Staying Focused on the Fundamentals

The keys to successful investment in Japan

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“If you get the earnings right, you’ll get the investment right.” This was the advice given to me by one of the greatest investors of all time, Julian Robertson. He is the founder of the famous Tiger Fund, which, throughout the 1990s, battled with investment shark turned philanthropist George Soros for the top position as the world’s biggest and best-performing hedge fund manager. To be a successful investor, cut out the noise and don’t get distracted by smart-sounding stories or headline-grabbing advice. Stay focused on the fundamentals.

Local Success

Applying this rule to Japan, the first questions we must answer are:

• How does Japan, Inc. make money?
• Where do its earnings come from?

Importantly, the answer is “not from Japan.” For companies listed on the Japanese stock markets, about 64 percent of corporate profits are created from global sales and operations (i.e., exports or offshore production and sales). From a top-down macro perspective, a successful investment in the Japanese stock market is far more dependent on global economic fortunes than on what goes on at home, in Japan.

In fact, Japan’s dependency on the world has gone up since the start of Abenomics in 2012. Ten years ago, about 50 percent of profits came from global markets. The rise from 50 to more than 60 percent is primarily due to Japanese banks and financial firms. Over the past decade, they have become more active overseas—particularly in Asia.

It is a little-known fact that Japanese banks have been the largest provider of credit in non-China Asia for three years running. At the same time, banks’ domestic profit margins are being squeezed by the cap on bond yields forced by the central bank. If interest rates are not allowed to rise, banks cannot grow their profit margins. To get bullish on Japanese financials in general—and banks in particular—we need to see an end to the Bank of Japan’s current policy of yield-curve control (i.e., allowing 10-year bond yields to rise).

Currency Sensitivity and the Hedge Imperative

Further, Japan’s major dependence on the ups and downs of the global economy makes Japanese profits highly sensitive to the currency. When the yen rises, overseas earnings translate into lower yen-based profits. When the yen drops, the yen profits get a nice windfall. Statistically, for every ¥10 of depreciation, Japanese corporate earnings get a boost of about eight percent (if the depreciation is sustained for six or more months).

In other words, the weaker the yen, the better Japan’s corporate profits; and the better Japan’s corporate earnings, the higher the stock market.

For global investors who calculate their returns in US dollars, the combination of Japan’s high dependence on global growth, and the inverse relationship between the currency and Japanese earnings, dictates one very clear piece of investment advice: always currency hedge your yen equity positions. Chances are high that yen-denominated Nikkei gains will translate into much lower US-dollar gains because, basically, the Nikkei only goes up during periods of yen depreciation and dollar strength.

Here we can learn from another master investor: Warren Buffet. Last fall, when he famously initiated his first significant investment in Japanese stocks in more than a decade, he did so on a fully currency-hedged basis. And it has paid off handsomely so far. The yen value of his position is up 20–25 percent, despite the yen being down five to six percent. Without the currency hedge, his performance would be one-quarter to one-fifth less than it is with the currency hedge. In my view, hedging the currency is imperative for best performance if, like Buffet, you measure your returns in US dollars.

Leadership Matters

Of course, this is just the big-picture macro lesson for anyone considering an equity investment in Japan. From here, we’ll have to enter the exciting world of stock-picking, of selecting companies that display high potential for generating rising profits and superior returns.

I am not allowed to go into details and offer advice, but I can leave you with one suggestion: focus on the leader, the CEO. In the end, Japanese corporate performance is dictated primarily by the quality, vision, and aggressiveness of the top-level executives. After decades of misery, Sony Corporation turned itself around when the charismatic Kazuo Hirai took over, and Hitachi Ltd. did so when superstar manager Hiroaki Nakanishi stepped in.

These are just two such success stories. While Japan may well despise and not tolerate the superstar CEO cult so essential to US corporate culture, the reality is that Japan’s consistent top performers and turnarounds can be traced back to an individual star CEO and their leadership style. You won’t find their names in bright lights, in the papers and magazines, or at Davos, but they do exist. Finding them is half the fun and a rewarding part of investing in Japan.

