The Journal The Authority on Global Business in Japan

Tokyo markets experienced a jolt on the morning of January 15, triggered by a single media report that came out at 2:00 a.m. local time. Shares in SoftBank Group Corp. soared nearly six percent in early trading on the Tokyo Stock Exchange after the Nikkei reported that the company “aims” to list its mobile phone unit, SoftBank Corp., in Tokyo and London later in the year.

The report suggested that selling off about 30 percent of the shares in the telecommunications arm of the company could net an impressive ¥2 trillion ($18 billion), rivaling the record ¥2.2 trillion that Nippon Telegraph and Telephone Corporation raised when it was floated in 1987.

Frank Packard, chair of the American Chamber of Commerce in Japan (ACCJ) Alternative Investment Committee and president of cross-border financial services provider Triple A Partners Japan Co., Ltd., seems far from surprised at the global appetite for the tech sector. He is also unsurprised that the agenda is being set by a company that appears to be redefining the concept of international mergers and acquisitions (M&As) in the technology space.

“SoftBank’s transactions have created their own category with digital M&As,” he told The ACCJ Journal. “First, it has launched the largest-ever private equity vehicle, the Vision Fund, valued at $100 billion.

“Second, unlike traditional venture capital companies, which have tried to support one winner in each sector, SoftBank has backed almost every major competitor in the ride-sharing sector, for example, including Uber, Didi, and Lyft.

“And third, its wide appetite—from the acquisition in 2016 of British mobile telephone chipmaker ARM Holdings to that of American private equity fund manager Fortress Investments in 2017—has led some people to reach the conclu­sion that SoftBank is creating whole new industries, such as investment management or fund management applications on mobile telephones,” he said.

While SoftBank may be setting the agenda for the future expansion strategies of Japanese technology companies, analysts say this is the sector to watch.

“Technology, as an industry, has been a big driver of growth in the global economy and has, to a large extent, been behind the recovery that we have seen in the years since the Lehman crisis,” said Scott Sugino, vice-chair of the ACCJ Foreign Direct Investment Committee and a partner at the Tokyo office of the O’Melveny & Myers law firm.

Japanese companies have been “very active” in tech-sector M&As, Sugino said, also singling out SoftBank as an example and its recent purchase of a 20-percent stake in Uber.

“But on the inbound side, there has been much less activity,” he said. “That is largely because there is not a lot here that is for sale, and the more notable deals have involved companies that are, for whatever reason, troubled.”

He cited Toshiba Corporation as one example. The con­glo­merate sold off its bankrupt US nuclear business for $4.6 billion earlier this year, divested 95 percent of its TV unit to China’s Hisense Co., Ltd., and then spun off Toshiba Memory Corporation to Bain Capital, LP. The fire sale of some of the company’s most prized assets was forced upon management by an accounting scandal in 2015.

Equally, several Japanese companies, including Panasonic Corporation and Hitachi, Ltd., Sugino explained, have been “more active in divesting themselves of non-core businesses” as they try to focus their efforts on the most profitable elements of what they do.

Analysts say there are three broad categories of M&A trans­actions typically found in the digital sector. The first is existing technology firms snapping up other tech firms—often smaller startups with promising technology—and wrapping them into their own operations to improve their own products and services.

Alternatively, “traditional” companies with little tech-sector experience—and “fearful of being eaten by software,” according to Packard—are purchasing those they believe can offer them a new product or service, reinvent their business models, and perhaps move them away from an area that has seen declining opportunities.

The third scenario is traditional companies spinning off their digital operations when it becomes clear they are not able to absorb technology into what they do.

“In the 1990s dot-com boom, the digital world created totally new business models, from selling books on Amazon to searching the web on Google,” said Packard. “However, since around 2010, the digital world has been noticeably disrupting almost all traditional industries, including global trillion-dollar sectors such as travel and tourism, health, energy, finance, real estate, insurance, retail, and transportation.

“None of these are immune to digital transformation,” he added. And companies that sense they are under threat have three potential responses; build, partner, or buy.

According to Packard, the danger of not evolving fast enough is leading to many forms of corporate venture capital. “It is not only digital M&As and strategies to bring innovation into companies, but also accessing business intelligence, exploring business opportunities, playing defense, and seeing the future and trends that might threaten or destroy existing business models and revenues.”

