Corporate Governance in East Asia

Corporate Governance in East Asia

The Asian Financial Crisis of 1997-98 was seen as a consequence of poor corporate governance throughout East Asia. Lax corporate governance could be seen in weak internal controls, poor financial reporting and auditing, lack of discretion by boards of directors, mistreatment of minority shareholders and poor enforcement of penalties for law breakers. Throughout East Asia the interest in corporate governance has always been sporadic, however after the Financial Crisis governments and corporations realised a need to improve governance standards in order for the economies to regain any momentum. This paper examines the changes in corporate regulation and corporate governance in recent years. It will also compare the new regulations and practices with international standards to gauge how far East Asia has come. Assisting in the analysis of transition, this paper will examine the above through the economy of South Korea, thus allowing for a more in-depth analysis exploring local problems that have and have not been addressed since the crisis. The problems that have been addressed in South Korea include transparency, minority shareholder rights and creditor rights.

Following the crisis many amendments were made to ÐŽ§enhance transparency, credibility and international comparability of Korean accounting standardsЎЁ (Park, 1999:5). These amendments were prescribed to encourage investment based on performance rather than misleading information and reputation. In 1999, the Korean Commercial Code insisted in upgrading transparency in corporations and especially the major Chaebol (EAU, 2002:44). For listed firms this meant annual reports needed to be more comprehensive and that any significant changes that could possibly affect share prices must be reported to securities regulator (EAU, 2002:52). Additionally conglomerates that have significant foreign ownerships must produce reports in both Korean and English (EAU, 2002:52). As the Chaebol ownership structure is quite unique in Korea, consolidated reports were not always accurate as they were able to exclude certain subsidiaries and affiliates. The Chaebol used this loophole to exercise corrupt business practices with government and political elite. To resolve this, the Korean Congress passed a bill requiring combined financial statements from Chaebols for fiscal years commencing January 1, 1999 (Park, 1999:5). Furthermore, firms must disclose compliance with the code of best practice for corporate governance each quarter.

In 1998 authorities tried to bring Korean accounting standards more in line with international accounting standards (EAU, 2002:57). To assist in this the Financial Supervisory Service introduced new standards on reporting. ÐŽ§The objective of accounting disclosure is to provide investors with an adequate level of information to make investment decisionsЎЁ (Chan and Cheung, 2004:23). However for the major conglomerates the problem seems more difficult as investments spread over multiple sectors, thus heightening the importance of information disclosure. Korean accounting standards still need to be strongly reinforced as almost 50 per cent of listed companies do not confer with international accounting standards when reporting (EAU, 2002:57).

Finally with respect to transparency, auditing procedures need to be analysed. Before the crisis, auditing was generally conducted by internal auditors thus allowing for strong bias and erroneous reporting. In 1999, the Securities and Futures Commission sought to align Korean auditing standards with international standards. Now regulations that have since been implemented require corporations to establish an audit committee or a statutory internal auditor (not both). Furthermore an audit committee must include three directors, two of whom must be independent. The Code of Best Practice for Corporate Governance recommends that at least two thirds of a corporationsÐŽ¦ audit committee are independent (EAU, 2002:57). Before the financial crisis, auditing was conducted on corporations at random. However since December 2000, the Financial Supervisory Services will investigate dubious companiesÐŽ¦ reporting practices. If the company is found infringing regulations than all parties involved will face penalties (EAU, 2002:57).

Minority shareholder rights are significant in bringing about corporate governance in large conglomerates. They are extremely important in the large Chaebol where the boards seem to be dominated by family members and friends, which allows for collaboration on issues and control over decision making. It has to be noted that the ÐŽ§Chaebol have been keen to pursue market leadership and revenue generation rather than short term profit maximisation ÐŽK these objectives might not be consistent with minority shareholdersÐŽ¦ interests when the overall product market could be changing in ways that require rapid adjustment to the business plan for specific productsЎЁ (Chan and Cheung, 2004:23). To try and alleviate this problem the Korean Commercial Code strengthened shareholder rights and abilities through listing rules, shareholder representation and board structure.

Listing rules have been amended to further favour minority shareholders. Since 1998, 25 per cent of board seats must be allocated to independent directors. In any circumstance where more than 10 per cent of a companyÐŽ¦s stock is to be incorporated in a pending business arrangement, the details must be disclosed (EAU, 2002:58). Furthermore in 2000, the Securities and Exchange Act was modified so that companies that disclosed inaccurate information would incur a penalty. This was seen in August 1999, when ÐŽ§authorities suspended Daewoo Metal stock from trading because the company did not faithfully disclose details of its convertible bondsЎЁ (EAU, 2002:58). This is further enforced with companies being labelled an ЎҐunfaithful disclosure companyÐŽ¦ if they have two inaccurate disclosures in one year. If they receive another during the next six months the company may be delisted (EAU, 2002:58).

Shareholder representation was also ill-treated before the financial crisis. In Korea it is now possible for a person to call a meeting to determine major issues if they own three per cent of an unlisted companies stock or one percent of a listed companies stock. Although the listing rules allow for cumulative and proxy voting, which is beneficial to minority shareholders, companies article of incorporation often circumvent this from happening. Furthermore postal voting is not allowed which added with the previous noted circumstances weakens minority shareholders rights (EAU, 2002:58). The SK Group (South Koreas third largest conglomerate), was involved in a major fraud