Investment Briefing: Sayonara, keiretsu
Shareholders used to be low down the priorities at Japanese companies. However, investors say they are beginning to move up the hierarchy – and that this, as much as the ‘Abenomics’ package of economic reforms unleashed by the current premier, Shinzo Abe, is a good reason to invest in Japanese stocks.
“I think there’s been an improvement in shareholder culture, and I think that improvement has been happening over many years,” says Richard Kaye, Boston-based portfolio manager at Comgest. However, he and other investors note a recent acceleration in this improvement, as marked by a growth in dividends – up 11% in the year to March 2013 and a striking 27% in the year to March 2014.
Until the early 1990s, Japan’s system of cross-shareholdings shielded even listed companies from the demands made by shareholders in other countries, say old Japan hands – including strong dividend payments, share buybacks, the provision of clear information to investors and a general culture of boosting return on equity (ROE).
These interlinked companies were bunched together in ‘keiretsu’ – loose groups of companies which looked after each other financially – for example, through cheap financing. Since companies in these groups had little need to please outside shareholders, they made little effort to do so – and companies not in keiretsu frameworks took their lead from this shareholder-unfriendly culture.
Investors contrast the culture then with the culture now. “Back in the 1990s, Japanese companies wouldn’t know how to spell ROE,” says Kaye. “Now they know what it is, and they know it’s something we want.”
This, he says, has led to a broad change in corporate practices, including the supply of information that allows investors to make informed decisions about companies.
“Before the 2000s, many companies would not disclose any sales and profits by business segment,” says Kaye. For example, Sony, which sold products as diverse as televisions, games, cameras and life insurance, simply supplied “an overall aggregate figure for earnings, which meant nothing at all”. Sony provides much more data these days, he says.
Tony Roberts, a Japanese equity portfolio manager at Invesco Perpetual, sees the change in corporate attitude when it comes to share buybacks.
Before the unwinding of cross-shareholdings which started to take place after Japan’s economic crash of the early 1990s, “foreign investors like us would say to companies, ‘Perhaps you’d like to buy back some of your shares’. In the past they could say: ‘Perhaps you’d like to go away’. But now we have more of a say in what happens within companies we hold.”
The most important change for investors has been in dividend policy. In the past, it would have been hard to credit many Japanese companies with a dividend policy.
“If you got anything sensible out of Japanese companies about dividends, it was: ‘Our policy is to have a stable dividend’,” says Dean Cashman, head of Japan equities at Eastspring Investments, the Asian asset management arm of the UK’s Prudential financial services group based in Singapore. “They didn’t see the need to recognise the rights of shareholders, or to pay reasonable returns to them.”
In the past few years, however, both dividends and dividend payout ratios have grown. John Vail, chief strategist at Nikko Asset Management in Tokyo, notes that the payout ratios for companies in the broad-based Topix index have risen to 27% from below 20% in the early 2000s. He forecasts an increase to 37% – the current US average – within five years, and to 50%, the present European average, within a decade.
Investors say the move to a stronger shareholder culture has sped up over the past year or two because of a growing sense among Japanese institutional investors that they need to achieve better returns as shareholders. Japanese pension providers – most notably the ¥127trn (€88bn) Government Pension Investment Fund – are under pressure to achieve higher returns to fund the pensions of Japan’s ageing population. Abe’s successful attempt to return Japan to inflation has increased this pressure still further: the advent of inflation requires higher cash returns for shareholders merely to keep real returns stable, let alone raise them to levels needed to meet Japan’s demographic challenges.
How broad-based is the new corporate interest in shareholder culture? Kaye invests in both long-term adherents of the ROE philosophy, such as the glass instruments manufacturer Hoya, and new converts, such as Hikari Tushin, the mobile phone vendor that has announced a large share buyback programme. However, he notes: “I think the divergence between good and bad companies is more stark in Japan than in other markets.” Kaye calculates that there are about 800 listed companies with ROE above 10%, but well over 1,000 with ROE at an unattractive rate of less than 5%.
For pension investors that do not want to navigate the tricky waters of the Japanese equity market in search of those companies that do believe in ROE, however, the January 2014 creation of the JPX-Nikkei Index 400 is a major breakthrough. The Nikkei 400 is, in essence, an index for ROE hunters. The Tokyo Stock Exchange, which developed it, has responded to investor priorities by screening out companies with a low ROE.
For some, however, a major question remains regarding investing in the rise of Japanese shareholder culture: could be it be derailed by adverse events? Japanese corporate dividends plunged after the 2008 global financial crisis. What happens if Abenomics fails and Japanese corporate and consumer confidence collapses, hitting corporate earnings and tempting companies to cut dividends?
Investors in Japan argue that stocks can do well – and hence continue to treat shareholders better – unless Japan does badly. This is partly because many of them get their revenue from exports, and partly because they are selected in the hope rather than the firm expectation that the politicians can reform Japan.
Commenting on the stocks he has bought, Cashman notes: “Their earnings do not depend on Abenomics but on [politicians and central bankers] not doing anything stupid.” Vail at Nikko notes that although he had not expected dividends to be cut so sharply because of the global financial crisis, this was an unusually severe crisis. “If it’s not a huge crisis, we think dividends will be sticky, falling much less than earnings,” he predicts.