FSC Announces Plans to Improve External Audit and Accounting Rules and Introduction of Excessive Director Remuneration Return Rules in Light of US Listing Regulations

1. Measures to Improve External Audit and Accounting System

On June 12, 2023, the Financial Service Commissions (“FSC”) announced key improvement plans targeted at the current external audit system established under the Act on External Audit of Stock Companies (Link). The following paragraphs present a summary of the improvement plans.

①

Mitigating the burden of external audit requirements on internal accounting management on consolidated basis

For small and medium-sized listed companies with less than KRW 2 trillion in assets, the effective date for external audit requirements on internal accounting management on consolidated basis will be pushed to 2029 in lieu of 2024. For those companies with KRW 2 trillion or more in assets, the effective date will remain as originally announced, except that those who apply for a deferment of the effective date will be granted up to two additional years of grace period.

②

Deregulating designated external auditor appointment requirements for listed companies

The FSC plans to abolish or deregulate the current rules on requiring companies to appoint external auditors designated by the Financial Supervisory Service (“FSS”) and the Securities and Futures Commission (“SFC”) for minor violations unrelated to accounting fraud. In particular, a “failure to meet the financial standards” and being designated as “securities subject to investment precaution” will no longer be grounds for requiring companies to appoint designated external auditors. Likewise, only administrative fines will be imposed on companies liable for minor audit procedure violations. Nonetheless, for (i) cases of voluntary requests for the designation of an external auditor (per request of the company or its shareholders, where required as a pre-IPO company, or required pursuant to other laws and regulations) and (ii) matters highly relevant to accounting fraud (supervisory reviews, administrative issue designations, indictment for embezzlement, etc.), the requirement to appoint an external auditor designated by FSS will remain.

③

Standard audit hour flexibility

The Korean Institute of Certified Public Accountants’ Rules and the Code of Conduct have certain provisions that may be misinterpreted as mandatory. These provisions will be abolished to clarify standard audit hours are meant to serve as a guideline only. In addition, the FSS will require auditors to first reach an agreement with the companies on audit hours and submit details of the mutual agreement to the FSS in order to prevent auditors from imposing excessive audit hours on the companies without sufficient explanation and charging excessive service fees in return.

④

Improving audit quality and promoting reasonable dispute mediation with the designated external auditor

The Small and Medium-Sized Enterprises Accounting Support Center (the “Center”) within the Korea Exchange will be used as a neutral dispute mediation platform between designated external auditors and companies. If an auditor is found to have abused its authority, the Center will recommend that the SFC revoke the designation and implement disciplinary action against the auditor. To enhance the auditors’ expertise and audit quality, the FSS will impose penalties on accounting firms with unqualified audit teams by deducting the number of appointed companies the following fiscal year.

The above changes are meaningful in that they were announced by the FSC to address issues that have been raised in relation to the current external audit requirements. Attention will need to be paid to amendments to the Act on External Audit of Stock Companies and related regulations reflecting such changes.

2. Introducing Excessive Director Remuneration Return Rules (Clawback Policy) in Line with US Listing Regulations

On June 9, 2023, the U.S. Securities and Exchange Commission (the “SEC”) adopted final amendments to the NYSE and NASDAQ market listing regulations, which are set to become effective as of October 2, 2023. The amendments require US listed companies to adopt and implement a compliant clawback policy within 60 days of the effective date; by December 1, 2023 (Link 1, Link 2). Under the clawback policy, incentive compensation has to be returned if (i) the compensation was calculated based on financial statements that were restated due to material noncompliance with financial reporting requirements and (ii) noncompliance resulted in overpayment of incentive compensation within the three fiscal years preceding the date the restatement was required.

We note these rules will apply to Korean companies whose shares or DRs are listed in the US securities market, in which case they will have to adopt a compliant clawback policy. Beyond merely complying with US laws and regulations, we advise these Korean companies to consider revising their articles of incorporation, internal regulations and bylaws relating to the operation of the board of directors and the remuneration committees as well as their executive remuneration agreements to align them with the clawback policy. This may trigger regular report and governance report disclosure obligations.

For your reference, Article 9 (3) (3) of the Regulation on Supervision of Corporate Governance of Financial Companies provides that “if the financial statements that served as the basis for remuneration are corrected due to an error or fraud, remuneration already paid based on such financial statements shall be adjusted to reflect the correction.” The Korean regulations, therefore, already adopt rules similar to the US’s clawback policy. Because these rules, which currently apply only to Financial Companies, may eventually apply generally to all listed companies, the SEC’s new policy merits close attention.

[Korean Version]

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