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Japanese banking strategy in Europe
NOTES AND VIEWS
JapaneseBanking Strategy in Europe CHARLES DE LA BAUME, JYOTI GUPTA, Professors Commerce de Paris, France The authors explain the growth of Japanese banking services in European Community countries, consider their prospects in major sectors of banking and draw judgements on their likely success. Japan is a major economic power. Its stock exchange, Kabutochuo, is in the world’s top two, and Japanese banks are world heavyweight - Nouvel Economiste ranked the ten top world banks by asset value in 1988 as Japanese. Favourable currency movements have helped, but Japanese banks have always focused on market share, not short-term profitability. Their strategy and investment reinforces this although recent pressure on the yen and other recent events have shaken Japanese financial markets. This article looks first at the process of internationalizing by the Japanese banks, then their European strategy and lastly the outlook for them in Europe.
International Growth of Japanese Banks There are four phases: 1.
2.
3.
4.
1945 to 1959: the banks provided trade finance and foreign exchange to trading companies in Japan and set up branches in New York and London. The 1960s: Japanese corporations overseas required international banking services and funds to finance working capital and equipment. The 1970s: the banks expanded their investment and lending overseas against the background of the expanding Euromarkets. They joined in loan syndication and set up foreign investment subsidiaries. The massive OPEC surplus helped. The 1980s: at the time of the second oil crisis and with the debt of non-OPEC countries being rescheduled, the banks went in for universal banking, securities and merchant banking business and corporate banking, for non-Japanese corporations as well. Concurrently, the movement of funds between Japan and other countries was deregulated. Japanese banks started on an acquisition trail in the USA such as: Walter Heller (Fuji Bank), Bank of California (Mitsubishi), Continental Illinois Leasing and Lloyds Bank of California (Sanwa), Henri Schroder Bank (Industrial Bank of Japan). With
the growth
of international
business,
the
EUROPEAN MANAGEMENT JOURNAL Vo19 No 2 June 199
in Finance,
Ecole Supe’rieure
de
Japanese City, Trust and Long-term Credit banks reorganized their international divisions, with departments such as foreign exchange, international business operations and international investment becoming independent. Their financial strength is now matched with an extensive world network of branches, subsidiaries, representative offices and affiliates world-wide (in 1989, the number was 926 of which there were 259 branches, 242 subsidiaries and 425 representative offices). The densest overseas networks are in the USA, Hong Kong, the UK and China. It was the Japanese City Banks like the Bank of Tokyo, Fuji, Dai-Ichi Kangyo and Sumitomo that were the leaders in expanding their overseas network - doubling the number of overseas outlets in ten years.
The City Banks’ European Strategy The Single European Market legislation has far-reaching effects on banking. Freeing financial services means freedom to establish and trade cross-frontier in Europe. This applies to banks once they have been authorized by their home regulator and comply with EC minimum requirements. The other important change occurred on 1 July 1990 when capital movements were freed within the EEC. This freedom for banking and the prospect of the huge, integrated EC market meant Japanese banks had to position themselves for Europe. They are moving fast. Any bank not established in the SEM by 1992 faces a vetting by the European Commission before its application can be accepted. But in most cases, the networks of the Japanese banks are already in place; for example, the Bank of Tokyo has 24 establishments in Europe. Recently, they have started to expand into the smaller European financial centres. By 1992 Japanese banks will be well entrenched in Europe. They believe that competition will not intensify but that their growth will come from generally rising levels of business, and that they will make the best market penetration in investment banking, corporate banking, broking and portfolio investment, project financing, real estate and mergers and acquisitions. Let us look at these in turn.
Investment Banking Japanese banks began setting up their investment banking subsidiaries in Europe in the early 197Os, after the Ministry of Finance gave them freedom to engage in 171
NOTES AND VIEWS
securities business overseas. They started by setting up merchant banking subsidiaries in London and gradually extended to Switzerland and Luxembourg in particular. Originally, they were intended to help their corporate customers tap the important potentials of financing in the Eurobond market and to trade in these issues. London, as the largest centre for Eurobond issues, was the target. The Swiss subsidiaries, mostly in Zurich, underwrite and trade in the Swiss bond market. They also act for Japanese corporations raising money in Swiss francs and swapping them into dollars. The same applies to Germany, with the Bank of Tokyo subsidiary in Frankfurt being a major player in the financial markets.
