Business bowed by bad debt and bankruptcies
FINANCIAL BREAKDOWN
Alarm bells ring over total group
debt
BANKING
Fuji opens its books in image overhaul
AUTOMOTIVES
Nissan could be the trigger for crisis
TRADING HOUSE
Marubeni president pledges to stand
by his partners
JAPAN: Business bowed by debt and bankruptcies Japan's Fuyo keiretsu,
or business grouping, is fighting for survival. Most of the keiretsu is
burdened by massive debts and collapsing cash flow. The danger is that
it could implode, leading to job losses, bankruptcies and forced nationalizations.
Financial Times reporters investigate the risks and ramifications
On the fourth Monday of every month, the 27 presidents of the member
companies of the Fuyo keiretsu meet on an upper floor of Fuji Bank's modern
concrete headquarters in Otemachi, the heart of Tokyo's financial district.
This week's meeting will have been more gloomy than most, write Paul Abrahams
and Julie Hess in Tokyo.
The executives, leaders of some of Japan's biggest companies including
Nissan, Hitachi, Canon, Marubeni and Sapporo Breweries, know their keiretsu
is struggling for survival.
The first-half results they will announce over the coming month are
certain to be almost universally disastrous. Most of the industrial units
- whose interests range from cars to brewing, railway lines to flour milling
- are desperate for cash, burdened by massive debts and battered by negative
cash flow. Help cannot come from the group's financial core. Fuji Bank
and Yasuda Trust, are in urgent need of capital injections, weighed down
with bad debts and securities losses.
In some ways, the group's problems are no different from the rest
of the Japanese economy. But in other respects, its difficulties are the
worst of any of the keiretsu. There is a serious risk the Fuyo group could
implode.
"Other keiretsu face huge challenges, but none has the combination
of such a disastrous performance within its biggest industrial groups and
such a weak financial core. The economic logic is clear," says Kevin Hebner,
strategist at Warburg Dillon Read in Japan.
At the heart of Fuyo's predicament is its debt. The ability of most
of the group's companies to pay down debt from internally generated cash
is limited. The recession in Japan is hitting Fuyo operating profits harder
than most, and the majority are struggling to generate positive cash flow.
The exact scale of its liabilities is hard to evaluate. Analysts,
both foreign and domestic, have been put under huge pressure by officials
not to write negative reports or make public pronouncements on either Fuji
Bank or the Fuyo group.
Foreign brokers have been investigated by the Securities Exchange
Surveillance Commission, the industry watchdog, over the sharp fall in
the bank's share price. Indeed, the recent measures to prevent short-selling
of Japanese equities were introduced partly in response to this decline
in Fuji's shares. Domestic journalists from the big five local newspapers
have been curiously quiet about the group's plight.
It is clear the Fuyo keiretsu is unraveling. Over the past six months,
the group's financial weakness has become apparent in the acceleration
in business failures and closures. Two core groups - Showa Line and Nihon
Cement - have disappeared, forced into mergers. Among the 57 subsidiaries
and affiliates in the broader Fuyo empire, Toa Steel was absorbed into
NKK, the steel group, while Okura, a trading company, was declared bankrupt
in August.
Fuyo has been the weakest of the keiretsu. Its ties are far less
deep ties than the Mitsubishi or Mitsui business groups, which are based
on zaibatsu, the powerful pre-war conglomerates that dominated Japan -
Fuyo was cobbled together from a few small and weak zaibatsu after the
second world war.
With member companies distancing themselves from each other, the
question is what could tip Fuyo over the edge.
There are any number of events that could precipitate a crisis. The debt of one of the big industrial groups, such as Nissan, could be downgraded to junk status; the Bank of Japan might stop injecting liquidity into Fuji Bank; Fuji might fail to complete its ¥200bn ($1.7bn) capital increase by March: it could be forced by new legislation to write off a higher proportion of its bad debts; new rules on the accounting of non-consolidated affiliates, due to be implemented in 1999, might reveal huge bad loans in most of the member companies; and the possible introduction of rules for the valuation of securities at market value, not book value, could
generate huge losses throughout the keiretsu. Any of these could
force the government to step in, nationalize large swathes of the group,
and force restructuring that would lead to widespread job losses overseas.
