After decades of suboptimal shareholder returns, Japanese conglomerates are now facing both market and regulatory pressures to improve performance. To do so, they are considering a variety of levers including operating model transformation, divestitures of non-core and underperforming businesses, headcount reduction, and cost optimization.
The same value-creation potential has been recognized by and, in many cases, driven by private equity investors and activist funds, which have been using corporate carve-outs and restructuring to achieve a renewed focus on business growth. In an economy where risk-taking has often been avoided and change met with skepticism, this surge in private equity activity provides a crucial catalyst for businesses to innovate, streamline operations, and boost competitiveness.
Forward-thinking Japanese companies can harness the momentum of private equity to break free from mediocrity. The shift towards carve-outs, restructuring, and PE-driven value creation in the face of economic stagnation offers a path to success for organizations ready to take advantage. But these actions cannot simply be implemented as they function in North America and Europe—they must be adapted to the culture, history, and structure of Japanese management. Companies that can translate their practices effectively will be able to dramatically improve their profitability and productivity. In this article, we show how to manage these intricacies for sustained operational efficiency and post-deal value.
The opportunity: A private equity boom in Japan
In recent years, private equity has surged in Japan, presenting unique opportunities for businesses. Additionally, activist investor engagement has significantly increased over the past decade. The number of activist funds holding stakes in public Japanese companies has grown ninefold, from 8 in 2014 to 73 in 2024, and shareholder proposals by activists have increased sixteen-fold, from 4 to 66 during the same period. Many of these proposals include the carve-out or separation of non-core assets to focus on profitability in the core business, paying down debt, or buying back shares to increase shareholder returns.
This wave of restructuring and activism signals that more companies are open to reevaluating their core operations and divesting non-core assets. Successful exits for private equity acquisitions of corporate carve-outs include Hitachi carve-out Kokusai Electric, which was listed on the Tokyo Prime Market Index in October 2023 by KKR and was the largest private equity-backed IPO in Japan.
An influx of capital into Japanese markets is another critical factor. Private equity fundraising for Japan-specific funds (which excludes Japan market allocations from the Asia funds) averaged JPY 0.3 trillion annually from 2016 to 2020. Fundraising then doubled to an average of JPY 0.6 trillion in 2022-2023 and increased to JPY 0.9 trillion in 2023. This rise in equity capital is largely driven by both domestic and global PE funds establishing local subsidiaries, signaling that the international investment community sees the potential in Japan. New government policies, such as tax benefits enabling citizens to invest in equity retirement funds, have also unlocked new sources of capital for PE firms.
In addition, the availability of debt capital has remained robust. Japan's continued low-interest-rate environment, coupled with yen depreciation, has made it easier for companies to finance acquisitions. This is particularly favorable for PE-backed deals, where debt financing can amplify returns. For Japanese companies, this means the capital needed to restructure and reposition for growth is readily available.
As a result, private equity deal volume in Japan averaged JPY 1.3 trillion annually from 2016 to 2020. This volume then increased by 1.5 times to an average of JPY 3.2 trillion in 2021-2022), and further surged to JPY 5.9 trillion in 2023.
Why now? Carve-outs as catalysts for growth
Corporate carve-outs—wherein a company sells off a division or subsidiary to create a separate entity—are becoming a central feature of the Japanese PE landscape. For companies, this presents a key opportunity to streamline operations and focus on core strengths, freeing up resources for innovation and growth while remaining true to the traditions of Japanese management.
In many ways, carve-outs align with the Japanese cultural ethos of self-help and gradual, continuous improvement ("Kaizen"). Rather than pursuing aggressive takeovers or disruptive changes, carve-outs allow for more focused, management-intensive restructuring. By divesting underperforming or non-core business units, companies can concentrate on what they do best while leaving behind what no longer fits their long-term strategy—setting those assets up to operate on their own.
Carve-outs require a more hands-on approach than acquisitions or selling assets to be subsumed by other companies; this, too fits well with Japanese management culture. These transactions are not just about financial engineering; they require operational expertise and a deep understanding of how to maximize post-deal value for both parties. Private equity firms involved in carve-outs are not simply restructuring balance sheets—they are helping companies transform their operations, improve governance, and achieve long-term success.
This shift also fits into a broader trend where the government and financial institutions are no longer obstacles to restructuring. In fact, they are actively encouraging it. Japanese regulators are promoting corporate governance reform, while banks are increasingly open to supporting companies that pursue PE-backed carve-outs and other forms of restructuring. The barriers that once prevented companies from fully engaging in this type of transformation are falling away.
Pre-deal challenges: Navigating the complexities of carve-outs
Despite abundant opportunities, the challenges of executing a successful carve-out in Japan should not be underestimated. Pre-deal challenges can be significant, especially when dealing with a corporate culture that values consensus and careful deliberation.