By 1992 Japanese banks will be well entrenched in Europe Most clients of the Japanese banks are non-Japanese corporations, as the ‘three bureaux guidelines’ prevent them from lead managing a Eurobond issue for Japanese corporations or selling the bonds in Japan within 90 days of issue. In most cases, the Japanese banks are increasing the paid-up capital of their European subsidiaries in order to meet the capital adequacy requirements of the Cooke Committee. Unfortunately, the margin on bond issues and trading is eroding, and is affecting the subsidiaries. A remaining area of growth is the Eurogen and equity warrant market. Japanese corporations were the major issuers in this market due to the buoyancy of the Tokyo Stock Exchange, and Japanese banks’ overseas subsidiaries had success in this market. The Euroyen Commercial paper market could also be an important area for Expansion.
Corporate Banking srowth in this sector will come from Japanese corpora:ions’ investment in production units in Europe (20% If Japanese direct foreign investment is now in Europe). I’he corporations are speeding up this investment to beat :he strong yen and avoid trade frictions. Japanese banks ue well placed in Europe to handle the funding, guaran:ees, placing and underwriting of these bonds, as well 1s syndicated loans and advisory business. This applies nostly to the large City Banks with their extensive letworks. The Long-Term Credit Banks are more specialized. But the Japanese banks are also seeking European :lients, and they already have a number - many are large :orporations. The high international ratings of the apanese banks allow them to obtain funds at relatively ow cost, so they obtain a good share of the corporate oan business. But middle-sized companies in Europe will itill probably go to European banks - imagine a middlesized French company going to a Japanese bank rather han to BNP or Credit Lyonnais! Only a close link with apan would enable the Japanese banks to approach this segment of the market. But the banks do have a good arger corporation client base, working with them mostly )n a multi-currency credit line. Japanese banks lack 172
expertise in evaluating risk of small- and medium-sized domestic companies. They hope to capture some public sector financing in Europe, despite current low margins.
Broking and Portfolio Investment
.
In 1987, Japanese banks had more than US$93 billion invested in foreign securities. The trend will continue; recently, the Ministry of Finance raised the limit that Japanese insurance companies and trust banks could hold in foreign securities. The historical preference of the Japanese for US bonds and money market instruments seems to be weakening, and there will be more interest in Europe. Although most Japanese portfolio investment in Europe is in the UK, Germany and Holland, Spain and France are favoured for ‘ 1992’ growth. It is important to note that some Japanese corporations set up financial subsidiaries in London and Luxembourg in the mid-1980s to engage in ‘Zaitech’. This is the business of using arbitrage to derive shortterm profits in securities and foreign exchange. This was permitted by the Ministry of Finance. Between 1985 and 1987, when the yen appreciated by 85%, most Japanese corporations compensated for less profitable trade by Zaitech, which led to a surge in broking business. Whilst the ‘Big Four’ securities companies (Nomura, Daiwa, Nikko and Yammaichi) have the biggest (officially protected) share of broking, deregulation is likely to allow the bigger Japanese banks to increase their share.
Project Financing In the EC, Spain, Portugal and Greece are undertaking big projects to improve their infrastructures - particularly in road transport, telecommunications and railways, and are looking to international capital markets for funding. Japanese banks, with their extensive European network, high ratings and experience in the Eurobond and syndicated loan market, plan to take a substantial part of this market. They already have 23% of the funding of Eurotunnel, a loan co-ordinated by the Bank of Tokyo and the Long-Term Credit Bank of Japan.
Real Estate Financing Japanese banks are active in this area - they consider prices reasonable in Europe compared with the astronomical price of real estate in Tokyo. It is also potentially lucrative business, with spreads as high as 2% over LIBOR.
