Program on Alternative Investments The Program on Alternative Investments, under the aegis of the Center on Japanese Economy and Business and in cooperation with the Japan Business Association and Club of Columbia Business School, hosted its fourth seminar on February 5, 2003. The event featured Ms. Gillian Tett, Former Tokyo Bureau Chief of The Financial Times, and was moderated by Dr. Mark Mason, Director of the Program. Ms. Tett’s presentation focused on the landmark takeover of the Long-Term Credit Bank Gillian Tett of Japan by Ripplewood Holdings LLC. Following is Ms. Tetts’ presentation together with selections from the subsequent question and answer period.

The Program on Alternative Investments analyzes several major alternative asset classes —including private equity, hedge funds, distressed investments, and commercial real estate —in Japan and elsewhere in East Asia. The Program meets its substantive goals through a combination of research projects and seminar presentations, the latter led by leading practitioners in each alternative asset classes. Throughout the year, the Program also conducts cutting-edge research on these topics under the direction of Dr. Mason and with the assistance of highly qualified research assistants. For a schedule of upcoming seminar presentations, consult the Center’s web site at http://www.gsb.columbia.edu/japan. Dr. Mason can be contacted at [email protected]. Co-sponsors: HVB Group; Takata Corporation 2 Center on Japanese Economy and Business

Introduction The bank that I eventually chose and saw pretty amazing results, to write about was Long-Term both in terms of the growth of he book I am currently writing Credit Bank (LTCB). This was their bank and the growth of grew out of five years of T interesting since it was the first Japan. But it was really in the reporting as a financial journalist Japanese bank that collapsed mid-to-late 1970s that the prob- in Japan. It also grew out of frus- in spectacular fashion and was lems began to emerge. The fixed tration over the way much of the then taken over by a group of interest rate system began to debate about Japan is currently Americans. It was also the first fragment, and Japan’s economy presented. During the last few big private equity deal that had began to open up to the outside years there have been any num- been done in Japan and, when world partly because many com- ber of books written about Japan, the bank collapsed, it was the panies started to go overseas and plenty of reporting and a great biggest bank failure to be seen export, and they began to intro- deal of bafflement about a story anywhere in the world. duce a corporate bond market. that has often seemed akin to the My book, and the way I have All of this meant that LTCB started movie Groundhog Day. Year after constructed the story, is divided to lose its raison d’etre. year we have the same types of in to two parts. The first part looks One of the tragic points about headlines, debates and hopes at the story of LTCB and why it the entire tale—and something about reform that get dashed and, went wrong. I go back in history that makes it a good parable at the end of the day, the same because it’s important to look for Japan as a whole in fact—is boredom about why the country back at where Japan is coming that many LTCB bankers realized is not moving on in a direction that from and to look at the lives of things were going wrong. Some people think it should be moving. the people who are in decision- put together a radical reform When I was in Tokyo, I often making positions in Japan today. plan that in many ways echoed had the sense that on one level what the Americans tried to do much of the analysis and debate The Long-Term with Shinsei two decades later. was conducted as if it was being Credit Bank and its Demise They wanted to move away from viewed from 30,000 feet. Japan long-term corporate lending, since has become a laboratory case in TCB was founded in 1952 just they realized that was unprofitable, macroeconomics, or an experi- L as the Korean War was coming and develop fee based services, ment to see what happens if there to an end and the Americans were move into the capital markets, is deflation. There has been a leaving Japan. It was founded etc. They proposed their reform great sense in which the real story to support the revival of Japan’s ideas in a radical plan in 1985, of people in this banking saga industrial sector by lending to but were rapidly blocked by have been forgotten. So I decided industry. Its position within the vested interests, and the system that I would try to write a book Japanese financial system was gradually became more and more which instead of simply prescribing really like one small cog in a distorted. LTCB lost its original more solutions for Japan’s banking machine. The key points about raison d’etre and rushed into real problems or more macroeconomic that period were that the system estate. Japan as a whole began to analysis, would give a sense of was closed, tightly fixed and reg- move into the bubble, and LTBC what the debate was like on the ulated, and the banks dominated jumped on board enthusiastically. ground and take a bottom-up the system rather than the capital Between 1985-1990, it cultivated approach. Above all, I wanted markets. In many ways, LTCB a number of real estate compa- to capture some of the political played a role that replaced the nies and lent heavily to companies and cultural micro-level aspects function normally played today that wanted to expand to real of the whole debate. I decided by a corporate bond market. estate. One of the classic examples that the only way to do that was The system worked fairly well for is EIE, which managed to borrow to tell the particular story of a two decades, and the Long-Term about 7 billion dollars between bank and a group of bankers. Credit bankers worked very hard Alternative Investments Report 3

