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FDI and corporate governance in Japan

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In Brief

With Non-Performing Loans finally under control and economic recovery underway since 2002, Japan has also experienced a revival in FDI outflows. Many commentators focus on the large stocks built up in China, but there has also been steady interest in investing in Australia. Rather than tourism and property developments, Japanese firms have been quietly investing in infrastructure projects, and Nomura is reported recently as a possible buyer of the Australian investment banking arm of ABN AMRO.

A more remarkable development is the expansion of inbound FDI, particularly under the former Koizumi government. Fueled by a broader boom in M&A world-wide, Japan's inflow rebounded to US$22 billion in 2007, and foreign investment stocks doubled over the last five years. But flows and stocks are still low by OECD standards relative to GDP, especially compared to the US, the UK and now Australia.

The Fukuda government has also sent more mixed messages recently. The Transport Ministry tried to include a blanket one-third cap on foreign shareholdings in Japanese airports. But others including the Financial Services Agency objected that this would choke off other inbound FDI, so this provision was dropped in March. The government is now considering the introduction of measures that more directly regulate the understandable security concerns arising from operating airports. Macquarie Airports Management Ltd, which already owns 19.9 percent of Haneda Airport, will be following this ongoing debate especially carefully.


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A more recent incident involves the government’s first rejection of a foreign investment under the Foreign Exchange and Foreign Trade Law (gaitame-ho), as significantly liberalised in 1998. The Children’s Investment Fund based in the UK (TCI) had applied for the pre-approval still needed under the Law for investments of more than 10 percent in listed sectors deemed potentially critical to national security. The government rejected its proposal to take 20 percent of wholesaler Electric Power Development Co (J-Power), citing energy security risks.

The US, in particular, has also recently invoked national security to block FDI. Australia’s Foreign Investment Review Board blocked Shell’s bid for Woodside in 2001 and was criticized for lack of transparency by the Financial Times in 2005 when it was investigating the Xstrata’s bid for WMC. The Rudd government must have given a lot of thought to China’s BG Group’s hostile takeover bid for Origin Energy this March, especially since the US had blocked Chinese investors interested in Unocal.

Still, Japan’s rejection of TCI’s proposal might have been presented better, and it left much speculation that this was less about national security and more about preventing foreign management turning up pressure on a major Japanese company. Some also tie this to the Supreme Court’s decision last year upholding of a post-bid rights issue (by Bulldog Sauce) discriminating against a hostile bidder (US hedge fund, Steel Partners), or to the hundreds of listed Japanese companies that have recently implemented pre-bid “Advance Warning System” anti-takeover measures (a type of “poison pill”).

Yet this overlooks the significant emphasis on shareholder approval of anti-takeover measures contained in that judgment, as well as in Guidelines (re-)issued by the Ministry of Justice and/or the Ministry of the Economy, Trade and Industry. Incumbent target company directors retain much more discretion in the US, and therefore generally implement much more powerful poison pills despite stricter requirements for independent non-executive directors on American boards. That is why News Corporation recently relocated to the US from Australia, where instead we follow the English tradition in even more strictly controlling poison pills. The Anglo-Australian tradition also makes it easiest to launch hostile takeovers by promptly resolving disputes through a Takeovers Panel, rather than the formal court process.

Nonetheless, at least compared to Anglo-English law, Japanese law does give incumbent managers considerable leeway to protect themselves against hostile takeovers. This helps explain why none has yet succeeded for a major Japanese company, although the threat is now real. Japanese firms also still tend more to acknowledge (legally or in fact) the interests of a broader array of stakeholders. This occurs despite a considerably greater contemporary focus on shareholders, as well as some concomitant declines in the influence of “main bank” creditors and even (a shrinking core of) “life-long employees”.

Unsurprisingly, investors have also experienced mixed results from trying to force changes “from within” to extract greater shareholder returns more quickly. Steel Partners did force venerable wigmaker Aderans to change its management at a shareholders’ meeting in May. But in their June meeting other J-Power shareholders rejected TCI’s proposals to change management, elect more outside directors, limit cross-shareholdings, buy-back shares, and further increase dividends.

In sum, as we explain in a forthcoming book, both FDI regulation and corporate governance in Japan is still undergoing a “gradual transformation” underway since the political and then socio-economic upheavals of the 1990s “lost decade”. A similar shift towards more market-oriented solutions is evident in other industrialized democracies, such as Germany, as shown by Professor Wolfgang Streeck in Cologne. This partially winds back what Karl Polanyi described in 1944 as “the great transformation”, which involved welfare state reactions to the rise of the market economy. Japan reveals its own combination of mechanisms for achieving some changes, while maintaining some continuity. These involve a few relatively immutable baselines, like FDI restrictions in the national interest; and some flexible rules for more everyday situations, as now with takeovers and permitted counter-measures.

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