Author: Gordon Platt
CORPORATE FINANCING FOCUS
Japan’s economy grew at its fastest rate in three years in the final quarter of 2006 and is now in its longest post-war growth period. Japan’s gross domestic product grew at an annual rate of 4.8% in the final three months of 2006, easily surpassing the annual growth rate of 2.2% in the US economy in the same period.
The Japanese stock market was hurt worse than other industrial country equity markets in the recent global selloff. This is due in part to the fact that the Japanese economy is tied more closely to China than are the other industrial countries, according to Robert Alan Feldman, chief economist for Japan at Morgan Stanley Japan, based in Tokyo.
There are a number of domestic Japanese reasons, as well, for the market’s performance, Feldman says, including a recent run-up in inventories than could portend somewhat weaker industrial production in the next few months, as well as questions about monetary policy.
The Bank of Japan raised its benchmark overnight funds rate by a quarter percentage point on February 21 to 0.5%, the highest in more than a decade but unlikely high enough to end the flow of cheap yen out of the country in search of higher-yielding investments elsewhere. This was the first increase in Japanese rates since July 2006, when the central bank increased its benchmark rate to 0.25% from virtually zero, where rates had been stuck for six years to counter deflation.
Triangle Mergers Coming
Meanwhile, investors are expecting an acceleration of mergers and acquisitions in Japan following recent loosening of M&A; approval rules and, effective in May, changes in the rules on “triangle mergers,” whereby Japanese subsidiaries of foreign companies will be permitted to use shares of the parent company to fund takeovers of Japanese companies. It remains to be seen, however, what the effect of the rule changes will be, Feldman says.
The Japanese yen has been strengthening recently, and a stronger yen could hurt export-sector earnings in the short run, Feldman adds. But much of the Japanese economy benefits from a strong yen, which would give investors a good opportunity to buy good domestic firms, he says.
Citigroup gave a vote of confidence in the Japanese economy last month when it announced a $10.8 billion takeover bid for Japan’s third-largest brokerage firm, Nikko Cordial. The firms announced a comprehensive strategic alliance in the world’s second-largest economy. “Citigroup and Nikko Cordial are forming the alliance in order to create one of Japan’s leading financial services groups and to enable the combined franchise to pursue important new growth opportunities, giving due respect to Japanese culture and business practices,” the firms said in a release.
The two companies run a joint-venture investment bank, Nikko Citigroup, which was Japan’s leading M&A; adviser last year, according to Thomson Financial. The alliance will expand Nikko Citigroup’s ability to deliver integrated services for corporate and institutional clients of Citigroup and Nikko Cordial. It also will strengthen Citigroup’s corporate banking business and Nikko Cordial’s wholesale securities business by expanding their joint cross-marketing efforts.
The merger will be the biggest foreign acquisition of a Japanese brokerage. Citigroup already owned 4.9% of Nikko Cordial, which was fined ¥500 million, or about $4.3 million, last year in an accounting scandal.
World’s Wealthiest Country
Citigroup is also expanding its retail banking operations in Japan. It announced in January that it would double the number of its branches in the country to 60. Nikko Cordial has more than 100 branches in Japan, and the merger will help Citigroup sell mutual funds and other services to Japan’s wealthy consumers. According to a survey by the United Nations University at the end of 2006, Japan had the world’s highest per capita wealth at $181,000, well ahead of the US in second position with $144,000.
In 2004 Citigroup lost its private-banking license in Japan after regulatory authorities accused it of failing to implement safeguards against money laundering and misleading its clients about financial risks. Citigroup stumbled again in January of this year when it suffered a $415 million loss on its consumer finance business.
As Japan’s economy recovers from its long slumber, the pace of new equity issues, both initial public offerings and follow-on issues, is picking up. Nomura and Daiwa Securities SMBC were the leading managing underwriters of Japanese equity and equity-related issues in 2006 in terms of both proceeds and total deals, according to Thomson Financial. Nikko Citigroup was in third place.
Nomura was the leading equity underwriter for a fourth straight year in 2006, with $20.5 billion in proceeds from 111 deals. The firm served as joint bookrunner on offerings from Mitsubishi UFJ Financial Group, Toyota Motor and Mitsui, which were among the biggest equity deals in Japan last year.
