The plan by the Big Three banks to unwind their cross-shareholdings points to a long-awaited turn to better corporate governance.
The announcements in June by Japan’s three megabanks that they will sell $5.4 billion of their strategic cross-shareholdings over three years mark a milestone in the decades-long effort to remodel Japanese corporate governance along more investor-friendly lines.
Mitsubishi UFJ Financial Group said it plans to sell $2.2 billion of cross-shareholdings by the end of March 2027, Mizuho Financial Group expects to sell $1.9 billion over the next three years, and Sumitomo Mitsui Financial Group expects to divest more than $1.3 billion by March 2025. Significantly, Mizuho CEO Masahiro Kihara said the bank will either pass on the proceeds from its sales of equity holdings to investors as dividends or invest them in growth-directed activities, and Sumitomo Mitsui aims to reduce the market value of its equity holdings to less than 20% of the value of its consolidated net assets.
The megabanks’ announcement represent a milestone because Japanese banks have been one of the heaviest holders of strategic shares, dating from the decades following World War II, and among the most reluctant to wind them down says Haonan Wu, manager of engagement, EOS at Federated Hermes, a provider of stewardship services to investors on elections, obligations, and standards.
As such, the big banks’ pledges suggest that Japanese business is taking the need for change seriously, Wu says. “We’ve been discussing this for a number of years, holding meetings with the banks’ independent directors.”
The three big banks are not the only major Japanese companies pledging to reduce cross-shareholdings, which are strategic stakes that companies hold in their closest business partners, including suppliers and corporate customers. In May, some 70% of the companies listed in the Tokyo Stock Exchange’s (TSE) Prime market of large, global stocks said they would be selling off cross-shareholdings. And efforts by regulators to encourage the phase-out go back at least 20 years; average holdings of strategic shares by companies in the TOPIX 500 index dropped from 13.5% of new assets in 2015 to 8.4% in 2023. But the pace has been slower than this suggests; as of last year, 320 companies or 64% of the TOPIX still had more than 10% of their net asset value tied up in strategic shareholdings.
Traditionally, cross-shareholdings were seen to cement close, long-term relationships with counterparties as well as to assure management of a reliably loyal block of voting shares. However, a growing chorus of investors—especially those based overseas—have criticized the practice as an inefficient use of capital as well as a questionable corporate governance practice, since companies’ independent directors often represent strategic partners.
Institutional Shareholders Services (ISS) and Glass Lewis, the two big US proxy advisors, have been vocal on the issue. And in May, the Asian Corporate Governance Association—which includes Black Rock, Fidelity, and Federated Hermes—published an open letter calling on Japanese companies to “accelerate the further reduction of these shareholdings, which we believe in principle should be zero for most companies.”
In past years, such admonitions might have had less impact, but times appear to be changing. With the Japanese economy sluggish, Wu points out, the TSE has become concerned about the low price-to-book ratios of its listed companies, including banks; half of Prime members traded below book last year. The bourse now requires companies trading at less than a one-to-one price-to-book ratio to disclose their policies and initiatives for improvement and advised them to focus more on capital efficiency: for example, by reducing cross-shareholdings.
Japanese companies appear to be responding. Jun Frank, global head of governance and compensation at ISS, notes that share buybacks—traditionally not a common practice—are up.
“Japanese companies historically have held onto cash rather than doing buybacks or paying out dividends,” he says, “so a lot of companies have a large stockpile of cash on their books. Now they’re thinking more strategically about how to allocate capital.”
Additionally, with Japanese stocks outperforming the Standard & Poor’s 500 for more than a year—the Nikkei index reached its highest level in 33 years in May—now would seem like a good time for companies there to unwind their strategic portfolios. Japanese investment firm Keystone Partners announced in March that it was setting up a $636 million fund to buy divested cross-shareholdings.
There’s no knowing for sure how far divestment will go; in March, Japan’s Financial Services Agency noted that some companies, which are now required to list their top 60 strategic shareholdings, may be engaged in “shareholding washing”: getting around the rule by claiming to own them only for trading purposes.
But if divestments do accelerate, Frank foresees a profound change in how Japan’s traditionally insular corporate boards behave. Fewer cross-shareholdings will “increasingly lead to greater board independence,” he says, the odds that activist shareholders can make themselves heard will improve, and “that will encourage companies to be more efficient in how they allocate their capital.”