Class acts in land of the falling yen
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Japan faces big challenges, such as a rapidly ageing population and a huge fiscal deficit, but it boasts more quality global companies than any other country–and Chris Taylor invests in them.
There are more pets in Japan than there are children. There are more abortions than live births. On current trends, the last Japanese person (and there are 120m of them right now) will die sometime after the year 3000. What happens to society–and the economy–when you stop having babies?
It is a question that Chris Taylor wrestles with constantly. He runs Neptune Japan Opportunities and almost revels in telling you what a wreck Japan has become. The economy is “ugly beyond belief” and the country has “bucketloads of problems”, he warns.
Neptune’s economist, James Dowey, chips in with dismal figures on Japan’s GDP. It’s ¥500 trillion (£3.7 trillion), but it was at the same nominal level more than a decade ago.
How do corporates react in such an unfavourable environment? The answer is to cut investment, capital expenditure and wages. And in aggregate, it means that no one increases their bottom line. Companies can’t raise profitability, and face a vicious downward spiral.
So why has he brought out a group of financial journalists to Tokyo? To write that investors should dump his fund? This has got to be the oddest press trip on record…
But Taylor hasn’t gone mad. He doesn’t buy Japan. What he buys is Japanese companies. In sector after sector he says he can find three or four companies that are world class and which are often the dominant player in their market. (article continues below)
He brings us to Toray Industries. In the 1950s it was competing against Britain’s Courtaulds in the rayon market. Pretty soon Toray was facing the same sort of price competition that drove Courtaulds from the market. But instead of rolling over, it invested in research and development, seeking new markets for materials. Today it is the world leader in carbon fibre technology, enjoying global sales of about $12 billion (£8 billion).
Half its manufacturing plants are in Japan, the rest overseas, and inevitably the business was battered when demand imploded as the global recession began to bite. Its response says a lot about how Japanese capitalism works. Its senior vice-president, Norihiko Saitou, tells us that it embarked on cost-cutting, which included 30% pay cuts for board members, the axeing of bonuses for managers and the end of overtime for employees. But redundancies were out of the question. “It is a very important company policy not to lay off people,” he tells us, speaking through an interpreter.
Some analysts, raised in the school of Anglo-American capitalism, would scoff at such a comment. If Toray slashed the workforce its next-quarter figures would be impressive. But Toray is interested in the long term. It has a 30-year plan for carbon fibre, a lightweight material which, as it replaces steel in aeroplanes and cars, substantially reduces weight and therefore energy use. The company continually invests in technological development. Boeing has signed it up to supply materials for its new Dreamliner.
It’s this approach that may explain why Toray is a world leader and Courtaulds is a shadow of its former self. Oh, and its share price is about ¥505, 43% up from a low of ¥353 in March 2009.
Taylor reckons that scores of Japanese companies like Toray are ideally placed to benefit from not just the recovery in world trade but the coming boom. Global GDP was $55 trillion in 2007. He says it will be $80 trillion by 2015, but most of that growth will be in non-OECD countries. “The Chinese haven’t even begun to gear up,” he says.
Japan is the biggest investor in China, both directly and through companies the Japanese control in Taiwan.
Taylor’s strategy is to buy Japanese multinationals, avoid stocks exposed to the moribund domestic economy, and hedge the currency. He’s a big fan of hedging, and warns of the “value traps” that so often ensnare investors in Japan. And he has good form. In 2008 Neptune Japan Opportunities was the best-performing fund not just in its sector, but of any sector. It was up 84%, and remains the top performer over three years in the Japan sector. His analysis of global debt levels had taken him completely out of banks and real estate in 2007. Today he is back in financials and multinationals but is fully hedged in the belief that the yen is going down.
Taylor finds the domestic economic situation in Japan almost comically bad, with a paralysed and corrupted political class unable to cope with the daunting challenges of a rapidly ageing population and the colossal fiscal deficit.
”Taylor reckons that scores of Japanese companies are ideally placed to benefit from not just the recovery but the coming boom”
Shigeki Morinobu, the president of the Japan Tax Institute, shows us a graph that makes Alistair Darling’s budget challenge look simple. Government spending this year will be about ¥100 trillion. Tax receipts will be about ¥37 trillion.
Japan is hooked on government spending so far in excess of what it raises in taxes that it just can’t find a way out. Much of that money goes on pensions and healthcare for the elderly, where the bill just keeps rising. Government debt has spiralled to more than 200% of GDP and financing it from famously thrifty Japanese households can’t go on for much longer. The savings ratio has plummeted from 20% of national income two decades ago to just 2% today.
Crunch time for Japan could come as early as the 2011 budget. Government spending, which has propped up the economy since the bubble burst in the early 1990s, will have to fall. Taxes may have to rise. Either way, it makes the prospect for the domestic economy grim. But it will force a substantial devaluation of the yen–which will rather help Taylor’s holdings in all those Japanese multinationals.
But before we write off Japan, let’s take stock of a few things. Tokyo is mesmerising, dynamic and super-functional. Take Canary Wharf, remove any green bits, throw in some triple-deck highways, then multiply it 20 times. You’re some way to seeing the view from my hotel. Japan could have opened its borders to mass immigration to solve the demographic problem, but has opted for social cohesion instead. It faces immense challenges, but has more world-class companies than any other nation on earth. If this is what a zero-interest rate, no-growth future looks like, it’s not bleak.
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Patrick Collinson visited Japan as a guest of Neptune.
