A few days after the collapse of Yamaichi Securities in November, Jun Ashida, designer of Japanese Empress Michiko’s clothes, sent his personnel director to Yamaichi’s head office to look over some of the soon to be unemployed staff of Japan’s number-four brokerage firm. Writing on the front page of the Nikkei, Japan’s leading financial daily, Ashida was brimming with praise for the 7,400 Yamaichi staff who were still at their desks even though their firm was no longer in business. “In the midst of such troubles, they continue to put on a good face,” he wrote.
Other observers of Japan’s largest corporate collapse were less kind. As far as securities analysts, ministry of finance officials, and angry members of Japan’s parliament were concerned, senior officers of Yamaichi had spent far too much time putting on a good face and not enough time at keeping up with rapid changes in Japan’s financial environment.
At the time Yamaichi went under with liabilities of ¥3 trillion ($24 billion), a former president and five other senior staff were under indictment for dealings with a racketeer. In parliament, Yamaichi was to be accused of having defrauded shareholders of trillions of yen by failing to make public $2 billion in off-book losses until after going out of business.
As Yamaichi’s capitalization stood at just below $4 billion, the firm had flagrantly violated regulations requiring securities companies to maintain a minimum of 120% capital adequacy ratio. Their failure to come clean led directly to a run by small investors on Yamaichi branches on November 25, the day after it went out of business.
But Yamaichi’s cooking its books for at least five years not only caused massive losses for investors, and brought needless anxiety to citizen savers, it also exacerbated doubts abroad about the trustworthiness of Japanese financial institutions as well as the abilities of Japan’s financial regulators.
Moreover, Yamaichi’s demise, coming closely on the heels of the collapse of Japan’s 10th largest bank, Hokkaido Takushoku, and seventh largest brokerage, Sanyo Securities, has pointed to inadequacies in Japan’s depositors’ insurance scheme.
The de facto bankruptcies could not have come at a worse time for Japan. Saddled with a recession-stricken economy, and at least a dozen teetering financial institutions only slightly more stable than Yamaichi was, Japanese politicians are having to decide not just where to find new revenues to save a battered financial system, but also whether the funds should be used only to compensate depositors or to save some institutions as well.
On November 21, three days before Yamaichi went under, president Shohei Nozawa announced at a board meeting: “I know today we were supposed to discuss downsizing but I suggest we take up another topic instead.” The other topic was how to go out of business.
Piecing together the story from leaks made to the Japanese press, it seems that Nozawa’s suggestion met with heated disapproval from others at the meeting. “There is no reason for going out of business,” shouted one senior executive. Another yelled: “We can raise money well into next week.”
On November 21, just hours before the Yamaichi board meeting, both Moody’s and Standard and Poor’s downgraded ratings of Yamaichi’s debt to non-investment grade. As Robert Garone, analyst at Dresdner Kleinwort Benson puts it, the collapses of Sanyo (on November 3) and Hokkaido Takushoku (on November 17) led to a “heightened sense of counter-party risk awareness”. Lenders were asking who would be next. Yamaichi’s shares had been tumbling and there were rumours of unreported losses. By November 19, no-one, not even Fuji, Yamaichi’s own main bank, would make funds available to the dying brokerage. As of that day, even Fuji began to ask for collateral as a condition for short-term loans to Yamaichi.
Yamaichi depended on its ability to roll over about ¥167 billion in short-term loans and ¥160 billion in commercial paper to remain in business. (By way of contrast, Nomura, whose capitalization in September was 10 times greater than Yamaichi’s, engaged in only half the volume of short-term borrowing on a parent company basis.) A large loan was due on November 25 and word was out that Yamaichi was neither able to cover the amount nor to obtain new funds. If Yamaichi was not going to take action, the ministry of finance (MoF) was not about to wait for a major Japanese brokerage to default on a loan. Japanese financial institutions were already saddled with premiums of 10 to 20 basis points in the Eurodollar market simply for being Japanese.
Signs that the end was near were everywhere to see except at Yamaichi where the thinking from the boardroom down to the smallest branch office appears to have been clouded by a “we are too big to fail” mentality. In September, Yamaichi had ¥23 trillion in trust funds under management. In one month, individual savers withdrew ¥2 trillion. Norinchukin, the Japanese agricultural bank, withdrew ¥220 billion of the ¥300 billion it had under management at Yamaichi. Shareholders’ equity, which had been ¥443 billion in March 1997 was down to ¥100 billion in mid-November.
