Overview
Shares of a renowned Japanese watchmaker have surged since mid-February following a buyback announcement. Investors have cheered the company’s plan to repurchase up to a quarter of its shares outstanding, boosting its market cap by about a quarter to a level close to its book value as of March 31.
The watchmaker is one of many listed firms in Japan that are heeding the call of regulators to unlock their market value through better use of capital. The Tokyo Stock Exchange (TSE) is promoting the soft requirement of a price-to-book ratio above one, among other measures, to improve capital efficiency.
A long-awaited reform effort to boost capital efficiency in Japan’s stock market is gaining traction, with regulators detailing new requirements and calling for fast implementation, although no hard deadlines have been set. These initial steps are encouraging. Besides promoting capital efficiency, we think the TSE should also introduce measures for sustainable growth.
Traditionally, Japanese companies have been (in)famous for sitting on excess cash piles that tend to limit investor returns. But that may be about to change. From the first quarter of this year, the TSE requires most listed firms, especially those trading below book value, to “properly identify” their cost and efficiency of capital, according to exchange announcements.
A long journey
In a panel discussion organised by the TSE last year, Fidelity International highlighted the issue of inefficiency and pointed out that about half of Japan’s listed firms were trading below book value. The TSE included our views in select feedback published in both Japanese and English on its website.
The exchange has also responded to Fidelity's suggestion that listed companies should perform self-examination on their own corporate governance. Exchange officials restructured the stock market into three segments last year, with higher governance standards for the Prime segment where nearly half of TSE stocks are currently traded. Those in the Prime segment are expected to follow a set of governance requirements under a “comply or explain” principle. In practice, however, the “explain” requirement has become a mere formality for many companies that fail to comply. Stricter enforcement is therefore needed.
In addition, the TSE has been encouraging constructive dialogues between listed companies and investors. Companies are required to disclose certain details of their communication with investors, such as the names of their key representatives engaging in such dialogues, the themes of their discussions, matters of interest to shareholders, and resulting corporate changes, if any. Fidelity highlighted the importance of such engagements in the TSE panel discussion last year.
Room to improve
The TSE’s latest reform measures represent a bold step forward, which appears to have bolstered investor confidence. The TOPIX advanced around 6 per cent in the first quarter, higher than most other major country benchmarks.
While these measures are encouraging, we think it’s even more important to introduce incentives for companies to pursue sustainable growth. And we see necessity in revamping the methodology for compiling the TOPIX. Currently, the index automatically absorbs Japanese stocks when they get listed, in contrast to global benchmarks like the S&P 500, which have a cap on the number of constituents. We have been advocating for such a cap, which we believe is essential to ensuring competition among listed firms in Japan.
With wider reforms and quicker steps, we believe many more Japanese firms could unlock their value and the country’s stock market would attract greater inflows of foreign capital.
