On September 13, 2021, the Financial Services Commission (the “FSC”), the Korea Securities Depository (the “KSD”), and the Korea Financial Investment Association announced that they would allow the fractional trading of shares listed in Korea, as well as institutionalizing fractional trading of foreign-listed shares.  In 2019, the FSC designated two securities companies as innovative financial service providers who can offer fractional foreign-issued share trading services for a limited period.  For shares issued in Korea, due to the principle of stock indivisibility under the Korean Commercial Code and conflicts with securities transaction and deposit settlement infrastructure, fractional trading has not been permitted.  The details of the announcement are as follows.

1.   The Fractional Trading System

The fractional trading system works by a securities company compiling individual fractional trading orders from the investors into full-share (one share) orders on its own account.  The securities company then places the orders with a foreign securities company or the Korea Exchange.

(1) Fractional Trading of Foreign-listed Shares (Direct Entry in the Korean Account Book)

In many countries, namely, the UK and the US, it is not possible to trade fractional shares in a regular market setting as shares are traded in the stock market on a full-share basis.  Thereby, fractional trading of foreign-listed shares will occur in a way that a Korean securities company collects investors’ fractional stock orders, complies them into a full share order, and places the order with a local securities company overseas; the local company then will execute the received order.  Given the fact that the fractional trading of foreign shares does not imply the acquisition/assumption of a shareholder status overseas, fractional shareholding details will be recorded in the account book of Korean securities companies.

To be specific, (i) Korean securities firms will record the details of their own shares and fractional shares held by investors in the investors’ account of securities firms (e.g., indicate 0.3 shares for client A, 0.3 shares for client B, and 0.4 shares for securities firms); (ii) the KSD will set up a “fractional shareholding account” in the name of each securities firm in the depositor’s account book (for investors) to manage the total number of relevant shares on the full-share basis (e.g., record one share (0.3 shares + 0.3 shares + 0.4 shares) in the name of a securities firm in the “fractional shareholding account” in the depositor’s account book (for investors) of the relevant securities firm); and (iii) the KSD regularly checks whether the number of “fractional shareholding account” matches the number of fractional shares in the investor’s account book of securities firms.

(2) Fractional Trading of Korean-Listed Shares (Method of Beneficiary Certification of Trust Assets)

On the other hand, fractional trading of Korean-listed shares will be institutionalized by converting investors’ rights to fractional shares into beneficiary certificates, in order to minimize changes to existing laws and infrastructure.

Fractional trading of Korean shares will occur in a way that a securities company collects investors’ fractional stock orders, compiles them into the whole, and delivers it to the Korea Exchange.  When the order is received and executed in the Korea Exchange, the securities company will entrust to the KSD the full shares, and the KSD will issue beneficiary certificates based on the entrustment of shares.  By acquiring these beneficiary certificates (e.g., one full-share is entrusted to the KSD, and ten (10) units of beneficiary certificates are issued in the unit of 0.1 shares).  The investors will be able to own their fraction of a share.

2.    Fractional Shareholders’ Rights 

(1) Foreign-Listed Shares

As most foreign countries define shareholder rights on a full-share basis, major rights such as dividend rights will be firstly bestowed to the KSD and then transferred to each investor in proportion to his/her shareholding ratio.  However, as voting rights cannot be exercised for fractional shares, the method of exercising voting rights should be determined by an agreement between the investor and a securities company.

(2) Korean-Listed Shares

Economic rights such as dividend rights are guaranteed to fractional shareholders in proportion to their ratio of beneficiary certificates received.  However, a fractional shareholder may not exercise his/her voting rights, and in such cases, the KSD will vicariously exercise the voting rights of the stocks entrusted, pursuant to the Financial Investment Services and Capital Markets Act (the “FSCMA”).  Shareholders whose sum of the fractional shares amounts to more than one share will be able to exercise their voting rights by converting their beneficiary certificates into full shares.

3.   Future Timelines

In order for the above plan to institutionalize fractional trading of foreign-listed shares and Korean-listed shares to become a reality, the FSCMA will need to be modified.  For example, in the case of foreign-issued shares, it is necessary to apply special provisions on the regulations under the FSCMA, which require securities firms to separately deposit their own shares and investors’ shares and separate accounts for trading.  As to the Korean-listed shares, special regulations that allow the KSD to engage in trust business to a limited extent (with respect to fractional share transactions) must be set up.

On November 12, 2021, the FSC designated twenty securities companies that offer fractional share transaction services as innovative financial service providers so that fractional trading can be brought into practice before any modifications are made to the FSCMA.  Accordingly, the FSC anticipates the fractional trading of Korean shares to begin in the third quarter of next year.  In the long run, the FSC plans to amend the relevant provisions in the FSCMA.

With the fractional share trading to be allowed in Korea for both foreign and Korean-listed shares, there will be increased investment opportunities for Korean retail investors for a small amount of investment money.  Accordingly, minority interests in a listed company are expected to increase by small retail investors.  Further, as the KSD can exercise the voting rights in entrusted shares, the listed companies may need to consider taking necessary measures from an IR perspective.

In this regard, although the exact approach has not yet been provided, it appears that there may be various ways to improve the system in relation to the protection of minority shareholders’ rights, such as the use of a minority share system to treat fractional shares (e.g., Japan’s single share system).