The Search for Drivers to Improve Enterprise Value - How to Drive Up Earning Power and the Growth Expectations -

Insight
Jun 5, 2025
  • SX
1459471512

Given today’s rapidly changing environment, Japanese companies are being called on to transform toward improving their enterprise value, and generating earning power and cultivating growth expectations have become an important part of the management agenda. Furthermore, the number of companies using and disclosing return on invested capital (ROIC). ROIC, which shows the company’s capital efficiency and business profitability by business segment, as a management indicator or indicator of capital profitability, is on the rise, causing ROIC based management to garner attention. The notice of request sent out to companies by the Tokyo Stock Exchange entitled, "Action to Implement Management that is Conscious of Cost of Capital and Stock Price", is serving as a trigger to encourage companies to consider their state of management.

ABeam Consulting hosted a seminar entitled, “The Search for Drivers to Improve Enterprise Value - How to Drive Up Earning Power and the Growth Expectations -”. The seminar focused on improving the enterprise value of Japanese companies and featured Ryohei Yanagi, Executive Advisor at ABeam Consulting and Visiting Professor at Graduate School of Accountancy, Waseda University. Yanagi is renowned for establishing the “Yanagi Model” connecting non-financial capital with enterprise value. The event also featured Koji Nitto, an ABeam Executive Advisor and Director of the Japan Association for Chief Financial Officers (JACFO) who advocates for improving ROIC at the operational level through the implementation of the “Reverse ROIC Tree”. Here we explain the content of the panel discussion between Yanagi, Nitto, and Gaku Saito, Unit Leader of Enterprise Value Strategy Unit at ABeam Consulting, on how to move forward with the initiatives required to improve ROIC, as an indicator of corporate earning power, and improve enterprise value in a fundamental way.

(This article has been re-edited based on the seminar, “The Search for Drivers to Improve EnterpriseValue - How to Drive Up Earning Power and the Growth Expectations -,” held on September 24, 2024.)

Photo: ABeam Executive Advisors Ryohei Yanagi and Koji Nitto

Stakeholder Communications to Generate New Seeds of Growth

In addition to quantifying non-financial capital, another important key step for companies to achieve sustainable growth is to generate new seeds for growth through effective stakeholder communications. Making the equity spread (an investment indicator) positive, or in other words, making the return on equity (ROE) 8% or more to expand the business and achieve a high profitability greater than the hurdle rate, leads to a cycle allowing further investment. Furthermore, that investment enables employees to take on challenges through growth opportunities, generating new seeds of corporate growth and creating a spread that further increases profitability, thereby earning the trust of investors.

Yanagi said, “What is the value creation story that will be truly approved of by investors? To begin with, the investors are not the only stakeholders. For example, the main approach should be to think about how to communicate about the value of non-financial capital and get long term investors and shareholders to understand it.” He explained that in addition to explaining the value of non-financial capital to outsiders, it also needs to be explained to employees to increase their motivation, making them aware that their efforts lead to enterprise value and are deeply meaningful for society. He also raised some points made by foreign investors, saying, “ESG for Japanese companies is stuck at the level of ESG for the purpose of ESG itself. What is needed is ESG that creates management value. Aren’t Japanese companies often using ESG to hide low PBR and ROE?”

In fact, while the Japan’s rate of voluntary integrated report (IR) disclosure is number one in the world, the PBR and ROE values at least put it at the level of the poorest country among advanced nations.
According to the results of a survey of investors carried out by Yanagi,1 more than half of respondents answered that “Japanese companies should show proof of the relationship between ESG non-financial capital and enterprise value.” Yanagi explained, “As proven by the survey results of 100 to 200 global investors collected every year for the past 15 years, the point that needs to be appealed to long- term investors are the relationship between non-financial capital and enterprise value.” Saito added, “Japanese companies tend to look at the numbers in single-year increments, so the ability to explain based on the delayed spread effect of initiatives that emerge after several years is an important point.”

Visiting Professor, Graduate School of Accountancy, Waseda University
Ryohei Yanagi

Yanagi explained, “Long-termism is a prerequisite of the Yanagi Model, and short-termism destroys that equilibrium. The delayed spread effect is built into the Yanagi Model, and proves an increase in enterprise value five or ten years in the future. It is necessary to explain how enterprise value will be increased through management over the next five or ten years through an evidence-based story of correlation, cause, and effect.