Powered by 15 jumbo deals of more than $1 billion each, Japanese companies set a record in 2006 for equity and equity-related issues, with $68 billion in proceeds, an increase of more than 47% from a year earlier, according to Thomson Financial. The Japanese deal total edged up to 428 from 414 in 2005.
Banks Looking Healthier
Japan’s economic expansion last year passed the post-war record 57-month-long Izanagi boom that began in 1965, although recent growth rates have been far below earlier expansion levels. The country’s banks have been slowly restored to health over the past decade and have been returning to the equity markets.
Sumitomo Mitsui Financial Group’s $5.3 billion stock offering in January 2006 was the largest equity issue in Japan last year and the fifth-largest worldwide, according to Thomson Financial. Daiwa Securities SMBC and Goldman Sachs were joint bookrunners for the issue.
The second-largest equity deal in Japan last year was a $4.3 billion offering in June from Mitsubishi UFJ Financial Group. Nomura and Nikko Citigroup handled the sale.
Meanwhile, the $18.4 billion in proceeds from initial public offerings in Japan last year was a 72.4% increase from 2005, giving the Japanese IPO market its best year since 1998.
Aozora Bank’s listing of a 30% stake last November on the Tokyo Stock Exchange that raised $3.2 billion was the largest IPO in Japan since Electric Power Development’s $3.4 billion IPO in 2004. Aozora’s shares tumbled 12% in their debut, despite being priced at the lower end of their indicated range, as Japan’s largest-ever bank IPO proved difficult for the market to handle. Goldman Sachs, Morgan Stanley and Nikko Citigroup arranged the sale.
Aozora’s predecessor, Nippon Credit Bank, was taken over by the Japanese government in 1998 amid the Asian financial crisis and was sold to a consortium led by Softbank in 2000. A US investment fund, Cerberus Partners, purchased 49% of Aozora in 2003 for $865 million and later increased the holding to 62%. In the IPO last November, Cerberus sold about one-third of its stake, making a solid return on its investment.
Sony Spin-Off Awaited
All indications are that Japan’s companies will continue to raise large amounts of equity capital in 2007. Japanese electronics manufacturer Sony is expected to spin off its insurance and banking subsidiary, Sony Financial, later this year in an IPO that could raise as much as $4 billion. Sony CEO and chairman Howard Stringer has developed a strategy for the company that focuses on its core electronics business, although no date for the sale of Sony Financial has been announced.
In Thomson Financial’s IPO rankings, Daiwa Securities SMBC replaced Nikko Citigroup as the top bookrunner, leading 49 deals worth a total of $5.9 billion. Nikko Citigroup dropped to number five, behind Daiwa, Nomura, Morgan Stanley and Goldman Sachs.
Equity-related volume surged 339% to $10.7 billion last year on a revival of issuance of convertible bonds. Sharp’s $1.7 billion domestic convertible bond was the largest equity-related deal in 2006.
Toyota Motor’s $2.5 billion secondary offering in November was the largest non-bank issue by a Japanese company in 2006. Merrill Lynch and Nomura were the underwriters of the global offering of shares and American depositary receipts. The Banks’ Shareholdings Purchase Corporation, a Japanese government-supported entity that was created in 2002 to acquire cross-shareholdings of Japanese financial institutions, was the selling shareholder.
Global equity and equity-related underwriting rose to a record $695 billion in 2006 from $527 billon in 2005, according to Thomson Financial. It says the volume was bolstered by larger global IPOs in Europe and Asia and increased investor appetite for convertible securities. Financial issuers accounted for 25.6% of global equity and equity-related offerings in 2006.
New DR Markets Emerge
In Asia, global depositary receipts represented 56% of overall capital raised in 2006, according to an analysis by JPMorgan Chase. Last year also saw the rise of new depositary receipt markets, such as Pakistan and Vietnam, the report said. “The main driving forces in these new markets were privatizations and an increasing appetite for emerging market exposure,” the bank said. Pakistan launched two GDR programs on the London Stock Exchange last year. The Pakistan government has announced a privatization agenda for its state-owned banks and power companies, and the market expects to see sizable GDR issues launched in London in the coming years.
Meanwhile, numerous Chinese companies, many with a technology orientation, are preparing to list on Nasdaq or the New York Stock Exchange in the coming months, according to JPMorgan Chase.
Indian companies are increasingly active in cross-border mergers and acquisitions, the bank says, and those with liquid depositary receipt programs have the advantage of an additional acquisition currency.