Issuance of New Shares as a Takeover Defense and Countermeasures

Abstract

In the face of a hostile takeover bid, the best defense is to acquire more friendly shares than the bidder. The problem here is that once the takeover bid becomes known in the market, share prices may increase drastically so as to render it difficult to purchase shares in the market. A solution in this case is to issue new shares to a white knight, and there have been several attempts to do so. Under the Commercial Code of Korea, the general rule with respect to the issuance of new shares is to offer them to existing shareholders in proportion to their existing shareholding. As an exception to these preemptive rights principle, the Commercial Code allows for third-party offerings, but this is limited to where it is necessary to achieve the managerial goals of a company such as the introduction of new technologies or improvement of the financial structure. Much debate has centered on the question of whether a third-party offering as a defense to a hostile takeover bid falls under the above exception to preemptive rights under the Commercial Code. The courts have consistently held that it does not, and so in order to achieve the same result as a third-party offering, companies have used the method where they first issue a massive number of new shares and then allocate to third parties any new shares which were not subscribed by shareholders.

The courts have ruled that since the shareholders were given the opportunity to acquire the new shares, allocation of unsubscribed new shares to third party is lawful. However, critics have pointed out that if the original purpose of issuing new shares was to induce forfeited shares, in substance it is no different from a third-party offering and so it should be unlawful. The courts have yet to rule on this matter.