Euromoney, June 2009

One contender leaves, and another enters. The revolving door of foreign participation in Japanese domestic brokerage has taken a few more turns this year, with Citi selling its Nikko Cordial retail brokerage to Sumitomo Mitsui Banking Corporation, and Morgan Stanley striking a joint venture deal with Mitsubishi UFJ Financial Group.

Forming a judgement on Citigroup’s enterprise is tricky. It is tempting to add it to the file marked “failed foreign attempts to penetrate Japanese retail”, alongside Merrill Lynch’s venture with Yamaichi. But the truth is we’ll never know whether Citi really could have made it work as it was still a work in progress after just two years, and the imperative to sell it was driven by problems at head office, not in Japan.

But as Citi departs retail, another foreign house moves in. In March Mitsubishi UFJ followed up its $9 billion investment in Morgan Stanley last October – which, with hindsight, one could argue was one of the true turning points of the financial crisis – with a joint venture combining Mitsubishi UFJ Securities with Morgan Stanley Japan Securities. This creates a single venture including Mitsubishi’s domestic retail brokerage network, the full range of institutional businesses offered in Japan by both sides, and the international reach for Japanese clients offered by Morgan Stanley.

So why should this do any better than previous contenders? Unlike Nikko Cordial, which had remained a separate business to the institutional arms of the Nikko Citi venture, this starts out as a single business. Morgan Stanley’s position, privately, is believed to be that a structure that combines retail and institutional capabilities in a single company from day one has a better foundation. On top of that, there is a belief that the links with the broader MUFG organisation, now locked in with the stakeholding and MUFG’s representation on the Morgan Stanley board globally, provide an additional layer of support for the JV.

Those who doubt the ability of the two sides to make this work tend to start out with the cultural differences. Combining a Wall Street heavyweight investment bank known for its innovation with any Japanese megabank is challenging enough. But Mitsubishi UFJ, or more specifically the Mitsubishi legacy within it, is known for conservatism even by Japanese standards. “These guys are so bureaucratic they would barely admit the name of the bank is Mitsubishi,” says Stephen Church, research partner at Japaninvest, an independent research house in Tokyo. In fact, the other article in this section shows that in syndicated lending, MUFG is actually the more daring of the three megabanks, with a far greater exposure to overseas markets. But it’s still a tough fit. “The idea of how Morgan Stanley is going to fit with Mitsubishi is just a mystery. It’s difficult enough for Mizuho and its IBJ [Industrial Bank of Japan, one of Mizuho’s legacy banks] content to operate, but for Mitsubishi, it just doesn’t make sense.”

Morgan Stanley declined to comment on cultural differences, or on internal morale. After all, do bankers who signed up for a Wall Street dynamo feel unhappy about working instead for a Japanese megabank – who, with a 60% stake, will control the venture in ownership terms? It is understood that Morgan Stanley clearly recognises that finding common ground on risk tolerance and employee expectation is among the biggest challenges that it will face, but considers it a chance worth taking in order to reach a retail base that is otherwise off-limits. It’s a choice between having 40% of someone else’s business that might have a chance of penetrating a market no other foreigners have successfully reached; and owning all of a profitable and successful, but smaller and entirely institutional, other business.

]]> http://www.chriswrightmedia.com/securities-japan-for-euromoney/feed/ 0 http://www.chriswrightmedia.com/loans-japan-for-euromoney/ http://www.chriswrightmedia.com/loans-japan-for-euromoney/#comments Mon, 01 Jun 2009 04:06:02 +0000 Chris Wright http://www.chriswrightmedia.com/?p=64 Euromoney June 2008

League tables haven’t looked like this since the 1980s. Rankings for global loan arrangers in the first quarter of 2009, compiled by Dealogic, show three Japanese banks in the top five worldwide – with Mizuho at the top. The trinity of Mizuho, Sumitomo Mitsui Banking Corp and Mitsubishi UFJ Financial Group between them led almost exactly half of the 1,453 loans Dealogic tracked worldwide in that three-month period.

This is partly because of an absence of activity at American and European banks rather than an increase at the Japanese. But it’s still very notable that volumes for the Japanese banks have held up so well. In fact, in some cases they’ve done better than hold up: during the October to December quarter, in arguably the worst climate for global finance in history, Japanese deal volumes went up more than 50% compared to the same quarter in 2007. In the first quarter of 2009, they were down year-on-year for the industry as a whole, but at two of the three megabanks – which account for 90% of the market in Japan – their volumes actually went up.

