Samsung key leadership in turmoil as prosecutors target inner circle

Key leadership at Samsung Electronics, one of South Korea's mightiest family conglomerates, is in turmoil after the recent arrest of several senior executives for involvement in an alleged accounting fraud and as prosecutors extend their investigation to the inner circle of de facto chief executive Lee Jae-yong.

Distractions at the top come at a time when Samsung Electronics could potentially capitalize on the troubles facing Chinese rival Huawei Technologies.   © Reuters

Distractions at the top come at a time when Samsung Electronics could potentially capitalize on the troubles facing Chinese rival Huawei Technologies. © Reuters

Prosecutors last week arrested a senior vice president at Samsung Electronics, also surnamed Lee, for allegedly ordering the company's drugmaking affiliate Samsung BioLogics to bury computer servers and laptops under the floor of its factory in Incheon as an investigation into accounting fraud widened.

Lee is the third member of an inner circle of senior executives to be accused of attempting to destroy evidence in this case, after the arrest of vice presidents Baek and Seo last month. All three were members of the Business Support Task Force, or its predecessor Future Strategy Department, the so-called "control tower" of the Samsung conglomerate. They were among the 14 or so senior executives who worked closely with vice chairman Lee Jae-yong to manage Samsung Electronics' key businesses and affiliates. Two other executives who ran Samsung Bioepis, a research affiliate of Samsung BioLogics, have also been arrested.

The arrests come as Samsung Electronics struggles to contain plunging profits in one of the worst semiconductor downturns in recent memory and as its smartphone business suffers a string of setbacks. On Wednesday the group announced it would cut production and lay off workers at its last factory in China, where market share has tumbled from 20% in 2013 to less than 1% in the face of competition from rivals such as Huawei Technologies. Samsung has also been forced to postpone the launch of its new foldable phone after serious flaws were discovered in the display.

The company's troubles risk distracting management attention at a time when Samsung should be exploiting the opportunities presented by the U.S. crackdown on its Chinese competitor, Huawei, its key rival in the global smartphone market. Washington last month barred American companies, including Google and chipmaker AMD, from selling their services and products to the Chinese tech heavyweight, dealing a blow to Huawei's smartphone business.

"Samsung has little energy to focus on Huawei at this critical moment because its top priority is to protect the [family] owner," said a former senior Samsung executive, who remains close to the company but asked not to be named. "It is a weak point of this owner leadership system."

Analysts said Samsung's reputation would suffer as a result of the scandal. However the company's corps of more than 800 senior executives offered some comfort that the turmoil at the top could be navigated without a severe impact on operations. Lee Seung-woo, an analyst at Eugene Investment & Securities, said that while the executives on the task force were important to the group's management, they could be replaced.

Nevertheless the arrests of some of the company's most senior executives at this difficult time has caused consternation internally. One senior executive who refused to be named said the subject dominated conversation on the company's employee internet chatroom. However it was too sensitive to discuss externally, the person said.

Prosecutors have been chasing Samsung Electronics since November when the financial regulator accused Samsung BioLogics of committing a $4 billion accounting fraud by inflating the value of its research unit.

They allege that Baek and Seo directed BioLogics employees to delete all documents containing the keywords JY, Merger and Future Strategy Department, according to documents seen by Nikkei Asian Review. Han Dong-hoon, a senior prosecutor in charge of this case, was not available for comments.

JY are the initials of Samsung Electronics Vice Chairman Lee Jae-yong, who has led the group since 2014 when his father and Chairman Lee Kun-hee was hospitalized after a heart attack. The word "merger" refers to the combination in 2015 of two subsidiaries -- Samsung C&T and Cheil Industries. C&T is a de facto holding company for Samsung group companies, while Lee Jae-yong was the largest shareholder in Cheil. This merger is suspected of helping to strengthen Lee's influence in the conglomerate.

The Future Strategy Department was an organization under vice chairman Lee which controlled the conglomerate's core businesses. Lee shut down the FSD in 2017 after facing criticism that it was behind a corruption scandal related to former president Park Geun-hye. Lee served one year in jail in 2017 for offering bribes to a friend of Park, but was set free in 2018 after the Seoul High Court sentenced him to a suspended two-and-half-year jail term for bribery and embezzlement. His case is pending at the Supreme Court.

Samsung insiders said the FSD helped the Lee family retain control. Its executives were later rewarded by taking the helm of affiliates even though they had no expertise.

"The FSD members acted like a mother-in-law, directing details of the affiliates' business. People did not like them," said the former Samsung executive.

The FSD was replaced by the Business Support Task Force in 2017, which continues to promote the family's interests, say analysts. "It shows that nothing has changed in Samsung, as the Task Force plays the key role of strengthening owner-family control system," said Park Ju-keun, president at CEO Score, a corporate analysis firm.

President Chung Hyun-ho, head of the Task Force, is known to be Vice Chairman Lee's right-hand man, Park said. Both Lee and Chung studied at Harvard Business School. Chung was a human resources expert before taking the helm of the unit.

The Task Force's main job is to coordinate business between affiliates, lead mergers and acquisitions and explore new growth engines, Park explained.

But the challenge is getting tougher as Samsung's businesses enter turbulent times. Memory chip prices are in free fall, hurting the group's semiconductor business, which accounts for 28% of revenues. The company's net profit plunged more than 60% to 6.23 trillion won in the first quarter from a year ago, largely due to the downturn in memory chips, where sales tumbled 34% over the same period.

Washington's campaign against Huawei could even pose significant threats to Samsung -- as well as opportunities. Analysts suggested that U.S. chipmakers could cut prices even further to win new business in the wake of lower sales to Huawei. The mobile division too is suffering from aggressive expansion by Huawei and other Chinese smartphone makers.

In a sign of the urgency of the situation, Vice Chairman Lee summoned senior executives from the device solutions division to an emergency meeting at the Hwaseong campus on Saturday. "We should not stick to short-term opportunities and performances. We should focus on long-term and original technology competitiveness," said Lee in the meeting.

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