The keiretsu system was once a hugely efficient mechanism for providing Japanese companies with cheap capital and protected markets. But the system has become a liability, a destroyer of value. Its demise would be no bad thing.
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The Fuyo companies do not make financial analysis easy. Many of them have non-consolidated affiliates to which they have lent large sums that may not be wholly recoverable. For example, a deal between Nissan and DaimlerChrysler for the German-US group to take a stake in Nissan Diesel, a big Japanese truck maker, has been delayed partly because of the size of off-balance sheet loans made to its suppliers and vendors.
Even taking the figures from the annual reports of Fuyo's 25 core industrial units, the level of debt is alarming. At the end of March, the groups had combined net debts of ¥17,135bn ($146bn) - equivalent to 3.4 per cent of Japan's gross domestic product.
Among the worst is Marubeni, the trading house, which has net debts of ¥4,434bn. But at least the company is generating cash. Nissan remains, by far, Fuyo's biggest single problem.
"Nissan's debt position is scary," says Kevin Hebner, analysts at Warburg Dillon Read.
Such high levels of debt would be acceptable if the member companies were generating large quantities of cash, or their capital positions were strong. Almost without exception they are not.
Fuyo's ¥17,135bn of net debt was supported by just ¥9,596bn of equity on March 31. Only one company - Nisshin Flour Milling - had net cash. Of the other 24 industrial companies, only eight had net debt to equity ratios under 100 per cent. Marubeni's gearing was 933 per cent and Nissan's 300 per cent. In contrast, Canon, by far the healthiest manufacturer in the group, had a ratio of 11 per cent.
This year is likely to be worse. HSBC Securities expects combined net results of the industrial groups to collapse from a profit of ¥91bn last year to a loss of ¥148bn. For the third time in four years, the entire Fuyo group, including the financial companies, is expected to report a net loss, bringing combined net losses over the past five years to ¥1,600bn.
An analysis by Warburg Dillon Read shows that only seven of the 23 remaining industrial groups are above the safety level, while six - Nissan Motor, Toho Rayon, Tobu Railway, Keihin Electric Express Railway, NOF Corp and Kureha Chemical Industry - are in the danger level. Since March, two groups, Showa Line and Nihon Cement, have disappeared.
The financial plight of Fuyo has been exacerbated by cross-shareholdings and the fall in share prices. In the six months to September 30, Marubeni's shares fell 54 per cent, Tokyo Tatemono's 58 per cent, Fuji Bank's 65 per cent, and Yasuda Trust's 66 per cent. Over that period, shares in the Fuyo group's 27 main companies have dropped on average 30 per cent, against a 16.6 per cent decline by the market as a whole.
These collapses have led to large non-realized losses on member companies' securities holdings.
For the six months to the end of September, Nissan revealed net securities losses on a parent company basis of ¥76bn, Marubeni ¥68bn, and Hitachi ¥35.6bn. Fuji Bank's result was the worst among the commercial banks, with net losses of ¥580bn, while Yasuda Trust is estimated to have reported losses of about ¥300bn, according to HSBC Securities.
These dwindling values have ruled out issuing additional equity as a means of reducing debt. The ability of most of the companies to issue bonds is further limited by their diminishing creditworthiness.
In a normal keiretsu, the member companies would help each other out. But in the Fuyo group, the industrial units appear increasingly reluctant or unable to help the banks, and the banks incapable of helping their industrial partners.
Fuji Bank, Japan's fifth largest commercial bank, is in deep trouble. Although officially its bad debts are not the largest in the Japanese banking sector, most analysts believe that all Japanese banks are understating the problem.
For example, Fuji officials say that "virtually none" of its substantial loans to other Fuyo group members are "category two" - loans that need careful monitoring - even though many of the Fuyo companies are in difficulties.
Moreover, its provisioning for even its disclosed bad debts of ¥1,700bn is skimpy: its loan-loss ratio is just 47 per cent, among the lowest for any bank.
To offset this, Fuji Bank is looking for a capital injection of ¥200bn from other members of the Fuyo group and big shareholders, such as Nippon Life and Dai-Ichi Mutual.
Some members of the group now insist Fuyo was never a "real" keiretsu. Tosaku Harada, deputy president of Fuji Bank, says: "Normally people would talk about Fuyo as a keiretsu, but we are not the same as a keiretsu. Fuyo is more loose and open in terms of its relationships."
