The admission by Olympus that it had over-inflated the cost of buying a series of companies in 2008 to hide over US$1 billion of investment losses dating back to the 1990s is shaping up into one of Japan’s biggest-ever accounting frauds.
It has led to an investigation by the Tokyo Metropolitan Police, caused Olympus to lose three-quarters of its stock value, and could cause it to be de-listed from the Tokyo Stock Exchange.
These developments appear to have vindicated Michael Woodford, the British former president and CEO of Olympus ousted in mid-September for trying to hold its board to account for the cost attached to four M&A payouts.
It was a July article in Japanese magazine Facta that first alerted Woodford to suspicious payments amounting to US$687 million connected to the Olympus acquisition of UK medical technology maker Gyrus and of inflated prices paid for three small Japanese firms—News Chef, specialising in microwave cookware; Humalabo, a maker of face creams; and Altis, a medical waste recycler.Woodford’s would-be nemesis, former Olympus chairman and president Tsuyoshi Kikukawa, has resigned after the company admitted its cover-up, while vice-president Hisashi Mori has been dismissed. Another Kikukawa confidante, auditor Hideo Yamada, has offered to resign.
Some or all of them could face jail time if found to have broken Japan’s securities laws.
Olympus president Shuichi Takayama, who last month stated, on behalf of the board, that the acquisitions “were handled with appropriate evaluations and procedures” and were “in no way improper,” has been forced to eat his words.
However, Takayama has ruled out reinstating Woodford, who, in turn, is demanding that the entire Olympus board resign.
Asiamoney interviewed Woodford at length in an apartment overlooking the River Thames in London, where he and his Spanish wife fled for safety in October after Facta reported that some of the money might have found its way to Japanese organised crime.
In the interview, which took place a few days before Olympus admitted to making the M&A payments in order to cover its investment losses, Woodford explains why he first fell out with Japanese top management over Gyrus, and why Kikukawa took the extraordinary step of making him president.
He also speaks of his horror at discovering the cover-up, of what the scandal has taught him about Japanese corporate governance, and what Olympus needs to do now to recover its shattered reputation.
Asiamoney (AM): Why, this year, did Tsuyoshi Kikukawa choose you for president and CEO of Olympus, if he wanted to conceal these huge M&A payouts?
Michael Woodford (MW): “He never thought I would know about them, and he needed someone who could turn the business around quickly.
“Olympus is the seventh-most indebted company in Japan. It has a debt-equity ratio of over 500%. It’s got borrowings of US$6 billion. So the balance sheet is massively leveraged.
It has to be able to fund all that borrowing, and you’ve got all this goodwill sitting there because of all this bizarre M&A activity, including the US$700 million fee [for acquiring Gyrus] that I understand was put into goodwill.
“So he needed somebody who could generate free cash flow to pay down these borrowings. I was the person who had made Europe dramatically more profitable for Olympus. So ‘Bring Woodford in! He’ll work his tootsies off around the world to enhance profitability!’
“I would deliver the profits, while Kikukawa would have been seen as a great visionary for picking the Westerner salariman (Japanese slang for a salary-remunerated executive). Then, at the end of my four years, I think he would have appointed [Hisashi] Mori as the next president.
The company would have recovered its financial footing, while all these issues would have been pushed right down the line. Another Japanese manager in Kikukawa’s inner group would have been able to take over and make sure these secrets of the past, such as the US$700 million, were never questioned.
And that is not an illogical way of thinking, because if there hadn't been that whistleblower, if Facta hadn’t published, it just wouldn't have gone anywhere. Even then, just look at the lack of response by the Japanese Press when the story broke.”
AM: Why do you think institutional investors and the Japanese media ignored it?
MW: These are issues Japan has to confront. Why didn't one journal pick up on what Facta was saying? Why didn't Japanese shareholders ask what truth there was in the story?
The first Facta report was published on the 20th July. I went back to Japan on the 28th. I went out on Sunday 31st July with a Japanese friend who is a distinguished businessman, and it was he who translated it for me and talked me through it.
I thought I didn’t have to worry, because this will be picked up. On the Monday I went into the office to see how it would be presented to me, but no one said anything. In the afternoon I found a couple of people I trusted and showed it to them, and they said ‘We have been instructed by Mr. Kikukawa not to tell you.’ And that instantly bothered me.
AM: What did you do?
