“Increase Shareholder Returns to Narrow the Preferred Share Discount” [Preferred Share Discount] 4

"The discount gap shows directors are disregarding their fiduciary duties to shareholders"
Companies should offer preferred shareholders higher dividends and actively buy back and cancel shares
Governance improvements and greater liquidity are also needed

The price gap between preferred and common shares on South Korea’s stock market is widening. The main reasons cited are the lack of voting rights, insufficient appeal as dividend investments, and structural limitations. Experts stressed that companies should first increase shareholder returns for preferred shareholders.

Lee Namwoo, chairman of the Korea Corporate Governance Forum, said in an interview with The Asia Business Daily, “As part of the Corporate Value-up Program, companies can calculate the cost of capital for common and preferred shares separately and make the relatively more expensive preferred shares—that is, the undervalued shares—the primary target of share buybacks and cancellations.” He added, “It seems that directors of large-cap companies with steep discounts are disregarding their fiduciary duties.”

Lee Hyoseop, a senior research fellow at the Korea Capital Market Institute, described the decision to buy preferred shares along with common shares during a buyback as “a company’s own decision.” He explained, “Canceling preferred shares does not necessarily harm common shareholders. Earnings per share increase as a result.” He added, “Shareholder returns need to be expanded further to encourage dividend investing.”

Kim Daejong, a professor in the Department of Business Administration at Sejong University, outlined the roles of each party. “Companies should adopt active shareholder-return policies, such as offering preferred shareholders higher dividends and buying back and canceling their own shares,” he said, stressing that companies can reduce the discount rate by providing preferred shareholders with reasonable dividend benefits. He added, “Boards of directors should protect the interests of both preferred and common shareholders and publicly disclose dividend policies and shareholder-return plans transparently. Exchanges should strengthen liquidity provision and information disclosure to boost trading in preferred shares.”

Although their views on solutions were similar, they differed on the causes and extent of the discount. “From an investor’s perspective, preferred shares are assets that have been neglected in the capital structure,” Lee said. “In the 1980s and 1990s, the grandfathers and fathers of current chairmen of major conglomerate financial firms relied on them as a key way to raise capital without diluting their stakes when they needed money. It is regrettable that, decades later, their grandchildren and children disregard these shareholders.” He added, “The parties that benefit from the preferred share discount are controlling shareholders and owners of common shares. When controlling shareholders hold preferred shares and they trade at a discount, they can save on inheritance and gift taxes; when companies buy back shares primarily from common shareholders, those shareholders benefit.”

“Preferred shares are more bond-like in nature, so they are discounted because they do not carry voting rights,” Lee said. “In effect, preferred shares only carry the right to claim dividends.” He added, “The discount arises because demand for preferred shares is weak, and demand is weak because dividends are not attractive. Major shareholders had little incentive to pay higher dividends on preferred shares when they already held large stakes. Also, because manufacturing makes up a large share of the economy, companies needed to invest heavily and paid relatively low dividends on preferred shares. On the tax front, dividend income was not subject to separate taxation either.”

Kim described the widening discount on preferred shares as a structural problem in South Korea’s capital market. Preferred shares, he said, “have the drawbacks of lacking voting rights and having low trading volumes and liquidity.” He added, “The biggest causes are the lack of voting rights and low liquidity. Companies’ failure to provide preferred shareholders with sufficient dividend premiums and shareholder-return benefits also widens the discount.”

In the long term, the discount on preferred shares is expected to improve. “The gap will likely narrow over the long term as a result of policy measures such as the introduction of separate taxation on dividend income. These changes will make preferred shares more attractive investments,” Lee said. “It would be desirable for the discount to decline naturally through supply and demand, as companies take a more proactive approach to shareholder returns.”

Kim said that increased dividends and share buybacks and cancellations by large companies such as Samsung Electronics would send a positive signal to South Korea’s preferred share market. However, he said, “It will be difficult to significantly reduce the preferred share discount in the short term. Improvements in corporate governance, higher dividends, and increased trading liquidity must happen together.” He added, “As South Korea’s stock market becomes more advanced and companies’ shareholder-return policies take hold, the discount on preferred shares will gradually narrow. Ultimately, resolving the Korea discount and strengthening confidence in the stock market are key to normalizing the preferred share market.”

This content was produced with the assistance of AI translation services.