But have you ever heard of Hiroto Kiritani? Mr. Kiritani used to be a high-ranked Japanese player of Shogi (kind of an east Asian version of chess).

Than Mr. Kiritani jumped ship, reinventing himself as an investment guru for Japanese retail investors. His “expertise” lies in a weird corner of the Japanese investment universe called 株主優待 “kabunushi Yūtai” (= “hospitality”).

What is “Yūtai”?

“Yūtai” is a special shareholder benefit. Such shareholder perks also exist in the West, but they are rare. In the UK, about 40 public companies provide special benefit plans to its shareholders. In the US blue chip companies like Ford, Carnival and Kimberly Clark are known for the handouts to their shareholders.

To the “value investing” community the most familiar will be those offered during Berkshire Hathaway’s AGM: Discounts at Geico Insurance; large price reductions on merchandise from Borsheims Fine Jewelry & Gifts and Nebraska Furniture Mart.

But for any serious Japan observer, it should not come as a surprise that the country, also on the front of shareholder perks, is playing in a completely different league.

In 2022 over 35% of public companies were running a “Yūtai” plan. The variety of offerings is impressive. From tickets for a pro baseball game (DeNA) to a 5kg sack of rice (PA Co Ltd). The amounts spend by companies was roughly 2% of net profit, or 100 Bln yen.

Although, the tiniest dividend must be approved by the shareholders at the AGM, not even the most lavish benefit program doled out by corporate Japan require any vote.

Managements motivation for such plans are straightforward. Create a “large shareholder base” of unsophisticated retail investors in order to get more “favorable and stable” votes at shareholders’ meetings.

“Yūtai” did not come into excistence in a vacuum. Japan has a culture of seasonal presents. During midsummer and year end Japanese tend to give presents to family, friends and business associates to express their gratitude.

Exactly the same time when “Yūtai” is delivered to Japanese shareholders.

Kitani- San: King of “Yūtai”

Let us get back to Mr. Kiritani. His aim in life is entirely getting by with the handouts offered by the 500+ companies in his stock portfolio.

It could be argued against “Yūtai”. Benefits are only available to Japan residents. Thus, it violates the principle of equality among shareholders. Most institutional investors located within Japan reject them outright. They are not really eager having their offices cluttered with freebies.

But better not bother arguing with Mr. Kiritani. During an interview in a suburban Tokyo cafe, where he happily nips on its free yogurt juice, he hardly could contain his enthusiasm for “Yūtai”.

His argument is straightforward. If you bought stocks offering shareholder perks the returns were good, as they were paying dividends and doling out benefits. He went on to notice that a savvy “Yūtai” stock picker can get a combined yield (dividends plus the value of gifts) of up to 5 percent. While a bank savings account in Japan pays nothing.

Unfortunately, the chap has a point here. In monetary terms most special shareholder benefits range between 1,000 yen and 3,000 yen. But more lavish benefits provided by some companies are worth 5,000 yen to 10,000 yen, depending on investment amounts and holding period. Some obscene plans could be worth even more. Thus, we are talking real money here.

In Mr. Kiritani’s case, assuming an average gift yield of 2%, he is getting $20,000 worth of gifts per year alone. And this is tax-free income. Unfortunately, for the company “Yūtai” is not tax deductible.

Mr. Kiritani could not care less. During high “Yūtai” season he is more concerned about logistics. Getting the perks exchanged can be tricky, since many of the food and drink vouchers have an expiration date. It is Mr. Kitani’s busiest time of the year, when he can be spotted on his bike, traveling Tokyo in a hurry and worrying not to waste any of his precious “Yūtai” vouchers.

Mr. Kiritani is not alone with his penchant for “Yūtai”. A magazine poll, published by Nomura Investor Relations in 2009, revealed that an astounding 76.1% of individual Japanese investors deemed special shareholder benefits being a major factor when choosing a potential stock investment.

Don’t Want That Melon?

Given the popularity, it is not surprising that a whole internet ecosystem has been mushrooming around “Yūtai” plans. There are several portal sites offering search engines for “Yūtai”, covering both perks and dividends.

Or there are companies such as Yūtai-Market Inc. They are in the business of offering an online marketplace for rejected freebies. It buys the benefits at a discount from “investors” and sells them through its online website.

More ingenious, and problematic, are the investment strategies followed by the “Yūtai” chasers. The gift program motivates many retail investors to buy and sell shares around the rights-date, increasing not only the trading volume in those stocks, but also volatility.

Retail investors even resort to quite sophisticated “short- term “cross trades. Buying shares in cash accounts while simultaneously selling them in their margin accounts. Thus, they pocket the rights for the gift (and the dividends), without being exposed to the short- term fluctuations.

Nevertheless, “Yūtai- chasers” seem to be unaware of a major problem following such a strategy. If the trade is crowded, stocks they borrow from securities companies for margin selling run short, resulting in a spike in borrowing fees.

The outcome of the strategy can be rather disappointing. A good example is Adores. The company gave its shareholders tickets for a luxury spa with which it had tied up, worth an incredible 44’000 Yen. The incentive program became popular to the “Yūtai” community, after mentioned in a TV show by Mr. Kiritani. The final cost of acquiring the tickets through cross trades turned into 84,000 en. Not too much of a bargain anymore.

More problematic than the apparent free- lunch turning out to be a Michelin Star dining experience, is the fact that companies offering popular shareholder incentives can remain abstrusely overvalued for an extended period of time.

McDonald's Holdings (Japan) is a good example. It was highly popular with retail investors who were unwilling to dispose the stock in order to receive meal tickets as shareholder incentives, which had been shoring up the company's stock price. At that time U.S.-based McDonald's was exploring a partial sale of its stake in its Japan Holdings, but it couldn’t find a buyer. An executive at a foreign fund, who was contemplating to acquire the company, remarked that it was impossible to buy any such stake at that valuation, as it was out of whack with fundamentals.

Final Remarks

Do not get me wrong. I do not blame Japanese individual shareholders for pocketing the hand- outs. I myself am an individual investor who, unfortunately, is not eligible to those perks. I certainly would not reject them.

Furthermore, a great many of Japanese companies have dividend pay- out ratios that I regard as overly conservative. Way below what the real earning power could conservatively back without putting long- term investments in jeopardy to those corporations.

Nevertheless, if I was able speak up at an AGM of such companies doling out perks, I would use the abovementioned observations concerning fairness, dubious investment strategies by Japanese individuals focusing on “Yūtai”, and often sinister motivations by the management of those companies, to speak up against it.

I would make the case for increased investments, dividend hikes and/ or share buybacks instead. Very likely attracting fierce opposition of Mr. Kiritani and his disciples.

Apparently, Mr. Kitani and his followers are not the sharpest tools in the shed when it comes to following well informed, rational and viable long- term investment strategies.

They should embrace companies that abolish “Yūtai” plans as a sign of rational capital allocators. Unfortunately, the opposite is the reality. Frequently, fierce sell offs in decent businesses can be witnessed, mostly in the small cap sphere, after management wisely abolished such shareholder perks.

Personally, I see this story as a contributing factor explaining the huge inefficiencies that has been plaguing the Japanese stock market for such a long time.

It is quite telling, and a bit embarrassing, that Mr. Kiritani has such a celebrity status as an investor within Japan while other countries worship the likes of Warren Buffett.

Source/ Reference:

http://www.varecs.com/en/2017/necessity-is-the-mother-of-invention-vol-2/

https://www.ft.com/content/457d65ce-9a34-11e3-a407-00144feab7de

https://www.thebalance.com/the-world-of-shareholder-perks-and-benefits-356147

https://www.jef.or.jp/journal/pdf/168th_finance.pdf

https://www.retirejapan.com/blog/only-in-japan-yuutai-shareholder-benefits/

https://asia.nikkei.com/Business/Markets/Stocks/Japan-s-stockholder-incentive-bubble-fizzes-up2

https://www.japantimes.co.jp/news/2015/02/22/national/ramen-dividends-holders-of-some-firms-shares-fancy-yutai-gifts/#.XYYK2G5uLU4

This post is about a fast and furious university drop out who founded his first startup, aptly named “Livin’ on the edge” in 1996, while still studying at the prestigious University of Tokyo.

The tiny venture, located in a cramped office, debuted on the Japanese stock exchange in 2000. It soon transformed into the famous Japanese internet giant later known as Livedoor.

It is a tale of the conflict between two different cultures within Japan’s business community that escalated into an outright war.

On one side of the battlefield, a new cohort of Japanese businesspeople. Young Internet entrepreneurs, none of them above their 40’s, dressed in designer T- Shirts, Jeans and Sneakers, settling in a hip and chic quarter in Tokyo called Roppongi Hills. On the other side, Japan’s long-established, and elitist, business dynasty, wearing traditional costumes like neckties and suits, and none of them below their 60’s.

The story is set in a time when "Old Japan" was focused on hiding losses, while "New Japan" was busy fabricating gains.

Who was Takafumi Horie?

Horie was a self-proclaimed geek and computer whiz. He wrote a number of bestselling books provocatively titled: “Money is Everything: From Zero to 10 billion Yen My Way”.

Horie was not only blunt, but also ostentatiously flashy. He drove a silver Ferrari, bought racehorses, and enjoyed showing off with stunning models in public. On the pivot of his glory, he even announced the launch of a private space tourism venture.

Horie, and his disciples, shared two firm beliefs: The future of business was the Internet and greed is good.

Young Japan was captivated by Horie. In 2005 college graduates picked Horie as the “The CEO you want to become” in a survey. And his signature phrase, “sōteinai” (“within expectations”) when faced with adversity, was their chosen buzzword of the year.

Corporate Japan’s old guard observed the spectacle with great skepticism. They regarded manufacturing the only respectable industry. The internet was nothing more than a fad. More importantly, they favored understatement and scorned the rookie’s attitude, especially the Gordon Gekko inspired moneymaking and cash-grabbing ethos.

“Old Japan” struggled to ignore Horie. But his persistent digging on them (“All evil comes from aged business managers”), and his attempt to buy out an indebted professional baseball team, would eventually raise the ire of Japan’s business elite.

The young villain had thrown down the gauntlet at corporate Japan’s old guard. Young Japan was cheerleading while old Japan spitting nails. Especially, the contempt by the powerful Japanese media conglomerates, owners of Japan’s most prestigious baseball teams, would eventually haunt Horie.

The Rise of Livedoor

‘Livin' On the Edge’ started out in 1995 as a limited company (“Yugen Kaisha”), offering developing services for websites. In 1997 the company reorganized into a joint-stock company (“Kabushiki Kaisha”). In 2000 it debuted on Mothers, the Tokyo Stock Exchange market for start-ups.

In November 2002, ‘Livin' On the Edge’ acquired Livedoor, a defunct Internet service provider, and renamed itself accordingly in February 2004.

Livedoor, was a notorious stock splitter. It had performed a 3-for-1 stock split in May of 2001, a 10:1 split in June of 2003, and a 100:1 split in December of 2003. Another 100:1 split was scheduled for 2004.

Those stock splits are crucial in understanding Livedoor’s breathtaking ascent. Without doubt the Livedoor phenomenon would not have been possible without Japan’s “Big Bang” financial reforms of the late 1990’s.

Livedoor and Japan’s Big Bang Reforms

In the late 1990’s, former Prime Minister Koizumi initiated a reform program labeled “Financial Big Bang”, deregulating and liberalizing the Japanese financial markets plagued by the bubble era’s aftershocks.

Rendering M&A at Japan Inc. easier was one key issue of the reforms. They entailed changes to the tax rules and share swap arrangements, which enabled domestic companies to pay for acquisitions with shares rather than cash.

The reforms also allowed companies to split its stock. The goal was to make share purchases by the public easier and increase the liquidity of the overall stock market.

The intention by Japanese lawmakers might have been benign, but the implementations, especially of the stock split arrangement, were flawed.

The consequences of Livedoor’s 100:1 split in 2004 on its stock price serves as a good example. The price action that followed was nothing short of spectacular. For 15 days in a row the stock traded limit up. At the peak of the share price explosion, Livedoor’s market capitalization was almost ¥1 trillion ($9.3 billion). Not bad for a company with only 359 employees and ¥11 billion in sales.

Market pundits were observing the price explosion with disbelief and awe. Theoretically, stock splits are a zero-sum operation. According to textbook stock prices should adjust downward in relation to the “newly” issued shares.

Livedoor’s split taught them better. It turned out that delivery of “new” shares would be delayed for 50 days, creating a short- term supply and demand imbalance. Garnish those imbalances with a securities house shorting some 10,000 old shares just before the split, and an eager community of speculators sniffing an easy profit by mopping them up: Voilà, off you go!

The magic of this kind of financial engineering did not go unnoticed by Horie. He would turn Livedoor into a rollup extraordinaire.

By 2006 Livedoor had been splitting its stock 30,000-fold, while pasting together a conglomerate of 50 unrelated businesses as diverse as an accounting-software house, an online travel agency, a securities company, a mail-order retailer, a second-hand car firm, etc., creating a corporate Frankenstein.

Taking Control of Nippon Broadcasting System (NBS)

In 2005 Horie was instigating his biggest, and final, Coup d’état on Japan’s clubby business elite. He was taking a controlling stake in Nippon Broadcasting System (NBS).

Because of a complicated web of cross held shares, the hostile bid was regarded as one intended to gain control of Fuji Television, Japan's biggest commercial television station, and ultimately Fujisankei, Japan’s largest media conglomerate.

Horie fought the battle cunningly. Skirting trading rules, he bought shares in after-hours trading to circumvent disclosure rules about his exact controlling interest in the company.

The two-month battle was prominently covered in the Japanese Media. It was finally resolved in April 2005, through an “amicable” (greenmailing) settlement, in which Livedoor sold its block of shares back to NBS for a tidy profit.

Walking over the edge

The collapse of Livedoor had all the ingredients of a full-fledged scandal and drama. It was accompanied by a media blitz suitable for a celebrity murder trail ala O.J. Simpson.

Moody prosecutors parading in front of television cameras, frantic investors panic selling the Japanese stock market, betrayed investors, disillusioned believers in the cause, exultant enemies, and, on top of it all, the horror of a suicide. At the centerstage Horie- San, a risk-embracing entrepreneur in his 30’s who might also have been a crook.

The case broke on January 16, 2006, when Tokyo prosecutors raided several Livedoor locations, Horie's home and those of other Livedoor executives.

The raids spooked investors. Livedoor’s shares plunged the following day, taking with it the whole Japanese internet sector. On January 18, Hideaki Noguchi, an executive of H.S. Securities, a firm raided by prosecutors earlier in the week in connection with Livedoor, was found dead in an Okinawa hotel room in an apparent suicide.

This reinforced panic selling, not only in the stock of Livedoor, but the entire Japanese stock market. On January 19, the transaction volume on the TSE came dangerously close to a system failure and the TSE suspended trading in all stocks 20 minutes before scheduled closing. The multiday stock plunge garnered intense media coverage and was dubbed the “Livedoor shock”.

The exact charges laid in the Livedoor case remained kind of murky. From what had been leaked to the media by the Tokyo district prosecutor's office, the investigation centered around Livedoor Marketing, an advertising affiliate. Allegedly, Livedoor had deceived the public in October 2004 by announcing a buy- out of the publisher Money Life through a share swap. An entity it already controlled through a private-investment arm. In short it all was about good old market manipulation.

Final Remarks

Let us be clear here. Livedoor might have engaged in financial crookery like the prosecutors claimed. Still, the allegations were more than vague. And much of the rest not necessarily illegal in Japan during that time.

No accounting rules for Enron-style investment partnerships existed in Japan. Neither for share splits and the building up of stakes in acquisition targets during off-market trading.

In addition, spoon- feeding the press by prosecutors during investigations are common in Japan. The aim is to build a case in the public before charges are even filed. The media was willingly playing along the allegations, while the Japanese public was still wondering what the Livedoor scandal really was all about.

Many market pundits smelled something fishy given the timing of the action and the constant leaking of information to the press. They interpreted it as a political move by defenders of the status quo, the old guard, to punish Horie. Discrediting him, and the business practices he represented, which they considered distasteful and "un-Japanese."