Mergers and Acquisitions This also looks to be a potential growth area for Japanese banks, as Japanese and European firms form alliances. There are two forces encouraging this. First, under world pressure, the Japanese government has taken measures (like tax cuts) to stimulate domestic consumption. It means that Japanese corporations can only grow overseas by M and As. Second, the stigma of M and As is fast disappearing, allowing the corporations to diversify through M and As more easily. However, most Japanese EUROPEAN MANAGEMENT JOURNAL Vo19 No 2 June 1991
NOTES AND VIEWS
;o be in the USA; ate friendly, small corporations.
M and As continue
most involve
and
Japanese corporations are installing production units in Europe to get around ‘Fortress Europe’ The Single European Market could change all this. A recent survey in Nibon Kenzai Shimbun showed that 60% of large Japanese corporations are seriously considering installing production units in Europe to get round ‘Fortress Europe’. M and As will certainly be used for this purpose. Examples are: a joint venture in Germany between Daihatsu and BMW and Cannon and Olivetti in Italy to produce copiers. The Japanese banks are gearing up to provide a full range of financial and advisory services in Europe - they are strengthening M and A teams and tax and legal services. Both Sanwa Bank and the Bank of Tokyo have full M and A departments in London.
The Outlook for Japanese Banks in Europe The Japanese banks Europe. Their strategy products adapted to the banks are taking .
. .
are already well established in is to establish local bases and offer local conditions. To achieve this, the following steps:
establishing European centres for international operations (e.g. Bank of Tokyo, Mitsui, Sanwa, Fuji Banks in London); listing on European stock exchanges (without an interest in raising equity, at least in the short-term); recruiting more staff, particularly European staff. The problems
they face are several.
The Cooke
Cominittee’s capital adequacy ratio is forcing them to reduce the growth of low quality assets and to put more emphasis on the return on assets. Although this might impede short-term growth, it will cause rationalization of banking operations and greater emphasis on risk management. They have, in fact, issued some USS 14 billion of convertible bonds since 1987, mostly in Swiss francs, to improve their capital adequacy ratio. The strategy backfired since, with falling share prices of the banks, the prices fell behind the conversion price and investors are not exercising their equity options. The banks are likely to have to pay most of the money back. Also, the Swiss franc has appreciated, putting another strain on the banks. Furthermore, diversification into corporate banking for dcmestic customers will not be easy. Japanese banks have little knowledge of local conditions. Recruitment of staff in Europe and training are expensive. The banks do not have the advantage they had in the USA, of acquiring staff through M and As. There have been very few in Europe.
Effects on European Corporations Japanese multinationals have a ‘Zaibatsu’ structure. It is a federation of cross-equity holdings. The companies maaing up Zaibatsu are: industrial firms, trading companies (‘Sogo Shoshas’) and financial institutions. For example, Dai-Ichi Kangyo (DKB) is an industrial group, C ltoh the corresponding trading company and DKB and Sumitomo Bank the financial institution. Zaibatsu are powerful competitors. It is very likely that Zaibatsu relationships will develop between Japanese corporations in Europe and the European subsidiaries of Japanese banks - providing threats to European corporations. The latter can fight back by cross-border alliances, particularly in vulnerable sectors like electronics and computers. -
DE LA BAUME, Ecole Supheure de Commerce de Paris, 79 Avenue de la Republique, 75543 Paris Cedex 11, France CHARLES
Charles de la Baume receiued bis doctorship from the Paris IX Daupbine University, and is now Associate Professor at the Ecole Supe’rieure de Commerce de Paris. He bas been Visiting Professor at the International Institute for Studies and Training in Fujinomiya (lapan) and bas carried out special studies on Japanese banks strategies for Euromanagement Consultant.
EUROPEAN MANAGEMENT JOURNAL Vo19 No 2 June 1991
GUPTA, Ecofe Sup&ieure de Commerce de Paris, 79 Avenue de la Republique, 75543 Paris Cedex 1 I, France
JYOTI
jyoti Gupta obtained his engineering degree with bonours from the Indian Institute of Technology and received his PbD from tbe University of Manchester. He is Professor of Finance and International Business at the Ecole Suphieure de Commerce de Paris. He has held senior managerial positions in several multinational corporations in different countries and has also worked as a Visiting Professor at the International Institute of Studies and Training in Fujinomiya, Japan.
