A Rising Sun for Japan's Economy: The Role of M&A and Corporate Governance in its Recovery
Recent growth in Japanese M&A and improvements in corporate governance suggest that the country is finally on a path to economic recovery. Recent inbound M&A activity, such as the potential acquisition of 7-eleven’s parent company by Couche Tard supports the success of the joint effort by Japanese institutions to attract capital through an investor-friendly environment.
On 19th September 2024, Alimentation Couche Tard made a $47bn offer to acquire 7&i, the parent company of Japanese retailer, 7-eleven. This all-cash offer would be the largest inbound M&A transaction in Japanese history if it were to be completed. It would strengthen Couche Tard’s global network of convenience stores and petrol stations by combining its own operations with those of 7-eleven. The joint firm would benefit from greater market power through geographic spread and generate a number of cost-cutting opportunities. Having initially made an insufficient offer of $40bn, Couche Tard increased its bid. The board of 7&i issued a statement declaring that, at this price, the offer was lower than the firm's intrinsic value and would thus not be in the interest of its shareholders. This view had been informed by a special committee, created with the explicit purpose of assessing the viability of such a deal (Isaka, 2024).
It is doubtful whether 7&i would have exhibited such diligence in their evaluation of Couche Tard’s bid had it been made prior to the release of the ‘Guidelines for Corporate Takeovers’ by the Ministry of Economy, Trade and Industry (METI, 2023). These guidelines, introduced in August 2023, specifically target the handling of acquisition proposals by governing boards of domestic companies. Historically, Japan has faced corporate governance problems revolving around entrenched boards not acting in accordance with fiduciary duty, the legal duty to take actions which are most beneficial to shareholders (UNEPFI, 2017). In its guidelines, the METI addresses the need for takeover attempts to be handled in a regulated way, for instance by setting up special committees to assess each offer. As exhibited by 7&i’s actions, when offers are rescinded, this policy requires the firm to make a statement supporting its decision. The METI guidelines have been enforced in other high profile cases such as the buyout of Toshiba in 2023, where JIP took the firm private.
When looking at Japanese M&A in a broader economic context, the continued introduction of guidelines like those from the METI are crucial to Japan’s continued recovery. Since the asset price bubble in 1991, Japan’s economy has struggled through the so-called “lost decades”, suffering from a deflationary spiral. Post-COVID inflation proved to be the push required to place its economy on a tenuous path to recovery. The Bank of Japan has made clear its expectation of ‘a return to a long-awaited balanced state’ as its baseline scenario for Fiscal Year 2025 (Ryozo, 2024). It has taken steps which can be viewed optimistically as being indicative of a new leaf for the Japanese economy. One such decision was to bring an end to yield curve control - a system for enforcing a minimum target interest rate through quantitative easing, the purchase of domestic government bonds. Going forward, increased M&A activity and efficiently run companies should be viewed as an integral part of Japan’s recovery plan.
From a domestic point of view, consolidation appears to be a necessity for industries catering to a principally Japanese consumer base. A direct result of a declining birth rate and an aging population is an erosion of the country’s consumer market for a broad range of goods. In the face of declining demand for their products, previously successful companies face declining profitability. Japan’s corporate landscape is diffuse, with small to medium-sized enterprises making up 99.7% of all businesses (OECD, 2019). This presents an opportunity for greater consolidation to maintain economic growth through efficiency. In M&A, these efficiencies are referred to as synergies, with the most easily realisable synergies being cost-related. In economics, this idea is captured by economies of scale, the theory that the marginal cost of production is reduced by scaling operations. At an aggregate level, greater efficiency can be achieved through corporate governance which values cost-cutting and profit maximisation. This solution offers struggling companies the chance to restore their previous profit margins. However, with the seemingly unstoppable demographic change in Japan, many companies may find that consolidation is insufficient to support their survival.