In March 2007, Horie was found guilty of falsifying the company's accounts and misleading investors. He was sentenced to 2 years and 6 months imprisonment. He appealed the punishment, but the Supreme Court of Japan upheld the sentence. Lievedoor’s distressed assets were purchased by South Korea-based NHN Corp in 2010.

In the end, this little post on the rise and fall of Livedoor is the tale of an underdog’s struggle raising up against Japan’s geriatric business elite. A story about young Japan’s failed anti-establishment crusade that certainly resonated with the public.

Horie's polemic attitude ensured being at the heart of a struggle in the Japanese business community that is still relevant as of today. The fight between those favoring a market-oriented business model, and those who like to maintain the status-quo.

The former experienced a harsh backlash to their cause, because Horie-San was not only living on the edge, but apparently walked over it. The old guard struck back viciously and would be able to claim victory over the outcast.

But the jury is still out. Glossing over the benefits of "market fundamentalism" while emphasizing its risks suggests that the old system upholds higher ethical standards. Quite preposterous, given the numerous scandals Old Japan was engaged in during Japan’s “Lost Decades”.

Source:

The Livedoor Scandal: Tribe Versus Tribe (Time.com)

Livedoor executives admit to scandal that shook Japan (The Guardian)

http://www.japan-press.co.jp/2006/2465/livedoor%20scandal.html

From hero to zero (The Economist)

Melting down (The Economist)

Takafumi Horie: Bane of the old guard (The Japan Times)

Still livin' on the edge (The Economist)

The establishment strikes back? The life and times of Takafumie Horie by Lorraine Warren; Entrepreneurship and Innovation; Vol 8, No 4 2007, pp 261-270

'Livedoor shock' halts TSE (The Japan Times)

The Japan Stock Split Bubble and the Livedoor Shock Youki Kohsaka1 1 Center for Finance Research, Waseda University, Tokyo, Japan April 25, 2014

Real recognition he would gain a decade later as Finance Minister. It was a time when the Showa Depression of 1929-1932 had wreaked havoc on the Japanese economy and society, especially in rural areas. The Japanese public became greatly frustrated with the policy of the second Wakatsuki Cabinet (April - December 1931), which exacerbated price pressure in an economy already mired in severe deflation.

Finally, the incumbent government was removed and succeeded by the Inukai Cabinet with Takahashi leading the Ministry of Finance for the 5th time.

Takahashi Korekiyo: The Japanese Keynes

Takahashi is often described as the Japanese Keynes. Long before John Maynard Keynes published it famous book “The General Theory of Employment, Interest and Money” in 1936 Takahashi adopted Keynesian politics.

Takahashi's policy has drawn attention from economists, historians and policy makers from around the world. Among them Ben Bernanke who has spoken highly of Takahashi's accomplishments by stating that: " Finance Minister Korekiyo Takahashi brilliantly rescued Japan from the Great Depression through reflationary policies in the early 1930's." (Bernanke)

Other observers noted that: " It was inevitable that Japan should go off the gold standard (...) What followed probably could not have been anticipated: one of the most successful combinations of fiscal, monetary, and foreign exchange rate policies, in an adverse international environment, that the world has ever seen (...) " (Hamada)

Takahashi's Economic Policy

Like Abenomics of 2013, implemented by former Prime Minister Shinzo Abe, Takahashi followed a three pillar strategy to get the Japanese economy out of the depression. Namely, currency depreciation, fiscal stimulus and monetary expansion.

Actually, Takahashi has to be regarded as the intellectual father of Abenomics. Abe's policy was just an imitation of those Takahashi prescribed Japan during the Showa depression.

After his return as minister Takahashi moved Japan immediately off the gold standard in December 1931. What followed was an unprecedented Yen depreciation. In addition, Takahashi prescribed Japan fiscal stimulus and an easy monetary policy over the following few years.

The medicine that Mr.Takahashi was administering the Japanese economy was by no means a fast-selling item with the general public. Especially at the beginning of his term he faced fierce opposition.

" (...) Recent policy for inflation is intended to lower the value of money and to increase prices of goods by issuing more currency. The recovery obtained by such a policy is not a real recovery that would come from restoration of business activities (...) Some measures for relief of business might be needed. If it went so far as to step forward an excessive expansion of money, however, this policy would break the foundation of our currency system and ruin all of our businesses (...) We eagerly hope that the government makes every possible effort to contain the inflation within a certain appropriate limit and to prevent various harms that would be generated by inflation (....). " (Hamada)

Only when Takahashi's policy gained traction and bore fruit did the public opinion start to cautiously shift in favor of its policy mix.

" (...) we can notice that more and more countries in the world have been moving toward a policy of reflation in order to resolve depression since the beginning of this year. Incidentally, our nation is running the forefront of this stream. Although it is quite difficult to predict what this stream will bring about in the end, we have clearly realized that its net benefit in this transitional period seems to be substantial. The problem for the next year is how we can minimize the fiscal, economic, and social costs of the ongoing policies, and pave a road toward a true restoration of the balance in government finance and the growth of the private economy (...). " (Hamada)

Takahashi's policy regime has since been labeled as the “Takahashi economic policy.”

As mentioned before, it was a three-pronged macroeconomic policy with an exchange rate, monetary, and fiscal dimension. But what was the exact composition of his policy mix and what did it entail?  

Takahashi's Medicine

First and foremost, under Takahashi's exchange rate policy the Yen was allowed to depreciate by 60 % against the U.S. Dollar and by 44 % against the British Pound in a very brief moment of time (December 1931 to November 1932).

Perceiving that a further depreciation of the Yen would be unfavorable to the Japanese economy, the government took steps to stabilize the exchange rate. From April 1933 onwards, Yokohama Specie Bank, the official foreign exchange bank of Japan, effectively pegged the Yen to the British Pound, during that time the world reserve currency.

Meanwhile, foreign-exchange and capital controls in Japan remained mild through 1936. That is surprising. Because according to the macroeconomic policy trilemma, any chosen macroeconomic policy regime can achieve only two out of the following three policy objectives:

a) Independent monetary policy oriented toward domestic objectives;
b) A fixed exchange rate; and
c) Full freedom of cross-border capital movements

The currency peg theoretically implied that Japan was obliged to follow slavishly the monetary policy of the United Kingdom. But given that the United Kingdom had been conducting a relatively lax monetary policy on its own, Japan still was able to follow discretionary fiscal and monetary policy with actions aimed towards domestic objectives.

Stimulative measures through a depreciated exchange rate were accompanied by a highly accommodative interest rate policy. The BOJ cut its official discount rate significantly in March, June, and August 1932. Meanwhile, the regulation on bank note issuance was amended to raise the limit of fiduciary note issuance from 120 million yen to 1 billion yen. (Shizume)

Finally, fiscal expenditures were increased significantly. More importantly, the deficit spending by the Japanese government was backed by the BOJ. The monetization of the fiscal deficit, in which the BOJ bought up newly-issued government bonds, was tried for the first time in Japanese history.

The Outcome of Takahashi's Experiment

Takahashi fiscal policies not only created demand through expanded fiscal expenditures, but also included reflationary measures aimed at gradually restoring rising prices. After two years of almost double-digit deflation in 1930 and 1931, Japan finally escaped from the deflationary trend in 1932. In 1933 and 1934, personal spending and business fixed investment once again fueled a growing economy. (Kuronama)

By 1934, when the Japanese economy was firmly on a path to recovery, Takahashi slowly shifted back to a tighter budget. An appropriate decision at that point of time (Ohno), given that formal mechanism for keeping the ever-growing budget in check were absent. Especially the huge war funding was troubling Takahashi, as he was well aware that he was the only agent of future fiscal discipline. (Shizume)

During the budgetary process of fiscal 1936, Takahashi tried to reduce the fiscal deficit more radically. While he succeeded in reducing new government bond issues, the reduction was far from enough.

Budget negotiation increased the tensions with the military, which demanded more military spending despite fiscal pressure. It finally paved the way to Takahashi’s assassination by a group of militarists on February 26, 1936, and culminated into a complete loss of fiscal discipline as Japan moved to a wartime command economy.

Non- Takahashi Positive Shocks

Literature states that there were at least three important non-Takahashi positive shocks to the Japanese economy, which facilitated and contributed to Takahashi's success.

Firstly, the recovery in the rest of the world. It provided Japan an export demand stimulus on top of the effect of the Yen depreciation, deficit spending and monetary expansion.

Secondly, as in many other countries, a consequence of the Great Depression was that the liberal policy regime of the 1920s became discredited and state interventionism gained force under Japanese officials.

The shift in the policy regime was pioneered by “new bureaucrats”. These reform-minded technocrats wanted to establish a system of control and to replace the market system, as they were highly disillusioned with corrupt party politics and the instability of market economy as witnessed during the 1920s. The transition found one expression in the legislation of the Major Industries Control Law (Juyo Sangyo Toseiho) in 1931. The law was not intended to impose direct state control over companies, but rather to encourage “cooperation” among firms in designated “important industries” by forming depression cartels. Meanwhile, the Ministry of Commerce and Industry remained in a position to influence investment decisions and output- and price-fixing agreements. (Soo Cha)

Furthermore, during the 1930s various laws, notably the Petroleum Industry Law of 1934 and the Automobile Manufacturing Law of 1936, were introduced to promote specific industries, mostly the heavy and chemical industry.

The “heavy and chemical industrialization” drive not only stimulated investment activity, and thus contributed to the recovery, but also was welcomed by the military, which had been persistently demanding to get prepared for a war in order to consolidate control over China since the Manchurian invasion. (Soo Cha)

Finally, non- Takahashi positive shock concerning the Japanese labor market. In the U.S., labor unions were encouraged under the New Deal and other labor protection laws were introduced, in order to raise real wages. The Nazis in Germany, on the other hand, destroyed labor unions quickly after taking power, and the government intervened in the process of wage bargaining, exerting downward pressures upon the level of nominal wages.

Japan in the 1930s resembled Germany more than the U.S. In the new political environment created by the Manchurian invasion and the rightwing terrorist attacks, both independent unions and proletarian parties suffered a serious setback.

Unionization rate declined from a peak in 1931, and the number of workers in labor disputes as a proportion of total also fell. Under such circumstances, the real wages in Japan declined significantly.

Some observers see this phenomenon as the most significant contributor to Japan's remarkable economic performance between 1932 and 1936. (Soo Cha)

Which of Takahashi's Policy Tool was the Most Effective?

A controversy exists regarding the efficiency of the individual policy tools Takahashi applied.

Soo Cha (2000) notes that devaluation did help during 1932, but sees its contribution to output growth in Japan as rather modest. Also does he see Takahashi’s fiscal expansion only partially responsible for Japan’s successful recovery. He stresses that the world recovery and the shift to a system of bureaucratic and military control played important parts. Not only in ending the depression, but also in sustaining the recovery.

Furthermore, downward wage shocks were significantly contributing to the rebound in the early 1930s. When the finance minister started to reduce deficit spending from 1934 onwards, both world recovery and an investment boom took over to sustain the growth.

The investment boom most likely was created by industrial policy to promote heavy industries, launched by technocrats trusting the superiority of bureaucratic over market rationality. He sums it up by noting that:"(...) it is true that Takahashi’s capable policy response was critical in ending the downswing quickly, but without the intervention of world recovery and political regime shift, Japan’s hypothetical growth performance in the 1930s would have been far less impressive than actual."(Soo cha)

In contrast to Soo Cha, Shibamoto et al. (2011) regard the depreciation of the Yen, changes in inflation expectations, and unexpected price changes as vitally important factors to production growth after Japan departed from the gold standard in December 1931. His findings suggest that monetary and fiscal policies had very limited effects, if any.

He goes on to note that, particular during the second half of 1931, speculation on Japan’s departure from the gold standard, and the inflation likely to follow, reversed the public’s expectation from deflation to inflation, well ahead of the actual departure at the end of the year.

Thus, it was the inflation expectations that played a substantial role in the dynamics at work. Regarding monetary policy he suggests that independent shocks in monetary policy accounted for little, not only in the economic recovery during the Takahashi term, but also in the variations in the money stock.

The independent policy shifts may have been effective at that time, but the monetary policy response largely accommodated changes in economic conditions and other policy changes such as the exchange rate settings. (Shibamoto et al)

Conclusion

A number of observers who focus on the macroeconomic aspects of the Takahashi economic policy praise Takahashi’s as a visionary, and his achievements as a successful pioneer of what would later be labelled Keynesian economics.

Kindleberger points out that Takahashi conducted quintessential Keynesian policies, stating:“his writing of the period showed that he already understood the mechanism of the Keynesian multiplier, without any indication of contact with the R. F. Kahn 1931 Economic Journal article.”

The gist of this argument is that stimulating policies during the Takahashi era contributed to growth in aggregate demand in Japan. And that Takahashi’s macroeconomic policy consisted of a combination of three elements:

a) depreciation of the yen (exchange rate policy),

b) increase in government expenditure associated with the underwriting of deficit-covering bonds by the BOJ (fiscal policy), and

c) interest rate cut (monetary policy). (Shizume)

Under Korekiyo Takahashi monetization of the fiscal deficit, in which the BOJ bought up newly-issued government bonds, was tried for the first time in Japanese history. Interest rates were lowered and the money supply expanded significantly.

Which of Takahashi's instruments contributed most to the Japanese recovery is up to debate. Nevertheless, did the Japanese economy began to recover in 1932 and expanded relatively strongly until 1936, the last year of the non-wartime economy. Among major countries, Japan was the first to overcome the Great Depression of the 1930s. Apparently, Takahashi's tool box worked well up until Japan entered into wartime command economy.

Links to related posts:

The Showa Recession and Financial Crisis- Japan's Other Lost Decade

The Showa Depression- Japan's Other Lost Decade



Source/ Reference:

Ben Bernanke; Some Thoughts on Monetary Policy in Japan, Remarks by Ben S. Bernanke, Member, Board of Governors of the Federal Reserve System, before the 60th Anniversary Meeting, Japan Society of Monetary Economics, Tokyo, Japan, May 31; 2003.

Myung Soo Cha; Did Korekiyo Takahashi Rescue Japan from the Great Depression?; Discussion Paper Series A No.395; August 2000

Koichi Hamada; Asahi Noguchi; The Role of Preconceived Ideas in Macroeconomic Policy: Japan’s Experiences in the Two Deflationary Periods; CENTER DISCUSSION PAPER NO. 908; March 2005

Yuji Kuronuma; Showa Depression: A Prescription for "Once in a Century Crisis"; Japan Center for Economic Research; April 2009

Kenichi Ohno; The Economic Development of Japan: The Path Traveled by Japan as a Developing Country; GRIPS Development Forum; March 2006

Masahiko Shibamoto, Masato Shizume; How Did Takahashi Korekiyo Rescue Japan from the Great Depression?; Research Institute for Economics and Business Administration, Kobe University; Institute for Monetary and Economic Studies, Bank of Japan August 1, 2011

Masato Shizume; The Japanese Economy during the Interwar Period: Instability of the Financial System and the Impact of the World Depression; Institute for Monetary and Economic Studies; May 2009

Game theorists call such a game an outguessing game.

Are You Smarter Than the Crowd? 

The best example for an outguessing game is probably trading on the stock market. The goal of traders is not to pick the best company. It is to pick the company that others think will be the best performing company in the short run.  In fact, it is to pick the company that others think, that others think that others think ... is the best performing company.

John Maynard Keynes used a “beauty contest” to describe this idea. He noted that: 

“(...) the competitors have to pick out the six prettiest faces from a hundred photographs, the prize being awarded to the competitor whose choice most nearly corresponds to the average preferences of the competitors as a whole (...)" 

Many strategic issues in business and politics can be approximated by outguessing games. The Nash equilibrium can make pretty good predictions about the behavior of the participants.  

But they are only accurate when players are familiar with similar games. Or such games are repeated, so participants develop a skill in predicting other people's responses.  

What makes the NYT game interesting is that it cannot be repeated. And apparently, for many players it is a novel strategic situation.

Reading The Mind of The Players

Probably, players that enter the game start reasoning that 50 will be roughly the average number of everyone else’s random pick. Hence, it is illogical to guess more than 50. It is more rational to calculate two- thirds of fifty, which gets you to 33. Nevertheless, unless you think that fellow players are behaving illogically, it is “stupid” to guess 33. Because if everyone picked 33, then 22 would be the winning number. 