It’s tempting to think that this shows Japanese banks stepping into the void internationally left by western lenders, but the truth is this is predominantly a story about Japanese borrowing. According to data from ThomsonReuters, 93% of Sumitomo Mitsui Financial Group’s loan proceeds in the second half of the 2008 financial year were in Japan, and 99% of Mizuho’s.

Partly, the strength of domestic activity is a consequence of the closing of Japan’s bond markets to lower rated credits. “Single A companies have seen their bond issuance reduced,” says Mayuko Suzuki in the syndication department of Sumitomo Mitsui. “Therefore they want to arrange more syndicated loans.”
At the same time, the domestic Japanese institutions who typically participate in syndicated loans were not badly hit by sub-prime and their lending appetite did not drop anything like as drastically as elsewhere. “Japanese regional banks, who are the main buyers for the loans, were not significantly damaged and are relatively strong in their capacity to lend,” explains Sadahiro Sato, general manager of the syndicated finance division at Bank of Tokyo-Mitsubishi UFJ, part of Mitsubishi UFJ Financial Group. “Also, Japanese individuals have shifted from investment trusts and stocks to deposits. That means regional banks’ total deposits have increased and they have been looking for a way to invest that.”

They’re still happy enough to take part in lower rated credits. “Of course there are many terms and conditions,” says Takashi Tadokoro, senior vice president in Sumitomo Mitsui’s syndication department. “But we do not have any difficulty in placing or selling loans to investors.”

It’s been a while since the world has expected anything positive from Japanese banks, but in the darkest months of 2008 they emerged as unlikely heroes for their counterparts in the west. The cash-rich but inefficient megabanks of Japan, stuffed with deposits that wobbly Wall Street financiers would have killed for as the credit crunch took hold, have clearly been opportunistic and perhaps picked up some bargains. But can we say their role in world finance has changed?

Two transactions have caused the world to look afresh at the positioning of Japanese banks on the global stage. On September 22, Mitsubishi UFJ Financial Group announced it planned to acquire up to 20% of Morgan Stanley’s common stock. By the time the deal was closed on October 13, the terms had changed a touch (to be benefit of MUFG), bringing it 21% of the US bank on a fully diluted basis, but the expenditure remained vast: It will spend $7.8 billion to acquire convertible preferred shares, and $1.2 billion on nonconvertible preferred shares.

The other came when Nomura jumped in to take over Lehman Brothers’ Asian operations in September, following up with a deal for Lehman’s European and Middle East equities and investment banking businesses the following day. Between the two, these franchises employed about 5500 people, and come at a considerably lower cost to Nomura than the Morgan Stanley deal does to MUFG: no formal price has been announced but the Asia franchise is believed to have cost around $225 million.

They are two very different deals from two very different institutions, and they tell us different things about Japanese financial ambition. The MUFG deal is, first and foremost, a smart investment: it takes advantage of a formidable institution having been dragged into extraordinary circumstances, and gives it a big stake in an institution that, logically, should bounce back well in brighter markets.

It was telling that the very first line of Morgan Stanley’s press release on the deal mentioned MUFG’s “$1.1 trillion in bank deposits.” In fact, that got mentioned even before Morgan Stanley’s name. In America today, stable and boring deposits are what it’s all about – witness the plunge in Citigroup’s rejuvenated share price after it got gazumped by Wells Fargo on the acquisition of deposit-rich Wachovia – and if Japanese commercial banks do one thing well, it’s stable and boring deposits.

Shinichi Ina, bank analyst at Credit Suisse, explains the marriage of convenience like this. “The market has been losing faith in the investment bank business model, which does not have the means to tap into bank deposits as a stable fundraising source,” he says. “Investment banks urgently need to convey to the market that they have solid fundraising capabilities. Meanwhile, MUFG and the other Japanese megabanks have huge deposits, but demand for capital is weak in Japan, and they must turn to overseas sources for generating growth. We believe the agreement is mutually beneficial for both sides.”

A look at how the deal changed during its negotiation also says a lot about the balance of power in the deal. Nobuo Kuroyanagi, MUFG’s president and CEO, said the two parties “have revised the terms of our investment in the best interests of both companies”. Rubbish: the revisions, which reflected a falling Morgan Stanley share price by axing a pledge to spend the bulk of the acquisition cost on convertible shares with a conversion price of $31.25 (as opposed to $25.25, where the bulk of the shares will now convert), is entirely in MUFG’s benefit, giving it more protection to share price declines and better dividend benefits (both the convertible and non-convertible preferred shares will yield 10%). Morgan Stanley simply needed the money and, perhaps more importantly, the vote of confidence.

How MUFG behaves now will be interesting. It gets a seat on the board, and a steering committee is being established to work out the best ways to benefit from the alliance. But will that mean MUFG seeks to be a powerful global investment banking brand in its own right, or be happy to sit back and reap the benefits of a shrewd investment?

