining internet banking licence and DGB Financial Group and DGB Life Insurance's all-inclusive share swap. She majored in Business Administration at Korea University (bachelor's degree) and graduated from Seoul National University School of Law. |
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Jay LeeForeign Attorney, Bae, Kim & Lee Seoul, South Korea T: +82-2-3404-0298 Jay Lee is a junior foreign attorney in Bae, Kim & Lee's corporate practice group. He has advised domestic and international corporate clients in a variety of M&A, financial regulation, real estate, construction, energy and natural resources matters. His representative cases include the sale of Burger King by VIG Partners Korea and the construction project of Hung Ha Bridge in Vietnam by Hyundai Development Company. He is a New York lawyer, and a graduate of Columbia Law School (J.D., 2014) and Seoul National University (B.A., 2010). He worked as a judicial extern at the United States District Court for the Eastern District of New York in 2014 and as a law clerk at Colón & Peguero before joining Bae, Kim & Lee in 2015. |