Toshiba launches a strategic nuclear move

Japanese companies do not have a stellar track record on cross-border mergers and acquisitions.

Hitachi has struggled to improve its performance since buying IBM’s hard disc drive business in late 2002 for $2.05bn while telecoms company NTT DoCoMo and its sister company, NTT Communications, were both forced to write down the bulk of their strategic investments in the west within a few years.

But Atsutoshi Nishida, Toshiba president, is confident he can succeed where many of his compatriots have failed. “I want to make this an example of a successful foreign acquisition,” he said as he announced Toshiba’s plan to purchase Westinghouse for $5.4bn.

Analysts have queried the rationale behind the deal. The $5.4bn Toshiba is paying for the US nuclear power plant manufacturer has triggered concern about the potential impact of the deal on the Japanese group’s balance sheet.

The price tag is more than double initial estimates of the US company’s value, raising questions about how Toshiba intends to finance the acquisition.

The company – which will sell just under half the shares to about five partners, including Shaw, the US nuclear power plant group and Mitsui and Marubeni, two Japanese trading companies – has said it can cover the cost through internal cashflow. Toshiba has free cashflow of about Y100bn ($850m) a year.

But some analysts still expect Toshiba to issue new shares or turn to the banks for funding. The Westinghouse purchase comes at a time when Toshiba needs to pour funds into its semiconductor business. Last week, the group announced it would increase semiconductor capital spending by Y63bn to Y289bn to meet growing demand for its flash memory chips and catch up with Samsung.

Such concerns helped trigger a 5 per cent drop in its share price last month, although the shares have since rebounded. Another concern is over Toshiba’s ability to realise synergies with Westinghouse – Toshiba uses boiling water reactors in its nuclear power plants while Westinghouse employs pressurised water reactor technology.

Others have questioned Toshiba’s lack of experience in managing a foreign business, never mind one as large and long-established as Westinghouse.

Mr Nishida brushes aside these concerns, saying that the Westinghouse deal was “a perfect opportunity” to catapult Toshiba from a minion facing giants General Electric of the US and France’s Areva – the world’s largest nuclear power plant makers – to the top of the league with a global market share of 28 per cent.

Since the Japanese market is not expected to grow, and the two most promising markets – China and the US – are dominated by pressurised water reactors, buying Westinghouse is a defensive measure for Toshiba.

“If they had not been able to buy it, they would have had only boiling water reactors and would have been restricted to the Japanese market. They would have had to watch their business shrink,” says Yoshiharu Izumi, analyst at JPMorgan in Tokyo.

Mr Nishida believes the combination of the two businesses will allow the new group to win an even larger share of global demand.

Toshiba estimates that by combining with Westinghouse, it will be able to more than triple revenues to between Y600bn and Y700bn in 2015 due to market expansion.

While nuclear power plants are unpopular in Japan due to a series of accidents, higher oil prices and environmental concerns are expected to fuel demand, particularly in the US and China.

Consequently, Toshiba expects the market to grow from Y6,000bn last year to Y9,000bn in fiscal 2020. This will enable it to recoup its costs in 15 to 20 years, Mr Nishida believes.

Yohei Kanazawa, analyst at Nikko Citigroup, wrote in a recent report that the nuclear power plant business would provide a fallback in case business deteriorated in Toshiba’s two other main businesses – semiconductors and digital products, where price declines are severe. “In that connection, we believe the current acquisition is strategically wise,” he concludes.

Mr Nishida is optimistic that the business will provide average operating margins of 10 per cent over the next decade and that, even if Toshiba borrows some funds to pay for the acquisition, it can keep its debt-to-equity ratio – currently at 126 per cent – to under 110 per cent.

It is not a business that just anyone can do, explains a Toshiba representative. For any company wanting to expand its presence in the market, buying Westinghouse was an opportunity not to be missed, he says.

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