Copyright the Financial Times
Limited 1998"FT" and "Financial Times" are trademarks of The Financial
Times Limited.
WEDNESDAY, OCTOBER 28, 1998
Fuji Bank is trying something new this month. In an attempt to ward
off "speculative rumours", Fuji has asked Ernst & Young, the western
accountants, to conduct an audit of some of its operations. The step is
the first such disclosure move for a Japanese bank. The move was prompted
by the sharp fall in Fuji's share price. Between April and September, its
shares tumbled 65 per cent on market concern that the bank might provide
another flashpoint for Japan's financial system. It has since rebounded
from a record low of ¥259 to ¥417 yesterday, but it is well below
the year's peak of ¥1,110.
Meanwhile, Fuji faces growing problems raising funds on international
markets. "Fuji has a big image problem," says a western banker. "Many foreign
banks will not deal with them."
Fuji insists this is unfair. Some agree. "Investors' concerns are
overblown," said Masmitsu Ohki, analyst at Société Générale.
One fundamental question is whether Fuji's capital base can withstand
financial demands from the rest of the Fuyo group.
Tosaka Harada, deputy president, insists it can. "Analysts and foreign
journalists consider that the portfolios of Japanese banks are in poor
shape and so Japanese banks will fall into a capital shortage and need
more funds. But that is not the case for Fuji."
The bank is aiming to reach a Bank for International Standards capital
adequacy ratio of 10 per cent next March, via a ¥200bn ($1.7bn) capital
increase from Fuyo companies and large shareholders.
Few analysts agree with Fuji that this capital increase will be enough.
Société Générale believes a further ¥900bn
will be needed to reach the target ratio. Other analysts privately put
the figure higher.
Two factors are threatening to erode Fuji's capital base. One is
that the bank reported ¥580bn of "hidden losses" on its equity portfolio
between April and September, higher than for any other bank.
The government is threatening to force the banks to report these
losses next year. A ¥580bn loss would push Fuji's BIS ratio down to
6 per cent, say analysts.
The second problem is Fuji's bad loans - ¥1,700bn at the end
of March. The bank says it now has reserves to cover 90 per cent of these
loans. However, Nomura Research calculates effective loan loss reserves
were only 47 per cent.
Fuji insists its provisions are adequate. To back this up, it has
revealed that under a different accounting method it has ¥3.3bn of
"category four" loans (which are clearly bad), ¥228.6bn of "category
three" loans (which are questionable), and ¥2,320bn category two loans
(careful monitoring).
The bank has reserved for all "category four" loans, and about 60
per cent of "category three". It insists it does not need large reserves
for "category two", as half these are covered by property collateral.
James Fiorillo of ING Barings says: "The bank has a long way to go
before easing investor concern."
So will Fuji get the capital to cope with these pressures? Mr Harada
is confident the Fuyo group and other major shareholders will produce the
¥200bn. There are also growing signs that the government will inject
up to ¥1,000bn of public funds next year.
But if a large Fuyo group fails, or Fuji's share price tumbles further, or the government abandons its injection, the bank could come under pressure again.
Copyright the Financial Times
Limited 1998. "FT" and "Financial Times" are trademarks of The Financial
Times Limited.
WEDNESDAY, OCTOBER 28, 1998
How can Nissan, one of the world's most efficient carmakers, be the
company that might ignite a crisis within the Fuyo keiretsu?
Although Nissan, Japan's second-largest automotive assembler, can
make vehicles cheaply, not enough people want to buy them, and the huge
capital investments Nissan made during the 1980s do not appear to be generating
a return that would allow the group to pay down its colossal debts.
Nissan's net debt of ¥3,900bn (£19.5bn) is equivalent to
66 per cent of Japan's annual defence spending. Between March 1992 and
March 1998, the group's gearing increased from 190 per cent to 304 per
cent.
But Nissan's affiliates, mainly suppliers and dealers, are often
worse off than their big brother. The extent of their woes is difficult
to evaluate, but according to Takaki Nakanishi, auto analyst at Merrill
Lynch, Nissan's dealers alone have debts of ¥1,000bn. Many of them
are finding it increasingly difficult to raise funds, and are turning to
Nissan as a lender of last resort.
