HYBE cries foul over SM, Kakao’s undisclosed deal

HYBE Co., the label behind the global sensation BTS, is considering legal action to invalidate an undisclosed deal between SM Entertainment Co. and Kakao Entertainment Co., which hands over the rights to sell music albums and streaming services to Kakao Entertainment Co.

The deal was contained in the SM-Kakao contract released on Feb. 7, according to documents obtained by The Korea Economic Daily on Thursday.

Under the contract, the unit of mobile giant Kakao Corp. is poised to secure a 9.05% stake in the K-pop pioneer through the purchase of new shares and convertible bonds to become its No. 2 shareholder.

HYBE was informed of the clauses during a court hearing on Wednesday. The hearing was held to review the injunction filed by SM Founder Lee Soo-man to block SM-Kakao’s share transaction.

“It will significantly undermine the interests of SM shareholders,” HYBE told The Korea Economic Daily. “We’ll review the details of the agreement and take action accordingly.”

On Wednesday, HYBE completed its 422.8-billion-won ($330 million) purchase of a 14.8% stake in SM from former Chief Producer Lee ahead of its March 6 deadline.

As the largest shareholder in the entertainment juggernaut, it is now seeking to increase its ownership to 39.8% through a tender offer.

The clauses specified that SM Entertainment will transfer both its domestic and global rights to sell the music albums and streaming services of a majority of its artists, as well as their management, to Kakao. There were no conditions attached and no expiration date, either.

That means Kakao might be able to permanently maintain its grip over SM’s cash cow business.

Additionally, Kakao is entitled to sell tickets for SM artists’ local concerts and fan meetings.

Another controversial clause is that Kakao will be granted exclusive rights to buy additional shares or convertible bonds to be issued by SM Entertainment, on top of the 9.05% stake it is set to secure.

The move is seen as aimed at diluting HYBE’s ownership and reducing the attractiveness of the agency of K-pop stars such as the girl group asepa and boy band NCT.

Asked about the undisclosed clauses, Kakao said the business of music album releases and streaming services is one of the areas in which it would cooperate with SM. To that end, it said it is in negotiations with SM to agree on a win-win deal for both sides.

JOINT VENTURE IN THE US

The document also showed that SM and Kakao would establish a 50:50 joint venture in the US, which will oversee SM artists' music concerts and other events of SM artists in North and South America.

Kakao Entertainment Vice President Jang Yoon-jung was named as the venture’s chief executive and also a registered member on SM's board. 

HYBE, the label behind the girl groups NewJeans and Le Sserafim, argued that his appointment to the two positions would significantly hurt the value of SM's shares.

SM, headed by co-CEOs Lee Sung-soo and Tak Young-jun, had sought a strategic partner in its effort to wean itself off Founder Lee.

Last month, the CEOs officially turned their backs on Lee as local activist fund Align Partners Capital Management stepped up pressure on Founder Lee over his business transactions with SM via his private companies.

But industry watchers are questioning SM's motivation in handing over its core business to a newcomer in the entertainment scene.

With a market value of 3 trillion won, SM boasts a vast intellectual property portfolio of artists, including first- and second-generation Korean idol groups H.O.T, S.E.S, Girls' Generation, Exo and Red Velvet.

If the deal with Kakao goes through, SM will likely be left with the business of selling its artists' physical music albums.

Giving Kakao the preferential rights to buy new shares and convertible bonds in addition to the 9.05% stake could allow the mobile platform arm to increase its ownership at a lower price than the market value.

That also could constitute a violation of commercial laws, industry watchers said.

From the perspective of Align Partners Capital Management, the SM-Kakao contract might run counter to its calls to protect minority shareholder value and resolve SM’s internal conflicts of interest.

“It would be a controversial issue under any scenario: whether Align was aware of the SM-Kakao deal in advance, or not,” an investment banker said.

SUBSIDIARIES UP FOR SALE, DIVIDEND INCREASE

HYBE also criticized SM’s abrupt announcement last week to put its money-making subsidiaries up for sale. 

SM on Feb. 15 tipped off accounting firms of its decision to sell online fandom community operator DearU Co., management agency KeyEast Co. and drama production company SM C&C Co. in emails directly sent to them, according to sources with knowledge of the matter.

Shortly after the sales plans were reported by The Korea Economic Daily, SM dropped DearU from the list in the face of backlash from shareholders.

Further, SM bumped up its dividend payment by sixfold to 1,200 won for the business year of 2022, from the previous year’s 200 won. HYBE said the sharp increase in dividend payments was aimed at hampering its tender offer.

HYBE also protested against SM’s recent series of share buybacks above its bid price of 120,000 won per share.

Amid the ongoing battle with HYBE backed by Founder Lee, SM on Thursday revised its earnings forecast higher, just two days after it gave an upbeat outlook.

In a regulatory filing, the entertainment agency forecast its operating profit to nearly triple on-year to 270 billion won for 2023 and then spike nearly 50% and 25% in 2024 and 2025, respectively.

Write to Jun-Ho Cha and Ji-Eun Ha at chacha@hankyung.com

Yeonhee Kim edited this article.