A recent editorial in the Chosun Ilbo talked about the donation of 800 billion won by the Samsung Group, in penance for past avoidance of inheritance tax, and makes for an interesting read. Here’s an extract:
After the Samsung Group in May handed the Education Ministry a W800-billion (US$1=W965) scholarship fund, the foundation’s entire board resigned over the weekend. That again puts into limbo the unprecedented donation announced by its chairman Lee Kun-hee to give weight to apologies over attempts to dodge inheritance and gift tax in handing control of the conglomerate to Lee’s only son. “The name, project purposes and management formula of the foundation to be revised by the Education Ministry,” Samsung said.
Chang Sea-jin, in his 2003 book Financial Crisis and Transformation of Korean Business Groups gives a blow-by-blow account of the sort of thing which went on.
As of 1999, chairman Kun-Hee Lee’s wealth was estimated to be two trillion won, and his son’s wealth was estimated to be several hundred billion won. Jae-young Lee was still a student and had never run a business. When he inherited assets worth several hundred billion won, he paid an inheritance tax of only 1.6 billion won. His increase in wealth is attributable to the large capital gains of IPO stocks. Kun-Hee Lee donated 6 billion won to Jae-Young Lee in December 1995. This is the only instance of Kun-Hee Lee officially donating cash to his son. After paying the inheritance tax, Jae-Young Lee used the remaining 4.4 billion won to purchase stocks of unlisted affiliates of Samsung Group. He bought 124,800 shares of S-one, a home security company, with 2.3 billion won and 470,000 shares of Samsung Engineering with 1.9 billion won. When S-one and Samsung Engineering became listed on the stock market several months later, the value of his stock in S-one and Samsung Engineering was 35.7 billion won and 23 billion won, respectively. He sold these shares for 58.7 billion won, or twelve times his original investment.
Using these proceeds, he bought convertible bonds of Cheil Communication, then unlisted, worth 1.8 billion won. These bonds were subsequently converted into stock that gave him 29.7% ownership of the company. When Cheil Communication was listed on the stock market in March 1998, his investment of 1.8 billion won soared to 15.3 billion won. He also purchased convertible bonds in Samsung Everland for far less than their market price. These bonds were then converted to a 31.9% equity stake in this firm, which then used the proceeds of this convertible bond issue to purchase 20% ownership in Samsung Life, which is one of the core holding companies ins the Samsung Group. He also bought 23 billion won of convertible bonds issued by Samsung SDS at the issue price of 7,150 won, which was far below the then-market price of 54,000 won. As Samsung SDS is soon to be listed, the value of this investment is anticipated to increase by twenty times the acquisition price. Furthermore, he invested 45 billion won to buy convertible bonds of Samsung Electronics. The convertible bonds were issued at a below-market price and provided high interest rates. He then converted these bonds to stock, thus securing 0.78% of Samsung Electronics.
Such activities capitalised on loopholes in the Korean tax system that let family members inherit wealth and managerial control without a heavy tax burden. At the same time, such activities take away the assets of minority shareholders of listed firms. Furthermore, buying shares of unlisted companies at low prices and reaping large capital gains after these firms are listed is a clear abuse of insider information and represents another facet of the agency problems in chaebols’ governance structure.