No. 8 — February 25, 2000


Weekly Review

--- by Jon Choy

In yet another sign that Japan's banking industry is on the rebound from its nonperforming-loan problems, two big banks seized by the government in 1998 will be relaunched soon under private ownership. The Financial Reconstruction Commission approved February 9 the final terms of the sale of defunct Long-Term Credit Bank of Japan, Ltd. to New LTCB Partners CV, a foreign consortium put together by New York City-based Ripplewood Holdings LLC. The FRC then decided February 24 to give a domestic group led by Softbank Corp. the first chance to purchase Nippon Credit Bank, Ltd., the other major failed lending institution under government control. The "new" LTCB plans to open its doors in early March. Observers say that NCB could be back in business as early as June if negotiations proceed smoothly. The resurrected banks, which will rejoin a market that already looks very different from the one they left less than 18 months ago, will add further momentum to the restructuring of Japan's banking industry.

The troubles caused by banks' nonperforming loans reached a peak in 1998 when Tokyo took control of LTCB in October (see JEI Report No. 41B, October 30, 1998) and of NCB in December (see JEI Report No. 47B, December 18, 1998) to forestall the domino effect that the failure of these two major banks might have had on Japan's already-weakened financial system. From the start, Tokyo's plan was to act as a temporary steward, helping the pair of long-term credit institutions get themselves into shape to attract a buyer.

Although LTCB's net profits from core banking operations jumped 64.2 percent to ¥162.3 billion ($1.5 billion at ¥110=$1.00) during the April 1-September 30, 1999 period, total operating revenues declined 54.1 percent to ¥226.8 billion ($2.1 billion). Interim management reported that it had cut employment by 1,625 to 2,435 on its way to slashing operating costs to ¥30.2 billion ($274.5 million) from the ¥77.7 billion ($706.4 million) incurred in the prior six months. This helped LTCB trim its net loss to ¥346 billion ($3.1 billion) in the first half of FY 1999 compared with ¥679.9 billion ($6.2 billion) in the year-earlier period.

The FRC broke new ground last September when it selected the proposal of the group led by Ripplewood as the best route to reviving LTCB (see JEI Report No. 37B, October 1, 1999). Although a basic sales agreement was concluded December 24, almost two more months of negotiations were needed to iron out such important details as the following:

Even before the ink was dry, the final pact was put to the test. LTCB's new owners may invoke a provision of the accord to protect themselves against losses caused by the failure of one of the bank's customers, Nagasakiya Co., Ltd., a nationwide chain-store operator. If the value of any outstanding LTCB loan falls by 20 percent or more, the new LTCB can call on the DIC to purchase the note at book value. Nagasakiya effectively went under February 13, and New LTCB Partners warned the DIC that it might be asked to buy back an ¥18 billion ($163.6 million) loan if the value of the property backing the retailer's note plunges sharply during the many months that likely will be needed to hammer out a restructuring plan for the bankrupt company. This issue may come to nothing if the real estate collateral retains its value or if the potential loss falls below the 20 percent threshold. Then again, the DIC could be forced to turn over even more money to the Amsterdam-based consortium.

The revived long-term credit institution — which will begin operations in March and be christened Shinsei Bank, Ltd. in June — will be a different creature. Outsiders and New LTCB Partners agree that the bank cannot go back to the way it did business before it was nationalized. Deregulation of Japan's financial markets has removed the barriers that protected long-term credit banks from competition. The new owners say that they will diversify operations by soliciting short-term and long-term deposits from savers, issuing credit cards and selling investment trusts (Japanese-style mutual funds). Corporate customers will be offered a full range of services, including merger and acquisition advice and pension fund management.

With the fate of LTCB decided, the FRC has turned its attention to Nippon Credit Bank. Two foreign groups — one led by Lehman Brothers Inc. and the other by Paribas Bank S.A. of France — initially had expressed interest in buying NCB's assets. In the end, though, the FRC had to choose between a consortium headed by New York City's Cerberus Partners, L.P., a hedge fund, and the Softbank-led group, which at first included top firms in the property and casualty insurance market (Tokio Marine & Fire Insurance Co., Ltd.), the leasing business (Orix Corp.) and the supermarket industry (Ito-Yokado Co., Ltd.) (see JEI Report No. 46B, December 10, 1999). Although the operator of the 7-Eleven chain of convenience stores pulled out of the consortium to pursue its independent plan to create a nationwide retail bank centered on automated teller machines, the Softbank group won the FRC's nod by presenting a proposal that focused on reducing the cost of the buyout to the government and, hence, to taxpayers.

With NCB's capital deficit at about ¥3.2 trillion ($29.1 billion), the cost of cleaning up the failed bank will be almost as steep as the bill for LTCB. While the FRC wants NCB's new owners to use the bank's estimated ¥100 billion ($909.1 million) in latent stock portfolio profits to cover part of the capital shortfall, it is not yet clear where the rest will come from. The price for NCB likely will be less than what Tokyo got for LTCB because the former's current assets of about ¥6 trillion ($54.5 billion) are significantly less than the latter's, which were about ¥10 trillion ($90.9 billion). As the impact of Nagasakiya's failure on LTCB begins to show, external events could complicate what already are expected to be intense negotiations between the Softbank group and government officials.

The opening of the new LTCB in March and NCB's expected return to active operations in June are just two developments among many that are putting a new face on Japan's banking industry:

In an encouraging sign, Moody's Investors Service Inc. announced February 16 that it had upgraded the credit ratings of a trio of banks — Dai-Ichi Kangyo Bank, Ltd., Fuji Bank, Ltd. and Industrial Bank of Japan, Ltd. — that plans to consolidate operations this fall (see JEI Report No. 33B, August 27, 1999). While the rating firm warned that all three banks have some troubling weaknesses individually, it predicted that together, they "will enjoy a strong position in certain key banking markets, especially metropolitan Tokyo." While not all mergers will be so blessed — in fact, some financial institutions that embraced mergers are having second thoughts — the growing restructuring activity and other initiatives show that Japan's banking industry is changing, hopefully for the better.

The views expressed in this report are those of the author
and do not necessarily represent those of the Japan Economic Institute

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