From Our Briefings Newsletter

Published on13 AUG 2018

Japanese mergers and acquisition volumes set new records in the first half of the year as companies continued to seek growth outside their home market. Now, moves to improve corporate governance and focus on capital efficiency are spurring further consolidation in domestic industries, leading to more M&A activity and higher valuations. We sat down with Hiromi Suzuki of Goldman Sachs Research to discuss why companies are shedding operations at a record pace.

The article below is from our BRIEFINGS newsletter of 13 August 2018:

Briefly . . . on Why the Value of Japan’s M&A Could Triple   

Let’s start with a look at M&A trends in Japan. There have been a number of high-profile examples of companies acquiring or investing in firms outside of Japan. Will this activity continue?

Hiromi Suzuki: In short, yes. M&A activity in Japan has picked up noticeably in recent years, with the total value reaching an all-time high of over 20 trillion yen at June-end. That said, Japanese companies still only accounted for 2% of global M&A transactions by value in 2017. Given that Japan makes up 6% of the global economy, we think there’s potential for that 2% figure to triple in the future, fueled not only by outbound activity, which accounts for 60% of the total, but also increased domestic activity.

What have been some of the broader drivers behind M&A in recent years?  

HS: Japan’s aging population and slow-growing economy have spurred companies to pursue outbound acquisitions to tap into new markets, products and innovation. Many firms are simply expanding in nearby Asian countries with growing populations or rising wealthy and middle classes, such as China, the Philippines and Indonesia. Fast-moving technological advancements — ranging from blockchain to electric vehicles and artificial intelligence — are also forcing Japanese companies to realign their operations through M&A. Meanwhile, Japanese firms, which have historically focused on increasing their domestic market share, are turning to capital efficiency and profitability measures — a shift in mindset that is facilitated by the government’s reforms in corporate governance and other legislative and tax-law changes.

How will this focus on profitability affect M&A?

HS: By focusing on profitability and efficiency measures instead of market share, management teams have been downsizing or withdrawing from established businesses to focus on core operations. The  number of companies that have exited or scaled back from established businesses this year suggest that the total for the full year may exceed the record set in 1999. Combined with an uptick in business start-ups and shutdown rates, and a sharp rise in acquisitions targeting domestic venture companies, these trends suggest a gradual but steady realignment occurring across Japanese industry which could translate into ongoing M&A activity.

What is the bottom line for investors?                                                     

HS: In Japan, approximately two thirds of companies operate in industries where market concentration is low – in other words, where there is a relatively high number of market participants – and their average ROE is 8% compared with 14% for companies in sectors with high concentration.  By our estimates, if companies in industries with low market concentration generated ROE on a par with those in industries where concentration is high, Japanese multiples could nearly double from their current levels.