He explained that this is also the antithesis of the short-termist. For example, profits will increase if you cut personnel and R&D expenses. One hedge fund proposes significantly increasing earnings per share (EPS) through excessive reduction of personnel and R&D expenses, but Yanagi believes companies should say no to that. Note that it is not convincing to simply explain that personnel and R&D expenses are “investments for the future” that increase future enterprise value. The Eisai case study of the Yanagi Model proves statistically that personnel and R&D expenses increase PBR in five and ten years respectively. Because academic statistical evidence is available in addition to the R&D pipeline and qualitative personnel explanations, it gains the support of long-term investors. You can provide an explanation based on the delayed spread effect and long-termism.

He explained, “The commitment of top management is important. You will gain support by also engaging with outside directors.” When Yanagi was serving as the CFO of Eisai, he explained the importance of hiring and employee training to the employees at the Financial Labor-Management Council by using the Yanagi Model and impact accounting, in addition to explaining the financial statements, which led to receiving the support of the union and increased employee motivation. He explained, “A company is its people. In the end, employee engagement is the most important.”

As explained above, the purpose of ESG initiatives is not the initiatives themselves, but as investment for corporate growth over the mid- to long- term. By properly explaining to the employees how the company will grow over the next five to ten years, it leads to a positive cycle of explaining the long-term outlook to shareholders.

1 Ryohei Yanagi, “CFO Policy <3rd Edition>: Value Creation through Financial and Non-Financial Strategy”, CHUOKEIZAI-SHA, 2023

ROIC Management to Maximize Enterprise Value

ABeam Consulting carried out the Survey on the Evolving State of ROIC Management in October 2023 to understand the state of ROIC management and corporate transformation initiatives at Japanese companies, and clarify the correlation with improving enterprise value, and this seminar touched on the results of that survey. According to the survey results, a comparison of companies with a PBR of 1.3 times or more with companies with a PBR of under 1.3 showed that the factors effecting PBR were whether a varied business portfolio had been arranged and whether there were decisions made about exiting businesses.

Saito of ABeam brought up the example of Omron leaving the automotive electronic components business and asked Nitto about the effect that had on PBR.
Nitto explained, “Investors of course focus on business competitiveness, but as part of that, they particularly look at the executive power of leadership. The PBR is an investor evaluation, so the decision to let go of a business that should be exited, no matter how much the leadership feels attached to it, and no matter how much it hurts the company, has an immense effect on PBR. Looking at the case of Omron, after they announced they would sell the automotive electronic components business, investors praised the leadership for their words and actions, and the enterprise value (market capitalization) rose considerably.”

Director, Japan Association for Chief Financial Officers (JACFO)
Koji Nitto

Nitto explained that when communicating with investors, Omron was under pressure when questioned every year as to why they continued to keep other businesses, such as the automotive electronic components business in their business portfolio when the industrial automation and healthcare businesses were showing a high growth rate and high profitability. They would answer that they were continuing the business to improve enterprise value, because in fact, the automotive electronic components business had an ROIC of over 10% and a high sales growth rate. However, there were unclear factors as well from the standpoint of market share and market growth due to the drastic changes in structure and business environment in the auto industry. So the questions were how the industry would continue to change in a major way in the future, and whether the business would continue to earn in five years even if it was doing so now. They set hypotheses and tested them regarding whether they should continue to pour in profits from the industrial automation and healthcare businesses, repeatedly discussing the question. As a result, they determined that they could not continue to invest the funds and personnel required for adequate continued growth, and made the decision to leave the business. This is a great example that was highly approved of by the stakeholders and led to a varied business portfolio.

Next, Saito asked Nitto how the strategy business unit (SBU) leaders could raise their awareness of ROIC.
Nitto responded with the example of Omron. When preparing their business plan, they broke down their four business companies into 60 business segments and included growth plans for the leadership of each to improve ROIC. Nitto explains, “Each of the four business companies have business processes, and there are many shared assets and processes, so it would be meaningless to break ROIC itself into many parts and then allocate shared costs.”

