Zaibatsu and "Keiretsu" - Understanding Japanese Enterprise Groups

Anybody who is familiar with Japan will recognize the words zaibatsu and keiretsu. Few, however, know of their meaning and historical significance. This article will explain the origin, historical significance and the current circumstances of Japan's enterprise groups, all of which we loosely tend to refer to as zaibatsu and keiretsu.

Zaibatsu Formation in the Meiji Era (1868–1912)

Zaibatsu generally refers to the large pre–WWII clusterings of Japanese enterprises, which controlled diverse business sectors in the Japanese economy. They were typically controlled by a singular holding company structure and owned by families and/or clans of wealthy Japanese. The zaibatsu exercised control via parent companies, which directed subsidiaries that enjoyed oligopolistic positions in the pre–WWII Japanese market. These economic groupings crystallized in the last quarter of the 19th century during the Meiji Reformation.

Zaibatsu first became a popular term among management and economics experts when the term appeared in the book History of Financial Power in Japan (Nihon Kinken Shi) as published late in the Meiji Era. Even in Japan, the term was not commonly used until the mass media adopted it in the late 1920's.

The zaibatsu were formed from the Meiji government's policies of state entrepreneurialism, which characterized the modernization of the economy during that era. To understand the significance of zaibatsu, one must consider at the onset of the Meiji era, agriculture comprised 70% of Japan's national production, and approximately three quarters of Japan worked in farming related jobs. The government used land tax revenues to fund the state planning, building and financing of industries determined by bureaucrats to be necessary for Japan's economic development. Meiji bureaucrats did not rely on the free market in reforming the economy, but they also did not develop the economy alone.

In the 1880's the Meiji government sold some government–owned enterprises on special terms to a chosen financial oligarchy implicitly entrusted with the public interest in developing the national economy. These enterprises were entrusted to the influential concerns known as the Mitsui, Mitsubishi, Sumitomo, Yasuda, Okura and Asano groups.

These private parties and enterprises crystallized over time into large, integrated complexes steered by the government bureaucrats into areas of development desired for the reformation of Japan. To secure compliance, the government provided inducements such as exclusive licenses, capital funding, and other privileges. Although Japan badly needed foreign technology, know–how and capital, the government adopted a policy of shutting out foreign entrepreneurs with few exceptions in favor of domestic development.

After WWI, when Japan's economy made huge strides in economic reformation, the zaibatsu interests began to enter the political arena to support their interests. Their activities became entwined with the government in wartime Japan. Eventually, the Potsdam Declaration that was signed in 1945 required the liquidation of the zaibatsu as one step to democratize Japan's post–war economy.

Zaibatsu Control Structures

Unlike the current situation in Japan, it is said that the zaibatsu stockholders were relatively strong. While zaibatsu holding companies directed the enterprise complexes in a pyramid fashion, stockholding relations cemented together the companies within zaibatsu complexes. Characteristics of the complexes included holdings by members of more than half of the holding company's stock, and the position of the holding company as the overwhelmingly largest shareholder of companies within the complex. The stock of members was rarely sold by other members to third parties. Under this structure, zaibatsu and their leading holding companies drove the finance, heavy industry and shipping sectors that forged the heart of Japan's economy.

By the 1920's zaibatsu economic power engulfed the sectors of finance, trading and many major large–scale industries. From 1914 to 1929, three zaibatsu (Mitsui, Mitsubishi and Sumitomo) controlled 28% of the total assets of the top 100 Japanese companies. Even as of 1945, the same complexes possessed 22.9% of the total assets of all Japanese stock companies.

As will be explained in Part II of this series, subsequent to the liquidation of the zaibatsu pursuant to the Potsdam Declaration, new enterprise complexes and groups that resembled the zaibatsu were resurrected in Japan. There are, however, significant differences that distinguish the zaibatsu from the modern keiretsu.

Origins of Keiretsu

The prior section of this article explained the origins of pre–WWII zaibatsu. This part discusses the dissolution of the zaibatsu and origins of the current company groups known as the keiretsu

Zaibatsu Dissolution: By 1945 the zaibatsu had grown to control a significant portion of Japanese trade and industry. During the Allied occupation, the zaibatsu were liquidated in order to "democratize" Japan's economy. In addition, for the purpose of controlling concentrations of economic power, special provisions were included in Japan's Antimonopoly Act for the specific purpose of forbidding holding companies and limiting the acquisition by financial enterprises of stock of other companies. In hindsight these provisions might appear to have been ineffective barriers to the creation of excessive economic control and equally ineffective as measures to ensure competition in Japan's economy. These arguments were made when Japan enacted the Act for partial Amendment of the Antimonopoly Act in 1997 by which act Japan finally eliminated the 50–year old ban on holding companies.