One of the most prominent hurdles is the traditional Japanese decision-making process, rooted in the concepts of "nemawashi" (informal groundwork to build consensus) and "ringi" (formal approval by multiple stakeholders). This can lead to slower execution of the deal process than American and European PE firms are used to, as companies must ensure that internal stakeholders are aligned before proceeding. For carve-outs, which require swift execution to maintain business continuity and value, this is a non-trivial challenge. The process of separating a business unit from its parent company can disrupt daily operations. Long-term supply agreements, plant separations, contracts with key vendors, and negotiations with works councils and unions all need to be refigured, adding complexity and risk to the transaction. If these issues are not handled efficiently, they can harm the performance of both the divested unit (NewCo) and the RemainCo post-transaction.
Another challenge is the management of "stranded costs"—the expenses that remain with the parent company after a carve-out. These costs, such as IT infrastructure or shared services, can weigh heavily on the remaining business, impacting its competitiveness. Companies must develop comprehensive strategies to address these costs during the divestment process, ensuring that they do not undermine future performance.
Post-deal challenges: Unlocking value
Success lies in effective post-deal execution and design. One of the most important requirements is to create managerial alignment around a clear set of value-creation initiatives. Traditionally, Japanese managers spend their entire careers at a single company, leading to a narrow focus and limited exposure to best practices from other industries or geographies. There is also a fair amount of "Not Invented Here" syndrome. Both can hinder the rapid transformation needed after a carve-out.
Further complicating matters is the "federation" model often employed by Japanese conglomerates, where different units operate autonomously with limited integration. This structure can make it difficult to drive meaningful change across the organization post-transaction. In cases where Japanese companies have acquired overseas assets, the lack of integration can sometimes lead to value destruction, as seen in the Toshiba-Westinghouse deal where Westinghouse filed for Chapter 11 in 2017.
For PE-backed carve-outs to succeed, companies must add new approaches to the incremental improvements with which Japanese executives are familiar. While the concept of "Kaizen" is deeply embedded in Japanese corporate culture, post-deal transformations require combining it with a bold and comprehensive approach. Companies need to focus on full operational overhauls, streamlining processes, and leveraging new technologies to drive efficiency. Then, with the design of the new companies in place, Kaizen can kick in to begin the process of improvement. This can give Japanese companies an advantage over time—once they have the right pieces in place, management will be superbly positioned to make progress.
Winning themes: How to use private equity to maximize value
To make the most of private equity opportunities, Japanese companies need to adopt a proactive, strategic approach. Success will depend on speed, execution, and a willingness to embrace change.
Before the deal:
- Focus on building outcome-driven teams rather than adhering to standard checklists. Empowered teams with local expertise can better navigate the complexities of carve-outs, ensuring smooth execution. Japanese companies already utilize this approach for operational issues—in the Toyota Production System (TPS), for instance, cross-functional teams get to the deep root cause of a given problem before designing a process that delivers value without waste and inconsistency.
- Engage with a value-creation mindset from the outset, setting up the buyer for success post-deal. This includes a clear management plan and early alignment on strategic goals and necessary resources.
During the deal & sign-to-close:
- Minimize information asymmetry between the buy side and sell side by maximizing readiness on the sell side for the deal process, including data gathering and exposure to NewCo management. It's also critical to build a robust management plan to highlight value-creation potential to buyers.
- Balance the interests of both the sell side and buy side in the transition service agreement (TSA) to set up the NewCo for independent operations on day 1, while minimizing stranded costs for the RemainCo.
- Empower the buy side to set the agenda with NewCo management on its value-creation plan after the deal closes.
After the deal:
- Drive cross-functional transformation through a Chief Transformation Officer (CTO) who, with a dedicated team, is focused on execution. This team does not simply gather stakeholder input, but also has the authority and expertise to act and drive change across the organization. Embracing operating model transformations that streamline governance and decision-making processes allow for more agile operations.
- Emphasize implementation. Quick wins, coupled with short- and medium-term initiatives that produce tangible results, will drive and sustain the change. This ties into the Kaizen principle of gradual, continuous improvement—leverage the "head, heart, and hands" model (focused on intellectual engagement, emotional intelligence, and practical action) to ensure that the change permeates the organization.
The benefits of transformation
Japanese companies that seize this moment stand to emerge stronger, more agile, and better equipped to thrive in the future. But PE firms have to be culturally sensitive.
Private equity can play an important and constructive role, providing more access and fewer hindrances to institutional capital compared to other options for Japanese companies. Carve-outs serve as a particularly promising play in the PE landscape, as they strategically and culturally align with the Japanese market. From a business standpoint, they allow companies to effectively streamline operations and focus on core functions, which frees up resources for innovation and growth. Culturally, carve-outs relate to the intentionality and sincerity of "Kaizen," better fitting with the realities of change management in Japan.
If PE firms can navigate these complexities with a steady hand and demonstrated understanding of market nuances, they and the companies in which they invest will reap the rewards of a golden opportunity.
An abridged version of this article appeared in Nikkei Asiaon January 20, 2025.
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