Corporate Japan: Back on track

Back in the late 1980s, Japan’s dealmakers made waves with their acquisitions of trophy assets such as Columbia Pictures in the US. The spectre of ruthless Japanese corporations plotting world domination was credible enough for big budget Hollywood films – such as Rising Sun in 1993.

Thrilling entertainment, no doubt; but a poor indicator of what was really to come. Two decades of meagre economic growth that fed an all-pervasive mood of introspection – now popularly known as uchi-muki – led to corporate Japan adopting a more low-key role. Until now. Last year, outbound acquisitions soared to all-time highs – without sparking the breathless furore, or the Hollywood fictions, seen more than 20 years ago.

Tokyo’s latest drive for international growth in the face of a stagnant domestic economy represents an important regrouping for a nation that has suffered a critical loss of momentum. By 2010, Japan had lost its status as the world’s second-largest economy and its companies increasingly fretted about intense competition from China and South Korea.

Overseas mergers and acquisitions – which reached $84bn last year – offer a way to punch back. Armed with a strong yen and spurred into action by last year’s tsunami, Japan’s companies are expected to post an even greater total this year, according to Dealogic, a research firm. Ten years ago, Japan’s outbound purchases totalled only $8.5bn. The latest deals range across sectors as diverse as commodities, breweries, advertising and pharmaceuticals.

Landmark acquisitions of the 1980s and 1990s, such as Mitsubishi Estate’s investment in New York’s Rockefeller Center and Matsushita’s purchase of MCA, owner of Universal Pictures, fuelled fears that Japan was buying up America’s soul and was willing to overpay for it.

Now bankers say Japanese companies are taking a far more disciplined approach backed up with intense due diligence.

Marubeni, a trading house, made headlines in May when it acquired Gavilon, a US grain exporter, for $5.6bn including debt. This was Japan’s biggest outbound deal of the year and has come to define an assertive new spirit.

Founded in Osaka in 1858, Marubeni in many ways epitomised the methodical and consensus-based decision-making of a prototypical Japanese company: it was hardly a hot favourite to make a big deal on the windswept prairies of Nebraska. As such its sudden taste for a bold international buyout revealed the pressure to head abroad. “We have seen a change in mindset among many Japanese corporations, particularly after the tsunami, and an increased urgency to diversify end markets and supply chains,” says Jonathan Rouner, head of Americas M&A at Nomura, the Japanese bank. “Along with the strength of Japan’s currency, this has made acquisitions abroad particularly attractive.”

Still, while Japanese companies are reasserting themselves internationally, they are also keen to avoid the overspending mistakes of the past.

These were certainly not confined to the 1980s. In the early 2000s NTT DoCoMo, a mobile services operator, paid huge sums for minority stakes in overseas operators, ranging from AT&T Wireless to KPN Mobile, and was later forced to take writedowns of nearly Y13bn ($166m). Many of these deals subsequently unravelled as Japan’s asset bubble burst and the country entered a prolonged period of deflation and weak economic activity.

“In the 1980s it was about buying it just to buy it. M&A was a whole new concept in Japan,” says Yuichi Jimbo of Citigroup Global Markets in Tokyo. “Now they have learnt from those experiences and mistakes. People are much more disciplined when it comes to paying high multiples.”

The need for more strategic, if aggressive acquisitions has perhaps never been more acute. Last year’s tsunami and subsequent nuclear disaster threw Japan into tumult and exposed an over-reliance on Asia for sales, sourcing and manufacturing. Floods in Thailand, which further disrupted the regional supply chain, amplified this painful realisation.

Corporate Japan is also alarmed its domestic market is shrinking. “If they ever want to grow, they have to go overseas,” says Mr Jimbo.

Japan’s population is expected to fall by about 800,000 every year before hitting 86.7m in 2060, or 32 per cent below the level of 2010, depressing demand for everything from snacks and baby clothes to financial services.

The good news is that conditions have rarely been so favourable for Japanese buyers. The country’s commercial powerhouses are flush with cash and are enjoying an environment of low interest rates in which banks are desperate to lend. Japanese companies had Y215tn in cash at the end of March, according to the Bank of Japan, an amount equivalent to the gross domestic product of France.

Given this, it is not surprising that a government programme to use up to Y10tn in foreign exchange reserves to provide low-rate loans for overseas M&A has barely been used.

The loans, which are being made through the state-owned Japan Bank for International Cooperation, are aimed at making the best of the yen’s surge, which has hurt the competitiveness of exporters. Since the programme was announced last September, JBIC has extended $8.86bn in loans for 14 investments, including $3bn for the purchase of the aircraft leasing arm of Royal Bank of Scotland by Sumitomo Mitsui Bank, Sumitomo Finance and Lease and Sumitomo Corporation.

For Japan’s brewers the country’s declining population has already had far-reaching consequences: in the search for new drinkers, beermakers are now looking abroad, writes Michiyo Nakamoto.

Domestic demand for beer and similar beverages has been shrinking for nearly two decades. Over that time, sales from the top five brewers have fallen 22 per cent by volume, according to industry data.

The situation has forced Japan’s largest beer companies to become acquisitive. Kirin, the biggest brewer by sales, pledged in 2009 to almost double overseas revenues to 30 per cent by 2015. To do so, it has bought Lion Nathan, National Foods and San Miguel Brewery in the Asia-Pacific region, as well as Schincariol, Brazil’s second-largest beer group. Asahi Beer, Kirin’s arch-rival, acquired Schweppes in Australia as well as New Zealand-based Independent Liquor.

