Japan’s virtuous M&A circle starts with 7-Eleven
04/12/2024 22:00
(The author is a Reuters Breakingviews columnist. The opinions
expressed are his own.)
By Hudson Lockett
HONG KONG, Dec 5 (Reuters Breakingviews) - The battle
for control of Japan’s Seven & i 3382.T is being cheered in
Tokyo as evidence of improving efficiencies of the world’s
third-largest economy. Officials can hasten a virtuous circle of
dealmaking if they make the right next moves.
In response to the largest-ever foreign takeover bid from
Canada’s Alimentation Couche-Tard ATD.TO , the Ito family
behind the $45 billion operator of 7-Eleven convenience stores
has emerged with a competing offer, backed by trading giant
Itochu 8001.T , the owner of rival corner store chain
FamilyMart.
Neither of the takeover proposals are binding, and Japan Inc
is effectively riding to the rescue of one of its own with a
giant leveraged buyout. But that doesn’t matter: shares of the
bloated conglomerate have never been higher. That Japan's
financial elite would prefer to see a domestic buyer who won’t
mess with 7-Eleven’s best-in-class onigiri rice balls is pure
happy coincidence.
“We used to have too much of a grey zone in M&A - now
there’s less,” says the head of capital markets for one Wall
Street lender. He points to the independent committee weighing
up bids under the watchful eye of the company’s top outside
director Stephen Dacus, and the fact that Couche-Tard’s approach
wasn’t dismissed outright. So the hot question in Japan isn’t
whether a Seven & i deal will happen, but who will find
themselves in foreign investors’ crosshairs next.
The two biggest factors will be the same ones that made
Seven & i a viable target, namely a strongly independent board
and minimal cross-shareholdings. These qualities are encouraged
by Japan’s corporate governance code and fair M&A guidelines.
Absent these protections, Japan Inc is exposed to activist and
strategic investors — in a word, naked.
Yet, aside from Seven & i, only a dozen other stocks out of
the 1,600-odd listings on the Tokyo Stock Exchange’s Prime Board
have strongly independent boards, per an analysis led by
Nicholas Smith, Oliver Matthew and Nicholas Benes for CLSA’s
Blue Books. At these companies, 40% of directors meet the Tokyo
Stock Exchange’s independence criteria and virtually no assets
are tied up in allegiant or friendly shareholdings.
Other names on the list include Takeda Pharmaceutical
4502.T , Zozo 3092.T , and Fuji Soft 9749.T , itself the
subject of a recent bidding war between private equity firms
Bain and KKR KKR.N . Though few in number, this clutch of
companies, the trio note, enjoy an average price-to-book ratio
of 3.7 and average annualised shareholder returns of 16.7% over
the past decade — more than double the Prime market average on
both counts.
Zuhair Khan, a hedge fund strategist at UBP who goes long on
listed companies with good governance while shorting corporate
improvement refuseniks, breaks it down further. He says that out
of Japan’s 500 biggest stocks only about 100 - firms such as
Sony 6758.T , Hitachi 6501.T and Asics 7936.T - are
actively seeking to improve governance. Roughly 250 “reactive”
companies respond to prodding but take little initiative. The
remainder - Toyota 7203.T , Fujifilm 4901.T , and Canon
7751.T , for instance - have “no interest in change”.
He estimates only about a quarter of these top stocks are
vulnerable to outside investors. The rest can mostly block
irksome shareholder motions thanks to the prevalence of
companies, institutions or families on the register with ties to
management.
Seven & i, Khan says, is a good example of a company that’s
both reactive and vulnerable. “This is beautiful,” he notes of
the tussle for control. “It shows Japanese companies that
eventually they are all vulnerable if they don’t get their stock
price up.”
There is still a long way to go, however, as
cross-shareholdings between companies still account for about
30% of the total traded shares in Tokyo, per Nomura. One banker
at a western lender in Japan estimates untangling this skein of
unproductive investments could drive an average of 6 trillion
yen, about $40 billion, of equity deals every year for the next
decade.
Some high-quality listed companies - like Asics, owner of
the Onitsuka Tiger brand - freed themselves of the protection of
crossholdings in 2024 and placed relinquished stock with a
healthy mix of institutional and retail traders. But others,
such as Honda 7267.T , are pushing more shares towards
mom-and-pop investors who are less likely to challenge
management since once companies lose their shield of allegiant
shareholders, they really have to participate in capital
markets.
There’s little doubt that these structures will eventually
unwind, though. Major insurers are among top cross-shareholders,
and under regulatory pressure, some of the largest have
committed to exit these positions within six to seven years.
Lawyers in Tokyo say there is a decent pipeline of new M&A ready
to go once investors have a better grasp on how the Seven & i
takeover will shake out.
Nicholas Benes, director at The Board Director Training
Institute of Japan, says that in contrast to a flurry of
abortive action from foreign activist investors in the early
2000s, the current trend has legs. But he adds that the economic
and fiscal pressures Japan faces make the case for Japan
Exchange Group head Hiromi Yamaji to speed up the value push
he’s become known for since taking the helm two years ago.
To shift up a gear, Japan Exchange ought to require a
majority of directors be fully independent, for companies to
make corporate governance disclosures machine readable, and to
clarify the meaning of corporate value. That might ruffle
feathers in Japan Inc but Yamaji has a convincing case study
from Seven & i showing the power of market forces when properly
harnessed. This is only the beginning - if Japan plays its cards
right.
Follow @KangHexin on X
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Graphic 1: Seven & i shares shoot up on buyout proposal https://reut.rs/3ZjiDTh
Graphic 2: Japan's truly "naked" listings https://reut.rs/4f6RYyS
Graphic 3: Japan M&A activity heads for post-financial crisis
high https://reut.rs/4f2IK6X
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(Editing by Una Galani and Ujjaini Dutta)
((For previous columns by the author, Reuters customers can
click on LOCKETT/
hudson.lockett@thomsonreuters.com))