Japan’s M&A wave risks rolling over minority shareholders

This Friday evening, a 23-strong panel of experts harvested by the Japanese government from academia, investment banking, asset management and the law, will convene to discuss ways to make the domestic mergers market “fair and healthy”.

Its mission has been infused, say participants and organisers, with a distinct whiff of urgency. And, bang on cue, an electronics-maker’s attempt to buy a specialist locksmith this week has elegantly highlighted the need for haste.

For some, the most noteworthy element of Minebea Mitsumi’s proposed takeover of U-Shin (both listed Japanese companies, the former a supplier to Apple), will remain the suspicious trading that characterised the three-or-so hours before the deal was announced.

U-Shin’s stock staged its biggest rally since 2013, propelled by confidently chunky volumes but no discernible reason unless somebody was trading with more information than the rest of the market.

The Securities and Exchange Surveillance Commission, to the weary disappointment of traders at foreign brokerages, has not even said whether it plans to investigate.

But, vexing (and painfully familiar) though this curious spike was, the government’s mergers and acquisitions clean-up panel has significantly bigger game to grill.

Minebea’s bid is part of a rapidly building wave of carve-outs, buy-ins, take-privates and straightforward takeovers as corporate Japan consolidates and streamlines.

The current velocity of dealmaking has come about, say bankers, because managements have realised that hundreds of Japanese companies are undervalued to the point where a takeover can, in some cases, be achieved at supremely low cost.

One of the government’s concerns is that this wave could crash over minority shareholder interests.

The U-Shin deal is a prime example. Minebea’s bid appeared to slap a generous premium on the target and value it at about Y33bn.

But that buys it a company with Y30bn of tangible book value of which Y26bn is cash. So, points out one broker, Minebea’s “generous” bid actually buys it U-Shin’s Y6.1bn of operating profits for about Y3bn.

It is eye-catching, but far from unique. A bid for Kitagawa Industries by Nitto Kogyo last week placed a 166 per cent premium on the shares but still values the target at only 1.25 times tangible book.

Among the 1,400-odd Japanese companies trading below book, many have significant ownership by a parent or closely related company.

A flurry of recent buy-in deals, including NTT’s for NTT Urban and Orix’s for Daikyo, involved attempts to gobble up the shares they do not already own at bargain prices.

Although the formal agenda of Friday’s meeting — and the eight that will follow it between now and its conclusion in April — has yet to be fixed, members of the panel and trade ministry officials describe a broad aim of improving transparency, reducing uncertainty and promoting deals of “economic significance”.

A particular focus will be on reworking Japan’s guidelines on management buyouts — a document produced a decade ago before private equity had the foothold it now enjoys.

Underpinning all of this will be an attempt to “improve confidence in Japan’s capital markets”, an ambition that will depend heavily on eroding the idea that domestic M&A deals throw up blatant conflicts of interest, are planned without the scrutiny of independent directors and are powerfully and persistently tilted against the interests of minority shareholders.

Wednesday, 8 August, 2018

There are two particular practices that participants say they hope to highlight during discussions, both of which have been deployed within the past two weeks.

One is the use of third-party allotments — a legitimate form of equity financing that nevertheless crops up regularly as part of dealmaking strategy when a seller wants to favour a particular shareholder.

In most cases, say fund managers, the allotment is made by companies with bulging coffers and palpably no need for additional cash.

A second increasingly common strategy, deployed in the Minebea deal, is to include the threat of a reverse share split in the takeover terms. The ruse dramatically expands the options of the buyer at the expense of the minority shareholders in the target.

Under normal circumstances, if a buyer reaches 90 per cent of the target’s shares through a tender offer, they can force the remainder to sell. The reverse share split threat means they can, in effect, do the same even if they achieve only 67 per cent through the tender.

Knowing that risk, institutional minorities have a fiduciary duty to sell into the tender offer, creating, as one US-based global fund manager put it, “a massive prisoners’ dilemma”.

Phrases like this are clearly not what the authorities want to hear when they talk about the need for the “fair and sound” development of Japan’s M&A market. The fact that the meeting is taking place at all is good news.

The real test is whether, as has happened too often with unusual share price movements, they eventually just shrug.

leo.lewis@ft.com