Cross-shareholding is another issue which is increasingly being addressed through large institutions, such as the Tokyo Stock Exchange ‘Corporate Governance Code’ (Tokyo Stock Exchange Inc, 2021). The hostile takeover defence strategy, characterised by mutual agreements between large companies to take block shareholdings in each other, has been systemic in the Japanese corporate landscape. As a result of these block shareholdings, a principal-agent problem is introduced wherein large corporations aren’t operating optimally in the interest of the general shareholder. This is because non-hostility agreements with their large shareholders enable management to operate under less pressure and deliver sub-par returns. By dissolving these cross-shareholdings, previously entrenched management teams are exposed to shareholder activist funds which purchase stakes in these ‘sleepy’ companies and put pressure on the board to deliver results.
On the foreign investment side, established M&A guidelines provide the framework necessary for companies across the world to consider Japan as an opportunity for expansion. Inbound M&A activity has seen a strong compounded annual growth rate of 7.5% over the last 13 years (JP Morgan, 2024). In recent times, a weakened yen translates to a lower purchase price for foreign buyers. A higher rate of capital inflows would serve to stimulate the Japanese economy and drive efficiency. Foreign investors observing the crackdown on governance issues will seek to benefit from policy changes.
Increased pressure from international companies, enabled by growing support for hostile takeovers, has had a clear effect. Since the Couche Tard offer, 7&i has unveiled a plan to divest its non-core assets, essentially splitting itself into convenience store and gas station operations, and other retail operations (Yoshida, 2024). The firm’s management is aware of the scrutiny it faces in the public eye. Given that they rescinded the Couche Tard offer, they are now under pressure to implement plans which prioritise growth and efficiency to drive value. This plan means that 7&i management will be in a better position to drive efficiencies in its core business, without complications from non-essential operations.
The outcome of this potential deal is ultimately not the factor to focus on in this story. Rather, the proceedings should be viewed as a bellwether for the changing corporate landscape in Japan. Entrenched management and poor shareholder representation are waning in the face of a more shareholder-friendly environment, with improved guidelines supporting greater M&A activity and shareholder activism. The potential economic benefits of this move are considerable and wide-reaching. Given the pressure on 7&i to realise shareholder returns, management of similar behemoths in Japan will be incentivised to avoid being the next target. This should translate into a general trend of improved corporate governance and a stronger performance from Japanese companies.
References
Ryuichi Isaka. Seven and i Holdings’ Board Responds to Non-Binding Proposal from Alimentation Couche-Tard Inc. (“ACT”). Seven & i Holdings Co., Ltd. (2024, September 6). https://www.7andi.com/library/dbps_data/_material_/localhost/en/release_pdf/2024_0906_ir01en.pdf
Ministry of Economy, Trade and Industry. METI Formulates Guidelines for Corporate Takeovers. METI. (2023, August 31) https://www.meti.go.jp/english/press/2023/0831_001.html
United Nations Environment Programme Finance Initiative. Fiduciary Duty in the 21st Century, Japan Roadmap. UNEPFI. (2017, April 25) https://www.unepfi.org/wordpress/wp-content/uploads/2017/04/Fiduciary-duty-in-the-21st-century-Japan-roadmap.pdf
Himono Ryozo. Japan's Economy and Monetary Policy Speech at a Meeting with Local Leaders in Yamanashi. Bank of Japan. (2024, August 28) https://www.boj.or.jp/en/about/press/koen_2024/data/ko240828a1.pdf
Organisation for Economic Co-operation and Development. Financing SMEs and Entrepreneurs 2019, Japan. OECD. (2019, April 12) https://www.oecd-ilibrary.org/docserver/f53fb5ae-en.pdf?expires=1731285815&id=id&accname=guest&checksum=8023029040202FBA8FC89D549E90F454
Tokyo Stock Exchange. Japan’s Corporate Governance Code - Seeking Sustainable Corporate Growth and Increased Corporate Value over the Mid- to Long-Term. Tokyo Stock Exchange, Inc. (2021, June 11) https://www.jpx.co.jp/english/news/1020/b5b4pj0000046kxj-att/b5b4pj0000046l0c.pdf
JP Morgan. M&A rebound signals a new era for corporate dealmaking in Japan. (2024, August 22) Why Japan’s M&A Boom is Here to Stay | J.P. Morgan
Koh Yoshida. Seven & I to embrace 7-Eleven name as it sheds noncore businesses. The Japan Times. (2024, October 10) Seven & I to embrace 7-Eleven name as it sheds noncore businesses - The Japan Times