After many years of lacklustre performance, Japan has returned to the limelight this year as the prospect of corporate governance reform, coupled with the end of yield-curve control (a bond-buying programme with a cap on yields), potentially makes it a more exciting country in which to invest. With language barriers and limited disclosures relative to other markets, Louise Kernohan and I visited companies in Tokyo and the Kansai region to identify some of the underlying themes and potential investment ideas. Here are our key takeaways.
1. Inflation is gaining traction
After many years of deflation, almost all the companies we met spoke of the need to navigate a more inflationary environment. Given an ageing population and intense competition for qualified workers, companies repeatedly mentioned wage growth. Inflationary pressure is also starting to divide consumer behaviour. Luxury players are citing a benefit from price rises, with many consumers willing to pay more for quality. At the same time, discounters are profiting from increased downtrading and the greater adoption of private label alternatives. Against this backdrop, it is critical to identify companies that can innovate and adapt to changing consumer needs but which also have pricing power, so higher costs can be passed on.
2. The role of China is changing and cannot be underestimated
Historically, many Japanese companies have benefited from strong demand from China. However, it was clear that China’s recent macro weakness, coupled with policy shifts to more ‘Made in China’ products, is putting pressure on future growth prospects in Japan. But competition is on the rise, with market-share losses at the lower end of the market forcing Japanese companies to refine their focus both on quality and reliability and to extend into other markets, notably India and the US.
3. Corporate governance reform
It is rare to meet so many companies that have such large net cash balance sheets. This has meant that Japan’s capital efficiency has lagged that of its global peers for many years. However, this is set to change, with the Tokyo Stock Exchange now making companies more conscious of their cost of capital and share price. This was something that came up frequently in meetings, as we spoke about better shareholder return policies, optimisation of cost structures and investing for growth.
Authors
Georgina Gregory
Portfolio manager, Global Opportunities team
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