Brief Japan: Japanese Banks:  Beyond the Ides of March and more

In this briefing:

1. Japanese Banks:  Beyond the Ides of March
2. Japan Display: Deal to Raise JPY110bn from China-Taiwan Consortium and Japanese Investment Fund
3. TSE’s Market Structure Review: Public Comments As Expected, But Miss The Mark
4. Pan Pacific/Don Quijote: Bringing Joy into Shopping
5. China’s New Semiconductor Thrust – Part 1: Why and How?

1. Japanese Banks:  Beyond the Ides of March

“Beware the Ides of March”: the soothsayer’s repeated warning to ancient Rome’s most famous emperor in William Shakespeare’s play ‘Julius Caesar’.  Caesar ignores the warning and is assassinated later that day by his colleagues on the steps of the Senate.  We have been warning investors in Japanese bank stocks for the last few years to “beware the Ides of March”, advising them to be very underweight in the sector (or preferably out of the sector entirely) by 15 March each year to avoid the risk of incurring a similar fate at the hands of their investment colleagues as befell Julius Caesar on 15 March 44BC.  We are now well past the Ides of March and, true to form, the sector has already peaked and lost momentum after a brief post-Santa rally.  ‘Caveat emptor! (May the buyer beware!)’ remains our Caesarean soothsayer warning to would-be investors in Japanese bank stocks in 2019.

2. Japan Display: Deal to Raise JPY110bn from China-Taiwan Consortium and Japanese Investment Fund

• It was reported over the weekend that the troubled display supplier to iPhone maker Apple, Japan Display (JDI) has almost finalized a deal to raise more than JPY110bn (US$990m) from a China-Taiwan consortium and Japanese public-private fund INCJ Ltd.
• The China-Taiwan consortium is expected to secure some 50% stake in Japan Display while the top shareholder INCJ’s current stake of 25.3% is expected to be halved.
• The consortium is aiming to restructure JDI’s remaining debt payments of about JPY100bn from Apple for the construction of its plant while it also aims to procure parts for the latest iPhone. In addition, the consortium is also trying to modify a contract stipulating that Apple can seize plants if JDI’s cash and deposits fall below a certain amount.
• The consortium along with JDI is planning to build an OLED panel plant in China with JDI providing the technological know-how while the consortium partners invest in capital expenditures and equity.
• Japan Display has been struggling to navigate its display business due to the slowdown in iPhone sales, falling behind competition on OLED technology and facing stiff price competition from Chinese panel makers.
• We expect the proposed OLED plant in China could help the company stabilize its panel business with Chinese smartphone makers Huawei and Xiaomi who prefer to source panels locally from domestic panel makers such as BOE Technology and Tianma.

3. TSE’s Market Structure Review: Public Comments As Expected, But Miss The Mark

Late last December after a Nikkei article on 21 December titled  Tokyo Stock Exchange’s big board about to get a lot smaller suggested the TSE would boot up to 1500 stocks from TOPIX, which now boasts 2130+ members – far more than major indices in other developed markets.

The same day, the TSE released a  Consultation Paper “Review of the TSE Cash Equity Market Structure” (Paper, and Data presentation).

My conclusion (in Big Trouble in Little Stocks? TSE Mulls Changing TOPIX almost three months ago) was that there was no good news to be had in bulk on small cap stocks relative to large cap stocks unless they made it clear they’d use the opportunity to buy back stock, etc.

In the interim, there has been considerable speculation about the eventual disposition of smallcap stocks. There was an extensive Toyo Keizai article in early March which pointed to stocks below a market cap of ¥100 billion being possibly excluded from the “step-up” market. There was a Nikkei article on March 15 which suggested that the “limit” might be considerably lower – perhaps ¥25 billion – and that the limit might have other softer elements such as a requirement to deliver or release company reports in English. There have been other ‘non-financial elements’ suggested as well, such as independent director count, cross-holding policies, etc. 

It is not clear whether the substantially different reports are the rival speculations of different media enterprises, or the rival agendas of different factions within the power structures who may care (the TSE, FSA, Keidanren, JPFA, JSDA, brokers themselves, a whole raft of small companies, the Securities documentation printing houses, etc).

There are theoretically a lot of vested interests in keeping a very large number of companies listed, and a very large number of companies in widely-followed/tracked indices. Brokers get money from being underwriters on deals. The more companies there are the more deals there are. Brokers also make money by providing the stock loan access for investors who want to go short stocks. If 1500 small stocks are removed from a broad index, it will become incrementally more difficult to borrow them – to make markets or go short. The documentation printing houses charge each company for adapting their financial statements and reports into the regulator-mandated formats and uploading them, running the IR sections of their websites, etc. On the other hand, if half the listed companies in Japan were simply to decide that they’d be better off if they merged into other large companies, then those providers would lose big. Some of the more aggressive local stewards and governance hounds are all for much more rigorous standards. 

The New News

Last week the TSE released a document outlining the Comments Received from Market Participants in Response to the Review of the TSE Cash Equity Market Structure along with their version of a Summary.

The two-page Summary is actually not a bad recap of the issues, BUT… there’s more.

There is a fair bit of pent-up expectation that there will be selling of small caps. There is a need to see improvement in governance, independence, board structure, and capital stewardship by a very large number of companies in Japan, and small companies outside MOTHERS are often viewed as lacking in effort to improve governance so the reason why there could be selling.

However, it is not clear there needs to be any selling, which is somewhat counterintuitive.

4. Pan Pacific/Don Quijote: Bringing Joy into Shopping

• Japanese Retail is in a secular decline: There are areas in retail that are worse affected than the rest
• Falling foot traffic: The biggest problem for Japanese retail
• Don Quijote’s recent history and growth potential
• Attracting shoppers from multiple store formats helps Don Quijote to expand its target market
• Don Quijote is least affected from slowdown in Chinese tourist spending
• FamilyMart UNY store conversions to contribute to revenue and EBIT growth over the next five years
• New store openings to cap at 25 per year because of UNY store conversions
• Valuation: Market unjustly penalized Don Quijote for the UNY acquisition
• Change in retail landscape to help make Don Quijote the “DON” in Japanese retail

5. China’s New Semiconductor Thrust – Part 1: Why and How?

China’s current efforts to gain prominence in the semiconductor market targets memory chips – large commodities.  This three-part series of insights examines how China determined its strategy and explains which companies are the most threatened by it.

In the first part of this series we will see what motivated China to enter the market and how it plans to do so.