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Electronics Vice Chairman Lee Jae-yong takes questions from reporters upon arriving at the offices of Special Prosecutor Park Young-soo

“I’m sorry for causing this disturbance.” -- Samsung Chairman Lee Kun-hee when summoned by a special prosecutor on Apr. 4, 2008

“I’m sorry for not being on my best behavior.” -- Samsung Electronics Vice Chairman Lee Jae-yong when summoned by a special prosecutor on Jan. 12, 2017

What Samsung Electronics Vice Chairman Lee Jae-yong said when he was summoned as a suspect in a criminal investigation by the Special Prosecutor on the morning of Jan. 12 was strikingly similar to what his father, Lee Kun-hee, had said when he was summoned by a Special Prosecutor in 2008, despite the nine years separating the two events. The fact that two consecutive generations of the family that controls the Samsung Group have now been questioned by the Special Prosecutor as criminal suspects has major repercussions not just for Samsung but for all of South Korea’s chaebol.

This is a severe blow for Lee Jae-yong, since there were considerable expectations that Samsung would turn over a new leaf as management of the group was passed down to the third generation. There had been talk of transitioning to a holding company to help Lee take control, but these efforts will be stalled for some time. A dolorous mood has settled over Samsung, where many assume that a leadership vacuum will form if Lee is arrested as part of the investigation.

Experts point out that this incident has reconfirmed that Samsung and the rest of South Korea’s chaebols are vulnerable to attempts by the owner’s family to use their share of the stock to solidify their control of the group. The special prosecutor believes that the ultimate cause of this incident is just such an attempt, which was designed to pass ownership on to the third generation. In order to strengthen his control over Samsung Electronics, Lee pushed through a merger between Samsung C&T and Cheil Industries while ignoring objections about the unfair merger rate at Samsung C&T.

“Samsung has been making use of illegal and semi-legal methods to hand over power to the third generation since the 1990s, such as issuing convertible bonds at Samsung Everland at a cut-rate price. Not only do such methods not work anymore, but Samsung seems unable to appreciate how the environment has changed,” said Jeon Seong-in, a professor at Hongik University.

The group’s Future Strategy Office, which oversaw the financial support for Choi Sun-sil and her daughter Jung Yu-ra, is now under scrutiny as well. Jang Choong-gi, who leads the office, and Choi Gee-sung, his second-in-command, have already been summoned for questioning by the special prosecutor.

Samsung has long credited its success to a management system in which final decision-making is concentrated in the group owner and in which unofficial aides advise the group owner and coordinate affairs. But since Samsung today is incomparably larger than it was in the past and since it is now exposed to the complexities of the global market, many believe that the old management system has reached its limit.

“According to Samsung’s corporate governance model, the owner’s family uses its shares in the company to exercise control, the owner dominates all decision making and advice is provided by the Future Strategy Office, which is exempted from any legal responsibility. This crisis was caused by delaying reforms even after the limitations of this model became apparent,” said Kim Sang-jo, director of Solidarity for Economic Reform.

Lee’s leadership and capabilities are regarded as another problem area. Lee is accused of having brought this crisis on himself by depending on a coterie of flunkies and failing to adopt a new system during the two and a half years since Lee Kun-hee was hospitalized.

Regardless of whether Lee Jae-yong is arrested by the special prosecutor or what the court’s ruling may be, few expect that Lee will completely remove himself from the management of Samsung. But since a similar crisis could plausibly occur at any time unless Samsung and Lee make some changes, many think this incident should be regarded as their final chance to move past the old way of doing things.

“Samsung needs to pay more heed to what society and the market are saying, and it needs to make a greater effort to earn their trust,” said Byeon Yang-ho, an advisor at VIG Partners.

“During the hearing before the National Assembly, Lee Jae-yong said he would not use his share of stock to control the company. He promised to work hard to earn the trust of the market and, if he could not do so, to make way for someone who could. He needs to make good on his promise by offering his own vision for management and using his ability to earn the respect of the market,” Kim Sang-jo said.

In two public apologies in 2006 and 2008 (in connection with the Agency for National Security Planning “X-files” and the Samsung special prosecutor), Samsung promised to reform its governance by increasing the independence of the board of directors, but this incident suggests that Samsung’s promises were just window dressing.

“Group affiliates need to appoint independent outside directors who are recommended by external stockholders in order to ensure that the outside directors will actually perform their functions of oversight and restraint. The role of the group owner should shift from decision maker to mediator,” Kim said.

“Imperial governance by a single owner is no longer possible in a global open economy and a knowledge economy. The owners need to give up their ambition of absolute control and to boldly hand over their authority to professional managers,” said Chu Jin-hyung, former president of Hanwha Investment and Securities.

By Kwack Jung-soo, business correspondent

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