Japan to the Rescue of Ailing US Firms

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Shizuo Kambayashi / AP

A man is reflected on a sign board of a Nomura Securities branch in Tokyo on Sept. 23

Where have we seen this movie before? A financial system in tatters; banks and investment banks, many effectively bankrupt due to an avalanche of souring real estate loans, are forced to merge with rivals; to prevent an economic meltdown, the government is forced to buy up billions of dollars worth of bad assets — raising taxes to pay for the program — as citizens seethe. That's the U.S., today. But the prequel to Nightmare on Wall Street occurred more than a decade ago in Japan, when epic real estate and stock-market bubbles burst — making it all the more remarkable that some of the international companies now prowling for bargains among the remains of battered U.S financial institutions are based in Tokyo.

Two major deals on successive days show that Japan's banks have not only repaired their balance sheets over past 10 years, they're not shy about taking advantage of the current weakness of their American competitors in a fight for international market share. On Sept. 22, Mitsubishi UFJ Financial Group (MUFG), Japan's largest bank, announced plans to pay up to $9 billion for a 10% to 20% stake in Morgan Stanley, one of two major U.S. investment banks left standing. The announcement capped a frantic few days during which Morgan Stanley CEO John Mack sought a saving dose of capital from Wachovia, a U.S. bank, and the China Investment Corp., Beijing's $200 billion sovereign wealth fund, which had already bought 9.9% of Morgan Stanley last December. MUFG joined the fray over the weekend, sources say, and within days committed to buy a strategic stake, which includes a seat on the Morgan Stanley board. With the U.S. Federal Reserve now compelling both Morgan Stanley and Goldman Sachs to operate as commercial rather than investment banks, CEO John Mack sees obvious benefits from a tie-up with the Tokyo giant. "Mitsubishi UFJ would be a valuable partner as we transition to a bank holding company and build our bank services and deposit base," Mack said.

Also on Sept. 22, another Japanese bottom fisher took a step it had been preparing for since spring, when Kenichi Watanabe, CEO of Nomura Holdings, began raising a $5.6 billion war chest to increase his firm's international footprint. Tokyo's biggest investment bank said it would buy the Asia operations of Lehman Bros., the bankrupt Wall Street firm, and was in negotiations to take over its European operations as well. The $225-million deal saves the jobs of about 3,000 Lehman employees, some of whom expressed surprise as well as relief that they might keep their jobs. "Now we have a parent with money, an understanding of the region, and a desire to expand globally," says a Lehman employee in Hong Kong. "I don't know anyone who had this scenario in mind."

Slowly but surely, Japan has reconstituted its financial sector after its Lost Decade of the 1990s, and now its firms are in a position to expand aggressively abroad. Japanese financial institutions shed some $440 billion in bad debt since the late 1990s and have been barely grazed by the subprime crisis, partly because they were reducing debt as western firms were taking on more and more. Now, the bargains available in the U.S. afford Japanese banks an opportunity to move beyond their mature home market. Japan's economy is the world's second-largest, but it is plagued by slow growth. Economists say 2% annual average GDP growth is about the best the country can hope for in coming years.

Because many other Asian countries are growing at least three times as fast, most analysts view Nomura's acquisition of Lehman's Asia assets for $225 million as a steal. MUFG, too, was already looking beyond Japan for growth. In August, it paid $3.5 billion to buy the remaining 35% of Union Bank of California that it didn't already own. Union Bank of California has a relatively healthy balance sheet and its stock is undervalued, analysts say.

It hasn't just been Japanese companies that have been looking greedily West. Before Lehman Brothers filed for bankruptcy it was in negotiations with the state-owned Korean Development Bank, which was contemplating an investment of up to $6 billion. But partly due to political pressure at home, KDB backed off. Koreans questioned why the country's investment arm should bail out a failing Wall Street firm. Asked an Internet blogger: "Didn't we see what happened to the Chinese?"

That was a pointed reference to the perils of investing in U.S. financial companies over the last 18 months. In May 2007, China Investment Corp. (CIC), the country's sovereign wealth fund, sank $3 billion into Blackstone Group, the U.S. private equity firm, only to watch its stake shrink by half in value as financial stocks tanked. "The leadership [in Beijing] thinks they got taken and they are determined not to let it happen again," says a Hong Kong investment banker close to CIC. But that does not mean the Chinese aren't interested. CIC bought 9.9% of Morgan Stanley in December for $5.5 billion; last week Gao Xiqing, CIC's chief investment officer, was in New York for talks with Mack about expanding that stake. But buying 10% or more of the investment bank would have required a U.S. government review, a process that would be much easier for a private deal coming from a close U.S. ally than one coming from a government controlled sovereign wealth fund from China. "You have the [U.S. Treasury Department]asking the taxpayers to absorb all the bad debts from these banks' balance sheets," says a western banker who occasionally advises the CIC, "and then you're going to turn around and sell more of the bank to the Chinese government? That wasn't going to fly in Congress."

That left an opportunity for MUFG, and it took it. Time will tell if the Japanese bank made the right move. In the 1980s, when Japan was booming, its companies bought a series of U.S. assets — from movie studios to the Pebble Beach golf course — that subsequently plunged in value, generating a fair bit of xenophobic resentment in the process. Now, it's Tokyo to the rescue on Wall Street. The Japanese are hoping that having learned the hard lessons of their own banking disaster a decade ago, they can now make some money navigating the one unfolding across the Pacific.

With Michiko Toyama in Tokyo and Stephen Kim in Seoul

(See examples of Japanese design here.)