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Third Annual ACCJ Shareholder Forum

Focusing on active engagement and stewardship during the AGM season

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After more than a year of operating during the coronavirus pandemic—and adapting to the changes it has brought forth—companies are facing another season of shareholder meetings. With vaccinations signaling that we may soon emerge from the crisis into a more familiar, although changed, world, leaders are able to focus on other critical areas, such as the environment and sustainability, as well as diversity and inclusion.

On June 16, the American Chamber of Commerce in Japan (ACCJ) Alternative Investment Committee (AIC) hosted the third annual ACCJ Shareholder Forum. Held virtually once again this year, the event brought together six speakers with expert knowledge of the fiduciary and regulatory landscape:

• Satoshi Ikeda, chief sustainable finance officer at Japan’s Financial Services Agency (FSA)
• Nicholas Smith, strategist at CLSA Securities Japan Co., Ltd.
• Paras Anand, chief investment officer for Asia–Pacific at Fidelity International Ltd. (FIL)
• David Baran, chief executive officer of Symphony Financial Partners (Singapore) Pte. Ltd.
• Alicia Ogawa, director of the Project on Japanese Corporate Governance at Columbia University
• Seth Fischer, chief investment officer at Oasis Management Company, Ltd.

The mission of the forum is to address the lack of public information about the existence of shareholder initiatives among listed companies in Japan. This year’s discussion included timely issues for active investors, such as environmental, social, and corporate governance (ESG), climate-change disclosures, the growing emphasis on diversity of boards, and the differing styles of engagement used to achieve successful outcomes.

“These days, lots of attention is focused on boards of directors and corporate governance,” AIC Chair Frank Packard said during his opening remarks. “Less attention is focused on active engagement and stewardship. It is this attention gap that the ACCJ seeks to address with this forum.”

“Active investor engagement can lead to constructive results, and we see that with the Toshiba investigative report. This increased transparency only happened because an actively engaged investor requested an extraordinary general meeting of shareholders,” he added, referring to the revelations in June that the manufacturing giant allegedly colluded with government officials to influence the outcome of votes at its 2020 annual general meeting (AGM).

ACCJ President Jenifer Rogers, who serves as a non-executive director on the boards of three Japanese companies—Mitsui & Co., Ltd., Kawasaki Heavy Industries, Ltd., and Nissan Motor Co., Ltd.—welcomed attendees and shared how the chamber is modeling best practices in terms of governance and member shareholder engagement.

“For almost 10 years, the ACCJ and its members have advocated constructively with the government of Japan to improve corporate governance and investor behavior, to increase corporate value for all investors and stakeholders,” she said. “This event is part of a long-standing interest of our chamber members in these important issues.”

Rogers noted that the coronavirus pandemic has helped hasten the adoption of ESG principles at many companies and prompted more attention to be focused on climate change. “Changed attitudes about sustainability are also—and, should I say, finally—emerging in Japan.”

Response to Reform

Satoshi Ikeda provided perspectives on corporate governance reforms on behalf of the FSA, where he is chief sustainable finance officer. The agency’s reforms were launched in 2015 and recently finalized in time for June’s busy AGM season—despite resistance from Japan’s corporate chieftains.

“To put it bluntly, the corporate governance reform in Japan was really hated by Japanese corporate executives, and it continues to be largely so even today,” Ikeda said, adding that this is no surprise because such moves are intended to strengthen oversight of corporate executives. “It is human tendency to resist being deprived of entitlements,” he noted.

The reforms came after the persistently low profitability and low returns on equity at Japanese corporations came into the spotlight in the early 2010s, Ikeda explained. “It was perceived that Japanese corporate management was maybe too prudent. So, we thought it would be necessary to change the balance.”

Long-term equity investors are in the best position to help realize the “right vision-based finance” in Japan, Ikeda added, despite the negative image that many Japanese have of them as short-term speculators who descend like “a swarm of locusts” and demand an immediate payout through dividends or stock buybacks, and then disappear. But by aligning their interests with those of the company, long-term investors can encourage value creation for shareholders by engaging in stewardship activities, he said.

