The ongoing takeover battle between Livedoor Inc. and Fuji Television Network offers food for thought regarding “market capitalization,” now a favorite topic of conversation among executives of information-technology firms and Internet service providers. Market capitalization, which is calculated by multiplying the number of a company’s outstanding shares of stock by the current market price per share, indicates how the company is being evaluated in the stock market.
The term gained currency in Japan following a U.S. IT-stock bubble in the late 1990s. That was when startup companies here went public by offering astonishingly high prices for their stocks. The founding managers of those newcomers would proudly say that their up-and-coming businesses had the solid backing of stock investors, asserting that market capitalization represented a corporation’s real value.
As a result, market capitalization became an “article of faith” for startup entrepreneurs. Believing as they did that stock price was the best measure of corporate value, they tried aggressively to expand the market capitalization of their firms with little regard to their potential for actual earnings. One such businessman was said to be Livedoor President Takafumi Horie, who is now in the media spotlight thanks to his high-stakes bid to take control of Nippon Broadcasting System, an affiliate of Fuji TV.
It remains to be seen exactly how the takeover battle will develop in coming weeks and months, but Mr. Horie is already being idolized by his admirers as a bold challenger to the old guard, or the old order, of corporate Japan. If he wins the fight, his reputation as a groundbreaking maverick may well become established. It is worth remembering, though, that market capitalization or stock price is not always an accurate yardstick of corporate value.
To realize that, one need only to recall the series of high-profile financial scandals that roiled corporate America several years ago. The scandals — which involved the repeated window-dressing of financial statements to ramp up stock prices and market capitalization — illustrated how corporate managers overly conscious of stock prices could be tempted to employ artificial means to boost them.
The market-capitalization ranking of public companies in Japan shows that large ones dominate the list. Toyota Motor Corp., with about 15 trillion yen, is ranked first, followed by NTT DoCoMo and NTT. In the case of IT-related companies, Yahoo Japan appears close to joining the top 10.
By and large, the ranking is in proportion to earnings and assets, indicating that, in the long run, market capitalization reasonably reflects corporate value. This was not the case during the IT boom. For instance, the initial public offering of a certain IT firm exceeded 200,000 yen per share just because it was marketing cell phones. As a result, its market capitalization approached those of large companies. Not surprisingly, its stock price continued to decline in subsequent years.
There are two quick ways to increase market capitalization: by stock splits or acquisition. The former method involves dividing a share at least twice in order to raise the number of shares. A 2-for-1 split is said to be common. Livedoor has carried out three rounds of stock splits in about a year, jacking up the number of its shares 10,000-fold.
This method, however, has been sharply criticized, and with good reason. A share split can distort supply and demand for shares or encourage speculative moves to play the stock market. More to the point, it can cloud an investor’s judgment because market capitalization is increased in a way that does not necessarily reflect profit performance.
Mr. Horie has purchased one small company after another, including an Internet service provider, a bank and a brokerage. These acquisitions have helped increase Livedoor’s market capitalization in a relatively short period of time. Livedoor makes profit mainly from Internet financial services. It is not necessarily doing well in broadband services, its primary line of business. Mr. Horie seems to believe, for now at least, that buying out companies makes better business sense than cultivating his primary field. He has said in an interview that he wants to unite Internet services and media operations. It is tempting to ask, though, whether he may be more interested in speculation.
Economist John Maynard Keynes once said that stock investment was like a beauty contest. The famous remark is a reminder that the world of stock is unpredictable and whimsical. The way Mr. Horie is trying to expand his venture seems reminiscent of the IT bubble that supposedly ended a long time ago.
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