Trading in Yamaichi shares was temporarily suspended on November 17 in keeping with rules aimed at preventing the sudden collapse of weak shares. Still, on that day, company employees voluntarily borrowed as much as ¥3 million ($23,000) per person from a low interest fund to buy up Yamaichi shares. One week later, shares would still be traded in large volumes but by then the buyers were only short-sellers settling accounts, and foreign securities houses taking delivery of Yamaichi “1,000-shares” certificates (now worth $7 each) for souvenirs and year-end gifts to clients.
An unkind critic writing in the weekly Shincho magazine compared the November 21 marathon board meeting of a barely breathing Yamaichi to the fate of a Japanese castle in the 16th century which fell to an attacking army while senior samurai inside were engaged in heated debate over the most appropriate defence strategy. As in the case of the ill-fated conference in 1590 at the castle of Odawara, 50 miles west of Tokyo, history did not wait for the indecisive. On the morning of November 22, the top headline on the front page of the Nikkei announced, “Yamaichi to go out of business”.
Although the Nikkei named no sources for its story, later that afternoon Atsushi Nagano, director of the securities division of the MoF, held a news conference where he disclosed for the first time the existence of Yamaichi’s massive off-book losses. Nagano stated: “Voluntarily going out of business is an option open to Yamaichi.”
At the news conference Nagano said Yamaichi’s hidden losses came to ¥200 billion. This was later revised to ¥260 billion. (According to Japanese press reports the losses are likely to increase once the Securities and Exchange Surveillance Committee finishes going over Yamaichi’s books.) It is not clear how the MoF found out about Yamaichi’s off-book losses. Nozawa visited MoF on November 17 where Yamaichi’s fiddling with the figures reportedly came up for discussions.
Telephones went unanswered at Yamaichi on November 22 and the following day. Greying and bespectacled, the 59-year old Nozawa would become a familiar face around the world when on Monday November 24, a national holiday in Japan, he announced in front of TV cameras the board meeting’s decision to “voluntarily go out of business”. Unable to hold back his tears, Nozawa blurted out: “I apologize to my honest and hard-working employees.”
In the days following Yamaichi’s demise, Nozawa came to personify the image of the kindly, paternalistic Japanese executive, ready to sacrifice himself for the sake of his company and its employees. He has not been alone. One executive at Taiheiyo Securities, a Yamaichi affiliate, committed suicide by jumping out of a window in Kitahama, Osaka’s financial district, while a Yamaichi male employee, in charge of returning funds to individual clients at a branch office, died of exhaustion.
The outpouring of public sympathy to Yamaichi employees was not limited to Empress Michiko’s fashion designer. But in the weeks to come it would become apparent that the hundreds of requests to interview Yamaichi employees were directed exclusively to those below the age of 35. At most Japanese companies pay scales are seniority-based. For the 3,600 Yamaichi staff aged 36 and above, a mere 200 requests were received.
But if the Yamaichi failure has its heroes, it also has a villain. The cowboy with the black hat is Tsugio Yukihira, chairman of Yamaichi until August 11, when he resigned in connection with a pay-off scandal to a corporate blackmailer preying on all Big Four brokerages. But unlike at other brokerages, Yukihira’s retirement would lead to the exposure of hidden losses and hasten the company’s demise. It was under Yukihira that Yamaichi created an elaborate scheme for compensating greedy corporate clients; executives with ideas of putting an end to the arrangements which were sapping Yamaichi of its strength were rewarded with sudden transfers to subsidiaries. As Garone of
Dresdner puts it: “Yamaichi was the weakest of the Big Four brokerages so they were the least capable of standing up to pressure from big corporate clients demanding compensation for trading losses.”
But Yukihira’s present lack of popularity goes beyond the compensation schemes. Asked by politicians at a session of the Japanese parliament’s banking committee on November 27 to explain how favoured clients were compensated, Yukihira said he could not remember the details. “The person in charge of the operation is now dead,” he said.
It seems Yukihira succumbed to one of those sudden bouts of amnesia known to strike those asked to testify in front of Japanese parliamentary committees. As such testimonies are not made under oath, the amnesia is not normally followed by any painful side-effects.
