As a shareholder in Canon (NYSE:CAJ), and an interested observer of a number of Japanese companies such as Nissin (NYSE:NIS) and Toyota (NYSE:TM), I loosely follow the goings-on among Japanese companies. So the 2.84% slide in Japan's Nikkei Index on Jan. 17 caught my eye later that Tuesday morning (U.S. time) as I was browsing my holdings.
The 2.84% dip on Tuesday and the 2.94% drop that followed in Wednesday's trading are the Nikkei's largest declines in nine months -- so large that the exchange halted trading 20 minutes early. But a little bit of volatility by itself is hardly news, or even worth looking into. However, when I saw that Livedoor, an Internet auction and marketing company, is being investigated for cooking its books and was being blamed for the decline, well, that's far too interesting a story not to look into.
For better or worse, there are few corporate CEOs who can compete with the stir that Livedoor CEO Takafumi Horie has caused in the past year. He's had failed attempts to acquiring a controlling interest in Fujisankei Communications' Fuji TV, as well as an Osaka, Japan baseball team, the Kintetsu Buffaloes. The 33-year-old Horie -- nicknamed Horiemon -- is a bit of a rebel. His unconventional methods have won him the respect of the younger generation of Japanese businessmen while simultaneously upsetting some of the entrenched elders of Japanese business.
Short-sighted and bizarre behavior
The reports in the Financial Times and in The Yomiuri Shimbun regarding Livedoor's behavior are nothing short of bizarre. The charges being thrown around by the press include unnecessary stock splits, which kept the company's valuation high in order to make acquisitions with stock, and outright cooking of the books at certain subsidiaries.
There are some pretty unsavory quotes floating around in these articles as well, such as the following quote from a Livedoor executive in a recent Yomiuri Shimbun article:
"Given that there was no regulation covering the ratio of stock splits, we chose the 100-for-one ratio, because we believed the figure 100 could have a substantial psychological impact on the market, because the split ratio of 21-for-one had been the record high before."
Such quotes make me sick to my stomach, not to mention a bit angry, but there's nothing illegal about splitting your stock. Here at Fool HQ, we've said for years that a stock split doesn't change anything about a company's business prospects, but investors sometimes behave like it does. The frequency and size of the splits may have kept Livedoor's stock valuation high, but the high valuation was caused by investors' misguided speculation, not corporate wrongdoing. For Livedoor, excessive stock splits amount to short-sighted corporate behavior, but they're hardly criminal.
However, the other accusations being thrown at the company are much more serious and far more strange. The first allegation involves the October 2004 announcement by a Livedoor subsidiary (Livedoor Marketing, then known as ValueClick), that it would acquire publisher Money Life. Livedoor Marketing's stock price reportedly increased 45-fold after the announcement. However, Money Life was already owned by Livedoor; any acquisition would essentially just be reshuffling the same deck of cards. That so many investors could miss this detail seems strange to me, but a quick glance at Livedoor Marketing's chart confirms the story.
Perhaps the most damning allegation of fraud involves Livedoor and its affiliates transferring funds between entities to dress up their financial statements. In a strange twist, the transfers of funds were apparently only discovered after regulators raided Livedoor's offices and the residences of three of its executives late on Monday to investigate the acquisition of Money Life.
Sorry turn of events
It's a bit sad to see this turn of events at Livedoor. Last year, when the company purchased a large stake in Nippon Broadcasting System in a failed attempt to control Fujisankei Communications' Fuji TV, it created quite a stir, because it was highly unusual behavior for a Japanese company. To a large extent, the Byzantine cross-ownership structures that exist in corporate Japan are there to prevent a backdoor purchase such as the one Livedoor attempted.
Livedoor's purchase eventually ended with Fujisankei purchasing Livedoor's stake in NBS and with Fujisankei making an investment in Livedoor. However, in a country where individual shareholders are often not highly regarded -- frequent share repurchases by Matsushita (NYSE:MC), Honda (NYSE:HMC), and Kao notwithstanding -- it was important that the Japanese Supreme Court upheld the legality of Livedoor's hostile takeover bid.
As it stands, the only positive that investors can take away from the ongoing Livedoor investigation is that the Nikkei sell-off has made prices in companies such as Kubota (NYSE:KUB), Nomura Holdings (NYSE:NMR), Canon, and Matsushita slightly more attractive.
Foolish final thoughts
If Takafumi Horie and other Livedoor executives are found to have misled investors and committed accounting fraud, they should be prosecuted to the full extent of Japanese law. However, it is very likely that the traditional Japanese business culture will point to Horie's behavior as a maverick, and his takeover attempt, as the real failure, arguing that the old, more insular ways are safest and best. Let's hope not. Such an attitude is akin to throwing away the baby with the bathwater, and it's ultimately unfriendly to investors. Such a turn of events could cause Japan's recovery to sputter, and perhaps reverse the shareholder-friendly trends that have been slowly but surely improving among Japanese companies.
For related Japanese Foolishness:
Nathan Parmelee lived in Japan for a few years. He also owns shares in Canon, but has no financial stake in any of the other companies mentioned. You can view his profile here. The Motley Fool has a disclosure policy.