173
JapaneseBanking Strategy in Europe CHARLES DE LA BAUME, JYOTI GUPTA, Professors Commerce de Paris, France The authors explain the growth of Japanese banking services in European Community countries, consider their prospects in major sectors of banking and draw judgements on their likely success. Japan is a major economic power. Its stock exchange, Kabutochuo, is in the world’s top two, and Japanese banks are world heavyweight - Nouvel Economiste ranked the ten top world banks by asset value in 1988 as Japanese. Favourable currency movements have helped, but Japanese banks have always focused on market share, not short-term profitability. Their strategy and investment reinforces this although recent pressure on the yen and other recent events have shaken Japanese financial markets. This article looks first at the process of internationalizing by the Japanese banks, then their European strategy and lastly the outlook for them in Europe.
International Growth of Japanese Banks There are four phases: 1.
2.
3.
4.
1945 to 1959: the banks provided trade finance and foreign exchange to trading companies in Japan and set up branches in New York and London. The 1960s: Japanese corporations overseas required international banking services and funds to finance working capital and equipment. The 1970s: the banks expanded their investment and lending overseas against the background of the expanding Euromarkets. They joined in loan syndication and set up foreign investment subsidiaries. The massive OPEC surplus helped. The 1980s: at the time of the second oil crisis and with the debt of non-OPEC countries being rescheduled, the banks went in for universal banking, securities and merchant banking business and corporate banking, for non-Japanese corporations as well. Concurrently, the movement of funds between Japan and other countries was deregulated. Japanese banks started on an acquisition trail in the USA such as: Walter Heller (Fuji Bank), Bank of California (Mitsubishi), Continental Illinois Leasing and Lloyds Bank of California (Sanwa), Henri Schroder Bank (Industrial Bank of Japan). With
the growth
of international
business,
the
EUROPEAN MANAGEMENT JOURNAL Vo19 No 2 June 199
in Finance,
Ecole Supe’rieure
de
Japanese City, Trust and Long-term Credit banks reorganized their international divisions, with departments such as foreign exchange, international business operations and international investment becoming independent. Their financial strength is now matched with an extensive world network of branches, subsidiaries, representative offices and affiliates world-wide (in 1989, the number was 926 of which there were 259 branches, 242 subsidiaries and 425 representative offices). The densest overseas networks are in the USA, Hong Kong, the UK and China. It was the Japanese City Banks like the Bank of Tokyo, Fuji, Dai-Ichi Kangyo and Sumitomo that were the leaders in expanding their overseas network - doubling the number of overseas outlets in ten years.
The City Banks’ European Strategy The Single European Market legislation has far-reaching effects on banking. Freeing financial services means freedom to establish and trade cross-frontier in Europe. This applies to banks once they have been authorized by their home regulator and comply with EC minimum requirements. The other important change occurred on 1 July 1990 when capital movements were freed within the EEC. This freedom for banking and the prospect of the huge, integrated EC market meant Japanese banks had to position themselves for Europe. They are moving fast. Any bank not established in the SEM by 1992 faces a vetting by the European Commission before its application can be accepted. But in most cases, the networks of the Japanese banks are already in place; for example, the Bank of Tokyo has 24 establishments in Europe. Recently, they have started to expand into the smaller European financial centres. By 1992 Japanese banks will be well entrenched in Europe. They believe that competition will not intensify but that their growth will come from generally rising levels of business, and that they will make the best market penetration in investment banking, corporate banking, broking and portfolio investment, project financing, real estate and mergers and acquisitions. Let us look at these in turn.
Investment Banking Japanese banks began setting up their investment banking subsidiaries in Europe in the early 197Os, after the Ministry of Finance gave them freedom to engage in 171
NOTES AND VIEWS
securities business overseas. They started by setting up merchant banking subsidiaries in London and gradually extended to Switzerland and Luxembourg in particular. Originally, they were intended to help their corporate customers tap the important potentials of financing in the Eurobond market and to trade in these issues. London, as the largest centre for Eurobond issues, was the target. The Swiss subsidiaries, mostly in Zurich, underwrite and trade in the Swiss bond market. They also act for Japanese corporations raising money in Swiss francs and swapping them into dollars. The same applies to Germany, with the Bank of Tokyo subsidiary in Frankfurt being a major player in the financial markets.
