The government¡¯s new push to encourage companies to use their cash for longer-term growth is raising concerns it will lead to unprofitable investments and erode corporate value.

Guidance by the economy ministry last month urging firms to focus more on mid- to long-term growth, with the aim of boosting capital spending and wages, is at odds with the Tokyo Stock Exchange (TSE)¡¯s directive to improve how companies are run, according to analysts.

¡°There¡¯s much more of a risk of losses, as well as deterioration in corporate value, if companies rush to unprofitable investments,¡± said Ryohei Yanagi, a visiting professor teaching corporate governance at Waseda University. Growth investment should only be made if expected returns exceed a firm¡¯s cost of capital and create value, he said.

One factor driving Japan¡¯s benchmark stock indexes to record highs is the increase in share buybacks and dividend payments, spurred by the Tokyo bourse¡¯s push for better capital efficiency and the rise of activist investors.

Pressure from the government toward encouraging unnecessary investment may undermine this progress and derail the market rally.

Japanese companies spent 7.4% of revenue on capital spending last year, broadly in line with the 8% for the United States and Europe¡¯s 7.1%, according to analysis by Jefferies Financial Group. The figures for Japan include MSCI components only and are adjusted on a U.S.-sector basis.

Pushing companies invest where there¡¯s little or no demand is ¡°counterproductive,¡± said Shrikant Kale, a Jefferies¡¯ analyst. ¡°It¡¯ll cause return on equity to decline.¡±

Growth investment has made sense for sectors such as semiconductors, where demand is booming, and has been rewarded by investors. Take toilet maker Toto, which is increasing spending in the semiconductor area to more than half of total capital expenditure. Its shares have risen more than 90% this year, outperforming the 19% gain in the benchmark Topix Index.

Copper miner JX Advanced Metals and monosodium glutamate-maker Ajinomoto as well have expanded into chip-related materials. Their stock has soared 123% and and 74% this year respectively.

The real problem is the lack of investment opportunities that has sent cash hoards at Japanese companies to record levels, according to Katsunori Tanaka, chief investment officer of Japanese hedge fund Ariake Capital. The government needs to deregulate to make the market mechanism work better, he said.

Japan has made progress in improving shareholder returns in the form of selling off unused assets and land, elimination of cross-shareholdings, higher dividend payouts and bigger share buybacks.

Shareholder returns have seen persistent increases, with dividend payments hitting a record ?21.7 trillion ($135 billion) and total payouts combined with buyback programs reaching more than ?45 trillion in the fiscal year ended March. Asset sales by listed Japanese companies...