World Law Group member firms recently collaborated on a Global Venture Capital Guide that covers more than 30 jurisdictions on investment approval processes, typical investment sectors and investment structures on Venture Capital deals (and more!).
The guide does not claim to be comprehensive, and laws in this area are quickly evolving. In particular, it does not replace professional and detailed legal advice, as facts and circumstances vary on a case-by-case basis and country-specific regulations may change.
This chapter covers South Korea. View the full guide.
Bae, Kim & Lee LLC
1) In your jurisdiction, which sectors do venture capital funds typically invest in?
Venture capital funds typically invest in the following industries: internet/mobile software, bio/healthcare and semiconductor-related businesses.
2) Do venture capital funds require any approvals before investing in your jurisdiction?
3) Are there any legal limitations to an offshore venture capital fund acquiring control or influencing the business, operations, or governance of an investee entity?
There are no particular legal limitations, except that South Korea does not permit:
i. foreign investments in certain sectors, including (a) postal services, (b) education (pre-primary, primary, secondary, higher education, universities, graduate schools and schools for the disabled) and (c) artists’, religious, business, professional, environmental advocacy, political, labor and other specialized organizations; and
ii. foreign investment ratios to be greater than 50% in certain sectors, including (a) media broadcasting, (b) newspaper/magazine publications and (c) air transportation businesses.
Note that venture capital funds do not typically invest in the above sectors.
4) Would an investor be required to undertake an antitrust analysis prior to investment? When would such a requirement be triggered?
Yes. An antitrust analysis needs to be cleared by filing a business combination report with the Korea Fair Trade Commission (KFTC) in respect of an acquisition of shares if:
i. the buyer acquires at least 20% of the issued and outstanding voting shares of the unlisted target company, or at least 15% of the issued and outstanding voting shares of the public target company;
ii. the buyer (together with its affiliates worldwide) had total assets or gross revenue of KRW 300 billion (approximately USD 250 million) or more as of the most recent fiscal year-end; and
iii. the target company (together with its affiliates worldwide) had total assets or gross revenue of KRW 30 billion (approximately USD 25 million) or more as of the most recent fiscal year end.
In general, filing of the business combination report is a post-closing requirement and the buyer is only required to file a business combination report within 30 days of the closing of the acquisition. However, if either the buyer (together with its affiliates worldwide) or the target company (together with its affiliates worldwide) had total assets or gross revenue of KRW 2 trillion (approximately USD 1.67 billion) or more as of the most recent fiscal year-end, the buyer must file the business combination report prior to the closing of the acquisition and the parties are not permitted to close the transaction until the KFTC grants clearance.
5) What are the preferred structures for investment in venture capital deals? What are the primary drivers for each of these structures?
Venture capital funds prefer to invest in redeemable convertible preferred shares (RCPS) (i.e., preferred shares with both a redemption and conversion right) or convertible preferred shares (CPS) (i.e., preferred shares with just a conversion right). It also not uncommon for them to invest in convertible bonds (CB) or bonds with warrants (BW).
The rationale behind investing in these securities is to (i) secure their investments by obtaining priority in terms of distribution payment and repayment upon liquidation and (ii) realize potential upside in the invested company by having a right to convert those securities into common stock.
6) Is there any restriction on rights available to venture capital investors in public companies?
7) What protections are generally available to venture capital investors in your jurisdiction?
Venture capital investors generally negotiate the following protections:
· Liquidation/dividend distribution preference;
· Conversion rights (including any rights to adjust conversion price);
· Redemption rights;
· Anti-dilution protection;
· Consent rights over important matters;
· Right of First Refusal;
· Tag-along rights;
· Put option against the major/controlling shareholder of the target company; and
· Information rights.
Registrations rights, such as piggy-back and demand rights, are not typically negotiated in South Korea because if a company intends to do an IPO in South Korea, all shares of the company are required to be listed.
8) Is warranty and indemnity insurance common in your jurisdiction? Are there any legal or practical challenges associated with obtaining such insurance?
Warranty and indemnity insurance is used in South Korea and a number of local insurance companies have also begun selling similar insurance products. However, given the relatively small size of deals, venture capital firms do not typically utilize warranty and indemnity insurance.
There are no special legal challenges to obtaining warranty and indemnity insurance, but given the typical exclusions (e.g., issues known to investor, issues disclosed on the disclosure schedules to the transaction documents, consequential damages, anti-bribery and anti-corruption, product liability, and certain fines and penalties) and coverage limitations, the practicality of having a warranty and indemnity insurance is not significant.
9) What are common exit mechanisms adopted in venture capital transactions, and what, if any, are the risks or challenges associated with such exits?
Venture capital firms typically exit via a third-party sale, qualified IPO, an exercise of their redemption rights (in the case that they have RCPS) or an exercise of their put options.
While a third-party sale is ideal, it is difficult to come to an agreement on value especially with respect to a company at its growth stage.
For a qualified IPO, the company must meet certain standards (including management transparency and satisfaction of certain financial requirements). Meeting such standards may take longer than expected.
In the case of exercising a redemption right (for those RCPS holders), redemption is only feasible if the company has sufficient distributable earnings.
Finally, put options are generally only negotiated with the controlling/major shareholder of the company since there legal restrictions as to having the company itself grant a put option, so exercising put options as an exit option is only viable if the controlling/major shareholder has sufficient capital to buy out the venture capital firm.
10) Do investors typically opt for a public market exit via an IPO? Are there any specific public market challenges that need to be addressed?
However, any shares acquired by an investor (whether transferred from the controlling/major shareholder or issued via a new stock issuance) immediately prior to a Company IPO is subject to a lock-up period, so in this case exit on the public market may be restricted. Even if an investor is exempt from a lock-up period, underwriters, in order to launch successful IPO, may request that financial investors such as venture capital hold their shares for a certain period and not trade on those shares in the secondary market.
Hyun Jung SON
Want to Learn More?
The objective of this publication is to serve as a Q&A-style multi-jurisdictional guide to venture capital law in countries where WLG member firms have offices. The guide intends to provide a high level overview of the venture capital market, including key sectors, preferred investment structures, regulatory approval requirements, limitations on acquisition of control in portfolio companies, restrictions on investment, investor protection, and exits; and hopes to provide readers the benefit of the shared global knowledge and local insights among the WLG member firms.