Japanese pharmaceutical companies have also taken to cross-border mergers and acquisitions in order to gain a foothold in emerging markets and acquire drugs other companies have been working on.

Last year Takeda, Japan’s largest drugs group by sales, struck the largest Japanese deal in recent years by paying €9.6bn for Nycomed, a Swiss pharmaceutical group. That followed the purchase of Millennium Pharmaceuticals for $8.8bn in 2008. Astellas, another Japanese group, even went hostile in its determination to acquire OSI, a US biotechnology company.

Meanwhile, in a bid to capitalise on growing demand for resources, from food to fuels, Japanese trading companies have been scouring the globe for investment opportunities.

Mitsubishi Corporation, Japan’s leading trading company by sales, pledged to invest as much as Y1.2tn ($15bn) in minerals, oil and gas in the three years to March 2013.

This shift of Japanese corporate activity overseas is transforming the country’s economic make-up.

“Japan used to generate most of its current-account surpluses from trade but seven years ago you actually started getting greater investment income surpluses than trade surpluses,” says Naomi Fink, head of Japan Strategy at Jefferies, an investment bank. “I see no reason why this trend won’t continue.”

Signs that Japanese buyers are taking advantage of this environment abound. In particular, dealmakers around the world say the Japanese have exhibited a big shift in tactics that is allowing them to compete more effectively with US and European rivals.

…

People close to Marubeni say it shed its conservative cultural baggage and mounted an aggressive campaign to win the deal. It was among the first to pursue Gavilon, conducted the most thorough due diligence of any bidder and beat its competitors in an auction.

“In the US, you can call the board together over the weekend on a conference to approve a deal. That is generally not the case in Japan,” says Mr Rouner of Nomura, who advised Marubeni on the deal. “One element of Marubeni’s success here was making its internal approval process work without compromising its competitiveness in the auction.”

In the past, a lack of experience and slow decision-making meant Japanese companies often failed to participate in – much less win – auctions. But now, “many Japanese companies have become very experienced to the extent that if a compelling situation comes up, even a fast-track auction, they can get themselves organised at a couple of days’ notice”, says Steven Thomas, head of Japan M&A at UBS in Tokyo.

Japanese companies have also learnt that minority stakes seldom bring about desired business synergies. Shoichi Nakamoto, chief financial officer of Dentsu, Japan’s largest advertising agency, says it enjoyed “hardly any operational synergies” with its 15 per cent stake in Publicis, worldwide number three in the sector, which Dentsu sold this year.

That is a key reason Dentsu is putting up $4.9bn for 100 per cent control of Aegis, a UK advertising agency. “Our involvement in management will be greater so we won’t be making the same mistake,” Mr Nakamoto says.

An early pioneer of cross-border M&A, Japan Tobacco has an approach to acquisitions that exemplifies the strategic approach that is becoming more common. Before approaching a potential M&A target, JT conducts rigorous assessments, says Yasushi Shingai, the company’s executive deputy president.

For example, before JT acquired Gallaher, a UK-based cigarettes group, for $15bn in 2007, it studied the company for three years. “Unlike the studies of investment banks, we look at each country, each market, each factory, each brand,” Mr Shingai says. JT also had an integration plan ready by the time it announced the deal.

The emphasis on integration is especially important for Japanese companies, which are often acquiring targets in countries with vastly different cultures. “While Japanese clients are looking for value, they are most focused on integration,” says Hernan Cristerna of JPMorgan. “How to do it successfully? Will management stay on board?”

…

To be sure, some investors continue to complain that Japanese companies tend to overpay for their overseas acquisitions. The return on equity of Japanese overseas acquisitions after three years is lower than the return on domestic acquisitions, according to research by Naomi Fink of Jefferies, an investment bank.

In some cases, the reluctance to renegotiate or walk away from a deal has had painful consequences. Daiichi Sankyo, a drugmaker, was forced to take a Y359bn writedown in 2009 within months of buying Indian generic drugs group Ranbaxy after its share price plunged in the face of problems with US regulators.

Nomura’s experience after acquiring the non-US businesses of Lehman Brothers after it collapsed in 2008 underlines the pitfalls of looking to acquisitions as a shortcut to global expansion. While the Lehman deal transformed Nomura’s presence in the Europe and Asia, it has so far failed to turn Japan’s largest investment bank by revenues into a global force.

It is still too early to tell whether the more sophisticated approach of Japanese buyers in recent years will enable them to reap the full benefits of their acquisitions or whether they will find, once again, that they have overpaid for questionable benefit, says Shoichi Niwa of Recof, an M&A advisory group in Tokyo.

What is clear is that Japanese companies are increasingly determined to globalise their operations and have embraced M&A as an effective means to do so, he says. They may end up paying a high premium or struggling to control management, but their inexorable pursuit of global opportunities indicates these are risks that Japanese companies are willing to take to achieve their strategic goals.

Today, these goals seem ever more pressing for Japan. “Losing the second-largest economy status doesn’t mean much, it’s just symbolic,” says Mr Jimbo. “But it stays in people’s minds.”

Japan may never again rival China’s GDP, but nor is it content to see its status as a global economic powerhouse slip away.

“Japan’s GDP used to be close to 20 per cent of the global economy,” says Hiroshi Mikitani, chief executive of Rakuten, Japan’s largest online retailer, which has been snapping up overseas businesses in recent years. “But within 20 to 30 years, the Japanese economy, or Japanese consumer markets, will become less than 5 per cent of the global economy. So we need to globalise.”