To put it differently. If you do not underestimate your competitor's intelligence, and rather think that all the participants of the game can think as far ahead as you, then 15 is about two-thirds of 22, and 10 is two-thirds of 15 … and eventually, we will get to zero.

Zero would be what is known as the Nash equilibrium of this game. But choosing the Nash Equilibrium, or a number closely above, is by no means a winning strategy in the NYT game. The reader’s average guess has been 28 and thus, the winning number is 19. 

What makes the game so intriguing is that it reveals a lot about limited knowledge and ignorance of human beings. Apparently, many New York Times readers just jump into the game without even contemplating doing the most important thing to win it. Namely, doing nothing and think. 

Unsurprisingly, outguessing games are used by many psychologists and behavioral economists to study human behavior. It brings forth the trouble most humans have in thinking more than one or two steps ahead ("Level-K Thinking"). 

Level- K Type Thinking 

In the NYT article three game theorists noted that: "Guessers are fatigued, clueless, overwhelmed, uncooperative, or simply more willing to make a random guess in the first period of a game and learn from subsequent experience than to think hard before learning.” 

As mentioned above, in most games the empirically significant Level- K Type (LK) predictions tally with the Nash equilibrium. But in the NYT game Level- K Type predictions deviate systematically from it. Game theorists call such a game a structural, non-equilibrium game of initial responses based on "Level-K Thinking". 

The winning strategy involves Level-K Thinking Models. Participants must grasp the deviations of the crowd’s best guesses. Hence, the best guess must rather come from thinking than learning, because predictions are less reliable for initial responses. 

For the average human k is a small number, as they have difficulties to think multiple steps ahead. The average participant of the New York Times game thinks roughly one and a half step ahead of random guessers. The average of all guesses is 28, which is roughly halfway between the first order answer (33) and the second order answer (22). 

In this NYT game, someone who guesses randomly is a 0-step thinker.
 
● L0  is most often taken to be uniform random over the set of possible decisions
 
● L1 is the best response to L0. Thus, the player has a perfect model of the game but a naive model, or is ignorant, about the competence of the competitors 
 
● L2 (or L3) is the best response to L1 (or L2). Thus, the player has a perfect model of the game and a less naive model, or is less ignorant, about the competence of the competitors L1 (or L2). 
 
Hence, the player Lk, with k > 0, is rational in the sense that he understands the structure of the game and has the best response to beliefs about other player's decisions. 

The Cocky 33 Pickers

As shown above the average outcome of 28 should come as little surprise. It is roughly L1 and L2 players best response to L0 and L1 players. The average participant of the game is aware of how the game works. But interestingly, he is slightly underestimating the competence of fellow players. 

By far the most popular number chosen is 33, which is L1's best answer over L0 players. That is fascinating! Because it is the most ignorant and arrogant number. The cocky “33” pickers so to speak of.

Picking 33 implies a self- perception being the only smart guy in the room, and all others are just blockheads. Nevertheless, they are below average performers that underestimate the competence of fellow players. 

The pickers of numbers around 0 are very interesting too. They underestimate their performance in this game and overestimate those of the competitors. Basically, they are overachievers. 

Than we have the players that picked a number greater than 66. They expected a number close to 100 would be the average pick. Hopefully, those guys know about their very limited knowledge and incompetence. But I highly doubt it.  

Benjamin Graham the K- Level Thinker 

Benjamin Graham’s Mr. Market analogy is one of the most quoted in the investment community. The majority interpret it as advice to detach emotionally from market volatility.  But the quote goes much further. Because Benjamin Graham is also suggesting an investor’s best response to Mr. Market, i.e. the simplified model of other investors. 

Mr. Market is Graham's 0-step thinker (L0).  Mr. Market is random, but very likely not uniform. Hence, when dealing with Mr. Market Benjamin Graham is also advocating to the investors being a L1 thinker. But by publishing this quote, Graham himself may have already entered L2 thinking. 

Be a Knowledgeable Idiot 

If you ever find yourself in a situation where you need to outguess great minds like Benjamin Graham, you better be closer to the L3 thinking level. But make sure you are not overachieving. Because being too smart can just be as bad as being an overconfident Idiot. 

The rest of us is best advised to find cheap stocks in the market where the >50 pickers are dominant. The market of the clueless, overconfident, ignorant and unknowledgeable counter parties. Only here, being a knowledgable idiot is enough to stay ahead of the pack and win the outperformance game over the long haul.
 

Source/ Reference: 
 
Benjamin Graham; The Intelligent Investor; Harper Business Essentials; 2003 
 
Chris DeMuth Jr. - Poison Both Cups 
 
Puzzle: Are You Smarter Than 60,660 Other New York Times Readers? 
 
Outguessing and Deception in Novel Strategic Situations; Vincent P. Crawford, University of California, San Diego MEDS, Northwestern University, 4 October 2005 
 
 
 
 

Tokyo Bourse’s Buried Notice Spurs Surges in Cheap Japan Stocks (finance.yahoo.com)

For Takeda Pharmaceutical’s CFO, ‘Speed and Agility’ Were Key to Shire Tie-Up (Wall Street Journal)

Going down: Battle at Japan elevator maker Fujitec reaches final level (Reuters.com)

Activist funds must invest more than money to make impact in Japan (NikkeiAsia)

Casio’s Eccentric Product Culture, Built on Embracing Failure (Medium.com)

Analysis

Deep Dive: Japanese Trading Companies (Part 1) (Value Punks)

Imagineer - A Deep Value, Profitable, and 3.4% Yielding Net-Net Japanese Game Developer With 17+ Years of Dividend History (Altay Capital)

Ueda's New BOJ Regime: Two Favorable Conditions Not Present in Kuroda's Regime (Mush Research)

Thinking About the Yen’s True Strength (Nippon.com)

Japan Reality Check #4: In praise of the Salaryman CEO (Jesper Koll)

Profitable Pioneer in Construction Anchor Bolts Trading at 2.3x EV/EBIT (Kenkyoinvesting.com).

Videos/ Podcast

Capitalism Made in Japan (Jesper Koll/ Youtube.com)

Fukuda Denshi (JP:6960) is a well- established and leading Japanese medical device manufacturer, having strength in equipment related to the cardiovascular system. 

Founded in 1939, it developed Japan’s first electrocardiograph, The company offers a wide range of medical equipment products like defibrillators, patient monitoring, vascular screening -, ultrasound -, stress test - and respiratory systems. In addition, it provides therapeutic instruments for sleep apnea syndrome and sells AED (automated external defibrillators). 

The Company holds high market share within Japan in several business segments that show a duopolistic/ oligopolistic market structure and a secular tailwind due to an aging population. 

For a while, the growth engine has been renting medical equipment for home care, contributing significantly to the top and bottom line of Fukuda Denshi’s income statement. 

Apart from being a R&D1 driven, high-quality medical equipment manufacturer, Fukuda’s moat, and the barrier of entry for any competitor, is to be found in its close- knit support/ service network, which consists of more than 190 sales offices across Japan 

The absence of promotional behavior (limited IR), low trading volume of the stock and almost no analyst coverage has created a severe value dislocation in absolute and relative terms.  

Basically, the company is a highly profitable, long- term compounder with solid growth prospects, trading at single digit P/E2 and P/OCF3 multiples and 1,6 times its liquidation value. 

Drop of bitterness is Fukuda Denshi’s limited international presence (only 4% of sales are generated oversea), especially in light of Japan’s price cap on reimbursement for medical devices. 

Analysis of Operation, Cash Flow and Balance Sheet 

Analysis of Operation 

Fukuda Denshi’s business is divided into four segments: Physiological diagnostic equipment; Patient monitoring equipment; Medical treatment equipment and Consumables and other products. 

The company follows a growth strategy that emphasizes profitability, which is vindicated by a closer evaluation of key operating figures at segment levels. 

1. Physiological diagnostic equipment (=22,3% of sales in 2022): Although Sales stagnated at around ¥ 26’000 M between 2012 and 2022, operating margins increased from 8-14% 

2. Patient monitoring equipment (=9,8% of sales in 2022): Sales increased from ¥ 8’741 M in 2012 to ¥ 10’604 M in 2022, while operating margins increased from 7-19% 

3. Medical treatment equipment (=41,3% of sales in 2022): Sales increased from ¥ 37’304 M in 2012 to ¥ 54’510 M in 2022, while operating margins increased from 12-21% 

4. Consumables and other products (=26,6% of sales in 2022): Sales increased from ¥ 19’641 M in 2012 to ¥ 33’641 M in 2022, while operating margins increased from 9-15% 

With a CAGR4 of 3 % p.a. in 22 Years Fukuda Denshi’s overall sales growth appears modest.  

But modest sales growth has translated nicely into margin expansion and EPS5 growth, especially since the onset of Abenomics in 2012. 

From 2000 to 2022 EPS increased by a CAGR of 7% p.a., from ¥ 111 to ¥ 535. Since 2012 the momentum accelerated significantly to 13% p.a. 

Analysis of Cash- Flow 

Fukuda Denshi generates abundant CFPS6. OCFPS7 increased from ¥ 175 Yen in 2000 to ¥ 765 in 2022, a CAGR of 7% p.a. Between 2012 and 2022 the CAGR was 12% p.a.  

FCFPS8, or owner earnings, increased at 6 % p.a. over a period of 22 years, matching growth in EPS and OCFPS.  

For several years, FCF readings have been depressed by significant Capex9 outlays.

For a manufacturer Fukuda Denshi can be regarded as a Capex light business. Depreciation charges in segments other than medical treatment equipment averaged roughly 2% over net sales between 2012 and 2022. An outlier is the segment medical treatment equipment (See Growth Strategy), which includes the rental business for home medical care. From 2012 to 2022 depreciation charges averaged 12% over net sales. 

Thus, Capex should be treated as growth, rather than maintenance!

Growth Strategy: Home Care Business

Latest sine the establishment of “in-home care support centers”, as part of revisions to the medical treatment remuneration system implemented in 2006, the Japanese government has proactively promoted home care.   

But out of necessity (in 2018 average hospital stay in Japan was three times longer than in the Netherlands) it keeps pushing harder. Compared to 2014 levels it is planning to reduce hospital beds by 10% in 2025, while, at the same time, it expects that 1m people will receive care at home in 2025—one-and-a-half times the total of 2018.   

Fukuda Denshi has long centered its growth strategy around the home care business, providing rental services for oxygen concentrators, home-use mechanical ventilators and equipment used to treat sleep apnea syndrome.  

In 2016 Fukuda Denshi took over OMRON Colin, a medical device manufacturer with strength in blood pressure monitors and test equipment, further expanding its product line- up in the home care business. It also signed a partnership with Omron Healthcare, which allows Fukuda Denshi to market its products via Omron’s global sales network. 

Thus, the company is well positioned to keep profiting from the secular trend “Away from Hospital towards Home Care”. 

Analysis of Balance Sheet 

Fukuda Denshi exhibits a rock-solid balance sheet. Interest-bearing debt is negligible, and the shareholder equity ratio is in excess of 70%.  

Since 2000 net assets and retained earnings have increased at a CAGR of 4,7% p.a. Growth in BPS was, with 6% p.a., slightly higher due to significant share buybacks conducted between 2009- 2013 (see Corporate Governance). 

Fukuda Denshi’s asset composition is highly favorable, as the company carries little intangibles on its balance sheet and the majority of tangible assets are highly liquid. 

Fukuda Denshi’s liquidation value stands at roughly ¥1’800 per share. If the investment portfolio was included, which consists of marked to market investment securities and insurance funds, liquidation value would increase to ¥ 2’570 per share.   

Hence, at the time of writing, investors are only willing to pay a premium of 60% to Fukuda Denshi’s liquidation value. 

Valuation 

General Valuation 

Although, Fukuda Denshi exhibits high profit margins and, for a Japanese company, a decent ROE10 of 11%, it only trades at 8 times earnings, 5 times OCF and 0,8 Book Value. 

Adjusting for little gearing, high cash balance and Fukuda Denshi’s investment portfolio, the value proposition becomes even more compelling.  

ROIC11 (excl. all cash and investment holdings) for 2022 was 22% and the company is trading at an EV12/ Ebit13 multiple of 1,7. The FCF/ EV yield is 22%. 

Relative Valuation 

Fukuda Denshi’s main competitor within Japan is Nihon Kohden.

A relative valuation on the basis of EV to Ebit and Ebitda reveals a significant discount the market is applying to Fukuda Denshi. And this is for the company with the higher ROIC and higher FCF yield.  

Valuation and Performance 

Over 10 years the stock price has risen by a CAGR of 11,6 %, outperforming the TOPIX Index by roughly 70 %. 

In 2012 the stock traded at a P/E ratio of 8 and a P/OCF ratio of 6, almost exactly where valuation stands at the time of writing. Thus, the stock performance has been fully backed by fundamentals. There was no expansion in the earnings and OCF multiple! 

Analysis of Pay- Out Policy 

Fukuda Denshi pays dividends biannuaully. The company targets a pay- out ratio of 30% over net- income and pays the dividend on a “hybrid basis”. That is payments have a fixed and a performance-related portion.

Up until 2004 the pay- out had been dismal. Between 2000 – 2006 Fukuda Denshi’s pay-out ratio fluctuated between 7 - 15%.  Adjusting for a 1:2 stock split that took place in November 2022, the company has increased its dividend significantly, from ¥ 47,5 to ¥ 152,5, since 2011.

For the current Fiscal Year that ends in March 2023 the company guides for a total dividend of ¥ 140. At current stock price the dividend yield is 3,3%. The performance related portion of the year- end dividend has not been disclosed yet.

Corporate Governance 

Corporate governance was an issue in the past. But most matters have been resolved and CG has been constantly improving.

2004-2005 Steel Partners, a foreign shareholder activist, had accumulated a significant amount of shares. By 2006 Steel Partners was Fukuda Denshi’s largest shareholder (with 14% of outstanding shares).  Other major shareholders were Atomic Sankyo and Tokyo Enterprise, companies with strong relations to the founder and its family. 

Steel Partners demanded a dividend increase from ¥ 40 to ¥ 140, which it deemed reasonable given Fukuda Denshi’s earning power. 

In response, Fukuda Denshi doubled the dividend to ¥ 80 per share, but also pushed through a takeover defense measure at the AGM14, which still is in place. 

Shortly after the GFC15 peaked, Steel Partners was forced to liquidate its position in Fukuda Denshi, which was no easy matter due to limited trading liquidity. 

Fukuda Denshi took advantage and bought back Steel Partner’s block of shares in 2009/2010. It was the beginning of a significant buyback program that lasted until 2013, and in which Fukuda Denshi accumulated roughly 28% of outstanding shares at incredible favorable terms for remaining shareholders.  

Following the percentage of outstanding shares, price paid (not split adjusted) and terms of the buybacks: 

• In 2009 the company bought back 4,2% of outstanding shares at ¥ 2’250. The price paid was roughly 20% above liquidation value (incl. Company's investment portfolio). 

• 2010 it bought 6,5% at ¥ 2’500. The price paid equaled its NCAV16 (incl. Investment portfolio). 

•  2011 the company bought 7% of outstanding shares at ¥ 2’110. The price paid equaled its liquidation value. 

• 2012 it bought 3,7% of outstanding shares at ¥ 2’395. The price paid was slightly above liquidation value. 

• 2013 the company bought back 8% at ¥ 3’750. The price paid was slightly above NCAV. 

The last transaction was a tender offer, buying out Tokyo Enterprise. 

The largest shareholder remaining was Atomic Sankyo, owning 16% of outstanding shares. The entity, which mainly produced and sold electrocardiogram recording paper, was 100% controlled by Fukuda Denshi’s founder and relatives, with Fukuda Denshi being the main customer via related party transaction  

In 2015 Atomic Sankyo was made a wholly owned subsidiary of Fukuda Denshi by a share exchange, whereby Kotaro Fukuda’s holding in the company changed from direct and indirect to only direct.  Through this transaction, Fukuda Denshi’s share count increased by roughly 1,5 Million Shares. 

Apparently, Atomic Sankyo was taken over on favorable terms for Fukuda Denshi, as negative goodwill was booked on. 