As these companies are not consolidated they do not appear as contingencies in the annual report. An analysis by Warburg Dillon Read indicated four of 12 non-consolidated affiliates had severe
financial problems. The group is also troubled by its holdings in
other Fuyo companies. This month, Nissan booked a ¥76bn net loss on
its holdings of equities.
Nissan's debt would not be a problem if it were generating the cash
necessary to cover interest and pay down its obligations. But in six years
it has only once posted a net profit, and achieved net cumulative losses
of ¥333bn. Warburg Dillon Read estimates it will post another loss
this year. Cash flow is dire. Only once since the start of the decade has
Nissan's cash flow from operations been sufficient to cover capital expenditure.
Nissan has been cutting its capital expenditure, a decision that
is partly to blame for its lacklustre product line-up and poor sales in
Japan. In the US, profits were hit by aggressive discounting and worse
than expected residual values on leased vehicles. Only in Europe is Nissan
profitable.
It has launched an aggressive cost-cutting campaign, aimed at reducing
expenses by ¥400bn by the end of 2001, and eliminating ¥1,000bn
of debt.
In the short term, this is unlikely to make much of a dent on the
debt mountain. Meanwhile, the cost of funding is becoming increasingly
expensive. In July, Japan Rating and Investment Information downgraded
Nissan's long-term debt from A+ to A-, a notch above the minimum Japanese
investors will accept. A further downgrade could lead to a sell-off by
Japanese investors.
Nissan is having to pay more for its funds. In March, the group raised ¥100bn at a cost of Libor plus 70 basis points. Five months later that spread increased to 100 basis points. With no help available from the Fuyo keiretsu banks, Nissan is on its own.
Copyright the Financial Times
Limited 1998. "FT" and "Financial Times" are trademarks of The Financial
Times Limited.
WEDNESDAY, OCTOBER 28, 1998
In time-honoured Japanese tradition, Marubeni, the trading house,
says it will stand by its Fuyo group partners through thick and thin. Iwao
Toriumi, president, said in a recent interview that while certain holdings
were being sold to make efficient use of assets he had "no intention of
fundamentally destroying the system of cross-shareholding".
Marubeni officials indicate that as the problems of Japanese companies
mount, group solidarity has become more important. "If we receive a request
from Fuji Bank [to help in its recapitalisation], we will consider the
request very seriously because it is the central bank of the Fuyo group,"
says one official. "Although our final decision will have to be based on
strict management considerations, we want our financial core to remain
strong. Those companies which do not have a lender of last resort are the
ones that are suffering now."
However, it is questionable whether Marubeni will be able to live
up to its good intentions. With a net debt-to-equity ratio of over 900
per cent, an interest coverage of 0.5 and a current ratio of 1.2, Marubeni's
financial position is far from strong.
Compared with other Japanese trading houses, its balance sheet is
not among the worst. But by international standards, it is dire. In the
past eight years, the company has only once managed to push its net debt-to-equity
position below 800 per cent. This was sustainable as long as profits were
high enough to generate adequate cash flow, but now Marubeni's profitability
is under pressure.
This year, Marubeni will record a net loss, owing to security valuation
losses. Of total valuation losses of ¥68bn ($573m) for the first half
of the year, a quarter can be attributed to its holding in Fuji Bank. The
value of its 31m Fuji shares declined from ¥24.7bn to ¥8.5bn. These
shares are unlikely to be sold.
Marubeni also is highly exposed to Indonesia, where its net exposure
is ¥250bn. Of that amount, Marubeni has a net ¥41.5bn exposure
to its investment in Chandra Asri, the Indonesian petrochemical plant.
The danger is that the Japanese group will need to invest more in Chandra
Asri. Marubeni claims that Chandra Asri, which had losses of $475m at the
end of 1997, will start making profits in 2000. However, this will depend
mainly on a recovery in the Indonesian market and in petrochemical prices.
Marubeni also suffers a need to deal with its 693 subsidiaries. Of
these, 30 per cent are in the red. Mr Toriumi has stated that he aims to
reduce that to 20 per cent "as soon as possible".
Copyright the Financial Times
Limited 1998. "FT" and "Financial Times" are trademarks of The Financial
Times Limited