Ina sees trouble ahead. “The challenges will be formidable,” he says. “MUFG plans to ease Morgan Stanley’s fundraising difficulties and increase earnings contributions to the group through its investment, but it will need to avoid an exodus of talented personnel from Morgan Stanley.” He believes it would be a mistake to push the MUFG brand through Morgan Stanley. “However, MUFG’s corporate culture, which is conservative even by Japanese banking standards, clearly clashes with the aggressive profit-driven business culture of US investment banks. Putting these two distinctive business cultures together in the same group may generate synergies, but it also harbours considerable risks of inefficiencies and a failure to live up to expectations.”

Nomura’s position is rather different, partly because it has picked off assets of a failed business rather than undertaking a merger, and partly because it has been much more brazen in its global ambitions.

The author interviewed Nomura chief executive Kenichi Watanabe for another publication in July, and started by asking him about a rumour going around at the time that the bank had a Y300 billion war-chest ready to spend on global acquisitions. Watanabe quickly set the record straight: it was actually Y500 billion, he said. “I am very interested in looking at these assets [troubled financial institutions],” he said, two months before Lehman went bankrupt. “We look at it from two angles. One is trying to capture capabilities we currently do not have, and the other is trying to capture a talented human resource pool.” He was very clear Asia was the priority, and said he would like 30% of Nomura’s earnings to come from outside Japan in due course (at the time of the interview, strictly speaking the rest of the world made a negative contribution to Nomura’s earnings, since it had taken significant write-downs on its US businesses in that financial year).

The Lehman deal clearly gives Nomura the additional skilled headcount that it wants, and appears to leave plenty of the war-chest left over. The scale of the personnel makes it a more obviously transformational deal than the MUFG transaction, which looks more strategic, though naturally it raises more questions too. Chief among them: can Nomura keep the staff it has acquired? Can it integrate them into its own systems and teams?

“A deal like this enables the acquirer to get intangible assets like human resources at cheap prices,” says Nana Otsuki, head of financials research at UBS in Tokyo. “But what is not sure is the second or third year after the acquisition. Even if they guarantee first year’s remuneration or something like that, I don’t know if there is any motivation for employees after that.”

In the Lehman franchise, Nomura has gained a business with strength in M&A, derivatives and prime brokerage, among other things. But there’s another question, too: is there anything in Nomura’s track record, in which for many years its executives have sought to translate its domestic strength into a profitable and powerful international presence, that suggests it should be any good at managing its expanded Asian and European team anyway? Nomura’s most recent adventures in America don’t give a lot of cause for optimism. It has exited completely from its RMBS business there, reducing its residential mortgage exposure from Y266 billion in June 2007 to almost nothing today. It booked Y140 billion of losses in the first half of the 2007-8 year alone. In early 2008 it pledged overall cuts of 400 people, net, in its North American businesses.

The Nomura deal perhaps illustrates a change of focus in Japan, though: less on the US, and more on Asia. And that makes sense, given local expertise. Besides, many fund managers are pleased to see Japanese banks trying to do something constructive with their capital other than sit on it. “The whole Japanese market is a dream world for unlocking value and its companies are beginning to use their cashed-up balance sheets to pick through the wreckage of Western markets,” says Kerr Neilson, founder of Platinum Asset Management, a fund manager in Sydney. Mitsubishi UFJ is one of the top three holdings in an international fund he manages.

Going global, though, comes at a cost for Japanese banks. The planned Y990 billion capital expansion by MUFG was so badly received by the market it was partly responsible for pushing the Nikkei 225 to its lowest level for more than two decades. And the other banks that have dabbled globally are also under pressure. Sumitomo Mitsui Financial Group, which has invested about GBP500 million in Barclays Capital, cut its full-year net profit forecast by 63% in late October because of bad loans and a drop in the value of its shareholdings in other companies (Barclays among them). Mizuho Financial, which has taken a $1.2 billion stake in Merrill Lynch, lost 67.8% of its share price in the 12 months to October 29.

Some feel they don’t have a choice, given the lack of obvious opportunity at home. “Japanese banks can make profit by using their very cheap and stable funding base, but if they want reasonably high profit base – ROE of 10% plus – then that’s a different story,” says Otsuki. “Because banks have too much deposits on their balance sheet, they have to do something, and in terms of lending activity it makes sense to go overseas.”

And can Japanese banks go overseas successfully this time? “They used to be overseas and were forced to stop those activities,” says Otsuki. “Now they are coming back to those markets. We can say it’s a new stage. But it could also be just a repetition of their past track record.”