The zaibatsu were dismantled by:

  1. destruction of pyramid control structures via liquidations,
  2. public dispositions of zaibatsu–owned shareholdings,
  3. reorganization of large existing monopolies, and
  4. strengthening of the legal prohibitions on monopolies and unfair competition.

The Imperial Order of 1946 Concerning the Restriction, etc., of Securities Holdings by Companies also forbids certain interlocking relationships among former zaibatsu members via personnel, shareholding, loans, and contractual ties. In all, 1200 companies and 56 individual members of zaibatsu families had their assets frozen and transferred to what was known as the Holding Company Liquidation Commission.

Political Overtones of Dissolution: While the Allied presence influenced the dissolution of the zaibatsu, there are also suggestions that bureaucrats in Japan desired to liquidate the zaibatsu for political reasons of domestic politics, including perhaps for the purpose of strengthening the Ministry of Finance's (MOF) control over Japan's economy. From the late 1930's, powerful Japanese stockholders were also under public attack for emphasizing private profit interests over what were perceived to be public interests and the interests of labor. On the domestic level, zaibatsu became targets of social resentment, and managers of leading zaibatsu were sometimes even subject to terrorist attacks. The theory that zaibatsu dissolution implicated a power coup between the MOF and the zaibatsu rather than a real desire to eliminate concentrations of economic power is arguably consistent with the circumstances which followed dissolution, namely, the emergence of new and powerful corporate groupings in Japan.

New Corporate Groups – Emergence of Keiretsu: Within years of dismantling the zaibatsu, changes on both the domestic and international fronts are thought to have led to a relaxation of regulations upon the concentration of economic power in Japan. On the latter front, following the establishment of communist China, U.S. foreign policy toward Japan could be seen shifting to one supporting a shoring up of Japan's economic power. Secondly, industrial growth and increased production capacity in Japan supported the U.S. need for supplies during the Korean War. Domestically, legislation in 1949 and subsequently in 1953 relaxed restrictions under the Antimonopoly Act. By 1953, financial companies were permitted to own up to 10% of the outstanding shares of non–financial companies and the prohibition upon holding the stock of competing companies was eliminated.

Government policies in support of economic and industrial growth also tended to promote a new pooling of resources and grouping of enterprises during this period. When the Korean War ended and some large industrial companies faced over capacity problems, governmental policies supported greater cooperative efforts among enterprises. For example, in 1953 the Ministry of International Trade and Industry's (MITI, now known as METI) Industrial Rationalization Counsel called for the grouping of trading and manufacturing companies to concentrate scarce capital in the domestic economy. Antimonopoly restrictions were also relaxed during this period. In this environment the currently existing corporate groups began to crystallize.

By the 1960's six "quasi–zaibatsu" had emerged, including the following groups: Mitsui; Mitsubishi; Sumitomo; Fuyo; Sanwa; and Dai–Ichi Kangyo. Of these six, Mitsui, Mitsubishi and Sumitomo have been called the most direct successors of the pre–war zaibatsu. In contrast to actual zaibatsu, however, large financial institutions, under the influence of MOF, have been said to play a central role in corporate governance. The current groups are arguably so substantively different from original zaibatsu that it could be misleading to refer to them as "quasi"-zaibatsu.

The current company groups that we often loosely lump together and refer to as keiretsu¸ include horizontal and vertical company relationships, and sometimes business ties that are held together not by capital but by mere transactional relationships among enterprises. The central role of main banks in corporate governance greatly distinguishes these groups from the zaibatsu.

Current Company Groups

This section of the article will explain typical structures of the current company groups.

Current Company Group Types: As explained in earlier sections of this article, keiretsu is a vague term. The company relationships in Japan that we often hear referred to with this term are probably more diverse in their structure than is generally understood. For example, unlike the zaibatsu, current company groups include not only vertical company relationships, but also horizontal relationships tied together by capital, and company groups tied by transactional rather than capital relationships. These post–WWII intercompany relationships generally can be categorized into three groups:

  1. the "Big Six" enterprise complexes (Mitsui, Mitsubishi, Sumitomo, Fuyo, Sanwa and Dai–ichi Kangyo, known as the Rokudai Kigyo Shudan in Japanese); provided that some these groups have intermingled during the recent restructuring of the banks and banking systems in Japan;
  2. vertical company groups, which are held together by capital ties and are typical of large manufacturer company groups; and
  3. companies tied to groups by business relationships, such as assembler – supplier relationships.

