Defining the Actors in Japanese Market for Corporate Control

RIETI Report: What are the objectives of your research while you are in Japan?

Culpepper: I am trying to understand the development and change in the Japanese market for corporate control, from a political perspective since I am a political scientist. Markets for corporate control, as a more general problem of corporate governance, have been looked at for a long time by lawyers and economists, but not so much by political scientists. However, these are profoundly political phenomena and this explains my interest in an area that has been dominated by economists and lawyers. So for Japan, I am interested in the precipitous decline in cross-shareholdings in the mid-to-late 1990s. That created a threat and opportunity, a changed situation in which companies now had the possibility of being taken-over through hostile takeovers in a way not generally the case for much of the post-war period, certainly not in the '70s, '80s, and early '90s in Japan. So my question is how have companies responded to that and how has the set of rules, the corporate governance regime responded to the decline in cross-shareholdings. I am interested not only in what bureaucracies and government are trying to do but also in other concerned actors, notably managers and their representative organizations like Nippon Keidanren (Japan Business Federation) as well as institutional investors, lawyers interested in the development of M&A, and labor unions - what these groups have said about the changes in the market in Japan.

RIETI Report: A major portion of your research has focused on the French political economy. Could you explain the relevance of France's changing finance and corporate governance system and who/what have been the key actors?

Culpepper: I have done a lot of work on France, as you say. I started working on the problem of corporate governance change in France, particularly the decline of what we call "patient capital" because it was an interesting puzzle for me that seemed very much at the core of how French capitalism was changing. By patient capital I mean a set of shareholders who use something other than short-term market indicators such as share price and quarterly reports to make judgments about whether hold on to shares of an enterprise or not. I did a project where I looked at the change in patient capital, operationalized then as average concentration of corporate ownership in France, Germany, and Italy. At that time many of my colleagues writing this area were saying that France was changing, Germany was changing, and Italy was changing. Yet that did not seem right to me. I knew Germany was not changing to the extent my colleagues were alleging, so I started looking into it. In fact most scholars were not looking at corporate concentration and the actual extent of shareholding. They were actually looking at changes in the law. It is true in Germany and Italy in the late 1990s there were big changes in the law and in the extent of legal protection of minority shareholders. However, it is a very long step from saying there is legal protection of minority shareholders to saying the system of patient capital is therefore breaking down. It is a fallacious theoretical step in my view. So I tried to look empirically at what was going on in this area. I found that France had indeed changed, as many thought; the average share ownership of the largest single shareholder or two shareholders in a company had dropped dramatically in the late 1990s, in a matter of just a couple of years. Then I looked at how and why that happened. In spite of the expectations of some of my colleagues, it did not have anything to do with legal change. Instead it had to do with the expectations of managers, especially of large corporations, about the best way to succeed in a globalized, especially a Europeanized, economy. Managers wanted to not be constrained by holding shares of other companies. They wanted to use their assets to take over other companies and they were not so concerned about protecting themselves.

In Germany and Italy, by contrast, though there was big legal change, managers had a very clear understanding of what they wanted to pursue in the Europeanized market - a system that allowed them to pursue what they considered a longer time horizon, thus giving themselves a certain amount of protection against market pressure. So, managers did not move to a system with less concentrated corporate ownership. A short answer to the question about the key actors is that you cannot force the managers to move. That at least is what I discovered in the case of Germany and Italy. In France it was not the politicians or the bureaucracy (which some say is important in France as in Japan) making the change, it was managers themselves. My work on France got me interested in Japan because those countries are characterized by a very high average share ownership. And Japan and the Netherlands both have historically exercised patient capital without high average share ownership. So I wondered if the dynamics were the same in the Netherlands and Japan as in the larger European countries. That led me to the Netherlands-Japan comparison I am doing now.

RIETI Report: Unwinding of cross-shareholding has been observed in Japan since the early 1990s, but recently some companies are reviving cross-shareholding as a takeover defense. How do you account for the resurgence?

