Korea's Chaebol: So Much For Reform

Why the shotgun deal between LG and Hyundai won't likely be repeated

At 10 p.m. on July 7, Hyundai Electronics Industries Co. finally got its deal. The Korean chipmaker formally acquired rival LG Semicon for $5.4 billion, after more than a year of political intrigue and clan rivalry. The result: the world's biggest maker of memory chips.

It would be nice to imagine that this acquisition is the beginning of a trend. After all, South Korean President Kim Dae Jung has told chaebol chiefs that they must sell off their less competitive divisions and focus operations. Only that way, says Kim, will Korea Inc. regain its health and foster new areas of growth.

But far from being the first of its kind, the LG-Hyundai deal may be the only one of its kind. Top chaebol executives are balking at further deals as President Kim's political strength slips. The much-proclaimed merger of Samsung Motor with Daewoo Motors collapsed after Samsung stalled. With industrial production up to pre-crisis levels, the biggest chaebol see no need for more mergers.

Of course, overcapacity still plagues the economy, and many chaebol divisions remain in the red. But that's not the point. Chaebol executives see any sale of an asset to a rival as a humiliation. And they will fight to avoid that dishonor, as LG's top managers did in the Hyundai deal. So other attempts at big mergers will probably be too problematic to succeed.

DARK DAYS. Indeed, the Hyundai-LG deal panned out only because of the enormous pressure the chaebol all felt during the darkest days of the crisis. Taking office in February, 1998, Kim extracted a promise from the chaebol that they would cut debt and focus on core businesses. The semiconductor industry, plagued by overcapacity and a price collapse, was ripe for a shakeup. "Consolidation is a matter of survival," says Hyundai Electronics Executive Vice-President Jeon In Baik.

In September, the Federation of Korean Industries recommended that LG and Hyundai merge their semiconductor operations. It brought in U.S. consulting firm Arthur D. Little Inc. to decide which partner should be the dominant player. Hyundai signed a contract with ADL and turned over documents. But LG gave the firm only minimal access to its facilities. Indeed, the day before the only scheduled ADL visit to its semiconductor factories, LG canceled the trip, says Taesoo Jung, director-in-charge of Arthur D. Little International Inc.'s Seoul branch.

In December, an ADL team found that Hyundai was the stronger player and should buy LG's chip assets. LG executives threatened to sue in U.S. court, alleging financial damages from the report. Then Korea's banks, prodded by the government, cut LG Semiconductor's credit to get the company on board.

A furious Kim Dae Jung summoned LG Group Chairman Koo Bon Moo and Hyundai Electronics Chairman Chung Mong Hun to the presidential Blue House on Jan. 6. There LG's Koo surprised the President by agreeing to end resistance and give up the chip business. The next day, LG's executive in charge of restructuring, Kang Yu Sig, and Hyundai Electronics President Kim Young Hwan signed an agreement pledging to wrap up the deal by Jan. 31.

But the ordeal was just beginning. The two sides spent most of January just lining up their respective armies. Hyundai signed on Merrill Lynch and Morgan Stanley Dean Witter. LG brought Goldman Sachs and Lehman Brothers aboard. Disgruntled workers at LG's operations started a two-week strike. "Every day was agonizing for us," remembers Hyundai's Kim.

When negotiations started in earnest, it was clear LG was having second thoughts. LG asked for $5.63 a share, more than six times what the stock was selling for when the deal was announced. "It made sense to be extreme," says a source close to LG. That way, if the government split the difference, LG would still come out ahead. LG could also stall for time and hope that the political pressure would ease enough for it to walk away from the deal.

The January deadline came and went with little progress. The next target was Feb. 25, the first anniversary of Kim Dae Jung's inauguration. So the government turned to its Corporate Restructuring Coordination Committee to mediate. On Feb. 20, the two sides presented their cases to the committee. Goldman and Lehman argued that LG was being forced to sell at the bottom in a highly cyclical business. Merrill and Morgan Stanley countered that the business would require much higher investments than LG projected. LG dropped its asking price by about a third, and Hyundai indicated a willingness to be flexible. But the Feb. 25 deadline passed without a deal.

Next, in mid-March, former U.S. Vice-President Walter Mondale paid a visit to the Blue House during a trip to Seoul. With him were Goldman Sachs's co-chief executive, Jon Corzine, and the former U.S. Ambassador to South Korea, Donald Gregg, an old acquaintance of the President. Acting for LG, the group assured Kim that LG wanted to get the deal done. "I reiterated that LG was interested in going through with this, but the whole issue was getting a fair price," says Gregg. Yet LG continued to ask for more than four times what Hyundai offered. Complicating matters was LG's insistence that it be paid in cash, a huge hurdle for debt-strapped Hyundai.

EFFECTIVE THREAT. In stepped the head of the Financial Supervisory Commission, Lee Hun Jai, the most powerful financial figure in the country after the President. Lee started investigating reports of stock manipulation by the Chung family, the clan that controls Hyundai. He also said he would cut off bank loans to whatever party was holding up the deal. That did the trick. "The [price] gap narrowed," says an LG Semiconductor director. On Apr. 20, the two chairmen, Koo and Chung, met to agree on the general outline of a deal.

LG executives have declined to comment. But sources say the chairman is deeply upset by the sale. "I feel like a loser," an associate of Koo says the chairman told him. "I don't feel I can show myself in public." The irony is that shareholders have come out ahead: Koo managed to shift $3.2 billion in debt to Hyundai and get a premium of more than twice the current market price for the stock. A good performance--but LG doesn't see it that way. "This was something decided from above," says the LG board member.

Little wonder that a May signing at the Koreana Hotel to cement the terms of the deal went so badly. LG's Kang, stepping off the elevator for what he thought was a private signing, was startled by the presence of more than two dozen reporters and photographers and fled the scene. He only agreed later to sign the contract in a private room.

For Hyundai, the hard work is just beginning. Early on July 8, Hyundai Electronics President Kim headed to LG's semiconductor plants to shore up morale. Kim says that he doesn't expect any layoffs among plant or R&D staff. "I assured them that the jobs were theirs to lose," says Kim. Perhaps. But Corporate Korea is already losing something--the momentum for needed reform.

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