Reforms to the corporate governance code are also aimed at changing the traditional mindset at Japanese companies that prioritized clients and employees more than shareholders. That way of thinking also was not suitable for responding to civil society organizations pushing agendas, such as greater respect for human rights and addressing climate change.

Expanding Scope

Chris Wells, AIC vice-chair and a partner at law firm Morgan, Lewis & Brockius LLP, explained that, over the past year or so, the thinking about stewardship responsibilities has expanded beyond just improving corporate governance to embracing environmental and social responsibilities. But, he added, the adoption of a stewardship code by investors appears to have had very limited impact on advancing ESG objectives. The framework for the ESG goals envisioned in the stewardship code is “just not working” he explained.

One problem, he stated, is that some companies are criticized for greenwashing—conveying a misleading or false impression about how their products or services are environmentally sound.

What’s needed is the development of a consensus list of ESG metrics—relevant not just to shareholders, but to employees, suppliers, and service providers—that can be used to measure progress toward those goals, Wells said. “We cannot expect Japanese corporate managers, investment managers, or financial intermediaries to take action on ESG objectives if no agreed metrics exist whereby to measure their success.”

Government leadership is needed to help achieve this, Wells added. “Only government action can ensure that investors will receive this information in a consistent format—one in which they can compare apples to apples when making their investment decisions.”

What If?

Nicholas Smith, the Japan strategist for CLSA Securities, used a series of charts to talk about what could happen were Japan to take corporate governance seriously. He said the recently released Toshiba investigation report “totally changed” the governance landscape in Japan. “Activists have been handed a powerful new weapon. A lawyer-mandated investigation is clearly every bit as powerful as US discovery.”

A major reason the Japanese government has focused attention on corporate governance in recent years is that Japan’s ¥1.6 trillion Government Pension Investment Fund has shifted out of low-yielding bonds into stocks, Smith said. This move required three things:

• Investors trusting company numbers
• Companies generating an economic rate of return
• Companies sharing those returns with investors

According to Smith, “This is what corporate governance is about. It’s not about being a goody two-shoes. It’s about not pillaging granny’s pension pot.”

Next, he highlighted how 2021 is shaping up to be a big year for share buybacks, which have already reached three-quarters of last year’s total. Still, half of Japanese stocks are trading below book value, he said, suggesting “real potential in activism as governance issues are ironed out.”

Back in 1995, some 96 percent of companies held their annual meetings on the same day. While that figure has fallen to about a quarter, 82 percent of meetings continue to be held during the same week. This is still “unacceptably atrocious—a deliberate and transparent attempt to make it hard for the owners of these companies to attend the AGM,” Smith noted. And despite the pandemic, most companies are not permitting virtual attendance. Fifty-eight percent don’t permit electronic voting platforms and 55 percent don’t give English documentation, he added. “You couldn’t make this up. It’s almost as if they don’t want their investors to vote.”

The number of activist events in Japan had “exploded” in recent years, Smith stated, with Japan last year being the second-largest global market for activism after the United States.

Thematic Engagements

The forum then heard from three actively engaged managers, beginning with Paras Anand, chief investment officer for Asia–Pacific at FIL, who talked about how active managers are reshaping Japan’s corporate sector.

Anand, who spoke from Singapore, said that one key indicator of change is that five years ago, whenever his team would meet with company leaders, discussions about financial performance would have been separate from any talk of climate or social issues—or those topics would have been squeezed in at the very end. Now, “those two meetings are becoming much more integrated,” he said.

FIL has also held more “thematic engagements” with companies on single issues, Anand explained, such as trying to help address the plight of 400,000 stranded seafarers who operate the huge shipping vessels that carry much of the world’s cargo. These crew members are usually not allowed to disembark for a break or to see their families, meaning they are kind of stuck onboard “floating prisons.”

FIL has worked with shipping companies, airlines, and non-governmental organizations to spotlight the issue and, together with a coalition of investors, wrote a letter to the United Nations outlining measures they felt would alleviate this problem.

Anand said a smart way to amplify your voting rights as an active investor is to lay out your voting policy ahead of time—including what might be some red line issues—to show people how you’re going to vote. FIL has, for example, adopted new policies on climate change and gender-balanced boards that look at how companies are doing on those scores.