Yamaichi had not been alone in compensating clients for trade losses. What set Yamaichi apart was that it would go so far as to set up an elaborate scheme to hoodwink regulatory authorities in order to make sure it kept its big corporate clients happy. In 1991 almost all of Japan’s listed securities houses including all the Big Four (Nomura, Daiwa, Nikko and Yamaichi) were found to have made payments to clients for losses incurred in the previous year, when the Nikkei plunged by 30% after the bursting of Japan’s stock and real-estate bubble.
Yamaichi executives, anticipating a change in regulations in January 1992 which would outlaw direct compensation, resorted to a scheme called tobashi or “pitching” which consists of temporarily moving losses incurred by one client to the books of another so as to permit the first client to window-dress his accounts. Eventually, however, the loss had to be absorbed by the securities company.
In 1991 Yamaichi set up a separate company called Yamaichi Enterprise which opened an account at the Tokyo branch of Credit Suisse. Depositing ¥200 billion in Japanese government bonds, the Yamaichi subsidiary then used the dummy companies to generate profits for clients while eventually absorbing losses of ¥158.3 billion. A separate scheme using foreign currency bonds resulted in losses of ¥106.5 billion being hidden in Yamaichi’s Australian subsidiary.
(Although Credit Suisse is not a target of the SESC investigations of Yamaichi, the Japanese parliament’s lower house banking committee took the unusual step of releasing the names of seven Japanese companies whose demands for compensation for stock market losses forced Yamaichi to pitch profits in their direction. The seven and the amounts they obtained from Yamaichi are: Nippon Steel Chemical [a now defunct subsidiary of Nippon Steel] ¥57.1 billion; Nippon Yusen Accounting and Finance Co, a subsidiary of Nippon Yusen, ¥33.4 billion; Rose Corp, an affiliate of Kasumi Co, a food wholesaler, ¥5.2 billion; Itochu Finance Co, a now defunct subsidiary of Itochu Co, ¥15.5 billion; Tokyu Department Store Co, ¥26.4 billion; and Kanematsu Finance Co, a subsidiary of Kanematsu Corp, ¥20.7 billion.)
Another reason for Yukihira’s becoming the villain of the Yamaichi debacle is that, under his reign, knowledge of the tobashi deals was a closely guarded secret. Nozawa, who until becoming president had managed a Yamaichi retail branch in Osaka, appears to have been kept entirely in the dark about off-book losses. Sensing trouble, Nozawa set up a task-force to add up all the red ink but by the time he found out the full extent of his company’s malaise, it was too late.
On October 6 Nozawa sent a delegation to Fuji Bank to ask for a rescue loan but by that time Fuji had already written off Yamaichi, even though both were members of the same Fuyo keiretsu (industrial group). In December 1996, Fuji turned down a request for funds from Yamaichi unless the latter showed the bank its books. Under Yukihira, Yamaichi refused. As an indication that it was distancing itself from Yamaichi, that same month Fuji asked Nomura, Yamaichi’s arch rival, to lead-manage the bank’s issue of $2 billion-worth of preferred shares in London.
It was under Yukihira that all pretence toward realism was abandoned. When asked by a member of the banking committee how he felt about off-book losses, Yukihira responded: “It is true that we had such losses but I felt that if we could just maintain the trust of the marketplace and generate profits we could in the end write them off.”
In keeping with Yamaichi’s corporate culture of putting on a good face, under Yukihira the company became all show and very little go. By March 1997, foreign analysts including Dresdner’s Garone were writing strong sell recommendations about Yamaichi. Yamaichi’s share price at the time was just above ¥400. Garone estimated its real value at about ¥200.
“They appeared to have no strategy for the future,” says Garone. “They were relying heavily on commission income mostly from corporate clients and they had done little to reach individual investors.”
Naoko Nemoto of Standard and Poor’s, who would eventually recommend a downgrading of Yamaichi’s debt in June, concurs with fashion designer Ashida about the excellent manners of Yamaichi staff: “In Yamaichi nine out of ten people you meet are gentlemen. But that ratio was too high for a securities company.” Nemoto says Yamaichi seemed to lack aggressiveness in going after new business. “They agonized far too long over whether to sell dual-currency bonds to individuals and by the time they got into the business it was beginning to wind down.”
In contrast to Nomura, which began marketing small-denomination Treasury Corporation of Victoria dual-currency bonds (Australian dollars and yen) to individuals in September 1995, Yamaichi did not make such bonds available in small denominations until April of the following year. By then, individuals had purchased more than ¥5 trillion in foreign currency instruments, correctly anticipating the weakening of the yen and a long period of low domestic interest rates.