Kotaro Fukuda now owns 22% of the company via direct ownership. The treasury shares accumulated since 2009, roughly 20%, have not been retired. 

Conclusion

Fukuda Denshi is a leading Japanese medical equipment manufacturer that is a long- term beneficiary of a rapidly aging population and structural changes in the delivery of healthcare to Japanese citizens.  

Although the company has been growing only moderately over time, sales growth has translated into disproportionate rates of increase in profit margins, cash- flow and earnings. In addition, issues concerning the Corporate Governance have been resolved and the management appears to be increasingly aligned to the interest of minority shareholders.

Nevertheless, due to external factors, such as limited recognition and a general apathy towards Japanese equities from investor’s side, the company has been trading in deep value territory for an extended period of time.

Disclaimer: 

Partners and myself hold a position in Fukuda Denshi (JP:6960)

Undervaluedjapan uses information sources believed to be reliable and accurate. But this cannot be guaranteed. The information contained in this publication are not intended to constitute individual investment advice and is not designed to meet your personal financial situation. The opinions expressed in this publications is that of the publisher and subject to change without notice.  

Reference/ Source: 

Summary Reports on Financial Results - Fukuda Denshi 

Notice of the Revision Forecast of the Financial Results, Distribution of Surplus and Year-end Dividend Forecast, Stock Split and Partial amendment to the Articles of Incorporation 

Fukuda Denshi Announces that it Makes Atomic Sangyo its Wholly-owned Subsidiary 

Notice regarding Business Partnership between Fukuda Denshi and OMRON Healthcare, and Transfer of Shares of OMRON Colin to Fukuda Denshi 

https://fukuda.com/news/press-releases-2009/ 

https://fukuda.com/news/10792/ 

https://fukuda.com/news/press-releases-2011/ 

https://fukuda.com/news/press-releases-2012/ 

https://www.fukuda.co.jp/press/2013/ 

Japan Panel Members Seek to Reduce Hospital Beds to Cut Costs (Nippon.com) 

Japan tries to keep the elderly out of hospital (Economist.com) 

A genuine “Value Trap” is no laughing matter and a nightmare for any deep value investor, including myself, But in contrast to conventional definitions, I see it as a situation where a cheaply valued company has some kind of structural issue, cannot make any positive returns on invested capital over time, burns its cash and will eventually fail. 

Seeing Value Traps Where Are None 

Investing in “Value Traps” is detrimental because of the permanent loss of capital. Genuine “Value Traps” are the genesis of Warren Buffett’s two rules to stock market investing: 

1. Never lose Money 

2. Never forget rule Nr.1 

I would add another rule. 

3. Be aware of the “Value trap misconception trap”

Because permanently seeing “Value Traps” that are nonexistent is no less expensive. The cost of over and over missing out on outstanding opportunities will compound significantly over the long- run. 

"Bargain stocks do not exist in a vacuum. They are always surrounded by high doubt and great fear. It is the inflicting pain of the relentless stock price decline in combination with temporary operational issues that creates them." (Stephen Penman)

Seeing "Value Traps" that do not exist is a common error among value investors. In a strange habit they call out "Value Traps" in bargain stocks with temporary, albeit often prolonged, operational and stock price weakness, unable to envision that the underlying profit potentials are often largely unimpaired. 
 
Therefore, it is paramount for a deep value investor to invert, always invert. Recalling that bargains do not exist in isolation. That they are always surrounded by high doubt and great fear and a myriad of reasonings uttered by fellow investors not to buy into them. And that these opinions find their expression in a ruthless downtrend of the company’s stock price.  

Real "Value Traps" Are Rare 

There is no doubt that a true "Value Trap" is a genuine risk in deep value investing. Given the regularity investors proclaim “Value Traps” makes one believe they are a highly frequent phenomenon. That is not the case!  

"Value traps are rare events for individual stocks. And for entire asset classes they are almost nonexistent." 

If a “Value Trap” is defined as a 90% stock price decline in three years or less, with no recovery in the next three years than, at any given time, less than 7% of all stocks in the broad U.S. market may be deemed "Value Traps". Thus, they are are truly rare events for individual stocks. And for entire asset classes they are almost nonexistent. 

Given the low statistical probability of falling prey to genuine "Value Traps", and numerous so-called value investors repeatedly calling them out, knowing what does not constitute a "Value Trap" is the name of the game in deep value investing.

Because it is exactly “The value trap misconception trap” that creates those bargains in the first place. 

Mabuchi Motors: The "Value Trap" That Turned Into a Three-Bagger  

A prime example of the “value trap misconception trap” was my 2012 investment into Mabuchi Motors. 

"‘Cheap, but for a reason is actually close to a definition of a "value trap" for most investors. The great danger of accepting it unconditionally, is not to contemplate reasons why a company should not be cheap." 

Mabuchi Motors, the world largest producer of small RC motors, traded at around liquidation value for a prolonged period of time. But there was total apathy within the value investor community toward the stock, even though the company is a hidden champion in many niche applications. 

It begs the question, why so few fellow investors dared venturing into the stock? From the comments I got, the majority saw the stock as cheap, but for good reasons.  

Declining overall sales, margin pressure due to the high Yen, a lack of new (visible) applications for RC motors, etc. made them see a pattern of operational issues that appeared structural.  

And, most importantly, they seemed vindicated by a relentless downtrend in Mabuchi’s share price over a prolonged period of time. Whereby the last observation gave more insight into the investors time horizon than Mabuchi being a value trap or not.  

It turned out that operational issues at Mabuchi were only temporary. And most value investors missed out on a stock that increased threefold (excl. Dividends) in two years by once again falling prey to the "value trap misconception trap".  

"Cheap, but for a reason" is the definition of a “Value Trap” for most investors. An easy dismissal that prevents from thinking about reasons why a company should not be cheap. 
 
At Mabuchi Motors investors did not reason that applications of its small RC motors had become obsolete before (Record Players, Tape Decks, etc.) and the company having a history of finding new ones successfully shortly after (CD- Players, Hard disc Drives, etc.). 

Falling Prey To The "Value Trap Misconception" 

Missing out on great opportunities, because of repeatedly categorizing companies as "Value Traps" that ain’t is a common error in value investing.

Many value investors do not realize that it is exactly this sort of "misdiagnosis" by fellow investors that is the wet dream of any deep value investor. It can lead to outstanding companies like Mabuchi trading on the stock market significantly below intrinsic value and enables successful investors to compound above market averages over time.  

Let’s finalize the post with another practical example. My investment in Osaka Gas in 2012. Many will argue that a 3% CAGR (excl. Dividends) over 11 years does not seem that much of a bargain anymore. The assertion is true as far as it goes! 
 
However, it is my belief that, as value investors, our main concern should be about capital preservation. Making sure that our downside is protected and not be too bothered about any upside potential.  

Investing into three-bagger stocks like Mabuchi Motors is the exception and not the norm. And they are entirely worthless in a portfolio that does hold just a few severely capital destroying stocks. 
 
As so often with stock market investing, also with “The value trap misconception trap”, we enter a perceptual area that is beyond simple definition and discussion.

A world where many investors are unable to grasp that a stock cannot be a "value trap" one day and not on the other. It either is or it is not! 
 

Reference/ Source:

Just an illusion - Investors often see a value trap where one simply does not exist by Nick Kirrage

The Value Trap: Value Buys Risky Growth; Stephen Penman; Francesco Reggiani (Link)

After frequent requests by readers I finally decided to join the fintwit community.

Feel free to follow!

Articles

Actually, Japan has changed a lot (Noahpinion)

The Growing Comprehension Gap That Isolates Japan(Bloomberg.com)

Reality behind Daikin's record profit chills its shares (NikkeiAsia.com)

Japan’s wage watershed raises economic hopes (ft.com)

Japan’s ‘widow-maker’ trade has finally come good (Ft.com)

Japan Logs Record Current Account Surplus for Nov. (The Japan News)

Japan Tobacco Urged to Sell Drug Unit by Activist Shareholder LIM (Usanew.com)

Analysis

Closer to Victory, Fighting a "Deadly Disease" (Musha Resarch)

Nippon Ichi Software Inc - A Deep Value, Profitable, and Growing Japanese Video Game Developer That’s Almost a Net-Net (Altay Capital )

Japan reality check #1: how does Japan Inc. distribute its spoils? (Jesper Koll)

Japan’s Venture Capital Industry: Snapshot of Growth and Transformation (carnegieendowment)

Podcast

The forgotten mistake that killed Japan’s software industry (Disrupting Japan)

The Showa depression was a fundamentally different economic crisis than the Showa recession and financial crisis of the 1920’s, a macroeconomic event mainly induced by external factors and policy mistakes.  It will mark the trough of a relentless bear market in Japanese stocks, losing roughly three quarters of its nominal value over a 12-year period. However, the extent of the damage to investors and business sentiment brought forth by the Showa depression was so great that the stock market would not fully recover for another ten years. 

This is the last post in a two-part series (link to first part) about economic policy blunders, financial follies, and the mismanagement of money and credit, a story about Japan’s forgotten “Lost Decade”. 

The Long Road to Restoring the Gold Standard in Japan  

Following WWI, leaders all over the world attempted to quickly restore the suspended international gold standard to its pre-war parity and rebuild the European economy.

The U.S. had already returned in 1919.  It took a little longer in the U.K. The planned adoption was met with a heated debate between economists who opposed the return to the gold standard—at least not at pre-war parity—and politicians, business leaders, and other supporters of the gold standard.  

John Maynard Keynes was the most outspoken British opponent of restoring the gold standard at pre-war parity. In 1925, he stated that the equilibrium exchange rate had significantly shifted due to international price divergence. If an exchange rate was chosen that was too high, a recession would follow. Nevertheless, the U.K. joined the gold standard in April 1925, and by the latter part of the 1920s most industrialized nations had returned 

Although, restoring the gold standard had always been an important political agenda in Japan throughout the 1920s, it decided not to join the other major nations in 1925. Japan had legitimate reasons to be wary.  

Recurring bank runs during the Showa recession and financial crisis revealed the fragility of Japan’s financial system. Furthermore, persistent trade deficit signaled the country's declining competitiveness. And last, the nation's foreign reserves, which had been accumulated through large trade surpluses during WWI, were declining.  

However, the advocates of the gold standard at prewar parity were in the majority. Dissident voices, like those of the economic journalist Tanzan Ishibashi, advocating for a return to the gold standard at a new, more depreciated parity, were in the minority camp and mostly ignored.  

The government’s aim was twofold: First, to join the group of respectable nations that were all already on the gold standard. Second, to reduce “conspicuous” consumption, increase saving and frugality, restructure industry, and increase efficiency.  

Many leaders in Japan believed that the great boom of WWI caused businesses to lose qualities essential for a country's rapid development. They were convinced they could be restored by a "shock treatment" in the form of a recession. For them, returning to the gold standard at prewar parity was a suitable means to that purpose.1

Shrink First in Order to Extend

It was the Minsei Party government (July 1929-April 1931), with Prime Minister Osachi Hamaguchi, Finance Minister Junnosuke Inoue, and Foreign Minister Kijuro Shidehara that finally initiated economic policy measures to return to the gold standard at prewar parity.   

Finance Minister Inoue deliberately deflated the economy, which eventually led to a sustained real appreciation of the Yen, and implemented a macroeconomic austerity program arguing that: 

„ (...) Our economy remains very unstable because of the export ban on gold, the yen’s non-convertibility to gold and the resulting exchange rate fluctuation. We must liberalize gold exports as soon as possible. But we cannot liberalize gold exports without preparation. What is required in preparation? The government must tighten the budget. The people must accept this fiscal austerity and they themselves must reduce consumption. If that happens, prices will start to fall, and imports will begin to contract. That will create an upward pressure on the Yen in the foreign exchange (...) we face a recession without an end in sight. If nothing is done, we will sink deeper into the recession.” (Essays of Junnosuke Inoue, Vol. 1, 1935)  

The preparation occurred precisely at the worst possible time. Wall Street had just been severely shaken by the October 1929 stock market crash, the prelude to a depressionary economic crisis that would quickly engulf all capitalist nations.

Finally, in the 1930’s, with the overwhelming support of the public, Japan restored a fixed exchange rate of 2 yen per dollar, returning to the gold standard at prewar parity. The outcome was an absolute disaster. 

The Showa Depression  

Although, the Showa depression was shorter and milder than in other parts of the industrialized world, it was nevertheless a traumatic experience for the country.  

After reintroducing the gold standard, the Japanese economy immediately experienced an economic double whammy. The consequences of the global depression unfolding in combination with a rapid Yen appreciation. 

The result was an abrupt and severe deflation and contraction in economic activity. When compared to the Showa recession and financial crisis of the 1920s, basically a banking crisis with manageable adverse negative effects for the overall economy, the Showa depression was a completely different beast. 

Nominal GDP growth plummeted -9.7% in 1930 and -9.5% in 1931. As prices fell, the initial response by manufacturers was to produce even more to support earnings and production utilization. Although, individually a rational calculus, collectively it accelerated the oversupply and the deflationary forces in the economy.

The wholesale price index contracted by approximately 30% between 1929 and 1931, while agricultural prices slumped by 40% and textile prices plummeted by nearly 50%. Thus, the macroeconomic downturn was felt primarily in falling prices, and not so much in output contraction as in the ROW (estimated real growth was slightly positive between 1930/1931). 

The impact of the Showa depression on the Japanese society was devastating, especially in rural areas. Around 1931, rural poverty became unbearable. Many undernourished children were born, and farmers even forced to sell their daughters. The disaster sparked widespread outrage and criticism of the government and large corporations. Still, the government pushed through cartelization and rationalization.  

Later, with the free-market system discredited, output restriction agreements were adopted. This practice spread to almost every material industry (cotton yarn, rayon, carbide, paper, cement, sugar, steel, beer, and coal, etc.). It only aggravated an already desperate situation. 

When the United Kingdom abandoned the gold standard in September 1931, speculators around the world where betting that Japan would soon follow suit.  In a frenzy they sold Yen for Dollar, drawing massive amount of capital out of Japan.  

Although, the crisis got worse by the hour, the Japanese government would stubbornly stick to the gold standard, with the BOJ primed and ready raising the discount rate twice. A fruitless attempt that only exacerbated the economic catastrophe.

Economic turmoil was followed by political. In the end, on December 13, 1931, the Wakatsuki Cabinet failed and was replaced by the Inukai Cabinet. As soon as the new government was sworn in, finance minister Korekiyo Takahashi completely reversed Inoue's policies. It immediately took the country off the gold standard and began efforts to reflate the economy 

Conclusion 

The Showa depression was a very different kind of economic and financial crisis than the Showa recession and crisis in the 1920s, which was primarily a banking crisis with limited adverse effects on aggregate demand and supply. Some experts even assert that it contributed to the improvement of the Japanese financial system.  

No such claims are made regarding the Showa depression. The only individual who stubbornly defended the idea that Japan required deflation was ex-Finance Minister Junnosuke, arguing that, with the assistance of the government and the Bank of Japan, unprofitable banks and businesses had been able to survive the Showa Recession and financial crisis of the 1920s. For him the deflationary shock around the adoption of the gold standard was painful, but inevitable to get rid of the last inefficient businesses.

Barely 60 years after the Showa depression, policy makers in Japan would once again fall prey to questionable beliefs like those of Mr. Junnosuke. In the 1990 and 2000’s they held the same kind of debates and made the same kind of policy errors like during the Showa recession, financial crisis and depression. Paving the way to the Heisei recession after the Japanese stock market and housing bubble popped in 1990. A crisis that is still reverberating at the time of writing, over 30 Years later,.

Reference:

Koichi Hamada; Asahi Noguchi; The Role of Preconceived Ideas in Macroeconomic Policy: Japan’s Experiences in the Two Deflationary Periods; CENTER DISCUSSION PAPER NO. 908; March 2005 
 

Yuji Kuronuma; Showa Depression: A Prescription for "Once in a Century Crisis"; Japan Center for Economic Research; April 2009 
 
Kenichi Ohno; The Economic Development of Japan: The Path Traveled by Japan as a Developing Country; GRIPS Development Forum; March 2006 
 
Masato Shizume; The Japanese Economy during the Interwar Period: Instability of the Financial System and the Impact of the World Depression; Institute for Monetary and Economic Studies; May 2009 
 

The Showa recession, financial crisis and depression, which ravaged Japan in the 20s and early 30s of the previous century resembled the Heisei recession on four important counts: 

First and foremost, the trend was deflationary. Second, after a severe and prolonged downturn, the stock market took 11 years to reach its lowest point. Thirdly, there were significant swings in the Yen. Finally, the climax was a full-blown synchronized global financial crisis and economic slump: The 1930-1931 Showa Depression.