In Japan, FIL has adopted a new campaign for gender diversity which asks all investee companies to achieve a level of 30 percent by 2030 for three indicators:

• Percentage of women on the board of directors
• Ratio of women in management positions
• Percentage of all employees who are female

Long View

The second active investor, Symphony Financial Partners founder and CEO David Baran, was interviewed by Alicia Ogawa, director of the Project on Japanese Corporate Governance and Stewardship at Columbia University’s Business School, in a video shot just prior to the forum.

Asked about how he engages Japanese companies, Baran said there are plenty of very good Japanese companies trading at depressed prices. So, rather than getting confrontational with poorly run business, he tries to take a constructive approach. “Isn’t it easier to buy good companies that are trading at deep discounts and help the share price go up?”

Japanese companies aren’t broken, Baran noted, it’s the market that’s broken. “The function of the market as a battleground for discovering value [is broken] and the pricing doesn’t work,” he explained.

Changes that activist investors and corporate governance reforms seek will take time, and habitual practices are hard to break. Japanese companies are often faulted for sitting on too much cash, but Baran pointed out that this is the result of the administrative guidance the enterprises received from the government after the asset bubble of the 1980s burst.

Changing business culture takes time—particularly in Japan. “I think the fuse was lit, it’s just a very long fuse for a lot of these things,” Baran said. “You’re not just dumping a set of rules on the table. You’re saying, ‘Here’s the change in culture. Now you’ve got to learn to adapt to it; decide how you’re going to adopt it.’”

“Companies are living things,” Baran reminded attendees. His team meets with company leadership seven to 10 times a year, and often they are talking about the same topics. “When you leave, they’re like, ‘OK, now I need to absorb that.’ Your conversation does not stop when you walk out of the room.”

You need to take the long view in Japan, but change can accelerate once consensus is reached. “Nothing happens quickly—until it does,” Baran said. “You’re waiting and waiting and waiting … and then the next day you go from zero to 100 miles per hour in execution.”

Positive Response

The third active investor was Seth Fischer, founder and chief investment officer at Hong Kong-based Oasis Capital Management. He highlighted how shareholder activism during last year’s AGM season reached new heights as measured by the number of companies receiving shareholder proposals and the number of proposals submitted by funds, as well as the number of candidates proposed by directors.

In a whirlwind of slides, Fischer gave numerous specific examples of his fund’s engagement with several companies. At last year’s Mitsubishi Logistics AGM, Oasis urged the company to implement a buyback of five percent of its shares, and the company responded with a 5.8-percent buyback.

Oasis also proposed electing outside directors and abolishing the komon system—under which former presidents, chairs, and top executives stay on as senior advisors—a practice seen by many as a hindrance to innovation. The company abolished two komon posts.

Oasis has also been active in Tokyo Dome Corporation, which owns the home stadium of the Yomiuri Giants baseball team. A year-and-a-half ago, Oasis came forward with an asset-improvement plan that went through a “long and quite public engagement with the company,” Fischer explained. At an extraordinary general meeting, Oasis proposed removing three board members, two of whom had held their posts for at least 15 years. Tokyo Dome was taken private by Mitsui Fudosan Co., Ltd. and Yomiuri for a 45-percent premium, and Fischer said, “Our business plans are being fully implemented.”

This year, Oasis plans to submit proposals at the AGM of Tenma Corporation, a plastics manufacturer that has struggled with governance issues following a bribery scandal at one of its Vietnam subsidiaries. The incident has spurred a battle for control between two of the founding families, distracting the company from its main business operations. Fischer’s firm is proposing that three directors be elected to help unify the business “and improve governance at the company.”

Wrapping up the forum, Packard said a key takeaway from the diverse views shared was that, if “activism is viewed constructively and done properly, it can receive the support of management.”

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Outside Options

Ways to invest as an expat in Japan

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Over the course of their career, many professionals will live and work in multiple countries. And as expats, they will find financial opportunities and face challenges that those who stay put in their home country may not. Making and managing investments can be complex, but experts interviewed by The ACCJ Journal shared ways to maximize resources, grow wealth, and navigate potentially higher taxes, investment restrictions, and language issues.