Again, unlike Nomura, which began downsizing in March 1992, under Yukihira, Yamaichi would wait until the following year. Worse yet, Yukihira’s regime was marked with grand gestures, at least one of which was to hasten the company’s downfall. In 1996, Yamaichi spent money it did not have on moving its headquarters to a brand new building. A public relations spokesman explains to Euromoney: “The move was necessary in order to make it easier for us to use computers. The old building was not suited to that.”
In the same year, at a time when it could no longer extract a loan from Fuji Bank, a member of its own keiretsu, Yamaichi used massive amounts of scarce capital to bail out its non-bank finance company. Had Yamaichi let its non-bank affiliate go under, it would have been able to maintain a positive balance-sheet for the 1996 fiscal year. By choosing to publicly show largesse Yamaichi drained itself of ¥150 billion. The option to save the ailing non-bank finance company led to the downgrading of Yamaichi’s debt rating, which in turn pushed down prices of Yamaichi shares, which then further eroded the trust of the marketplace. Yamaichi announced its intention to save its subsidiary the day after Nikko, a Big Four rival, did the same. Nomura, Daiwa and Nikko had all bailed out their finance corporations; Yamaichi could not afford to appear to be weaker.
In the summer of 1997, at a time when Yamaichi’s reputation was already so shaky that a local bank was asking for repayment of a loan of ¥150 million ($1.2 million), the personnel department was notifying 490 young university graduates that they had been accepted for employment at the firm starting April, 1998.
In the days after the collapse, this move by Yamaichi would be criticized for being cynical and cruel. In Japan, where lifetime employment is still the norm, a young person’s career can be permanently damaged by failing to start off at the same time as others graduating in the same year from the same university. Moreover, in a recession, places at Japanese companies, most of which hire only once a year, are scarce. Operating profit per employee at Yamaichi in March 1997 stood at ¥200,000 compared to ¥12.6 million at Nomura. There is reason to suspect that Yamaichi needed the new recruits for little more than show. In keeping with Japanese practice, the other Big Four brokerages were hiring at the same time so Yamaichi too had to hire a similar number for appearances’ sake.
Although Yamaichi’s collapse would send the world’s financial markets into a momentary tailspin, it is in Japan that the demise of the decaying giant has had its most devastating effect.
On November 26, the second day of trading after Yamaichi’s announcement to throw in the towel, debt-ridden Tokuyo City Bank of Sendai in Japan’s north-east announced cessation of business activities due to an inability to obtain credit. Inevitably, the disappearance of four financial institutions in one month triggered finger-pointing at the MoF and raised questions about how much the ministry knew and when.
At the MoF, a senior official who asks not to be identified suggests that there was no way for members of the Securities and Exchange Surveillance Committee to have found out anything that Yamaichi was really keen on hiding. “We have a few hundred inspectors compared with several thousand working at various regulatory agencies in the US,” the official tells Euromoney. “What’s more, our people are asking that we decrease the size of our government, not increase it.”
According to conspiracy theorists, of whom there is never a shortage in Japan, MoF not only knew Yamaichi’s problems but also wilfully forced it into de facto bankruptcy on November 22. Dresdner’s Garone rejects that notion outright. He says: “If MoF officials really had wanted to do that, they would have appointed an adviser and sold off the profitable parts of the company. Everything happened far too quickly for there to have been any plan.”
Things did happen quickly but there does seem to have been a plan, and for the most part it worked. It would appear that keeping Yamaichi alive at all costs was not a high priority for MoF. In the words of the MoF official: “Our prime minister has made it clear that the Japanese Big Bang will usher in an era of free, fair, and global financial markets.” The official adds: “I think it’s time people in this country found out how free markets work.”
Moreover, having let Takushoku and Sanyo go under a few days earlier, there was no way the MoF could have justified showing favouritism toward Yamaichi. The MoF had already saved Yamaichi once in 1965 when a politically ambitious finance minister, Kakuei Tanaka (who went on to become prime minister in 1972 only to be convicted later of taking bribes from the Lockheed Corporation), channelled ¥28 billion in special Bank of Japan loans toward Yamaichi.