In December 1919 Japan’s stock market peaked. What followed was a spectacular and prolonged secular bear market that lasted about 12 years. Finally, the Nikkei equivalent reached its low in November 1931, shedding 74% of its value. However, the extent of the damage to stock prices and business sentiment was so great that the stock market did not fully recover for another ten years. 

Surprisingly, despite many striking similarities between Japan's "Lost Decade" and the Showa recession, financial crisis and depression, academics and investors in stock markets never really paid attention to the latter. 

This is the first post in a two-part series that aims to change that. It is a story about economic policy blunders, financial follies, and the mismanagement of money and credit. It is the story about Japan’s forgotten “Lost Decade”. 

Japan’s Pre-War Economy

Even though Japan stood by and watched the great war in Europe to play out, the economic impact was significant, and surprisingly positive.  

Japan's prewar financial situation was precarious. Massive expenditures for the Sino-Japanese War (1894-1895) and the Russo-Japanese War (1904-1905) had left Japan's public finances in shambles, and the state-promoted shift toward military-oriented heavy industry around 1894 had resulted in large imports of raw materials and machinery and a massive structural trade deficit.  

In essence, Japan was about to go bust on the eve of WWI, only able to kick the can down the road by floating a large amount of debt, denominated in foreign currency, thanks to the Anglo-Japanese alliance.  

WWI changed everything. Japanese goods saw an increase in demand as European producers retreated from global markets. Latest with the war time boom in the U.S. that started in 1916, Japan’s economic expansion turned into full swing with the U.S. absorbing unprecedented quantities of Japanese exports.   

The economic boom was nothing short of spectacular. In real terms, domestic manufacturing increased by 54%, and export value by 47%. The Japanese stock market was by far the best performing international market, rising by about 130 percent between 1914 and 1919.   

Foreign currency and gold poured into the country. Japan would eventually have access to sufficient financial resources to possibly pay off all debt it had accumulated in previous decades.  But this would not be the case. Instead, Japan decided to become a creditor nation, financing its own trade to maintain the frantic economic expansion.  

The Showa Recession: From Boom to Bust 

The wartime boom eventually came to an abrupt halt, and the bust that followed would be brutal. Even though there was a brief inflationary boom around the middle of 1919 that had all the characteristics of a speculative mania, the postwar shock eventually took the Japanese stock market with it.  

In December 1919 the market reached its highest point before slowly declining. Investors were anticipating a hard landing for the Japanese economy, which led to an increase in the downward momentum in February/ March 1920.  

Japan’s financial system was in a worrisome state. During the war boom, and the inflationary bubble that followed, many big banks and corporations had engaged in speculative activities and overextended. Additionally, a slew of dubious small and medium-sized financial institutions, known as Kikan Ginko1, had contributed to the accumulation of bad debt.  

The Masuda Bill Broker Bank in Osaka was the first bank failure during the Showa recession, triggering a bank run in parts of Japan. The stock market plummeted as a result. 21 Japanese banks' suspended operations between April and July 1920, either permanently or temporarily.  

To ease tensions and stabilize the financial markets, the Bank of Japan (BOJ) intervened and extended a variety of "special loans." Additionally, it attempted to alleviate key industries. The BOJ's actions did temporarily calm the situation, but they were insufficient given that the Japanese economy was just beginning to enter a recession.2 

When the Ichi corporation, a lumber company located in Osaka that had engaged in massive speculative activities, declared bankruptcy in February 1922, Japan’s financial stability was once more put to the test.  

Bank panic spread throughout the Kansai region. Then, from October to December 1922, bank runs spread to other localities. From December 1922 to April 1923, the BOJ granted "special loans" to 20 banks once more.  

Additionally, the government enacted the Saving Bank Act of 1921 and imposed stricter regulations on small savings banks. Furthermore, it attempted to accelerate reforms of the entire financial system, including the larger ordinary banks.  

The financial markets were once again calmed down by the BOJ and the government. However, within a short period of time a terrible catastrophe would strike Japan: 

The Grat Kanto Earthquake 

The earthquake of September 1923 seriously disrupted Japan's financial system, because it damaged not only the banks' financial, but also their physical assets.  

Depositors were scared, fearing bank losses and loan repayment delays. The BOJ acted swiftly and provided banks in the region with special emergency loans in form of discounted earthquake bills (REBs).  

REBs were essentially commercial bills. For "discounting," they were first taken to banks. Banks purchased the bills and paid in cash after deducting interest from now until the maturity date. The banks, on the other hand, returned these bills to the BOJ for "rediscounting", receiving cash. The BOJ's intention was to inject liquidity into the financial system as well as the real economy to prevent a full-scale financial meltdown and sustain economic activity.  

The government also got involved. In response to the crisis it made special arrangements, like issuing a decree imposing a moratorium, allowing districts affected to postpone payments due from that month forward. In addition, on September 27th, the government indemnified the BOJ for any losses incurred by re-discounting bills and payables due in the affected areas. Depositors were relieved and by the time the moratorium was lifted in October 1923, financial tensions had been curbed.  

“Zombie Lending” And “The Earthquake Bill Problem”

Although this rescue provided the Japanese financial market with temporary protection, the BOJ's emergency policy ultimately led to the creation of a new issue known as "Zombie lending."

When rediscounting commercial bills from the Kanto Region, the BOJ did not discriminate. Banks and businesses from all over Japan gladly presented their non-performing loans to the BOJ that had nothing to do with the Great Kano Earthquake, exchanging bad debt for good cash.  

Japanese politicians and bureaucrats expected that, even though some of the Japanese companies might go bust, most would eventually be able to resume operations. If the problems were solely caused by the earthquake, the BOJ ought to be able to redeem most of the earthquake bills eventually. But that did not reflect reality. 

After two years companies only redeemed approximately half of the loans that had been extended to them. “Moral Hazard” was creeping into the financial system with the Bank of Taiwan, and its major client Suzuki Shoten, being the biggest issue. “The earthquake bill problem” was born.

The Bank of Taiwan And Suzuki Shoten 

The Bank of Taiwan was a strange case. Despite its official status being Taiwan’s central bank, it also actively extended loans to mainland Japan, including Suzuki Shoten. Thus, it had an official status but also served as a commercial bank.

On the other side of the issue was Suzuki Shoten, a relatively new, but nevertheless significant, trading company headquartered in the city of Kobe. Through speculative business expansions its sales turnover even exceeded that of large and established Zaibatsu trading companies at one point. 

Suzuki Shoten, like many other Japanese businesses, experienced a severe problem with bad debt following WWI and the collapse of the war bubble. It repeatedly requested short-term rescue loans from the Bank of Taiwan, its main bank, to meet its debt obligations.  

The Bank of Taiwan was unable to simply end its relationship with Suzuki Shoten. The bank's overall loan portfolio already comprised of an excessive amount to the company. It was essentially merely delaying the inevitable by rolling over existing debt and providing new loans with help of interbank "call" loans and borrowing from the Bank of Japan. 

The Showa Financial Crisis of 1927 

Finally the government acted. Two laws were drafted: The first would permit the use of government bonds as collateral to reschedule bad commercial bank bills for ten years. The second would make it possible for the government to give the BOJ a maximum of 100 million yen for deducting losses caused by the earthquake bills. Thus, some of the bad earthquake bills would be paid off with public funds, while others would become long-term debt that had to be paid back over time. 

In January 1927, a parliamentary debate on those laws started. On March 14, 1927, Finance Minister Kataoka was grilled by the House of Representatives' Budget Committee. Extremely dissatisfied with the opposition, and the lengthy debate, Mr. Kataoka revealed explosive news that had just passed his desk. 

“The Tokyo Watanabe Bank finally declared bankruptcy today around noon”. 

The Tokyo Watanabe Shoku  

Very likely Mr. Kataok’s intention was to illustrate urgency to the opposition. For the Japanese public and the financial markets, the news was an unexpected bomb shell. Japanese depositors immediately lined up in front of Tokyo Watanaba’s branches to withdraw their funds. Shortly after, numerous other banks were forced to temporarily close their doors in the Tokyo region.  

Quickly, it became clear that, technically speaking, the Tokyo Watanabe Bank was not bankrupt. It “only” had liquidity issues that were fixed in a timely manner. The bureaucrat who conveyed the information to the finance minister had forgotten to correct the initial report. 

Minister Kataoka was heavily criticized for his slipping words. However, regardless of Mr. Kataoka's careless and erroneous statement, any observer should have been aware that the Japanese financial system was at a point of no return. That the numerous bank runs that had beleaguered Japan were not cyclical but systematic in nature. Brought forth by an ulcerous of bad debt. that had been allowed to accumulate in the Japanese economy for such a long time. 

The Bank of Taiwan Shoku 

By the end of 1926, the Bank of Taiwan and Suzuki Shoten accounted for 48.4 percent of the “earthquake bill problem”. But there was no indication of any emergency; neither Suzuki Shoten's nor Bank of Taiwan's management seemed troubled. They viewed the two organizations to be systemically relevant and too big to fail. The informed public saw it similarly. The idea that the government would give up on the Bank of Taiwan and Suzuki Shoten was unthinkable.  

It was a dreadful misapprehension. Eventually, Japanese policymakers would be determined to fix the "earthquake bill problem" once and for all. And tackling the issue would require resolving the Bank of Taiwan-Suzuki conundrum.  

On March 26, 1927, after being put under pressure by officials, the Bank of Taiwan finally turned Suzuki Shoten down for further lending. Naturally, other commercial banks withdrew their call loans from the Bank of Taiwan as soon as the companies' separation was announced. The Bank of Taiwan could not survive unless it received additional loans from the Bank of Japan.  

But the BOJ hesitated. Only when a new law had passed the parliament, covering future losses, was it willing to act as the "lender of last resort".  

The government was in a hurry and issued an imperial edict of emergency that stated: (i) Until May 1928, the BOJ could make special loans to the BOT without putting up any collateral. (ii) The government would pay the BOJ up to 200 million yen for any losses from these loans. 

Everyone thought the bill would easily go through the parliamentary process. But it was rejected by the Privy Council, which was highly politicized and heavily influenced by ultra-conservative politicians. The BOJ refused to lend to the Bank of Taiwan when the edict was rejected and could not be signed by the emperor.  

On April 18, 1927, the Bank of Taiwan was forced to close its doors. On the same day, the Omi Bank also shut down. Meanwhile, banks still operating showed off tall stacks of currency notes at the cashiers to calm clients. But it was too late. A wave of bank runs spread throughout the peninsula. Although it was already the third financial panic in 1927, it was by far the worst.  

In addition, this time it was accompanied by political turmoil. The Wakatsuki Cabinet resigned on April 20, 1927, and Korekiyo Takahashi, also known as the Japanese Keynes, became Finance Minister for the opposition Party.  

Two days later the new government imposed a three-week "moratorium" on virtually all financial obligations and ordered all banks to "voluntarily" close for two days to safeguard banks. With the exception of small sums to cover people's living expenses, no deposits could be withdrawn.  

With the exception of the numerous banks that had vanished, and the depositors who had lost their savings, things went back to normal when the moratorium was lifted. 

The Showa Recession and Financial Crisis: The Outcome 

The Showa recession of 1920- 1926, and the Showa financial crisis of 1927, was basically a banking crisis. The outcome was a severe contraction of bank credit, especially to small and medium-sized enterprises.  

Surprisingly, the macroeconomic impact was adverse but not catastrophic. Between 1920- 1929, the rate of real economic growth was volatile, with frequent recessionary periods, but on average positive (1,8 percent). Although the period was deflationary, deflation was mild, averaging -1,3 percent.  
 
The most significant outcome was the concentration in the Japanese banking sector by liquidating unsound banks and merging others. The number of ordinary banks dropped from 1'794 in 1922 to 1'028 in 1928. Although, the average paid in capital per bank increased, the total amount decreased steadily. 

The typical depositor at a bankrupt bank lost 35-50 percent of his savings during the consolidation process. By imposing a minimum capital size and other requirements, the government encouraged further M&A of the remaining small banks  The public shifted their deposits from small local banks to large banks with big names.

Thus, deposits were increasingly concentrated in the “Big Five” banks: Mitsui, Mitsubishi, Sumitomo, Yasuda and Daiichi. Some observers argue that the elimination of small banks, especially the Kikan Ginko, had not only adverse consequences. They claim that the concentration of the Japanese banking system was a significant step towards a more modern financial system in Japan.  

Was The BOJ to Blame? 
 
Regarding the BOJ's role during the Showa recession and financial crisis, many assert that, particularly with regard to the Bank of Taiwan, the BOJ did not fulfill its role as the lender of last resort.  

However, there are still a few concerns regarding that claim. 

Should the BOJ really be held responsible for the Bank of Taiwan's reckless behavior? The BOJ had been forced to save too many banks against its will and in spite of its own financial stability. The BOJ would have to reaffirm its political independence at some point. Even though allowing the Bank of Taiwan to fail was bad right away, it's highly unlikely that providing endless emergency loans would have been the right answer.  

It's highly likely that the BOJ was well aware of the need to immediately provide unlimited liquidity to prevent a financial meltdown. However, there was simply too much political opposition to injecting public funds into a few large banks, both among the general public and in the parliament. Thus, the BOJ) was forced to take a hard line against the Bank of Taiwan as a result.  

Although bank failures and closures are, without a doubt, painful in the short term, in the long run, they will ensure the stability of the remaining banks and the banking system as a whole. This was the case for the Japanese financial system during the latter part of the 1920s.  

The Showa Financial Crisis of 1927 marked a turning point in the disposal of bad loans and the reorganization of Japan's banking sector, allowing the long-term issues that had engulfed the Japanese financial system for more than half a decade to be finally resolved.  

Without doubt the Showa Financial Crisis cleansed the Japanese financial system and left it in a much better condition.  Despite this, gloomy clouds had already begun to form in a different direction.  

The United Kingdom was preparing for the return to the gold standard, a move that the United States of America had already taken in 1919, and the rest of the industrialized world was seriously contemplating at the Brussels Conference in 1920 and the Genoa Conference in 1922.   

Finally, in 1925, the United Kingdom returned to the Gold Standard at prewar parity, and other major countries followed suit. Only one country hesitated for obvious reasons: Japan 

Reference: 

Wartime and Post-war Economies (Japan) by Michael Schlitz 

Yuji Kuronuma; Showa Depression: A Prescription for "Once in a Century Crisis"; Japan Center for Economic Research; April 2009 
 
H. Moussa and J. Obata. "Economic Development and Financial Structure in Japan, 1868-1927", Atlantic Canada Economics Association, Working Paper Series 2002 
 
Kenichi Ohno; The Economic Development of Japan: The Path Traveled by Japan as a Developing Country; GRIPS Development Forum; March 2006 
 
Masato Shizume; The Japanese Economy during the Interwar Period: Instability of the Financial System and the Impact of the World Depression; Institute for Monetary and Economic Studies; May 2009 

Investment powerhouse Japan earns 10% of GDP from overseas income (NikkeiAsia)

‘Avatar’ Struggles Show How Japan Is Ditching Hollywood (Bloomberg.com)

Japan’s New Strategic Direction (TheDiplomat)

The Warren Buffett way to profit from the energy crisis (afr.com)

Five + 1 Surprising Scenarios for the Year of the Rabbit (Peter Tasker)

Japan Inc’s cash hoarding habit has painted a giant target on its back (FT.com)

The Beautiful, Brutal World of Bonsai (The New Yorker)

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Videos/ Podcast

The Bank Of Japan’s Warning With William Pesek (Lead-Lag Live)

Is Japan Ready for a Buyout Boom? (Youtube.com) (Interesting talk; poor quality)

Nitto Kohki, founded in 1956 and headquartered in Tokyo, Japan, is a well-established Japanese manufacturer of components, tools and machines.  