They instead calculated ROIC for each of the four business companies, and then evaluated a total of 60 businesses under those based primarily on gross profit (rate), R&D costs (rate), and sales promotion costs (rate), all elements of ROIC, to determine the profitability of the companies that comprise the elements of ROIC. Regarding the ROIC denominator (invested funds), they considered how to approach the overall company denominator and raise competitiveness while managing inventory separately across the 60 businesses.
Because they were aiming for ROIC management, all divisions were able to share their preconditions, goals, targets, and execution plans and cooperate towards achieving those goals, thereby finding a way to avoid ending up with only partial optimization. ROIC management cannot be achieved simply by creating indicators and monitoring them. It is important to continue asking the questions of what can be done to raise ROIC and how to allocate resources for growth, and continue to execute (Figure 1).

Figure 1: Identifying competitiveness via the Enterprise Value Map

Pursuing the Root of Competitiveness of Company

The point to maintain and increase competitiveness is to define the purpose and battlefield of the company, clarify the mechanism for improving enterprise value, manage both extended reproduction and competitiveness, and continuously spiral up (Figure 2).

Omron changed directions to raise profitability by shifting from selling goods to selling solutions for their industrial automation business. It is essential to engage in joint research with top companies in the key industry when selling solutions, while it is also necessary to understand the customer problems.

It is difficult to ever truly understand the customer when just selling parts, so it is important to gain an understanding of the customer by visiting them regularly and increasing sales capabilities. Furthermore, software quality becomes a key word when shifting from selling goods to selling solutions, and solid solutions can be created by increasing and training competitive software engineers and further breaking out of the inhouse mentality to collaborate with partners. As a result of doing that, Omron was able to increase their joint research with top companies in the industry.
Nitto explains, “It is important to have a clear sense of the scenario to show what the root of competitiveness is and what is needed to change that into profits.”

He explains that companies have both deep and surface competitiveness, but that it is important to build deep competitiveness. For example, if a company only pursues the outward numbers regarding the ratio of women managers or the use of reduced working hours for childcare, both felt to contribute to mid- to long- term enterprise value, it will not lead to competitiveness.
Yanagi explains, “Cause and effect and correlation are all required. The Yanagi Model proves that, in the case of Eisai, when the ratio of women managers rises 10%, enterprise value increases seven years later. But to achieve that, it is important to consider what kind of value you want to create by transforming the business processes and culture behind the numbers, such as training and reduced working hours for childcare, support systems, and top leadership mentality.”

And the point from the standpoint of investors is long-term investment. For example, patent and consumer business models have high entry hurdles but also the roots of growth. The same is true for the pharmaceutical company pipeline. The connection with non-financial capital assumes innovation and R&D, and the selection standard and amount of investment on those two factors is what reaches investors.

Yanagi explains, “The non-financial and financial are connected. Excellent products, services, and business models are the root of innovation. But for the governance formation which carries those factors to function properly, in the end it is important to go as far as the purpose thereof and break that down into the spread of the company principles and the actual business. By creating a story for enhancing non-financial capital and achieving it, you can create the roots of competitiveness and barriers to business entry.”
Nitto adds, “One point moving forward will be building competitiveness and speed for business processes.” How can one change their company and create value when seeing the drastic changes in the world? The first step to answering that is to visualize and quantify business value and social value.
Further points are communicating with shareholders and employees about how you will connect with this competitiveness and roots for the future, and investment in transformation including both human and intellectual capital.

Figure 2: Managing the extended reproduction cycle and competitiveness

Conclusions

We learned from the discussion that in order to increase the company price book-value ratio (PBR), it is important to visualize non-financial information and intangible assets and provide an explanation of how that is related to the roots of  competitiveness after setting quantitative KPI. To achieve this, not only is it important for the leadership to demonstrate a stance of proactive investment, sharing that story with shareholders and employees, it is also necessary to go beyond short-term, single-goal measures and maintain transformative capabilities, invest in non-financial capital, and strive for continued company growth.

ABeam Consulting provides a wide range of support for ROIC management and improving enterprise value based on our knowledge and experience cultivated through our countless management transformation projects to date.

We will continue to contribute to the achievement of speedy and assured ROIC management by providing consulting services in accordance with the goals and evolutionary stage of each company.

Below are the results of the survey on the state of ROIC management and corporate transformation initiatives at Japanese companies carried out by ABeam Consulting in October 2023.
https://www.abeam.com/jp/ja/insights/roic_management_report/

The following are services that support the enhancement of corporate value by converting and visualizing the impact that companies have on society as a whole into monetary value.
https://www.abeam.com/jp/ja/expertise/sl403/


Professionals

Contact

Click here for inquiries and consultations