The Big Six – Typical of the Horizontal Type: The Big Six constitute what many people think of when the term keiretsu is mentioned. These company groups are said to typify the horizontal–type keiretsu because the group's business interests extend into diverse fields. Over the years these groups have been characterized by stable vertical cross–shareholding relationships, horizontal affiliations that reach to diverse markets, and possession of large–scale economic resources. Shareholding and other ties of affiliation may be held together through strategies such as cross–stockholding, the dispatch of executives and regular meetings of the companies' presidents (shacho kai).

Common denominations of the Big Six include that each has (or had) a central city bank, general trading company, and insurance company within the complex. It remains to be seen how the recent consolidation of these banks, trading companies and other institutions will affect the longstanding ties within these complexes going forward.

The Big Six have historically had great influence upon the Japanese economy. A 1992 study of the Big Six indicated that while only 0.007% of the registered corporations in Japan were members of the Big Six, this small percentage of the company population controlled 19.29% of the capital, 16.56% of total assets, and 18.37% of sales revenue among such corporations. The typical percentage of intra–group stockholdings among companies in the Big Six has been calculated at approximately 20%. Traditionally, approximately one–third of the cross–shareholding relationships have been coupled with not only capital ties but also transactional business relations. A large number of the vertical company groups (explained below) are also found to be aligned within the Big Six.

Vertical Company Groups: The typical vertical company group is held together in an umbrella–like form with a large–scale enterprise at its apex. In contrast to the zaibatsu and Big Six, the scope of business of these vertical company groups tends to be more closely connected to the original industry of the leading enterprise. Matsushita, ITOCHU, Hitachi, Toshiba, NTT, Tokyo Electric Power and Toyota could be pointed out as examples of this type of vertical company group.

In addition to capital ties, long–term contracts, financial and technological support have all been more or less a part of the foundation that holds together these company groups. Spin–offs have in certain cases led to the expansion of these groups whereby individual plants or divisions became separate legal entities, which entities remained wholly–dependant upon the leading enterprise. One study indicated that in 1995 the largest 30 groups were comprised of approximately 12,577 subsidiaries and affiliated entities.

Overview and Summary: It has been said that the extent of control that members of keiretsu actually hold over other members is difficult to quantify. Some have pointed out that the relationships of control are not necessarily unilateral because subsidiary companies have also been known to exercise de facto influence over parent companies; for example, as suppliers of production units. It may, therefore, be an over–simplification to view the keiretsu as simply top–to–bottom relationships. There can be no doubt, however, that the financial, technological, transactional and managerial ties among companies in the Big Six and the vertical company groups have had a central role in defining not only the economic landscape within Japan but also the advance of Japanese interests overseas.

As a result of recent consolidation in the Japanese market, there is some speculation that the ties that bind company groups in Japan could be loosening. Foreign investors hope that this phenomenon will provide opportunities for foreign financial investors, lenders, foreign suppliers of goods and services, etc., to develop business relationships with companies who previously tended to transact primarily with their corporate groups. If these hopes become reality, the ability of foreign investors and suppliers to offer better prices, innovative solutions, quality, etc., will be important in markets where relationships were once the supreme competitive advantage. If the traditional ties among company groups continue to weaken, the need for consolidation and rationalization of supplier relationships, etc., may also lead to domestic and strategic foreign M&A opportunities as the members of corporate groups seek to consolidate to meet the requirements of an increasingly competitive market place.

Readers interested in recent works on the history and function of Japanese corporate groups might be interested in the following books and articles:

  • Beyond the Firm (Business Groups in International and Historical Perspective), edited by Takao Shiba and Masahiro Shimotani (Oxford 1997)
  • The Japanese Firm (Sources of Competitive Strength), edited by Masahiko Aoki and Ronald Dore (Oxford 1994)
  • The 1997 Deregulation of Japanese Holding Companies, Vol. 8 Pacific Rim Law & Policy Journal, No.2 by Andrew H. Thorson and Frank Siegfanz (1999 Pacific Rim Law & Policy Journal Association)

Article courtesy of KWR International, Inc.