Culpepper: I think it is pretty easy to account for it, but probably the more important part of your question is what is the significance of this and how much does it matter. It is easy to account for this because managers everywhere, in Japan as in the United States, do not like people putting pressure on them if they can avoid it. The possibility of hostile takeovers puts management under a lot of pressure because they always have to be aware of the discipline coming from the market. For instance, if a company like Steel Partners, which is a very active fund in Japan right now, comes in and takes a big position in the company and demands management changes. The recent uptick in cross-shareholding is particularly seen in the steel industry where a number of companies, with Nippon Steel in the lead, are concerned about Mittal and the possibility of being taken over. So they have been leading charge both within Nippon Keidanren, and more generally among themselves in trying to essentially build up cross-shareholding to do what it did in the past. To the extent I have seen data on this, the numbers are relatively insignificant. They are not zero, but it is not as though we are seeing the start of a move back toward the system of cross-shareholding. That has broken down in a big way, and the previous big players such as banks and insurance companies are not going to reemerge in the role they had before. I think this can be better understood as the companies within an industry or friendly companies trying to build up a little bit of extra protection, a little bit more of a set of allies who will potentially be there in the case of a hostile takeover by a company they agree is not desirable. This is along with the other defense mechanisms which have been foreseen by the Corporate Value Report (METI), which gives the possibility of a different set of defense mechanisms, notably "poison pills," for Japanese managers to pursue. So I think we need to understand the minor return of cross-shareholding as managers trying to keep their options open, more than as a reversal in the system, heading back to where it was before.

RIETI Report: Your research has focused on the possibility of hostile takeovers in Japan. How do the changing conditions for hostile takeovers influence general problems of corporate governance for Japanese firms?

Culpepper: It is an interesting question with a diversity of answers. In general, hostile takeovers are said to affect corporate governance problems more generally. Corporate governance problems generally refer to how shareholders can control managers or exercise some influence on them. And on the one hand, you can see this as a principal-agent problem where the principals (the shareholders) need to control their agents (the managers). But on the other hand, the managers are running the company and, need to have a certain amount of discretion, without too much meddling by the shareholders. This is how the managers see it and sometimes they are right. They need this in order to exercise their strategy, which is often longer term and may not pay immediate dividends in the short term, or immediate high dividends to shareholders. That is my attempt to give a balanced view of the situation.

So I think the rise in hostile takeovers in Japan, and indeed there has been a rise, generally constrains managers to be a little bit more attentive to their shareholders and to some of the short-term indicators such as quarterly reports and share price. It is also part of a general reevaluation of the role of shareholders in Japanese corporate governance. I have talked to several people in the finance area as part of this project. They say the law has always been that shareholders are clearly supposed to have the number one claim on the corporation in Japan, but that had never have been the practice until recently. Now managers are starting to talk about shareholders very much as having strong claims on the corporation. However, I think many Japanese managers continue to resist the tendency to say shareholders are the only claimants on the corporation. They are also very interested particularly in the role of employees, but also in the role of other actors affected by the company - potential customers, the community where the company is located, etc. So I think hostile takeovers have provoked an ongoing debate that will be very much in evidence at shareholders meetings at the end of this month* about the appropriate role of management and of shareholders having influence on management. I do not think the outcome of the discussion is yet clear; it seems to me that there have been a number of changes in corporate law that have gone on outside this area, along with the movements in hostile takeovers consistent with this in pushing managers to take shareholders more into account. But other forces are going on; managers are strongly pushing, both for their self-interested reasons and their differences of strategy. They think shareholders are not necessarily the best people to be making the company's long-term strategy. A coalition is emerging that is trying to put limits on the claim to shareholders on the company, not so much in the long-term (because in the long-term everyone realizes shareholders have these claims on the company), but in their ability to push it through short-term considerations.

*Interview conducted by RIETI on June 26, 2007

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