Consequently, a lot of “traditional” companies from around the world have set up their own proprietary corporate venture capital units. These companies include: Asahi Glass Co., Ltd.; BMW AG; General Electric; NTT DoCoMo, Inc.; Samsung; and Volvo. More specialist tech companies active in similar arrangements include: Bloomberg L.P.; Cisco Systems, Inc.; Comcast Corporation; Intel Corporation; Google LLC; Qualcomm Technologies, Inc.; and Inc.

Packard pointed out that digital M&As in 2017 were “particularly active” in data center acquisitions, with 48 deals worth $20 billion, which eclipsed the 45 deals worth $16 billion in 2015 and 2016 combined.

One reason for this renewed interest in the sector is a spike in enterprise data center outsourcing, or spin-offs by traditional companies of non-core digital operations.

Sugino identified the auto sector as a global industry that is looking hard at new tech opportunities, particularly companies with abilities in the self-driving space.

Japanese companies are an attractive proposition for US firms looking for M&A options for a number of reasons, not least because Japan is seen as a trendsetter in terms of consumption of new technology. The nation’s aging population is also leading to the creation of tech solutions aimed squarely at that market.

The other side of Japan’s demographic conundrum is a shrinking working population, which tech providers are also looking to overcome. Last year, Fukoku Mutual Life Insurance Company replaced 34 employees with IBM’s Watson Explorer, using artificial intelligence (AI) to calculate payments to policyholders. Experts anticipate a growing number of tasks will be taken over by AI in the near future.

Counterintuitively, Sugino said it has become apparent that bigger companies are willing to snap up tech outfits with little in the way of revenue. Even companies operating at a loss may be attractive acquisitions—as long as the technology they are pioneering holds promise.

In addition, the corporate venture capital model permits companies to pursue digital M&As in more “bite-sized” invest­ments, Packard said, either through a fund or via later rounds of investment directly into the ventures. Ultimately, for the most appealing companies, this can lead to a 100-percent buyout.

“Japanese companies particularly like the corporate venture capital approach because the longer time frame allows the potential acquirer to evaluate a startup and its products and services,” he said.

Inevitably, international M&As in the tech sector have obstacles that must be overcome—not least because any deal rests on a product or service that might turn out to be the next big global thing, but equally might fizzle.

Another area of concern will be the often-vast differences in corporate culture between Japan and other countries, including in compensation arrangements for key personnel.

“US-based tech companies tend to want a flat management and free-flowing work style, which is the antithesis of how Japanese companies are set up, meaning that there can be problems meshing the two together after an acquisition,” Sugino said. And there is a risk that if senior management are replaced, some of the other key officers of the company may also opt to leave. If the company has a good reputation, he points out, they are unlikely to be short of offers—so keeping the core team together is critically important.

“For a deal to be successful, the purchasing company really needs to do its due diligence, but it also needs to have a very clear post-acquisition plan in place to identify the key people and roles going forward” he said.

“There will be lots of questions: What will the relationship with the parent company be? What is the new management strategy? It is important that answers to those questions are available or people will start to leave.”

Yet all the analysts interviewed for this article are upbeat about the outlook for the sector moving forward.

“Corporate venture capital is seeing substantial and, seemingly sustainable, growth,” said Packard. “In 2015, investment reached levels of participation last seen in 1999 during the dot-com boom; and I predict that this is just the beginning of a long-term trend.

“Based on the last three years in Japan alone there are strong foundations for corporate venture,” he added, pointing to the success of a number of recent deals in the sector, such as Mitsubishi Corporation teaming up with John Roos, the former US Ambassador to Japan, to set up Geodesic Capital. The California-based venture-capital firm has Japanese corporate investors to provide late-stage investment to companies in the consumer technology industry. In 2016, Geodesic closed its first fund and raised $335 million.

Sugino agrees. “When the music stops there will inevitably be some downturn in the global economy, but technology is driving the economy at the moment. This is where the global growth is happening.”

Julian Ryall is Japan correspondent for The Daily Telegraph.
Even companies operating at a loss may be attractive acquisitions—as long as the technology they are pioneering holds promise.