1. Reason for the Enactment
Under Article 24 of the Monopoly Regulation and Fair Trade Act, any domestic member company of a business group subject to limitations on cross shareholding is prohibited from providing debt guarantees. The said Article aims to prevent any excessive concentration of economic power, such as the simultaneous insolvency of an entire large-scale business group, and any concentration of credit to large-scale business groups.
However, concerns have been raised about regulatory evasion, as some business groups subject to limitations on cross shareholding among their affiliates are using derivative products, including total return swaps, as de facto debt guarantees.
Accordingly, by establishing the Notice on the criteria and types of illegal acts of guaranteeing debt through derivatives in accordance with Article 36 (Prohibition of Acts of Circumventing Law) of the Monopoly Regulation and Fair Trade Act and Subparagraph 7 of Article 42 (Types of, and Standards for, Acts of Circumventing Law) of the Enforcement Decree of the same Act, the enactment aims to effectively block illegal activities that attempt to circumvent the debt guarantee restriction system under the Monopoly Regulation and Fair Trade Act, and to enhance the predictability of business operators and the objectivity of law enforcement.
2. Main Contents
a. Criteria for determining the illegal act of debt guarantee through derivatives (Ⅲ. 1. of the draft).
If the domestic affiliates of a business group subject to limitations on cross shareholding engage in transactions with financial institutions (including third parties such as special purpose corporations that transact on behalf of financial institutions) using derivatives based on debt securities, credit-linked securities, and credit fluctuations due to bankruptcy, etc. as underlying assets, and which thereby have the effect of a debt guarantee, such transactions are considered illegal activities that circumvent the debt guarantee restriction system.
b. Types and examples of illegal activities that circumvent the debt guarantee restriction system using derivatives (Ⅲ. 2 of the draft).
1) Types of transactions/activities that correspond to illegal acts.
a) Cases in which a member company of a business group subject to limitations on cross shareholding purchases a total return swap with bonds (corporate bonds, convertible/exchangeable bonds, etc.) issued by the affiliate as its underlying asset from a special purpose corporation established by a financial institution; (however, if the underlying asset is converted from debt securities to equity securities, such as when the corporate bonds are converted into stocks under the contract, it does not constitute illegal acts.).
b) Cases in which a financial institution acquires corporate bonds issued by a member company of a business group subject to limitations on cross shareholding and in which the affiliate purchases a derivative from the financial institution that compensates for default due to the company’s insolvency, etc.
2) Types of transactions/activities that do not correspond to illegal acts.
a) Cases in which a member company of a business group subject to limitations on cross shareholding purchases a total return swap with stocks owned by the affiliate as its underlying asset from a special purpose corporation.
b) Cases in which a member company of a business group subject to limitations on cross shareholding purchases a total return swap with profit-making securities owned by the affiliate as its underlying asset from a financial institution.