By 1992 Japanese banks will be well entrenched in Europe Most clients of the Japanese banks are non-Japanese corporations, as the ‘three bureaux guidelines’ prevent them from lead managing a Eurobond issue for Japanese corporations or selling the bonds in Japan within 90 days of issue. In most cases, the Japanese banks are increasing the paid-up capital of their European subsidiaries in order to meet the capital adequacy requirements of the Cooke Committee. Unfortunately, the margin on bond issues and trading is eroding, and is affecting the subsidiaries. A remaining area of growth is the Eurogen and equity warrant market. Japanese corporations were the major issuers in this market due to the buoyancy of the Tokyo Stock Exchange, and Japanese banks’ overseas subsidiaries had success in this market. The Euroyen Commercial paper market could also be an important area for Expansion.
Corporate Banking srowth in this sector will come from Japanese corpora:ions’ investment in production units in Europe (20% If Japanese direct foreign investment is now in Europe). I’he corporations are speeding up this investment to beat :he strong yen and avoid trade frictions. Japanese banks ue well placed in Europe to handle the funding, guaran:ees, placing and underwriting of these bonds, as well 1s syndicated loans and advisory business. This applies nostly to the large City Banks with their extensive letworks. The Long-Term Credit Banks are more specialized. But the Japanese banks are also seeking European :lients, and they already have a number - many are large :orporations. The high international ratings of the apanese banks allow them to obtain funds at relatively ow cost, so they obtain a good share of the corporate oan business. But middle-sized companies in Europe will itill probably go to European banks - imagine a middlesized French company going to a Japanese bank rather han to BNP or Credit Lyonnais! Only a close link with apan would enable the Japanese banks to approach this segment of the market. But the banks do have a good arger corporation client base, working with them mostly )n a multi-currency credit line. Japanese banks lack 172
expertise in evaluating risk of small- and medium-sized domestic companies. They hope to capture some public sector financing in Europe, despite current low margins.
Broking and Portfolio Investment
.
In 1987, Japanese banks had more than US$93 billion invested in foreign securities. The trend will continue; recently, the Ministry of Finance raised the limit that Japanese insurance companies and trust banks could hold in foreign securities. The historical preference of the Japanese for US bonds and money market instruments seems to be weakening, and there will be more interest in Europe. Although most Japanese portfolio investment in Europe is in the UK, Germany and Holland, Spain and France are favoured for ‘ 1992’ growth. It is important to note that some Japanese corporations set up financial subsidiaries in London and Luxembourg in the mid-1980s to engage in ‘Zaitech’. This is the business of using arbitrage to derive shortterm profits in securities and foreign exchange. This was permitted by the Ministry of Finance. Between 1985 and 1987, when the yen appreciated by 85%, most Japanese corporations compensated for less profitable trade by Zaitech, which led to a surge in broking business. Whilst the ‘Big Four’ securities companies (Nomura, Daiwa, Nikko and Yammaichi) have the biggest (officially protected) share of broking, deregulation is likely to allow the bigger Japanese banks to increase their share.
Project Financing In the EC, Spain, Portugal and Greece are undertaking big projects to improve their infrastructures - particularly in road transport, telecommunications and railways, and are looking to international capital markets for funding. Japanese banks, with their extensive European network, high ratings and experience in the Eurobond and syndicated loan market, plan to take a substantial part of this market. They already have 23% of the funding of Eurotunnel, a loan co-ordinated by the Bank of Tokyo and the Long-Term Credit Bank of Japan.
Real Estate Financing Japanese banks are active in this area - they consider prices reasonable in Europe compared with the astronomical price of real estate in Tokyo. It is also potentially lucrative business, with spreads as high as 2% over LIBOR.
