Activist Daniel Loeb took his team to Japan in April 2012 to determine if the world’s third-largest economy was ready for investment. The central bank had set a new 1 percent inflation goal, an encouraging step in a country where growth had stagnated for two decades.
Yet Loeb wasn’t convinced until October when polls signaled that the next prime minister would be Shinzo Abe, a pro-business leader who agitated for reforms including a weaker currency and unprecedented monetary easing to end deflation.
As the economy blossomed in the first five months of 2013, the stock market soared and the yen fell, Loeb decided the time was right to push for a shakeup at Sony Corp. (6758) It reflected his confidence that Abenomics had primed hidebound Japan for a polite version of American-style activism even at an iconic company.
A new Sony board will test that confidence after the company’s annual shareholder meeting in Tokyo tomorrow. Three new directors and a chairman will replace four outgoing members, including Welsh-born Chairman Howard Stringer, 71. They will reconstitute the group that will tackle activist proposals by Loeb’s Third Point LLC including an initial public offering of as much as 20 percent of Sony’s entertainment assets.
“Sony has an opportunity to serve as a shining example of how structural reforms, the ‘Third Arrow’ of Prime Minister Abe’s economic plan, can be implemented successfully through constructive shareholder engagement,” Loeb wrote to Sony Chief Executive Officer Kazuo Hirai on June 17.
New York-based Third Point, which manages $13 billion, disclosed that it had increased its stake to about 6.9 percent of Sony shares, which it valued at $1.4 billion, from the 6.3 percent announced on May 14. Its stock has climbed 8.5 percent since the plan first became public.
Loeb is urging the partial carve-out of Sony’s music and film unit to unlock its underlying value and provide capital for management to focus on turning around the consumer electronics business. By creating an independent entertainment board, managers would be more accountable and would help in setting growth targets and allocating capital, Loeb wrote.
Sony’s market value has fallen to about $21 billion from more than $120 billion in 2000. While a weaker yen, job cuts and blockbuster movies like “Skyfall” have helped Hirai return Sony to a profit after four years of losses, the company’s smartphones and flat-panel televisions are still being battered by competition from Samsung Electronics Co. and Apple Inc.
Sony’s main TV business has lost a total of 762 billion yen ($7.98 billion) from selling TVs in nine consecutive years of losses. Without the contribution of the profitable entertainment units and its insurance arm, Sony would have booked a 130 billion yen loss in the year ended March 31.
While Loeb’s plan, coming after a deadline for shareholder proposals, isn’t on the meeting agenda, Hirai has said directors will study it closely. He has hired banks for advice, Morgan Stanley and Citigroup Inc., a show of receptiveness that contrasts with the routine rebuffs previous activist efforts have elicited from Japanese corporate targets.
Loeb will have to overcome the skepticism of some close to Sony that his proposals are the right way to unlock entertainment’s value and tackle the ailing electronics business, people familiar with the matter said. Sony had almost $8.6 billion in cash and undrawn credit as of March 31, and has issued four bonds since the start of 2012, suggesting selling part of a profitable unit to raise capital isn’t necessary.
He also needs to overcome Japan’s traditional resistance to foreign influence.
“Japanese corporations have long been insular to this kind of restructuring and outside interference,” said Michael Marks, the former CEO of contract manufacturer Flextronics International Ltd. (FLEX), and a founding partner of investment firm Riverwood Capital LP, who has done business in Japan for about 30 years. “My bet is on the no-big-changes side of the equation.”
Loeb’s optimism is rooted in part in his conviction that Abe will succeed in carrying out reforms to wrench Japan from economic stagnation, said a person familiar with his thinking, who asked not to be identified because the discussions weren’t public. He is encouraged by the people Abe’s brought in to govern, as well as the academics and officials he consulted during five years in the political wilderness, the person said, including retired Yale University professor Koichi Hamada and Kaetsu University’s Yoichi Takahashi, a former Finance Ministry official who advocated a surge in Japan’s monetary base.
After next month’s upper house elections, when polls show Abe’s Liberal Democratic Party is likely to solidify control of parliament, Loeb’s camp expects him to use the next three and a half years to push his agenda beyond a weaker yen, said the person. The hedge fund is looking for moves ranging from corporate tax overhauls and aggressive deregulation, to increasing women’s participation in the workforce as Japan’s aging population retires.
So far, it’s in monetary policy where Japan has made the biggest break from the past. Before Bank of Japan Governor Haruhiko Kuroda pledged to double the BOJ’s monthly bond purchases and do “whatever it takes” to end deflation, the country’s central bank chiefs had stuck to policing bubbles rather than fostering growth.
Loeb has already won his first bet by shorting the yen starting in October, a person familiar said. The currency fell by as much as 11 percent against the dollar as Kuroda unveiled in April the Bank of Japan’s most aggressive quantitative easing yet.
Abenomics has boosted Japanese sentiment. Consumer confidence last month climbed to the highest since 2007 and major companies plan to raise summer bonuses by the most in more than 20 years, according to a survey by Keidanren, the country’s biggest business lobby.
For Sony, the weaker currency will make its exports cheaper and inflation and faster economic growth could revive a domestic market that makes up about a third of the electronic maker’s sales.
While investors are skittish about whether Abe can deliver on his promises -- the Nikkei 225 Stock Average has plunged 17 percent in the last four weeks as the yen strengthened -- Japan’s market is up more than 25 percent this year, the most among developed markets.
“We’re telling clients that the rally isn’t over,” said Soichiro Monji, chief strategist at Tokyo-based Daiwa SB Investments Ltd., which manages the equivalent of $59.6 billion. “The economy and corporate earnings are improving and we have high hopes for Abe’s administration.”
Loeb’s plan may get a closer look thanks to the presence of new outsiders on Sony’s board. Former Apple executives Eikoh Harada and Tim Schaaff are expected to be named directors at the shareholder meeting, as well as Joichi Ito, a director of the Media Lab at Massachusetts Institute of Technology.
“They’ve been transparent with the use of outside advisers and I think it’s actually a triumph of corporate governance,” said Damian Thong, an analyst at Macquarie Securities Ltd. in Tokyo.
To be sure, Loeb isn’t the first U.S. hedge fund to take a crack at Japan Inc. In the early 1990s U.S. investor T. Boone Pickens bought 26 percent of Koito Manufacturing and tried to obtain a board seat. The parts supplier to Toyota Motor Corp. spent a reported $4.4 million to thwart him and he dumped the shares.
Some activist investors are rooting for Loeb to succeed at Sony, as it could open the door for them to go after other Japanese companies ripe for restructuring, said another activist, who asked not to be named.
Abenomics presents investors with a “sort of a binary outcome,” said Erik Davidson, deputy chief investment officer for Wells Fargo Private Bank, which oversees about $170 billion. “Japan could do really well, this could be the turning point for that country, or this could be the end game for Japan, sort of a last ditch effort.”
Still, Davidson, who earlier lived and worked in the country for six years, returned from a Japan research trip in April and liked what he saw, despite its shrinking population and other challenges. He raised his recommendation for Japanese investments to neutral from underweight.
“Japan may finally, finally be at a turning point in their battle against deflation, which has rewarded procrastination for 15 years,” he said. Today “investors ignore Japan at their own peril.”
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