“You’re never as good as everyone tells you when you win, and you’re never as bad as they say when you lose,” said Lou Holtz, a legendary coach of the University of Notre Dame’s American Football team.
Like sports writers who overindulge a team after one good performance, international observers of Japan’s business scene have long extrapolated too much from a single act of good corporate governance.
In 2015, excessive hype surrounded Fanuc [TYO:6954], when the then JPY 6.3trn (USD 53bn) market-capitalized industrial robot maker said it would establish a formal investor relations department. Four years later, expectations that Japan Inc was suddenly about to adopt an American-style approach to shareholder value was again overblown after Olympus [TYO:7733] invited ValueAct partner Robert Hale onto its board.
But the overreactions are understandable. For decades, international investors and successive Japanese governments have tried to unlock the colossal value buried within the country’s quality businesses by managers who are excellent operationally, but weak at capital allocation.
Turning the value key
The value potential is illustrated by our comparison of recent US and Japanese campaigns by shareholder activists – the experts in finding deep value and pushing for it to be unlocked via M&A, divestitures or buybacks.
A review of 20 of the largest activist campaigns launched in the two countries since 2020 finds that these investments are generating median average returns of 52.8% in Japan compared with only 35.5% in the US.
As shown in the chart below, which identifies 10 campaigns in each country that involved at least one high-profile globally-focused activist, the potential upside from Japanese situations can dwarf the returns from similar strategies in the US. The standout case, Sanken Electric [TYO:6707], has netted Oasis a 346% paper return.
*Our case studies are selected from targeted companies with a market cap of at least USD 1bn, where the agitator is a well-known activist, has a meaningful position (of at least USD 1m) and has demonstrably tried to influence management.
The potential rewards on offer are staggering, but, as guided by the Holtz quote, caution needs to be applied.
A close examination of the 20 selected campaigns finds that on an annualized basis, those in the US generated a 23.7% return versus a relatively modest 15% in Japan.
The difference is explained by the fact that activist investors targeting Japanese corporates generally must be prepared to endure a longer time horizon for their investment. From our selected cases, the average campaign in Japan lasts around 3.5 years, whereas in the US it is about 18 months.
Typically, a campaign in Japan begins with a constructivist or friendly approach, and only becomes more antagonistic and protracted if initial attempts to engage and influence management do not work. In the US, activists facing concerted resistance from a company’s board are more likely to move on to other opportunities. In Japan, such a setback often results in the activist changing tack and seeking to replace directors deemed too close to the founder or long-standing president and CEO.
Alternatively, the activist can simply bide its time. Unlike in the US, none of the Japanese cases resulted in losses. This is likely because while the tailwinds of corporate governance change are slow, they have been steadily improving for years - well ahead of the latest game-changing moves from the Tokyo Stock Exchange, as has been well documented.
Campaigns to watch
ValueAct amassed stakes in Seven & i Holdings [TYO:3382] in May 2021 and has since called on it to spin off the company’s 7-Eleven convenience store holdings. Initially friendly, the activist failed to gain traction with management and its approach has turned more combative. Despite failing to gain seats on the board at the May AGM, the investment is estimated to have so far made 40%.
Sanken Electric [TYO:6707] is subject to activism from both Singapore-based Effissimo and Oasis. The focus of their investment is the disparity between Sanken’s JPY 273.3bn (USD 1.9bn) market value and its 51.2% stake in Allegro MicroSystems’ [NASDAQ:ALGM], which is worth USD 3.7bn on paper. Despite not heeding Oasis’ calls for it to take various actions, Sanken has to date netted Effissimo and Oasis returns of around 178% and 346%, respectively.
3D Investment’s campaign against Fuji Soft [TYO:9749] has so far generated a return of about 54%. The activist’s 21.5% stake is unusually large for a Japanese situation. Having successfully installed two outside directors on the software company’s board last December, the activist has gone unusually quiet. Its next step should be closely watched.
