On December 19, 2022, the Financial Services Commission (the “FSC”) announced the “Measures to Improve Soundness of IPO Market including Prevention of Fictitious Subscription” (the “Measures”).
In the current initial public offering (the “IPO”) market in Korea, (i) it is difficult to set an appropriate offering price band for an IPO due to the difficulties in estimating market demand at the offering price assessment stage, (ii) the effectiveness of offering price band assessment, one of the primary objectives of institutional investor demand forecasting, is compromised due to the practice of institutional investors’ repeated fictitious oversubscription in excess of actual demand at the subscription stage, and (iii) many retail investors suffer losses resulting from loss of trading opportunity or a precipitous decline in the price after they purchase the IPO shares at an elevated price (in many hot IPOs, a small number of investors equipped with expeditious trading capabilities or skills effectively monopolize trading immediately after the market opening on the day of IPO, pushing the share price up to the trading price limits shortly after the market opening and resulting in an effective trading halt, thereby depriving many retail investors of opportunity to participate in trading of the IPO shares or resulting in retail investors’ losses when the share price declines precipitously after the trading resumes).
To address these issues, the financial supervisory authorities announced the Measures, which was intended to (i) make institutional investor demand forecasts in IPOs more effective for the assessment of appropriate offering price band, (ii) prevent fictitious oversubscription by institutional investors participating in demand forecast by having IPO underwriters make allocations based on their confirmed capabilities to pay for the subscribed and allocated shares, and (iii) prevent excessive share price fluctuations immediately after IPOs, including through allowing more room for share price movements on the day of IPO.
More Effective Demand Forecasting
The current Financial Investment Services and Capital Markets Act (the “FSCMA”) prohibits offerings or sales prior to the submission of the securities registration statement (the “SRS”). The financial supervisory authorities are considering amending the FSCMA to allow a Korean version of “test-the-waters,” or preliminary demand surveys to be conducted on institutional investors before the submission of the SRS, so that the underwriters can reasonably reevaluate or readjust their estimated offering price band. Furthermore, the demand survey period, which has customarily been two days, is expected to be extended to around seven days.
Prevention of Fictitious Oversubscription
The financial supervisory authorities will amend the Financial Investment Business Regulations and Securities Underwriting Business Regulations (i) to require underwriters to establish their own standards for confirming the capabilities of institutional investors participating in demand forecast to pay for their subscribed shares and to allocate shares based on such capabilities, and (ii) to empower the FSC to audit and sanction underwriters that neglected these duties, including imposition of a business suspension. The amendments also aim to strengthen the price-finding function of demand forecast by enabling underwriters to penalize institutions that make fictitious subscriptions by significantly reducing their share allocation sizes or restricting their participation in demand forecast, and by allocating no shares to institutions that do not include an indicative offering price during the demand forecasting process.
Prevention of Excessive Fluctuations in IPO Share Prices
(i) To prevent sale of a large volume of shares in a short period of time after the IPO or expiration of the mandatory lock-up period, certain mandatory lock-up practices will be established, such as underwriters making differential allocations based on different lock-up periods, (ii) to provide investors with fair trading opportunities and expedite the discovery of an equilibrium price in an IPO by promoting active trading without a halt or suspension of trading with an expansion of the share price trading range on the day of IPO to 60%~400% of the offering price from the current 63%~260%, (iii) in order to prevent speculation by institutional investors, to introduce the “IPO short-term trading gain tracking system” (tentative name) to enable monitoring IPO share sales by institutions that did not agree to a lock-up to reflect such information in future share allocations.
If the Measures are implemented, it is expected that valuations may be properly made based on companies’ actual future values, that institutional investors may be provided with fair trading opportunities based on their actual demand and payment capabilities, and that underwriters cultivate and strengthen differentiated capabilities in the process of independent review and assessment of the demand for, and the appropriate price of, IPO shares and investors’ capabilities to pay for the IPO shares.
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