A clue as to what MoF had in mind on the day the securities division announced that “voluntary dissolution” was an option for Yamaichi, can be had from reports of a discreet meeting on November 20 at the Bank of Japan to which six Japanese money-market dealers were invited and “requested to provide their co-operation”. The six were told that short-term money markets might become disorderly and that they were to help the markets remain liquid.
On November 25, the first trading day after Yamaichi’s collapse, Hiroshi Mitsuzuka, the minister of finance and BoJ governor Yasuo Matsushita both made statements intended to calm the markets. From this point, the BoJ kept short-term money markets well supplied. Surpluses of ¥1.2 trillion and a whopping ¥3.7 trillion were recorded on November 27 and 28. The BoJ achieved this level of liquidity by refraining from buying funds on November 28. Overnight rates plummeted from 0.85% on November 27 to an unprecedented 0.1% on November 28. Thinking at the BoJ is that rates 0.2 percentage points above the official discount rate of 0.5% are an indication of too high awareness of counterparty risk.
But there was another way yet in which the BoJ was moving to calm markets. During the week of November 25, the central bank began to make available ¥1.04 trillion in special loans to Yamaichi. (By the end of November the BoJ would disburse ¥3.8 trillion to four failed institutions.) Under Japanese law, such loans cannot be made to companies that are either insolvent or involved in criminal misconduct. For both these reasons, it was necessary for the MoF and the BoJ that Yamaichi choose “voluntary dissolution”.
The collapse of two leading brokerages and a major bank in hardly much more than two weeks in November has focused domestic debate on the stability of the Japanese financial system as a whole. Although, strictly speaking, Japan’s Depositors Insurance Corporation is not responsible for making good on investments at securities companies, for the time being it has not been used to compensate even depositors of Hokkaido Takushoku or Tokuyo City Bank. One reason might be that the DIC is in deficit, having been used to rescue depositors of the 14 banks and credit unions that have gone under in Japan in the past five years.
Moreover, DIC premiums in Japan have escalated to levels where they threaten the profitability of Japanese banks. The premiums have increased from 0.12% of annual deposits to 0.84%. As HSBC James Capel’s financials analyst Brian Waterhouse has pointed out: “The increased premiums come to 88.3% of the recurring profits of all commercial banks and deposit-taking institutions in Japan. But if more financial institutions fail, even these premiums may not be enough to meet the sudden calls for cash.”
Given that as of November 30 the DIC was already ¥210 billion in the red, that the fiction of Yamaichi “voluntarily dissolving itself” after having window-dressed accounts for years is unlikely to wash with the public forever, and that Japan’s financial system has to be stabilized quickly before the Japan premium reaches the stratosphere, ruling party politicians have come up with a scheme to issue ¥10 trillion of bonds backed by government-owned shares in yet-to-be fully privatized public corporations such as Nippon Telegraph and Telephone.
In forecasting the ability of the Japanese banking system to revitalize itself, a number of analysts at foreign brokerages have warned about moral hazard arising were public funds to be used not only to compensate depositors but also to rescue failed institutions.
For example, Goldman Sachs strategist Kathy Matsui predicts: “Unless there is a willingness to accept the need for a hard landing, where genuine capitalist principles permit financial-sector rationalization and meaningful corporate restructuring, we see very little hope for a sustainable rise in the equity market.”
But Kenzo Uchida, a political analyst and close confidant of several previous prime ministers, tells Euromoney: “The present recession has a political dimension. You cannot just close down financial institutions for the sake of consistency of economic policy.
“In the countryside there are areas where, if a company fails, unemployment will reach unacceptable levels. No politician is going to have that happen in his district. Moreover, although politicians are aware that they have to say they are going to use public funds to protect depositors, they also know that if they don’t protect some small and weak financial institutions they will have to spend even more later to bail out depositors.”
Although no clear-cut solution seems to be in sight for the hard- versus soft-landing issue, there has been at least one constructive suggestion made on how to beef up the capacity of the MoF to nab tobashi artists before they can cause real damage.
Naoki Inoki, a popular TV commentator says: “MoF could kill two birds with one stone by hiring Yamaichi employees 36 years and older who cannot find jobs and use them as inspectors.”
Inoki may be right. In August 1993, the MoF inspected 47 financial institutions for tobashi; all denied the practice. In December MoF asked for reports from all 289 brokers on tobashi activity. There is little doubt that the MoF could pick up a few pointers from at least some former Yamaichi staff.