Alternatives to Consider

“The world of product opportunity for Asian alternatives has dramatically expanded over the past 10 years, and investors can now make lump-sum investments across a variety of single-purpose venture, hedge, and private-equity vehicles,” explained Edward Rogers, chief executive and chief investment officer at Rogers Investment Advisors.

There are a number of possible paths to follow for expat investors. “Many expats are investing in both onshore and offshore structures—in places such as the Cayman Islands and British Virgin Islands—that provide access to a full range of hedge-fund, private-equity, real-estate, and long-only options,” he said.

Argentum Wealth Management’s Martin Zotta, who shares the title of managing director and CEO with co-founder Lloyd Danon, said that many expats “tend to invest in a combination of monthly automated and ad-hoc lump-sum investments.” Monthly options, he noted, put excess savings from each paycheck to work, while lump sums are suitable for investing existing cash holdings and performance bonuses.

And Timothy Gregersen, head of cross-border transactions, investment sales for Japan at Cushman & Wakefield K.K. cited multiple options in real estate that can help expats build their portfolio.

Onshore/Offshore

One of the biggest concerns when choosing to invest is the tax burden that may be incurred. “Historically, the single biggest investment was probably offshore wooden housing structures that provided dramatic Japanese tax relief, but this option has been closed out by the Japanese government,” said Rogers, who founded his firm, in part, out of a desire to implement the Yale Model of endowment for his personal family investments. His first focus was to provide retail access to Japanese—and then broadly Asian—alternative investments, with an entry point of $100,000 per investment. Often, the required minimum would be $1 million.

While offshore was once a top choice, it is getting harder and harder, he said, with the new approach to anti-money laundering (AML) and know-your-customer (KYC) processes making basic retail banking—for individuals as well as small and medium-sized enterprises—very difficult. “Banks make less and less money serving these clients, and are offering them commensurately fewer and fewer services, with the excuse that AML and KYC have created barriers to relationships,” he explained.

With offshore being less attractive, Rogers identified two onshore options that can bring significant tax benefits:

• Buying or leasing aircraft
• Angel zeisei

The latter is an incentivized Japanese investment tax system, mainly aimed at individuals, that allows investors to deduct the higher of ¥10 million or 20 percent of their income.

Taking advantage of newer financial institutions can also be beneficial.

“Online banking is most likely the single most important concept for expats on an individual basis,” Rogers explained. “And as small business owners, it is easier to understand and to do so quickly. Large, traditional brick-and-mortar banks charge absurd sums to execute electronic transfers.” These costs should be understood and compared versus online options, he said. “Online wins pretty much every time.”

Property Profits

For those looking to invest in real estate, Cushman & Wakefield’s Gregersen said there are a few ways an expat can access real estate investments, depending on their overall financial objectives and level of risk tolerance. “The easiest option, executionwise, would be to access real estate via listed real estate investment trusts, or REITs,” he explained. “This can be accomplished with a relatively small amount to start, and can easily be added to or divested.”

Investment in direct assets, such as a condo unit or an apartment building, is an alternative path that Gregersen suggested. “This typically involves a larger ticket price, the use of leverage, and transaction costs. Real assets are lumpy—and generally less liquid than listed options—so they should be carefully considered.”

Another possibility that has recently taken shape via crowdfunding platforms is a hybrid of these two. “This could work for those who are looking for investments that aren’t correlated with the stock market and which don’t require as much capital as direct investments,” he said.

If one decides to go the direct investment route, a major obstacle for an expat will be securing financing, according to Gregersen. “Unless the expat has permanent residency, it can be very difficult to source financing at good terms,” he said. “It’s not impossible, but it will be quite challenging.”

He cited two matters that are likely to be more difficult for expats than for Japanese nationals:

• Transferring funds to close the deal
• Property, income, and withholding taxes

“Closing a real estate transaction involves transferring large sums of money, so it is important to confirm your bank’s policies and procedures in advance,” he said. “Further, if the expat intends to use funds from overseas, it is even more important to confirm with the bank to which the funds are being transferred what policies and procedures they have with respect to international remittances. Funds can get stuck in transit, and figuring out where they are and why this has happened is not a fun experience.”

