[Edaily Reporter PARK MIN ] The “preferred stock discount”—where preferred shares of the same company trade at a lower price than common shares on the domestic stock market—has recently become even more pronounced. While a price difference has always existed due to the differing legal rights associated with common and preferred shares, the spread has recently widened sharply, reaching as high as 30–70%.

As this is a factor contributing to the “Korea Discount” (the undervaluation of the Korean stock market), experts have pointed out the need for proactive governance reforms to address the issue. These include prohibiting discrimination between common and preferred shares during share buybacks and cancellations, converting preferred shares into non-voting common shares on a one-to-one basis, and including preferred shares in mandatory tender offers.

On the 31st, the Korea Corporate Governance Forum held its 55th seminar at the Financial Investment Education Center in Yeouido, Seoul, under the theme “The Hidden Problem of the Korean Preferred Stock Discount and Its Solutions,” to discuss the structural flaws in the Korean preferred stock market and potential solutions. Preferred stock refers to shares that, like common stock carrying a control premium, do not carry voting rights but hold priority in dividends and the distribution of residual assets. They currently command a dividend premium (averaging 4%) compared to common stock.

In his opening remarks that day, Lee Nam-woo, Chairman of the Korea Corporate Governance Forum, pointed out, “Even for SamsungElectronics, the discount rate—which had been maintained at around 10–15% since the large-scale dividend increase in 2018—has recently widened to around 25 percent.” He added, “In particular, DOOSAN is showing a discount rate of 63 percent, and HyundaiMotor (HyundaiMotor(2PB)) is showing a discount rate of 50 percent.” He continued, “To enhance the value of the Korean stock market, a fundamental solution to the hidden issue of undervalued preferred shares is urgently needed.”

According to the Korea Corporate Governance Forum, as of the end of July this year, there were a total of 114 preferred stock issues listed in Korea. Among these, the average spread (the price difference between common and preferred shares) for the top 10 issues with the widest price gaps reached 71%. The top 10 stocks are Doosan Fuel Cell(1P)(33626K)(spread rate of 81.4%), HANJINKAL(1P)(18064K)(76.8%), Solus Advanced Materials(1P)(33637K)(76.5%), KOREA CIRCUIT(2PB)(00781K)(76.0%), DOOSAN(2PB)(000157)(72.2%), MIRAE ASSET SECURITIES(2PB)(00680K)(68.3%), AMOREPACIFIC CORPORATION(1P)(090435)(66.3%),Hanwha(3PB) (65.1%), SamsungElectroMechanics(1P) (63.6%), and LGELECTRONICS(1P) (63.5%), among others.

Attorney Kim Gyu-sik (Portfolio Manager at Vista Global Asset Management and former Chairman of the Korea Corporate Governance Forum), who delivered the keynote presentation, analyzed that the reason the price disparity between preferred and common shares in the Korean stock market has long been neglected stems from so-called “tunneling”—a practice in which companies deprive preferred shareholders of value by discriminating against or excluding them during share buybacks or tender offers.

Attorney Kim explained, “In the United States—the mecca of capital markets—the price disparity between non-voting common stock and voting common stock is close to zero. Companies have even enshrined in their articles of incorporation the requirement that these shares trade at the same price.” He added, “However, Korean companies have long discriminated against preferred stockholders by arguing that directors’ fiduciary duties are limited solely to the ‘company.’”

In fact, most domestic companies’ major shareholders or controlling families hold large quantities of common stock to exercise management control, while holding almost no preferred stock. Consequently, whenever shareholder return policies were implemented, companies often limited their actions to buying back and canceling common stock—a move that directly boosts the stock price while also increasing the major shareholders’ ownership stakes. In other words, because the controlling family’s interests are concentrated solely on common stock, this has exacerbated the “discrepancy between preferred and common stock” and “market distortions.”

Attorney Kim stated, “Preferred shares listed in Korea are, in effect, non-voting common shares,” and sharply criticized the practice, saying, “They shouldn’t be called preferred shares, but by insisting on listing them as such, they are distorting the market.” He continued, “To be true preferred stock (Preferred Stock), the right to claim dividends and the right to a share of residual assets must be guaranteed with priority over common stock.” He pointed out, “However, in Korea, the articles of incorporation provide almost no substantive priority in dividends or liquidation; in terms of actual profit structure and accounting standards, they are a form of common stock without voting rights—that is, ‘non-voting common stock.’”

For these reasons, Korean preferred stocks are significantly undervalued even when compared to major overseas companies. Attorney Kim noted, “Even in the case of non-voting shares such as Alphabet’s Class C or Berkshire Hathaway in the U.S., the price discrepancy with common stock is less than 1–5 percent, and in Germany, participating preferred stocks sometimes trade at a premium over common stock,” “In contrast, in Korea, shares such as SamsungElectronics(1P) (26%), HyundaiMotor(1P) (52%), and LGELECTRONICS(1P) (64%) have been left neglected for decades, with their prices halved relative to their common shares,” he pointed out.

In particular, the recent influx of funds into index-tracking exchange-traded funds (ETFs) has further widened the price gap between preferred and common shares. Since index ETFs include only common stock and exclude preferred stock, the more funds flow into these ETFs, the more they concentrate on common stock, causing the gap with preferred stock to widen further. Furthermore, there are criticisms that the majority of listed companies undermine the value for preferred stockholders by purchasing only common stock when buying back and canceling their own shares.

Attorney Kim stated, “From a company’s perspective, preferred shares entail a significant dividend burden while their stock prices are undervalued; therefore, purchasing preferred shares when canceling treasury stock is the way to lower capital costs and maximize efficiency.” He added, “In the case of Alphabet, while there have been instances where it purchased only non-voting Class C treasury shares, it has never purchased only common shares. He emphasized, “When Korean companies cancel only common stock while excluding preferred shareholders, it is a clear violation of the fiduciary duty to shareholders.”

He continued, “There have been cases where the rights of common shareholders are being infringed upon, such as when companies conduct public tender offers to buy back old preferred shares at bargain prices—at a price-to-book ratio (PBR) of 0.34—and delist them, citing insufficient trading volume,” and “As the directors’ fiduciary duty is extended from common stock to preferred stock, institutional mechanisms must be established to encourage the 1-to-1 conversion of preferred stock into common stock, as well as the purchase and cancellation of preferred stock,” he proposed.

He also emphasized, “The mandatory tender offer system—which requires the largest shareholder to purchase additional shares if they become the controlling shareholder—must be extended to include preferred shares,” adding, “This would prevent ousting through insufficient trading volume or bargain-basement tender offers (as in the case of Hanwha Preferred Shares) at the source.”