Can hostile takeovers drive growth in Japan?

Even before the outbreak of COVID-19, corporate Japan needed a 'shot in the arm' – economic growth has been stagnant for years, with innovation and ambitious corporate expansion seen as lacking across many sectors. Now, as the financial impacts of COVID-19 are becoming better understood, it is apparent that Japanese stocks are taking longer to rebound than say, their US and German counterparts. 

One avenue forward might be an increase in 'hostile' takeovers, which have the propensity to drive innovation through changes in management and long-term corporate strategy. Recent reports that Nitori is contemplating the launch of a competing (and potentially hostile) takeover bid for DIY and hardware stores operator Shimachu Co., is the latest development in what seems to be a shift in how such transactions are viewed in Japan.

History of low hostile activity

The fact that Japan has become a hotbed for shareholder activism, combined with serially underperforming stock prices, should in theory lead to an increase in hostile takeovers. 

Attempts (especially successful ones) have been historically rare in Japan. The lack of strong shareholder support for unsolicited bids, cross-shareholdings among listed companies and the ability of boards to adopt anti-takeover measures has contributed to this trend, but the landscape may be changing. 

The enactment by the Tokyo Stock Exchange of the Japanese Corporate Governance Code in 2015 for example, which requires listed companies to follow (albeit only on a 'comply or explain' basis) the principle that 'anti-takeover measures must not have any objective associated with entrenchment of the management or the board', was one development to potentially tilt the balance of power back towards would-be hostile bidders – although this did not generate any significant change at the time.

Signs of life?

It seems that at last, there are indications of a developing hostile takeover market. 

Following a period from 2014-2018 where only five out of 215 tender offers were hostile (ie not supported by the target board), there were five in 2019. Even more significant: the emergence of the still rarer phenomenon of successful hostile takeover attempts. Some recent examples:

• Maeda Corp's successful 51 per cent control acquisition of its listed subsidiary Maeda Road Corp earlier in 2020 (despite a failed extensive search for a 'white knight' and large dividend payout as a defensive measure);
• Itochu’s successful tender offer for sportswear maker Descente in 2019 (Itochu only increased its stake to 40 per cent, but this is still significant given that the increased share gives Itochu greater power to block shareholder motions); and
• Colowide's recent acquisition of a large stake in rival restaurant chain Ootoya. Colowide also did not acquire a majority shareholding (only 47 per cent), but this stake should be enough to control the board, since an unrealistically large proportion of the other shareholders would need to vote against it to block any proposed shareholder resolutions, and indeed – at an extraordinary shareholder meeting held earlier this month, Ootoya's shareholders approved a request by Colowide to dismiss 10 of 11 board members including President Kenichi Kubota and then newly appoint seven board members.

Are more hostile takeovers a good thing?

A rise in hostile takeovers is one thing, but one must then ask: is this truly a positive development? 

Take the Ootoya transaction for example. Following Colowide's increased stake, this leaves the 53 per cent remaining shareholders in an uncomfortable position – they now each hold shares in an entity that is effectively controlled by another listed company. 

Japanese company law and the Tokyo Stock Exchange Rules place fiduciary obligations on directors and require them to act independently, but given the relatively low level of shareholder litigation in Japan for breach of such laws (compared to say the US or UK), arguably the remaining Ootoya shareholders are somewhat vulnerable to management of the company in a way that favours Colowide. 

Such concerns may be overblown, but the Ootoya situation does bring into focus two significant concerns for minority shareholders of Japanese companies:

1. Buyers launching tender offers can gain substantial control of a listed company at half the price of a full acquisition (or in Ootoya's case, even less than half).
2. Existing shareholders who agree to sell their shares for a tender offer, which will often be at a high premium can be left holding (potentially much less valuable) shares in a subsidiary company if the offer is oversubscribed and the shares are sold pro rata.

A driver for change

Despite these concerns, it is hard not to welcome the advent of increased hostile takeover action given the state of corporate Japan. Inefficient use of capital is seen by many investors as a widespread problem, and the possibility of hostile takeover action to drive innovative change and keep management focused on producing best results is too great to look away from. 

Further, the Japanese government has made strides in recent years to protect shareholders from abusive actions taken by majority shareholders. In 2019 for example, the Ministry of Economy, Trade and Industry introduced Guidelines for Fair M&A – Enhancing Corporate Value and Securing Shareholders’ Interests, aimed at addressing past abuses from: 

1. management buyouts of listed companies; and 
2. acquisitions by controlling shareholders of shares held by public shareholders in a controlled subsidiary. 

The exemplary procedures set out in the Guidelines do not have legal enforceability as such, but given their nature, if directors were to follow those procedures, it would be hard for a court to find a director to be in breach of their director’s duties in such circumstances. 

Hostile takeover action is not a panacea for all of corporate Japan’s problems, and shareholders of target companies have issues to consider before accepting a hostile tender offer. But investors both inside and outside of Japan will be hoping that the emerging trend in hostile takeovers turns out to be a productive driver for positive change.