Property owners whose primary residence is no longer in Japan will face logistical challenges, he added. “They will need to appoint a tax administrator to handle the payment of annual property taxes and to file income tax documents, in the case of investment property. Further, where owners live overseas and rental income is to be remitted, the funds will be subject to withholding tax at the source. This is also true in the case of a sale.”

Portability Is Vital

Some expats have settled in Japan and have made the country their permanent home. But for most, their time here will be limited, and the decision to pick up and move is outside their control. A promotion or shift in corporate priorities can lead to a sudden relocation.

“In general, expats are looking for portable, flexible solutions as regards access to capital and tax efficiency,” explained Argentum’s Zotta, noting that there is a wide range of international options available to expats, depending on their nationality and financial requirements. “Portability is vital, as most clients will not remain in Japan long term. A good solution for one client may not be suitable for another, so it is essential to clearly understand a client’s financial goals and objectives before presenting the most appropriate solution.”

Argentum specializes in international investment solutions and, for US nationals, US onshore solutions.

“We take a holistic approach to financial advice and our clients’ needs, and prepare recommendations to suit their individual situations,” explained Danon. “During a first meeting, we go through a general Q&A to understand, in detail, what will be the most appropriate choice. We have a broad range of solutions to meet the needs of all clients, and being locally licensed in Japan to offer advice gives us a comprehensive range of options.”

Language Barrier

Japan is well known for its paperwork, and more often than not documents are only in Japanese. Even if an English translation is available, ultimately the Japanese version will need to be completed and filed. Doing so can be challenging even for expats who are fluent in Japanese, as the language of such transactions is complex.

“One key way for expats to deal with the language barrier is to work with a bilingual agent on the purchase, and a bilingual property manager on an ongoing basis,” said Gregersen.

Rogers gave the same advice, saying that investors should learn Japanese, but also noting that simply speaking and reading the language is not enough. “The reality is that investors should be prepared—and willing to pay for high-quality translations of documents to make sure they know what they are investing in.”

Long View

Danon noted that those who intend to live in Japan for the long term should take special precautions. “You should prepare for your parents’ and your own estate planning needs, as Japan has an unusual way of treating and taxing estates between heirs,” he explained. “Estate planning is something our clients have reached out to us a lot more about recently, given Covid-19 concerns and restrictions on movement. Unfortunately, many expats are underprepared—or are generally unaware—of how Japanese inheritance tax laws will affect them and their immediate families.”

Rogers was more blunt. When asked what advice he has for expats planning to retire in Japan, he answered with one word: don’t. “There is no way you want to deal with Japanese inheritance taxes if you don’t have to.”

But for those who do want to settle down in Japan, and wish to put their money to work, there are many investment opportunities to be had. Leveraging the expertise of the foreign community through legal, financial, and advisory services, however, is a key part of successfully investing as an expat.

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Are Minpaku a New Asset Class?

How short-term rentals can bring personal, financial, and cultural rewards

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Although inbound tourism has been put on hold as the world grapples with Covid-19, Japan was a top destination prior to the pandemic and no doubt will be again. While there long have been plenty of places for visitors to stay—Yamanashi Prefecture is home to the world’s oldest operational hotel, Nishiyama Onsen Keiunkan, which was founded in 705 ad—a new market has been emerging in recent years. Driven by the Japanese government’s focus on tourism as part of its recovery efforts following the global financial crisis of 2008, minpaku (short-term rentals) have become a big opportunity for investors and real estate owners.

On July 1, the American Chamber of Commerce in Japan Alternative Investment Committee welcomed Tracey Northcott, chief executive officer of Tokyo Family Stays G.K. and Tracey Northcott Consulting, to talk about her experience as one of Tokyo’s most successful minpaku hosts and how she grew Tokyo Family Stays into a seven-figure business. She also discussed the ecosystem of services and operating models that provide business opportunities, as well as how hosts can make themselves a valued part of the community by collaborating with neighbors and local business.