Nitto Kohki's products are used in the construction- and automotive industry, medical device manufacturing and high-tech engineering. 

Its mainstay products are quick connecting couplings to join fluid pipes. Customers are mainly found in the field of semiconductors manufacturing and housing construction. 

Products of the machine tool segment are mainly steel drilling machines and die machining tools to produce automobiles. 

In the pumping systems segment, the company mainly offers linear motor driven pumps with a wide range of applications. Among others in medical equipment and for wastewater treatment systems. 

In the segment door closer the company offers mechanic and automatic products for medical facilities, offices and transportation equipment. 

The company has sales subsidiaries in the U.S, U.K, Germany, Shanghai and Australia. 

General Valuation 

Apart from price metrics in relation to book value, Nitto Kohki does not appear to be a deep value investment in the spirit of Graham and Dodd. 

Stated EPS for FY ended March 2022 came in at 95 Yen, leading to an actual P/E ratio of 16. 

The stated average EPS for the last 20 Years was 111 Yen, leading to an average P/E ratio of 14. 

Depressed P/E ratios appear justifiable given that Nitto Kohki has been showing subpar (stated) rentability over an extended period of time. Over the last 20 years Return on Equity (ROE) has averaged out around 6%. 

But P/E ratios and return metrics can be misleading. Especially in corporate Japan with its high cash balances, big investment portfolios and low financial gearing. They often do not reveal the attractive valuation of a company! 

To adjust for the overly conservative financing of the company EV/ Ebit and EV/ Ebitda ratios are used.  

The Enterprise Value (EV) of the company stands at 367 Mios. of Yen. If Nitto Kohki’s investment portfolio is excluded, which consists of highly liquid assets that are marked to market, the EV at current market price turns negative (-2’703 Mios. of Yen). 

In the FY ended March 2022 Nitto Kohki reported an Ebit of 2’900 Mios. of Yen and Ebitda of 4’395 Mios. of Yen. Thus, EV/Ebit and EV/ Ebitda ratios are hovering around 0. 

Overview of Operations 

Nitto Kohki is operating in a cyclical segment of the economy. Sales suffered significantly during the Great Financial Crisis (GFC) and have never recovered to pre- crisis levels. 

The company also was  impacted by the Covid 19 crisis, but not as severe as during the GFC. Worth mentioning is that Nitto Kohkis operational business had been already under pressure pre- Covid.  

The short- term impact of economic contractions on sales and operating margins can be severe. Nevertheless, in the last 20 Years the company has always been profitable.

Guidance for the FY ending March 2023 is 123 Yen, leading to an expected P/E ratio of 12. 

Furthermore, average operating metrics over a full cycle are more than decent.  The 20 Year average of stated operating and net- income margins are 15% and 9%.  

Worth noting are the stable and high gross profit margins the company generates, fluctuating between 47- 52 %, independently of severe contractions in sales. The GFC serves as a good example. Although sales contracted by –40%, and operating and net income margins plummeted almost 14% and 8%, gross margins barely budged. 

Due to overcapitalization of the balance sheet and the absence of financial gearing (see analysis of balance sheet), decent operating margins do not translate into decent return metrics. Average ROE over the last 20 Years was only 6%, barely matching Nitto Kohki’s estimated cost of capital. 

It is interesting to note that the company exhibits a huge discrepancy between ROE and Return on Invested Capital (ROIC). When adjusting for the conservative financing of the company, ROIC has been outshining ROE by a significant margin since 2005. 

Analysis of Cash Flow 

Generating significant and stable Operating Cash- flow (OCF) is Nitto Kohki’s strong suit.  

More importantly, due to limited Capex requirement the company constantly churns out Free Cash- flow (FCF). In the last 20 years the company reported only one FY with negative FCF.1 At current market price the average FCF yield is roughly 8%. 

The relatively high and stable nature of OCF and FCF over time allows inferences about a high quality of reported earnings. Average FCF per share more than equals EPS over a time frame of 20 years! 

Interim Conclusion: A well-established Japanese manufacturing company that operates in a cyclical business segment. Scrutinizing operating and return metrics over an extended period, the company appears to be more resilient to fluctuations in the business cycle. The company’s ROIC is significantly higher than ROE. 

Relatively high ROIC, high and stable gross margins in combination with high OCF and FCF over time pointing to a company with a certain degree of moat and/or competitive advantage. 

Average FCF per share covering EPS points to extremely high quality of earnings. 

Analysis of Balance Sheet 

Nitto Kohki’s balance sheet is insanely overcapitalized. The equity ratio for FY 2022 stands at a staggering 87%.  

Nitto Kohki is the poster child of a notorious Japanese cash hoarder. 

During the last 20 years cash holdings have almost quadrupled, from 410 Yen per share in 2003 to 1’560 Yen per share in 2022. Since 2014 the trend has even gained momentum. Due to absence of financial leverage Nitto Kohki’s cash holdings roughly equal its net- cash position. Including the investment portfolio roughly 90% of the market capitalization is covered by net- cash. 

Apparently, the company's sole mission in corporate life is to increase its net- cash position to infinity! 

Nitto Kohki’s Net Current Asset Value (NCAV) is roughly 2’000 Yen (incl. Investment portfolio). Thus, the company trades at a discount of 25%. 

The stock even trades at a discount to its liquidation value (13%).  

Trends in NCAV and liquidation value show a relentless uptrend over time.

Intrinsic Value/ Margin of Safety 

In the last 20 years the discrepancy between share price and intrinsic value has never been more pronounced as of today.  

The contraction in intrinsic value between 2020/2021 is solely attributable to an unnecessary dividend cut. 

Based on a conservative valuation model incorporating the Graham growth value, discounted dividend value, earning- and asset power value the company is roughly 40% undervalued. Thus, it exhibits a minimum (theoretical) upside potential of roughly 70%. 

Interim Conclusion: Company carries almost no financial debt on its balance sheet. The balance sheet is severely overcapitalized and bloated by cash. Overall business is cash generative. Company is trading below its liquidation value.  

Company appears severely undervalued not only on an EV basis, but also on a valuation model based on Graham growth value, discounted dividend value, earning- and asset power value. 

Analysis of Shareholder Returns 

Generally, management targets a pay- out ratio to net income of roughly 40%. For FY 2022 the company paid a dividend of 40,50 Yen per share (=44% payout ratio).  

Under the pretext of the Covid crisis, the company has unnecessarily cut the dividend from 51 Yen per share to 31 Yen. 

The stated average payout ratio over the last 20 years was 38%. The real payout was slightly lower (34%). 

Every now and then the company buys back its own shares. When it does, buybacks are executed at favorable terms for remaining shareholders. Since 2003 the company has bought back around 10% of outstanding shares. The last buyback program was initiated in 2020 and terminated in 2021. No shares have been retired. 

Corporate Governance 

The company has no takeover defense measure in place. But that is not necessary, given the founder, who died September 2020, and his family having a firm grip on the company, owning roughly the majority. Thus, engagement of a shareholder activist cannot be expected! 

The company used to have a generous shareholder benefit program in place (“Yuutai Plan”). “Yuutai plans” are shareholder perks given only to Japanese retail investors. Those plans can yield a significant amount and are highly popular among individual Japanese investors. 

The management abolished the plan in 2016/2017 citing concerns regarding equality to all shareholders. At the same time management increased the dividend significantly and bought back own shares. The action is laudable, and noteworthy, and stands in stark contrast to the increasing trend of Japanese companies introducing such shareholder benefit plans. 

Still, the company remained a serious cash hoarder that shows severe disrespect to the interests of its minority shareholders. Primarily, by refusing them to participate appropriately in the company's performance in form of increased dividends and/ or share buybacks. 

The severe dividend cut in FY 2021 serves a prime example. Given the insane overcapitalization of the balance sheet it was unnecessary and value destructive. 

The best measure management could take to mend the severe undervaluation of the company in a timely manner is to adopt a liberal shareholder return policy based on dividend on equity (DOE). Basically, paying out a certain rate in relation to net assets. For example, a DOE policy of 5% would translate into 135 Yen per share, roughly 100% of average net income for an extended period of time. 

Conclusion 

Nitto Kohki is a well-established Japanese manufacturing company that operates in a cyclical business segment of the economy. Scrutinizing operating and return metrics over an extended period, the company appears to be more resilient to fluctuations in the business cycle. 

The company is a serious cash hoarder. The current market capitalization is almost entirely backed by net- cash and liquid investments.  

The company appears severely undervalued not only on an EV basis and NCAV, but also on a conservative valuation model based on Graham growth value, discounted dividend value, earning- and asset power value. 

Adjusting for the insanely conservative financing of the company return metrics over a full business cycle appear decent. 

Relatively high ROIC, high and stable gross margins in combination with high OCF and FCF over time pointing to a company with a certain degree of moat and/or competitive advantage. 

The highly conservative pay- out policy and a management that neglects the interests of its minority shareholders is off-putting.  

Given the insane overcapitalization a change in the pay- out policy, away from a policy based on net income towards one that is based on equity/ net assets, is long overdue. 

Disclosure: Long Nitto Kohki (JP:6151) 

Disclaimer: Undervaluedjapan uses information sources believed to be reliable and accurate. But this cannot be guaranteed. The information contained in this publication is not intended to constitute individual investment advice and is not designed to meet your personal financial situation. The opinions expressed in such publications are those of the publisher and are subject to change without notice.  

Japan’s Weaker Yen Is Here to Stay—for Better or Worse - Foreignpolicy.com

The rewards and challenges of investing in Japan in the current climate - pwnmet.com

China’s video game ambitions threaten to one-up Japan - Japantimes.co.jp

Kishida's asset income plan marks departure from focus on wealth redistribution - Japantimes.co.jp

Ajinomoto stock hits record thanks to semiconductor material unit - NikkeiAsia

Elderly make up 40% of retail investors in Japan Inc. - NikkeiAsia

Fuji Soft Proxy Fight the Latest Test of Japan Inc Board Independence - Usanews.com

Helped by weak yen, Japan remains top creditor nation with record net external assets - Reuters.com

Stock incentives won't make Japanese execs prioritize shareholders - NikkeiAsia

Analysis

Japan Tobacco: Interesting Buy, But 2023 Growth Prospects A Concern - Seekingalphs.com

Sony: A Japanese Beauty - Seekingalpha.com

A profitable Japanese microcap trading at a 53% discount - Generalsandworkouts.substack.com

Techno Medica 6678 JP - Value Investor Club

The fact that not only playing cards, but also “Bakuto”, professional gamblers during the Edo period (1603-1868) and forerunners of the “Yakuza” crime syndicates, played a vital role in the company’s history and success is little known.  

It can be reasonably assumed that without the “Bakuto” and “Yakuza”, Nintendo would not have survived long enough to turn into today’s famous video gaming powerhouse. 

History of Card Games in Japan

Japan’s history of gambling and playing cards is an interesting one. Oldest written evidence of gambling in Japan dates back to 685 A.D noting that Emperor Tenmu invited high-ranking aristocrats to play “Hakugi”, a dice game, awarding garment as winnings.  

Like “Hakugi”, card games were invented by the Chinese in the 9th century during the Tang Dynasty. Along with all things Chinese the Japanese nobility also eagerly adopted playing cards. They regarded gambling as a desirable leisure activity, comparable with fine arts. Nevertheless, gambling among the lower classes was disdained and repeatedly suppressed, albeit not very successfully. However, appeal of card games had not spread widely within Japan and decks were hardly found. 

600 years after invention, card games spread westward to Europe where they became highly popular. Eventually, in the 15th century, Portuguese traders reintroduced playing cards to Japan, which proved to be an immediate hit.  

Playing cards incessantly gained popularity among Japanese of all classes. Very much to the disliking of the Tokugawa Clan who ruled Japan during the Edo period. Anything foreign was suspicious and considered dangerous to the Tokugawa. And gambling with foreign playing cards sinister. Thus, with the isolation policy starting in 1633, the Tokugawa banned western playing cards.  

Japanese gamblers were not amused and developed own versions of cards called “Karuta” (from the Portuguese carta). But the Tokugawa banned one design after other, setting in motion a regulation evading cycle that ended with the creation of a hyper abstract card design called “Hanafuda”.  

“Hanafuda” was an ingenious disguise. It had no signs of anything foreign. It did not feature any four suits and numerical elements. Only Japanese motifs representing different months of the year. Think: ornate flowers and coloring; lush nature imagery and flower patterns.  

The design was less convenient than other decks for playing card games. Thus, government officials deemed “Hanafuda” not a genuine fit for gambling and tolerated it. 

The “Bakuto” Roots of “Yakuza”

The restrictive gambling policy during the Edo period had pushed activities into obscurity, bringing into existence a gambler class called “Bakuto”. Poor and landless man travelling and operating the busy highways and towns of Japan’s Tokugawa-era. One of their services, gambling back pay handed over to irrigation and construction workers, was highly appreciated by shady and greedy government officials and local Tokugawa bosses.  

Over time hired gamblers attracted misfit merchants, artisans, samurai, and sumo wrestlers. Forming Japan’s first organized gang, now known as “Yakuza”. Their “Bakuto” roots are reflected in the penchant for finger chopping and the core business being gambling.  

Purists still regard only traditional gamblers being real “Yakuza” as the name stems from a card game called “Oicho-Kabu” (similar to baccarat). The game was a favorite of the “Bakuto” and played with a “Hanafuda” deck. The goal? Have a point total as close to 9 as possible. Any multiple of 10 is disregarded in your point total (score of 19 ==> (19-10) =9). Zero-score card numbers are 8 (Ya), 9 (Ku), and 3 (Za), which gets you to 20, a losing hand. Thus, the term “Yakuza”. Meaning losing hand; loser; pointless or useless to society. 

The “Yakuza” was certainly not useless for Fusajiro Yamauchi and his company Nintendo. Although, his “Hanafuda” cards, handcrafted and designed with great care, were very popular with Japanese households, growth opportunities were severely limited right from the beginning. Once every Japanese household was supplied, demand would have stalled.  

Fortunately for Nintendo, the government erred in the assumption “Hanafuda” cards being inconvenient and not popular with gamblers. During the Meji Restoration “Yakuza” gambling parlors around Kyoto boomed and their favorite deck was Nintendo’s “Hanafuda”. The displayed motives were so popular with syndicate members that many found their way to “Yakuza” bodies in the form of tattoos. 

Decks flew off the shelf at Nintendo’s “headquarter” in Kyoto as the “Yakuza” used new sets for every subsequent gaming round to avoid tempering. Thus, a typical parlor required hundreds of packs per week.  

A great start for a young company.  And never mind the shady source of your success Nintendo. We still love you!   

Source: 

History of Nintendo: Part 1 – Nintendo’s Yakuza Beginnings

Playing Cards in Japan

The Honorable Outlaws

https://www.destructoid.com/short-doc-examines-the-history-of-nintendos-hanafuda-cards-and-alleged-yakuza-ties/

The Bond of Competition - Hanafuda

How Nintendo Helped Create (And Beat) The Yakuza

Bakuto

A Liz Truss Moment for Japan?

Japan’s Historic Yen Depreciation - The Diplomat

Bank of Japan’s inevitable pivot looms as a risk for markets - FT.com

From Astro Boy to Gundam to Ultraman, how Bandai became Japan’s top toy company

Vacant Homes and High-Rise Condos: Japan’s Housing Dilemma

Analysis

The Weak Yen and Japanese Firms: Positive Effects with a Time Lag

Urgent necessities of corporate strategic change in 3 fields

Is Japan’s Inflation Really At a 40-Year High?

Japan’s good value creates alpha opportunities

Japan Equity Fund: Comfortable Buying at a 15% Discount

Videos/ Podcast

Interview with Senior Analyst Jonathan Silverman, To Eleven Capital

Deep Dive Series 2022: "How long can Japan hold the line on the Yen?"

Shareholder Activisim in Japan with Nippon Active Value

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“At the stock exchange 2 + 2 are never 4, but 5 - 1. Better be prepared to stomach the -1.” (André Kostolany)

It is the story about a speculator whose fame was not founded on the net worth accumulated during his investment career, which remains a mystery. But rather on the amount of practical experience he gained during his 70-year investment journey and his witty and funny way of expounding it to his audience.

