In a recent ruling (Deung Ki 3402-736, October 31 2001) the Ministry of Court Administration of the Supreme Court of Korea held that a corporation with negative net equity (ie, a corporation whose liabilities exceed its assets) cannot be the disappearing entity in a merger.
The ruling signifies a change of policy by the court. In 1992 the court held that a joint stock company with negative net equity can merge into its affiliate even if the merger does not result in an increase in the paid-in capital or an issuance of new shares (Deung Ki 1728, August 10 1992). The scope of application of this ruling was narrowed in 1993 when such a merger was ruled to be permissible only when the disappearing entity is a wholly owned subsidiary of the surviving entity (Deung Ki 1244, May 24 1993).
In the case in question, the court ruled that a corporation with negative net equity may not be the disappearing entity in a merger for the following reasons:
- Such a merger violates the so-called 'substantiality of capital' doctrine, which is one of the principles of the Korean Commercial Code. According to the doctrine, a company should strive to maintain an adequate amount of capital;
- In the course of completing a merger, the fairness of the merger should be preserved and the interests of the shareholders and creditors of the surviving entity protected; and
- The provisions of the Korean Commercial Code governing mergers are based on the assumption that a merger will generate merger gains.
The court concluded that a merger in which the disappearing entity is a corporation with negative net equity and the surviving entity does not issue any new shares is permissible only when the interests of the surviving entity's shareholders and creditors are not affected adversely. Two examples of cases in which such a merger would be allowed are: (i) where the disappearing entity is a wholly owned subsidiary of the surviving entity, and (ii) where the surviving entity has sufficient treasury stock to be distributed to the shareholders of the disappearing entity as consideration for their shares.
For further information on this topic please contact Hee Chul Kang at Woo Yun Kang Jeong & Han by telephone (+822 528 5200) or by fax (+822 528 5300) or by email ([email protected]).