Starting Point

While there are plenty of midrange business hotels in Japan, these are not ideal for many leisure travelers as they are neither family nor tourist friendly. They can also be difficult to book if you do not speak Japanese. Minpaku, in contrast, are family friendly, budget friendly, and can easily be booked online in English.

Northcott, an Australia native who has lived in Japan for 21 years, began her minpaku journey in 2011 with a single unit. Four years later, she had 25. She was able to take advantage of a surge in visitors to Japan that followed the easing of visa restrictions in 2013—a development to which major hotels were slow to respond, because of the planning and construction required for such large-scale facilities and the need to maximize their return on investment (ROI).

“The tourists were going to places where the cost of land is very high, such as Tokyo and Osaka,” she said. “When a hotel is built, the company really wants to maximize their ROI, which means they want to put a five-star hotel on the land. So, you didn’t really see a lot of the smaller chains then that you might see now.”

As an example, she noted how companies such as Best Western operate a range of brands and hotel types, from luxury to economy, thus serving the needs not only of executives traveling on business, but also families on vacation. This is common in the United States, but not in Japan.

“There was a massive hole in the infrastructure. But for minpaku hosts, because they use existing buildings, there is a very low barrier to entry, and there was an absolute boom in minpaku growth from 2013 onwards,” she explained.

During her presentation, Northcott highlighted three points that helped that quick growth:

• Lack of regulations
• Plenty of available real estate
• Decades of flat rental prices

“It was a no-brainer for people to do exactly what I was doing—to set up a second or third apartment for rental and then list them on the [online lodging] platforms,” she added.

Backlash and Legal Turns

As more people seized this seemingly easy way to make money, the popularity of Airbnb in Japan took off. In fact, the country became the platform’s second-largest and fastest-growing market after the United States. But as Airbnb grew—particularly between 2015 and 2018—there was a backlash from local communities and businesses. Northcott highlighted six reasons for this:

• Big increase in tourism, but with little improvement to infrastructure
• Popular tourist locations becoming saturated by non-Japanese
• Disruptions to neighborhoods and residents’ usual lifestyles
• Some Airbnb hosts and their guests acting poorly or unprofessionally
• Press reports and TV shows doing gotcha pieces
• Airbnb’s failure to educate the domestic market

These and other concerns led to a poor image of the minpaku industry among the general public and resulted in a push for regulation.

“It was hard when you were a professional host, and you really were proud of what you were doing, but there were some people out there who were giving us all a bad name,” she recalled.

Perhaps in a majority of cases, minpaku listings were in violation of local statutes. But this doesn’t mean they were illegal, as rules for this form of lodging had not been defined. There were a lot of gray areas. Public sentiment against hosts, however, was definitely building.

Initially, minpaku fell under the rules and regulations of the Inns and Hotel Business Act, which was enacted in 1948 to govern the operation of hotels and three other forms of lodging: minshuku (Japanese-style bed and breakfasts), ryokan (traditional Japanese inns), and youth hostels. Minpaku, Northcott explained, is a modern evolution of the minshuku tradition. Changes were needed to keep up with the evolving market, and in March 2016 the Diet passed the minpaku law, formally known as the Private Lodging Business Act.

A big drop in the number of listings accompanied the implementation of the law on June 15, 2018, with Airbnb removing about 80 percent of listings on June 4. In the blink of an eye, the number of available options dropped from 62,000 to 13,800. But this purge, and the clearer rules introduced by the government, led to an increase in the quality of hospitality and allowed the market to mature. Professional hosts and property managers were better able to take advantage of opportunities to build their businesses.

“The people who were just trying to make a buck decided they were going to move on to something a little bit easier,” Northcott said. “That allowed the market to mature, and for professional hosts to really dig into their hospitality style, and to do some market segmentation and outside marketing—all the things that go into a professional business.”

With the Wild West days of minpaku gone, owners must now get a license to rent out a property for short-term stays. The terms and conditions for approvals are strict, while additional fire and safety certification is required. Information about guests must also be reported to the local hokenjo (public health center) every two months. This includes nationalities, dates and length of stay, and the tracking of guests’ movement around the city or country. This health requirement is not specifically tied to Covid-19. It was already in place for hotels as part of the 1948 law.