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“The logic of the stock market is that you often have to be illogical - and that is the great art of speculation and stock market analysis.“ (André Kostolany)

Kostolany was known for his pleasure-seeking lifestyle while “playing” the financial markets. A one-minute Audi commercial from 1999 neatly encapsulates his personality, philosophy, and investment style. It even nails the trough of the long-lasting bear market in the commodity sector in one sentence. 

Kostolany was by no means a value investor in the spirit of Graham and Dodd, but an intelligent speculator. He was a diehard contrarian that did not invest in a scientific manner, like running DCF models.

He rather ran his operations on a philosophy of creative imagination. He was convinced that investing was not a science, but rather an art form, and to be successful one should rather be a philosopher than a finance guy.

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"At the bottom, the hard-nosed have the certificates and the shaky have the money; at the peak of the boom, the hard-nosed have the money and the shaky have the certificates." (André Kostolany)

Over time Kostolany developed a unique investment style that would enable him to spot idiosyncratic investment opportunities hiding in plain sight. Buying securities significantly below intrinsic value and selling them close, or even above, fair value. 

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“It is not because of his own cleverness, but because of the stupidity of others, that the successful stock operator earns money.” (André Kostolany)

In Germany Kostolany came to fame because of his witty columns in the German business magazine "Capital". He also wrote numerous entertaining books about his philosophy to stock market investing and frequently appeared in German TV shows discussing current economic and market events. 

Who was Andrè Kostolany?

André Bartholomew Kostolany, was a Hungarian Roman Catholic of Jewish descendance, born in Budapest in 1906. He was the youngest of four children born into a very wealthy industrial family.

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"Spend as much time when buying a stock as you would buying a used car." (André Kostolany)

Kostolany was a student of philosophy and art history who greatly disdained economic sciences. A field of study the vast majority was only interested in obtaining an easily achievable master. Big firms, on the other hand, eagerly hire economists mainly because it is a guarantee not to take on illiterate staff.

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"If you make money on the stock market with the advice of a professional, it is a success; without the advice it is a great success. And if you make money just against the advice of the experts, it is a huge success." (André Kostolany)

According to Kostolany, economists are especially ill prepared as stock market operators, because of their dogmatic and inflexible nature. To become successful, they must forget everything learned at the university. Ironically, did Kostolany also acquire a Master in Economics. A degree he would never admit to in public and shamefully cache in a drawer collecting dust.

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“Who does not own shares, when their prices drop, will not own shares when prices soar.” (Andrè Kostolany)

After finishing university in 1924, Kostolany’s father sent him to Paris where he did an internship for Adrien Perquel, an old friend of the family. Perquel was a well- respected, successful, and wealthy stock market operator in Paris and Kostolany started out as an office boy and later a stockbroker. A career he neither desired nor admired. He viewed stockbrokers as remarkably simple personalities and never really intended to build his career on it. 

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"Two difficult things to do on the stock market are to accept a loss and not realize a small profit. But the hardest thing is to have an independent opinion; to do the opposite of what the majority is doing." (André Kostolany)

One of Kostolany’s favourite anecdotes is him on his first day on the trading floor of the Paris stock exchange. An older man was scrutinizing him and later asked whom he was working for. "Well for the Firm XY", Kostolany replied. "Aha", said the old man, "Your boss is an old friend of mine. Thus, I had better give you the most important piece of advice on how this business really works. Everything depends on if there are more idiots than stocks or more stocks than idiots on the trading floor".

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“A man can choose different ways to get rid of his fortune: the fastest is the casino, the most pleasurable is with beautiful women and the most stupid is at the stock exchange.” (Andrè Kostolany)

After finishing his trainee program at Perquel's firm, Kostolany would be hired at Amerongen & Compagnie. This was the real starting point of Kostolany's career. Briefly, he would work as a broker, later as a financial consultant, and finally start speculating on his own account.

Kostolany’s First Successful Speculation

Kostolany’s first successful bet on the stock market came about in the late 1920's. He was getting sceptical about the health of the long-lasting bull market in stocks and bonds. He saw prices getting exhausted on the upticks, and finally entered a bearish position. It is said that the stock market crash of 1929 made Kostolany a very wealthy young man almost overnight.

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"Those who have a lot of money can speculate, those who have little must not speculate, and those who have no money at all must speculate." (André Kostolany)

But he would not hold on to his wealth awfully long. Already a year after his successful speculation “a la Baisse”, he would get annihilated in a similar position. 

He was short numerous European stocks and bonds when President Hoover surprised the markets by forgiving Germany a substantial part of their reparations. Stocks and Bonds roared immediately, not only leaving Kostolany with huge losses but also heavily indebted. 

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“I can’t tell you how to get rich quickly; I can only tell you how to get poor quickly: by trying to get rich quickly.” (Andrè Kostolany)

Kostolany himself regarded this time as the darkest moment in his life, and even showed suicidal tendencies. But with the help of close friends, and taking on a regular job in the brokerage business again, he was able to pay- down his debt and stage a comeback.

Towards the end of the 1930's Kostolany became deeply concerned about the relentless ascent of Adolf Hitler in Nazi Germany and its dire consequences for Europe. 

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"The stock exchange, that is, the financial market, is actually a theater that keeps performing the same play, but always under different titles."  (André Kostolany)

Again, he entered bold bets shorting numerous European stocks and bonds. This time successfully. Stocks and bonds crashed and Kostolany, who made around 200'000 Dollars (roughly 4 Mio, in today terms), cashed out. He would immediately wire most of the money to the USA. 

Colleagues and business partners in Pairs were less concerned about the precarious situation Europe was facing. Even after the break- out of WW2, and the invasion of France. They reasoned that the war was a contained and short affair. 

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“I am an oversea trader. I trade what others oversee.” (Andrè Kostolany)

One sunny day a business partner approached Kostolany asking him to prepare a list of promising companies. Kostolany was vexed by the request and asked for the reasoning. It turned out that the man had information about the eminent occupation of Paris by Nazi Germany. He was speculating that the whole racket would be over soon, and the stock market finally staged a comeback. 

Kostolany agreed to the request. But instead of compiling the list, he stormed back home, packed his back, bought a car, and immigrated to the U.S.A via Vigo on a Spanish cruise ship.

Kostolany lived in New York for several years where he worked for the G. Ballai and Cie Financing Company. He had high esteem for the North American capitalist system and described his time in New York as wonderful. But the reality was that he never really settled on the other side of the Atlantic and always longed to go back to Paris.  

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“The greatest speculation of all time would be to buy a politician at his intrinsic value and sell at his self- perceived value.” (Andrè Kostolany)

During his time in the U.S. Kostolany completely changed his view on short selling and investing in general. Apparently, he could not bear anymore being cheerful when others were battered and decided that in the future he would only bet “a la Hausse”. He also decided to reduce his trading activity.

Shortly after the end of WWII Kostolany returned to Paris. From there on his residency would be split between Paris, Munich, and Côte d'Azur where he had real estate.

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"Often you have to close your eyes at the stock exchange so that you can see better." (André Kostolany)

He immediately went back to business loading up on Young Bonds, defaulted German bonds that had been issued to foreign investors in foreign currency by the German Reich.

Adolf Hitler defaulted on them stating that those bonds were illegitimate. Kostolany was convinced that Germany would fulfil their obligations eventually, paying them back at par including accrued interest. 

He picked the issues in French franc at 25% to par value. Colleagues and friends thought he was going nuts, and Germany would never redeem those bonds. But Kostolany was not perturbated at all, waited patiently and eventually would make a fortune when Germany redeemed those bonds in the early 1950’s.

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“Speculating on the stock market has been. and always will be, a hard way to make an easy living.” (Andrè Kostolany)

He reiterated the coup d’état in the 1980’s investing roughly 40’000 Deutschmark in Russian czar bonds still trading on the Paris bourse around 2- 5% to par value. It was the same playbook as with the young bonds, but with a significantly bigger discount. The Soviet government defaulted on foreign bonds denominated in French franc that had been issued by the czarist empire, deeming these bonds as illegitimate. 

With the fall of the Soviet Union in the early 1990’s, and the Russian aspiration of tapping international capital markets, Russia eventually repaid at 100% face value or 500 French francs each, at a cost of around USD 600m. It is said that Kostolany’s invested amount turned into 4’000’000 Deutschmark.

Kostolany's Beliefs

Kostoalny viewed the financial markets as a mad house. According to him you could not find more morons than on a square foot trading floor. A fact that really fascinated him, and the reason he would show up regularly. 

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“Germans are not cut out for the finance business. The nation of romanticist, philosophers and musicians becomes unromantic and lose their inclination to philosophy and fantasy when it comes to money.” (Andrè Kostolany)

For describing the daily action on the financial markets Kostolany used a similar metaphor to Benjamin Graham’s Mr. Market. He compared it to a stroller walking his dog. 

The stroller will never know exactly how and when he will reach his destination. There are factors that are known and can be estimated with reasonable accuracy. Think: Age, vitality, motivation, etc. of the stroller.

Estimating the path ahead is more complicated, but manageable (known unknowns). Think: Sidewalk in good condition, no major obstacles on the way, etc.

But, figuring out what the dog is going to do is a sheer impossibility (unknown unknowns). It will go all over the place: Run ahead, drop back, walk close, disappear into bushes, even shagging other dogs.

But regarding Kostolany the stroller should not be disturbed by this fact, as one thing is clear: The dog will always end up at its master’s side finally.

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“At the beginning of my career I was convinced that the stock exchange was the biggest invention of mankind. I still am.” (Andrè Kostolany)

Kostolany warned against acting upon insider Information. He equalled those kinds of information to ruination and advised never ever to listen to tips.

Having said this, he would immediately hand out one tip to his audience. Head to a drugstore, buy sleeping pills, then buy a basket of the best German bluechip stocks and take a long nap. When they finally woke up he assured a positive surprise.

Kostolany was not concerned about the growing mountain of public debt at all. A small amount of inflation (2-3%) keeps the debt pile palatable. He likened to compare inflation with the consumption of nicotine and alcohol. In small dosages it is rather productive and useful. A few glasses of wine and cigarettes a day are stimulating. But better not become a chain smoker and alcoholic.

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"The mass psychology on the stock exchange is like in the theatre: One yawns, and in no time at all everyone yawns. One coughs, and immediately the whole hall coughs." (André Kostolany)

Kostolany was a critic of the gold standard, the monetary system that fixes exchange rates to the price of gold. He believed that wherever it was implemented, it would suppress economic growth and finally lead to cyclical crises. Consequently, he was also a very vocal critic of the monetary policy of the Bundesbank during the late 1980s and early 1990s, which he viewed as too restrictive.

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"On the stock market, half a truth is a whole lie." (André Kostolany)

Kostolany was wary of market scams and hype. At one of his last appearances on the German broadcasting system in the late 1990’s, he warned about the hype on the “Neuer Markt”, the growth segment of the German stock exchange.

He was laughed at by the moderators, guests and audience and was treated like an old and senile granddad. He did not care and reiterated his warnings repeatedly and passionately during the whole show. 

He was finally vindicated, but unfortunately would not witness the breakdown personally. Andrè Kostolany died on September 14th   1999 at the age of 93.

Source:

Defaulted Imperial Russian Bonds Draw Interest - The Washington Post

HOW TO MAKE A FORTUNE OFF DEFAULTED DEBT (by Sven Lorenz)

Der Traum vom mühelosen Reichtum (by Christian von Hiller)

Andre Kostolany, bon vivant and speculator

Dahlit Brin Dissertation Band2 Teil2

Zeitzeugen des Jahrhunderts - André Kostolany im Gespräch mit Johannes Gross  (Youtube)

BOJ's Kuroda Hints at Tweak to Ultra-Low Interest Rates as Future Option

Japan’s Best Stock This Year Is a Games Studio That Charges More

Without Abe, Japan’s Conservatives Are at a Crossroads – The Diplomat

COLUMN-Beware yen, global market ructions if Japan tweaks 'YCC': McGeever | Nasdaq

Analysis-Will They or Won't They? Japan Uses Guessing Game to Shore up Yen (usnews.com)Why the yen will rally from its current pain point | Financial Times (ft.com)

The SoftBank Group Enters a Long Winter | Nippon.com

Blowback: Sunak, Kishida & the Supercompetitive Yen | Peter Tasker

That Combini Life: Convenience Stores in Modern Japan - Unseen Japan

Japan's Kuroda Still Won't Budge on Rates, Despite Inflation Quickening - Bloomberg

Analysis

Yen Weakness, Carry Trade Depend on Mrs. Watanabe More Than BOJ - Bloomberg

Value Investors Club / Square Enix Holdings Co., Ltd. (TSE:9684)

The yen’s sharp fall will unravel the 'deflationary equilibrium' | Musha Research

Nippon Sanso Aktie: Hohes Gewinnwachstum, niedrige Bewertung (abilitato.de) (German)

Kishida May Raise Corporate Taxes, Part I - by Richard Katz (substack.com)

Videos/ Podcast

Anatomy of a Hostile Takeover - Annenberg Learner (feat., among others, Warren Buffett/ Highly recommended by O-Tone)

The New Era of Shareholder Activism in Japan - YouTube

The discussion mainly revolves around the question what the purpose of Corporate America really is. Should shareholder interests be prioritized over all other corporate stakeholders (Shareholder Primacy), or does it serve the interest of all stakeholders, customers, suppliers, employees, local communities and shareholders (Stakeholder Capitalism).

In a strange twist of events an investment group led by Sir James Goldsmith would later target the Goodyear Tire and Rubber Company.

Picken’s Targeting Koito Manufacturing

But more importantly, in April 1989, T. Boone Pickens would target corporate Japan. Unleashing Japan’s first shareholder activist campaign led by a foreigner, labelled within Japan "The Pickens Affair".

Out of nowhere, Pickens turned up being the largest shareholder of Koito Manufacturing, a leading auto parts maker that had close business ties to Toyota Motors. He held a 20% stake in the company, that eventually would increase to 26%, worth roughly 800 million Dollars.

Pickens clarified that he was not intending to take control of the company, an impossibility anyway. In the U.S. with its diverse ownership structure, and many shareholders not bothering to vote at the AGM, a 26 percent stake indeed would have accounted for a controlling interest in most cases.

With Koito not so much! Eventually Pickens would learn the hard way that he was fighting city hall when taking on a corporate governance system known as “Keiretsu”. A structure with cross hold shares, interlocking board of directors and obscure business interests.

In Koito’s case, Toyota had not only been its major shareholder, with three board seats occupied by directors with close relationships to the company, but also its main customer.

Pickens claimed that Toyota was able to negotiate supply contracts in their favour and to the detriment of minority shareholders like himself. Among other things, he demanded four seats at Koito’s 20-member board, a dividend increase and detailed insight into Koito’s internal accounting.

Pickens certainly was on to something. The Keiretsu system was a rigged game. In the case of Koito, a simple comparison of sales - to gross margin growth rates (10% vs. 3%) clearly indicated self- dealing transactions.

It was a curious case at the height of Japan’s bubble economy and trade frictions between the U.S. and Japan boiling. Without doubt, Toyota had something to hide, and they did not want any outsider to scrutinize their control and influence over Koito. But neither did Pickens fight fair and square.

Most importantly, and certainly not helping him turning into “the crusader for the righteous cause”, he used Japan's weaker regulations, evading important disclosures about the financing of its block of shares in Koito. A fact that in the U.S. would have had to be disclosed.

Kitaro Watanabe: The Japanese Financier Behind the Scenes

Subsequently, it would turn out that he received the shares in Koito from a Japanese financier called Kitaro Watanabe, at that time the world sixth richest person.

Rumours swirled that Mr. Watanabe also had lent the money to Pickens to buy into Koito, with the stake being collateral. Those rumours raised an important question. Was Pickens really the ultimate owner of the 26% stake in Koito Manufacturing?

Like Pickens within the U.S., who liked to present himself taking on America’s “fat-cat management class” for the good of small shareholders, Mr. Watanabe had a checkered reputation within Japan.

Apparently, before Mr. Watanabe found its way to Texas, he had “Greenmailed” Koito Manufacturing. Trying to get the company to buy back his block of shares at a premium over his acquisition price.