Mergers and Acquisitions This also looks to be a potential growth area for Japanese banks, as Japanese and European firms form alliances. There are two forces encouraging this. First, under world pressure, the Japanese government has taken measures (like tax cuts) to stimulate domestic consumption. It means that Japanese corporations can only grow overseas by M and As. Second, the stigma of M and As is fast disappearing, allowing the corporations to diversify through M and As more easily. However, most Japanese EUROPEAN MANAGEMENT JOURNAL Vo19 No 2 June 1991
NOTES AND VIEWS
;o be in the USA; ate friendly, small corporations.
M and As continue
most involve
and
Japanese corporations are installing production units in Europe to get around ‘Fortress Europe’ The Single European Market could change all this. A recent survey in Nibon Kenzai Shimbun showed that 60% of large Japanese corporations are seriously considering installing production units in Europe to get round ‘Fortress Europe’. M and As will certainly be used for this purpose. Examples are: a joint venture in Germany between Daihatsu and BMW and Cannon and Olivetti in Italy to produce copiers. The Japanese banks are gearing up to provide a full range of financial and advisory services in Europe - they are strengthening M and A teams and tax and legal services. Both Sanwa Bank and the Bank of Tokyo have full M and A departments in London.
The Outlook for Japanese Banks in Europe The Japanese banks Europe. Their strategy products adapted to the banks are taking .
. .
are already well established in is to establish local bases and offer local conditions. To achieve this, the following steps:
establishing European centres for international operations (e.g. Bank of Tokyo, Mitsui, Sanwa, Fuji Banks in London); listing on European stock exchanges (without an interest in raising equity, at least in the short-term); recruiting more staff, particularly European staff. The problems
they face are several.
The Cooke
Cominittee’s capital adequacy ratio is forcing them to reduce the growth of low quality assets and to put more emphasis on the return on assets. Although this might impede short-term growth, it will cause rationalization of banking operations and greater emphasis on risk management. They have, in fact, issued some USS 14 billion of convertible bonds since 1987, mostly in Swiss francs, to improve their capital adequacy ratio. The strategy backfired since, with falling share prices of the banks, the prices fell behind the conversion price and investors are not exercising their equity options. The banks are likely to have to pay most of the money back. Also, the Swiss franc has appreciated, putting another strain on the banks. Furthermore, diversification into corporate banking for dcmestic customers will not be easy. Japanese banks have little knowledge of local conditions. Recruitment of staff in Europe and training are expensive. The banks do not have the advantage they had in the USA, of acquiring staff through M and As. There have been very few in Europe.
Effects on European Corporations Japanese multinationals have a ‘Zaibatsu’ structure. It is a federation of cross-equity holdings. The companies maaing up Zaibatsu are: industrial firms, trading companies (‘Sogo Shoshas’) and financial institutions. For example, Dai-Ichi Kangyo (DKB) is an industrial group, C ltoh the corresponding trading company and DKB and Sumitomo Bank the financial institution. Zaibatsu are powerful competitors. It is very likely that Zaibatsu relationships will develop between Japanese corporations in Europe and the European subsidiaries of Japanese banks - providing threats to European corporations. The latter can fight back by cross-border alliances, particularly in vulnerable sectors like electronics and computers. -
DE LA BAUME, Ecole Supheure de Commerce de Paris, 79 Avenue de la Republique, 75543 Paris Cedex 11, France CHARLES
Charles de la Baume receiued bis doctorship from the Paris IX Daupbine University, and is now Associate Professor at the Ecole Supe’rieure de Commerce de Paris. He bas been Visiting Professor at the International Institute for Studies and Training in Fujinomiya (lapan) and bas carried out special studies on Japanese banks strategies for Euromanagement Consultant.
EUROPEAN MANAGEMENT JOURNAL Vo19 No 2 June 1991
GUPTA, Ecofe Sup&ieure de Commerce de Paris, 79 Avenue de la Republique, 75543 Paris Cedex 1 I, France
JYOTI
jyoti Gupta obtained his engineering degree with bonours from the Indian Institute of Technology and received his PbD from tbe University of Manchester. He is Professor of Finance and International Business at the Ecole Suphieure de Commerce de Paris. He has held senior managerial positions in several multinational corporations in different countries and has also worked as a Visiting Professor at the International Institute of Studies and Training in Fujinomiya, Japan.
173