While the Private Lodging Business Act provides a framework for the operation of short-term rentals, the regulations vary by location. Bookings are limited to stays of 28 days or less—for a total of 180 days per year per facility—but what days are allowed depends on the city or neighborhood. In Tokyo’s Minato Ward, for example, you can only rent on weekends or school holidays. Toshima Ward, in contrast, is rather flexible. And areas that have strong hotel lobbies mostly have been able to keep minpaku out.

Building Success

Once you have your license, what comes next? How do you create a successful business? Some people worry that they might be seen as a pariah in the community. A lot of animosity was shown toward hosts in the years leading up to the minpaku law, and the memory is still fresh for many. But by creating alliances with neighbors and local small businesses, minpaku operators can become valued partners in the community.

The key, Northcott said, is to be transparent in what you are doing from Day 1. Especially in rural areas, if you get to know the officials and explain what you are doing, they are generally ready to help, as they see the benefits to the area. They understand that minpaku can inject significant revenue into the community.

This is related to a minpaku myth that Northcott dispelled during her presentation.

“People, when they start up their business, seem to think that the nightly rate is the only opportunity they have to make money, and discounting is the only marketing strategy they’ve got,” she explained. “But discounting is a bit of a blunt instrument. People who are new to the industry try to use it as a marketing tool, but that’s a race to the bottom. You’re going to get bad guests and you’re not going to have a successful business.”

The better choice is identifying the pain points of your ideal guest to create additional revenue streams. Northcott said she can earn 20–30 percent more over her nightly rate by addressing the needs of guests during their stay. This personal touch includes arranging packages for events such as micro-weddings, anniversaries, honeymoons, and birthdays. Helping create a memorable and special stay is a great way to increase revenue while maintaining a high-quality experience for guests.

And affiliate agreements with third-party service providers, such as restaurants and cafés, private chefs, cultural classes, tour companies, and ticket vendors are another great way to boost your profits while also providing benefit to the local business community.

This approach also allows you to provide guests with an authentic local experience. Many people who book minpaku accommodations want to know what it is like to live in another country. This is an area in which the more personal nature of minpaku excels compared with hotel offerings.

“A hotel is really an accommodation product; it’s a bed, it’s where you stay, and then all your experience is outside the house,” Northcott said. “A minpaku is really a hospitality and experience product. I don’t offer cheap accommodation—that’s not my product. I’m very clear about this in all my marketing. I offer inbound tourists a local experience, and with that they get a whole bunch of information about what it’s like to live in another country, and all the community responsibilities that come along with it.”

Of course, this all takes time and hard work. Northcott noted that minpaku is a full-service hospitality business, so if you’re looking for passive income, it may not be for you. Success requires:

• Having great communication systems and logistics
• Educating guests on community responsibility
• Handholding throughout the guest experience
• Having a 24/7 response system, with redundancies

Beyond the Pandemic

While no one can predict when we will emerge of the ongoing states of emergency, and when Japan will reopen its borders to inbound travelers, Northcott is bullish on a strong recovery.

“Beyond 2021, revenge travel is going to be a thing, there’s going to be an exceptional amount of pent-up demand,” she said. “I know a lot of people in other countries who’ve got their credit card in hand and their fingers hovering over the keyboard. As soon as they can book a flight and the borders are open, they are coming. I don’t think demand is going to be a problem. The tourist marketing machine has already started.”

If you’ve got an entrepreneurial spirit and are looking to invest in something that can be both financially and culturally rewarding, the road ahead looks bright for minpaku.

“It’s a modern evolution of the minshuku tradition,” Northcott reiterated in conclusion. “If you do it right, you have complete control over your profitability and the sustainability of your business.”

While Airbnb may be a name that most people recognize in connection with short-term rentals, Northcott sees them merely as one possible marketing channel, not the only one—and certainly not your identity. You get to build your own brand and you set the course.

“Minpaku allows you to create a unique local experience that lets you have a business of your own that can bring in additional monetization options.”

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Learn more about Northcott’s businesses:
tracey-northcott.com

Learn more about Tokyo Family Stays:
tokyofamilystays.com

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