In the 1980’s Japan was the home of “Greenmail”, a practice known in the country as "cornering". The usual pattern was a Japanese investment group buying up a substantial holding in a listed company. Given the aforementioned corporate structure in Japan, with “firm hands” like main banks and affiliated companies holding the biggest chunk of outstanding shares, readily traded volume on the Japanese stock exchanges was limited Thus, share prices of targeted stocks went sky-high in little time.

The cornering group then would approach management, demanding to buy back their accumulated holding at the artificially inflated price. If the company refused, it threatened to wreak havoc at the company's general shareholder meeting with little help of “Sokaiya”, a type of professional corporate racketeers.

Before buying into Koito, a cornering group, presumably affiliated with Mr. Watanabe, had targeted Toyota Automatic Loom Works, the original core company in the Toyota Motor Keiretsu. With bitterness the Toyoda family finally bought them out.

Mr. Watanabe assumed that companies affiliated with Toyota were easy cornering targets. But in Koito’s case the Toyoda family did not bite, forcing him to find an alternative buyer, paving Mr. Watanabe’s way to Texas and Pickens’ way to Tokyo.

Koito Manufacturing Taking on the Fight

Unfortunately, like Mr. Watanabe within Japan, Pickens also had garnered a reputation as a greenmailer within the U.S.

The “greenmail argument”, irrespectively of being factually correct or not, provided a convenient pretext for Koito’s management to present Pickens to the Japanese public as some kind of “American- Sokaiya”, and blatantly deny him most of its legitimate rights as a shareholder.

Koito refused to supply detailed financial information to Pickens, it opposed Pickens' proposed resolution prohibiting preferential practices, it baffled his attempt to appoint members to the Koito Board of Directors and would not increase the dividend. Koito even, unsuccessfully, tried to block Pickens from registering its shares.

A real low point of the “Pickens Affair” was the Koito shareholders meeting in June 1989. Pickens flew out to Tokyo to make his case at Koito’s AGM. Disgruntled, he left halfway through the meeting, after realizing that he was nothing more than a film extra in what could be regarded as a B- Rated gangster movie.

The meeting was a three-hour rant, mostly in a Japanese slang usually used by Yakuza mobsters. Pickens himself was shouted down and his encourage insulted by “Sokaiya” acting at behalf of Koito. But apparently, also Mr. Watanabe transferred some Koito shares to “Sokaiya” in order to take on and mock the company president.

Picken’s Défense: Mixing Up Business and Politics

Back in Texas Pickens decided to up the ante. Unfortunately, he mixed political ambitions (it was an open secret that Pickens was toying with the idea running for the governorship in Texas) with the important cause of defending the rights of minority shareholders in Japan.

He started lobbying American lawmakers, while simultaneously launching an aggressive media campaign in which he attacked the arrogance, insular mentality and the self. entrenched interests of corporate Japan’s business elite in particular, and the uneven playing field in bilateral economic relations between the U.S. and Japan in general.

At a time when Japan Inc. was engaged in numerous high-profile acquisitions in the U.S., and Japan bashing at its height, Pickens’s campaign initially fell on fertile ground.

His complaints were endorsed by 18 members of the U.S. House of Representatives, and the U.S. Federal Trade Commission launched an investigation into possible antitrust activities of the Japanese automotive Industry.

Pickens Losing the Fight

Several legal, political and economic circumstances would eventually conspire against Pickens. Firstly, the Iraq invaded Kuwait in 1990 and political priorities in the U.S. changed abruptly.

Secondly, the Japan bubble finally popped, sending Pickens’s position in the Koito stock under water. In addition, a legal battle to force Koito to hand over its tax returns failed.

Finally, a new Japanese law forced Pickens, still fulminating about his mistreatment at the Koito shareholders meeting, to make public his financial arrangement with Mr. Watanabe, which might reveal that Pickens was not the true owner of the Koito stake.

Initial US press coverage was favourable to Pickens’s campaign taking on corporate Japan. But with more detailed information about the dubious and murky business relationship between Pickens and Mr. Watanabe, support ebbed.

As his stake in Koito fell further in value, he sold it in June 1991. The buyer was Mr. Watanabe. A confirmation that the Japanese was the puppet master behind the scenes all the time.

Months later, Watanabe announced the intention to sell the Koito stake to a Swedish-American investment group, but the deal fell through. By this time, all of Mr. Watanabe’s investments were turning sour. But his rumoured connections with the Yakuza made banks cautious about pulling the plug.

In 2001, Watanabe was arrested by Tokyo police on suspicion of obstructing compulsory seizure of assets by creditors.

Could Pickens Have Won?

Some observers of the battle between Mr. Pickens and Koito claim that the outcome could have turned out differently if Pickens had only put-up real money, intent and long-term commitment. That in Japan it takes more than fourteen months to develop the trust that is required to become an insider.

If Pickens only had held Koito stock for several years, had learned basic Japanese business etiquette, had shown a continuous interest in the firm and had demonstrated that he had something to offer, surely, he would have been invited to become a board member eventually.

I regard such assertions as naïve. With the benefit of hindsight, it turned out that Pickens was the wrong person at the wrong time for lecturing corporate Japan basic principles of shareholder activism and rights.

The arrogance and hybris of Japan Inc., and the flaws in its corporate governance structure, were perceptible and would unravel, not in years but decades following the “Pickens Affair”.

With Pickens, Japan Inc. had its first Barbarian at its gate. The Japanese establishment successfully managed to fend- off the first attack of a foreign "corporate raider" or "hostile activist"

In the decade after T. Boone Pickens tried to engage with corporate Japan there were no large-scale shareholder activist events. In the early/ mid 2000s foreign activism in Japan saw a little renaissance.

Again, corporate Japan barked and chased them off. But the price paid, not only for shareholders, but the entire country, was sky high and is mounting.

Corporate Japan: Thirty Years On

Three decades after the defeated campaign by Pickens, the fall out is still felt. Activities by foreign investors are often viewed in suspicious light within Japan. At the same time, foreigners are highly sceptical about Japan’s willingness to change its corporate governance for good.

A lot has changed since Pickens took on corporate Japan. With the dismantling of cross hold shares since the Japan bubble popped, the Keiretsu corporate structure has been in retreat. Most shares disposed by Japan Inc. were bought up by foreigners, holding roughly 30% of listed Japanese companies.

But not only Japan Inc.’s shareholder register saw a reshuffling, also its balance sheets. Since the mid 1990’s, corporate Japan has added 400 trillion Yen in cash and cash equivalents to its current assets, while simultaneously reducing interest bearing debt.

Granted, since the onset of Abenomics in 2012/ 2013 pay- out to shareholders has increased on an absolute basis, with dividends and share repurchases hoovering around an all-time high.

But it is not enough! Balance sheets in aggregate remain insanely inefficient. The net financial position of Japanese companies (non- financial) turned positive in 2014 and kept increasing till 2018 where it has been stagnating ever since.

The trend has been facilitated by a highly conservative accounting system (J-Gaap) that enables corporate officers to understate the true earning power of the underlying business.

The cost of corporate Japan’s (irrational) financial conservatism is not only felt by foreign shareholders, mainly in form of inadequate pay- out ratios and extended undervaluation of their holdings.

More importantly, it is Japan as a whole that gets hurt most. It is high time the Japanese understood that still 70% of publicly listed companies are owned by themselves. The costs of corporate Japan’s conservatism are numerous, like limited business investment, foregone corporate taxes, rising risk of precarity for workers and retirees, to name just a few.

Final Remarks

More worryingly, a number of Japanese officers are getting involved in self- dealings. Trying to take private abstrusely undervalued companies at inadequate prices. An undervaluation that has been brought into existence by the very same people in the first place. Enriching themselves at the expense of the shareholders, the true owners of the company.

It is high time that Japan had a debate like the one in “Anatomy of a hostile takeover”. Tackling and settling once and for all issues concerning: Who are the real owners of publicly listed companies in Japan and what are their legitimate rights? Furthermore, what is the role of shareholder activism and hostile bids and takeovers in Japan? How should a transformation of Japan’s market of corporate control look like? And last but not least, what is the purpose of corporations in Japan, e.g., shareholder primacy or stakeholder primacy?

Source and Reference:

Anatomy of a Hostile Takeover - Annenberg Learner (Video)

Microsoft Word - 05_Anatomy.doc (test-learnermedia.pantheonsite.io) (Transcript)

Pickens Reveals Source of Stake (oklahoman.com)

Shareholders' Rights in Japan (escholarship.org)

Pickens's Japanese Battle Becomes a Trade Issue - The New York Times (nytimes.com)

Friend or foe? Corporate scandals and foreign attempts to restructure Japan | The Asia-Pacific Journal: Japan Focus (apjjf.org)

PICKENS' KOITO PLOY SHAKES UP JAPAN (afr.com)

Koito-Pickens-Toyota Case - Law Essays (lawaspect.com)

NEW PICKINGS WILL BE LESSON FOR T. BOONE - Deseret News

T. Boone's Tokyo Campaign - TIME

A Pickens Drama, Far From Texas - The New York Times (nytimes.com)

T. BOONE TAKES ON TOKYO - The Washington Post

Understanding Stakeholder Capitalism, Its History, and Relevance (investopedia.com)

25 years ago: Driving back the raider at the gates of Goodyear Tire and Rubber Co. - cleveland.com

Pickens, Rejected by Koito Directors, Blasts 'Japan Inc.' : Wonders if He Was Denied Seats on Board Because He's a Foreigner - Los Angeles Times (latimes.com)

Japan is a haven of consistency in a world of dividend turbulence (whatinvestment.co.uk)

Looking at Japan with FT Unhedged - by Matthew C. Klein (theovershoot.co)

Will Japan remain hostile to further takeover deals? | Financial Times (ft.com)

Murakami vindicated by Japan's first successful hostile takeover - Nikkei Asia

How Japan Got the Pandemic Right – and Wrong – The Diplomat

Japan’s Economic Miracle - The Newnan Times-Herald

KKR to push further into Japan as yen hovers at 32-year low | Financial Times (ft.com)

Foreign workers shun Japan as yen's value plunges - Nikkei Asia

Your Dollars Will Go a Long Way on That Long-Awaited Trip to Japan - Bloomberg

ANALYSIS-Japan's current account decay underscores yen's weakened stature | Nasdaq

Japan isolated itself from the rest of the world for 265 years - Why? (bigthink.com)

The Rise of Multicultural Japanese Literature | Culture | Metropolis Japan

Analysis

Losing Taiwan Means Losing Japan – The Scholar's Stage (scholars-stage.org)

Softbank: Twilight of an Empire - by Mario Gabriele (substack.com)

Japanese investors' portfolios need a major overhaul | Musha Research

Nihon Falcom: Small Cash Rich Niche Video Game Developer - Mokapu Capital

The Savings Imperative - by Jesper Koll - Japan Optimist (substack.com)

Videos

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IS IT TIME TO BUY YEN? - by Russell Clark (russell-clark.com)

The setting changed abruptly when Kaoru Ogawa, a middle- aged man, from head to toe dressed in white, entered the stage and immediately shouted. "Kaneko, you're a liar! You are hiding something!”

It was the prelude of a three-hour rant in a Japanese slang usually used by Yakuza mobsters. Speaker after speaker would verbally attack Isao Kaneko, the president of the company. One speaker even sent physical threats to the management. “If management does not improve, then bam, bam, - there will be shootings!”

Fellow shareholders started to wonder if they suddenly found themselves watching a B- rated gangster movie. But what they were witnessing was Japan Airline’s AGM taken hostage by “Sōkaiya”.

“Sōkaiya”: Definition and History

Defining “Sōkaiya” is as difficult as defining Geishas. They could be fixers for a firm, making bad press go away. Or extortionists, demanding money from a company to keep quiet.  

Originally, “Sōkaiya” were unconnected to organized crime. In literature “Sōkaiya” were first mentioned in the late nineteenth-century. A time when the majority of private enterprises in Japan were organized as unlimited liabilities. Entrepreneurs would frequently solicit assistance of “Sōkaiya” to protect their business and personal fortunes negatively impacted by rumours and scandals. In that respect “Sōkaiya” can be compared to corporate lawyers in the U.S.

During the post war period “Sōkaiya” remained useful for corporate Japan by turning into “general meeting specialists”. After Japan’s high growth era of the 1950’s and 1960’s the society became more politically engaged. Social activism was on the rise, for example criticizing pollution by Japanese companies. With the help of “Sōkaiya”, acting on behalf of the corporation, those protests were muted or silenced.

Chisso Corporation serves as a good example. The company had been polluting a river close to its factory with mercury for years (Minamata pollution). “Sōkaiya” were hired by the corporation at the AGM following the scandal. An aggressive mob shouted down environmental activists and the victims. Much to the liking of management the AGM ended quickly.

It is said that Yakuza started to realize the profit potential of “Sōkaiya” in the mid 1960’s, actively tying up with various “Sōkaiya” groups. The outcome was a hybrid “Yakuza- Sōkaiya”, specialized in racketeering corporate Japan. It is that hybrid that most Western observers refer to when talking about the phenomenon.

How “Sōkaiya” Worked And Countermeasures

Their activities followed a standard procedure. Purchase the minimum number of shares to be eligible to attend a company’s AGM. Before the AGM contact executives threatening to troll them personally or the company in general at the shareholder meeting. Think: real/ imaginary facts about product liability claims, irregularities and payoffs and/ or pointing to personal misconduct, love affairs, etc. If the company had an interest in the AGM proceeding smoothly, they would have to pay off the racketeers by purchasing absurdly expensive subscriptions to useless magazines, paying rent for office plants, etc.

If companies refused, an armada of trolls would stir up the AGM like in aforementioned JAL case. Sometimes, racketeers even started vandalism: Spraying paint, lighting fires, throwing bottles at the chairman's desk.

In the early 1980s racketeering corporate Japan was getting out of control and Japan’s authorities finally addressing the issue. In 1982 the Commercial Code was amended, and the minimum unit stock rule introduced. Since, individuals have to own shares worth at least fifty thousand yen in a corporation as a prerequisite to exercise any privileges and/ or right at a shareholder meeting. The same year a law was enacted that prohibited Japanese corporations to pay- off “Sokaiya”.

In addition, a specific division of the Tokyo police was formed with the sole responsibility tackling “Sokaiya”. Corporate Japan also did their part fighting the phenomenon. They scheduled AGMs on the same day to limit the number of companies that could be struck by “Yakuza- Sokaiya”.

Those countermeasures worked. In the early 1980’s, 6’800 “Sokaiya” in five hundred separate groups were active. They extorted as much as $400 million annually from corporate Japan. Virtually all “Sokaiya” had linked up with the Yakuza syndicates who ended up with approx. 70% of the annual take.

In the early 1990’s only 1’000 hybrid “Sokaiyas” remained active. But those still active would turn more violent in a last demonstration of power. Between 1992-1994 the Japanese police had records of 18 attacks on executives or their families.

Violence culminated in the murder of Mr. Suzuki, a senior managing director for the Fuji Photo Film Company, who was in charge of dealing with the “Sokaiya. In 1994 he was stepped to death in front of his house.

The good old days of “Sōkaiya” have long passed. Nowadays, if at all, hybrid “Sōkaiya” come in form of fake right-wing groups, or “Uyoku Dantai”. They position black vehicles, equipped with loudspeakers, in front of the AGM’s venues, blaring messages about supposed misconduct by corporations or their management. To silence them a pay- out would be necessary. But corporate Japan, and its shareholders, mostly just ignore them.

Source:

Sokaiya — The Ultimate Troll. The Yakuza, the most prominent… | by Five Guys | Five Guys Facts | Medium

ejcjs - Sōkaiya and Japanese Corporations (japanesestudies.org.uk)

Sōkaiya : corruption or Japanese business solution - Perdu en Asie (getlostinasia.com)

Sōkaiya Explained

ASIANOW - Asiaweek (cnn.com)

https://www.theguardian.com/business/1999/jun/30/6

Microsoft Word - Yakuza and Bubble Final.docx (psu.edu)

Where Meetings Are Truly Feared - The New York Times (nytimes.com)

Shareholders' Rights in Japan (escholarship.org)