1.

Applicability

The Internal Control Guideline generally applies to “all corporate investors who intend to engage in short sale of securities listed in the Korean market” (which would include offshore funds and asset managers as well as financial companies such as brokers and banks), whereas the IMS Guideline applies to the corporate investors who, for one day or more since January 1, 2023, have held a net short position balance in respect of relevant listed Korean security, which represents (i) greater than 0.01 percent of all issued shares of relevant security, or (ii) KRW 1 billion or more in notional amount, with certain prescribed exemptions. The investors subject to the IMS Guideline are in turn required to establish an internal inventory management system for real-time monitoring of net short positions, the borrowing balances and sellable inventories.

Under the Internal Control Guideline, the investors subject thereto are required to have their respective Korean brokers review and confirm the adequacy of their internal short sale policies and controls. Similarly, the investors who are subject to the IMS Guideline should (i) have their respective Korean brokers review and confirm the adequacy of their internal inventory management system, or (ii) under specific circumstances (as explained in further detail below), conduct their own compliance check regarding the adequacy of the internal inventory management system and have their Korean brokers confirm the result of such self-compliance check. The Compliance Checklist is for the purpose of the Korean brokers’ review of the adequacy of the investors’ short sale policies/controls and the internal inventory management system.
 

2.

Noteworthy Revision Reflected in the Final Drafts

The final versions of the Internal Control Guideline, the IMS Guideline and the Compliance Checklist are not significantly different from the earlier drafts released by the FSS in June 2024. The following provisions are newly added to the Internal Control Guideline for clarification purposes:
 

(a)

No new hiring for the “short sale supervision team” is necessary.

Article 3 Paragraph (2) of the previous draft of the Internal Control Guideline stated that each investor intending to place a short sell order is required to designate a “short sale supervision team” which should not be directly involved in short sale trading business in order to oversee, operate and manage supervision of the short selling activities with the objective of preventing illegal short sale.

The newly added provision (Article 3 Paragraph (3) of the final version of the Internal Control Guideline) states that investors who intend to place a short sell order may establish the “short sale supervision team” considering their own circumstances and that designating two or more departments to perform the role of the “short sale supervision team” would be permitted. This indicates that (i) it is not necessary for each investor to establish a new “short-selling supervision team” dedicated exclusively to the supervision of short sale business, and (ii) each investor would be allowed to utilize existing human resources to perform such supervisory function as long as they are not directly involved in the short sale trading activities.
 

(b)

Institutional Investors may conduct their own compliance check regarding the adequacy of the internal inventory management system under certain circumstances.

Under the previous draft of the Internal Control Guideline, the investors subject to the requirement to implement the internal inventory management system may place short sell orders only after their respective Korean brokers review and confirm the adequacy of the internal inventory management system, and such review of the internal inventory management system should be conducted at least once a year.

The newly added provision (Article 7 Paragraph (2) Item (ii) of the Internal Control Guideline) stipulates that the investors subject to the requirement to implement the internal inventory management system may exceptionally conduct their own compliance check regarding the internal inventory management system and have their Korean broker confirm the result of such self-compliance check, provided that their Korean broker recognizes the investors’ needs to maintain confidentiality of sensitive business information.
 

3.

Timing

In its press release, the FSS suggests relevant investors to complete the adoption and implementation of the internal control system and the internal inventory management system by the end of 2024.

In this regard, we note that (i) the Korean government has placed a comprehensive short sale ban in the Korean securities market until the end of March 2025, and (ii) even after the ban is lifted, only the investors who have duly adopted and implemented the internal control system and the internal inventory management system (as necessary) would be allowed to engage in short sale activities in Korea. As it may take time to obtain confirmations on the adequacy of new systems from Korean brokers, it would be advisable for the investors intending to engage in short sale trades in the Korean market to promptly commence development of their internal control system and, as necessary, internal inventory management system.