MW: I was desperately hoping it couldn't be true, so on the Tuesday I called a meeting with Kikukawa and Mori. We had a sushi lunch. They were very good humoured until I got out the Facta article and showed it to them. It was very detailed with all these flow charts, and the atmosphere in the room changed instantly.
Kikukawa admitted straight off, ‘I gave the instructions, Michael, that you were not to be told, because you are too busy, because you are the president. Please don't worry about it. It's a domestic issue.’
I was having none of it. I said, ‘I’m the president. I’m the person who is interfacing with our stakeholders. What’s the substance behind these allegations? They are very serious.’
They became agitated, evasive. It was totally unsatisfactory, one of the most disturbing meetings I have ever had.
That same afternoon I met just with Mori, and I said, ‘Can you explain? I knew we had paid US$2 billion for Gyrus which was a very high valuation [and one Woodford says he almost resigned over], but what’s this extra US$700 million?’
And he started telling me this story about ‘A’ preference shares. At that point of time, I did not know what the hell he was going on about, because we had bought the company outright. There was no minority interest in it.
I tried to push him, and he just stopped. No more words. I pushed hard. I was becoming agitated. I was asking somebody who reports to me. I moved on to the three Mickey Mouse companies we also bought in 2008, and I said, ‘Come on, Mori-san. Face cream! Who are you kidding? Plastic plates and dishes!’ With these companies there was no market price. They weren’t traded. Their turnover was tiny.
I could see he was troubled. He was talking complete nonsense about other companies being interested in them. It was getting more and more ridiculous. So I said, ‘Mr. Mori. Who do you work for?’
His answer shocked me. I thought he would say ‘Olympus.’ And he said, ‘I work from Mr. Kikukawa. I am loyal to Mr. Kikukawa.’ That’s what he said.”
AM: What has the scandal taught you about Japanese corporate governance?
MW: The need for remuneration and appointments committees at board level. How can you have powerful, really meaningful non-execs? How do you achieve that? Those three points. They are very fundamental questions.
There is no remuneration committee at Olympus. Mori received a [substantial] salary increase last year, awarded by Kikukawa, to what is a very high figure by Japanese standards. Kikukawa’s salary was only adjusted by a very small percentage when I took over from him as president. When I asked him about his own salary, he told me that it had been agreed in a chat with Yamada, who used to lunch with Kikukawa most days, and Mori, his right-hand man.
There is no appointments committee either. What you have there is the incumbent choosing a successor, which leads to a culture of sycophancy, of yes-men.
These transactions went through the board. The Gyrus payment I think was approved five months later by the board. That tells you something about the non-execs as well…they are such nonentities.
AM: What of Japanese accounting standards?
MW: The UK partnerships of KPMG and Ernst & Young qualified the accounts of Gyrus Group after the Olympus acquisition, but this dropped out of the Olympus consolidated audits by their Japanese partnerships.
Of the US$687 million total payment to AXES/AXAM, US$620 million was paid through Olympus Finance UK, of which Mori was a director, to AXAM in the Cayman Islands…In conventional accounting, such a huge amount would have to go in the [audit] consolidation. The US$620 million would have gone out, and many people would have asked lots of questions.
But it didn't. So either it should have been included, or accounting standards in Japan need to be revised urgently.
AM: Before the scandal, what had you been planning as Olympus CEO?
MW:I knew I could very quickly improve the profitability in America. That was a low-hanging fruit. I knew the company in Japan had a massive SG&A [selling, general & administrative expenses] which had grown like topsy. If you reduced it back to where it was five years ago, as a percentage, you would have increased the profits of the company by a factor of three. It was poorly managed in that way. So America, and SG&A across the group, particularly in Japan.”
AM: Should you now return as CEO, what would be your priorities?
MW: To move forward, Olympus has to go through three really basic steps.
First, all the board, execs and non-execs, have to go. There are strong managers underneath the board who could be put in position.
Secondly, you need forensic accounts to go through every part of the company’s M&A activity in the Kikukawa period, with any relevant findings passed to enforcement and regulatory agencies in Japan.
Thirdly, you need to carry out an impairment test on the goodwill, because the company’s intangible assets are bigger than the fixed assets. That really needs to be done. You have to have confidence in the accounting. If a charge has to be taken, it has to be taken.Then you can start rebuilding. Olympus should have a very bright future if you do these things, because fundamentally its medical business is extremely sound and extremely profitable. It generates over US$1 billion [per annum]…The weakest part of the company is [its] board.