1985-1989, much of which was in linking up with SBC he would As LTCB was squirming in from LTCB. It used that to build find a way to remodel his business its death throes for eight months, lots of crazy, spectacular build- away from long-term lending into the Japanese parliament was ings, like the hotel on 57th street, the capital markets and investment holding its first serious set of now known as Four Seasons. banking. It was a path breaking debates about what to do to cope When the bubble burst, step in many ways. However, in with the bad loan problem in the companies like EIE found that the course of the due diligence legacy of the bubble. Parliament they could not repay the loans process, the SBC bankers found was divided into two camps. One and three key things happened. out about the additional billions camp wanted to see radical reform. First, LTCB started to double up— of dollars of bad loans that were They did not want to see any- when companies like EIE said it hidden in the subsidiaries. They more public funds used to bail could not pay its interest payments, were horrified and went to the Mof out the banks and they wanted LTBC gave more money. Second, and asked Mr. Eisuke Sakakibara LTCB to be closed or liquidated. it developed increasingly elaborate The other camp (conservative ways of covering up its problems. LDPs), really wanted to continue The Ministry of Finance (MoF) One of the tragic propping up the status quo and, and the Bank of Japan (BoJ) knew above all else, protect the bor- LTCB was having problems. In the points about the entire rowers of LTCB. They were less early 1990’s the Bank conducted concerned about what form LTCB an inspection and it secretly con- tale —and something should take in the future. The cluded that problem loans were that makes it a good argument lingered for months already about ¥1,600bn, even until they compromised. On a though at the time the bank was parable for Japan as a macro level, the compromise was only admitting to ¥21bn of bad to create a big public fund pack- loans in its official accounts. The whole in fact —is that age for the banks, which was to MoF did a similar inspection some be used to inject funds into the time later and came to a similar many LTCB bankers banks’ capital base, provide a conclusion. However, they didn’t realized things were scheme for protecting depositors, take action. There was a very and promote reform. As part of strong feeling in Japan and among going wrong. that, as far as LTCB was concerned, Western economists that these they decided to sell LTCB to a sorts of problems were temporary new bidder after nationalizing it. and that the Japanese economy what to do. Mr. Sakakibara told Many hoped that this would lead would recover. Basically, what them not to worry and pointed to reform, but it was also viewed was happening at LTCB was typi- out that was what all the Japanese as a quick fix compromise solu- cal of what was happening at the banks did. They confronted LTCB tion. Essentially, the reformers other Japanese banks. Indeed, in who said, quite correctly, that hoped that by selling the bank 1996, when the Ministry inspected under Japanese accounting law they would no longer have to LTCB, it effectively agreed with it did not have to admit to all of use too many more public funds. LTCB that it could understate the these extra bad loans. As a result, The conservative part of the bad loans on its books by several SBC gradually began to withdraw LDP hoped that the corporate hundred billion yen. from the alliance. The alliance borrowers would be protected. In 1997, LTCB’s President, eventually crumbled and LTCB They implicitly assumed that if Katsunobu Onogi, tried to find an problems became common know- they nationalized the bank and exit from the problems by creating ledge followed by its collapse in sold it to somebody else, then all an alliance with the Swiss Banking autumn 1998. of the corporate borrowers would Corporation (SBC). He hoped that still keep receiving their funds. 4 Center on Japanese Economy and Business

In practice, those were pretty that it had come ridding in from head of Citibank, Japan, who was contradictory goals. Like so much out of the blue and no one quite one of the few Japanese who felt else in Japan, the contradiction knew who Ripplewood was. equally at home with both Wall was fudged over in the hope that Ripplewood was a pretty small Street and the Japanese business everything would sort itself out private equity firm compared to world. Chris Flowers, who used over time and that if and when most of the other big Wall Street to run the Financial Institutions the long-awaited recovery came, names. It was founded in 1995. Group at Goldman Sachs, and that would actually make the Although they had completed Tim Collins, the founder of whole situation much easier. a number of deals mostly in the Ripplewood. Chris Flowers and American mid-West and South, it Tim Collins are particularly inter- The Sale of certainly had not done any really esting as a team. They are very Long-Term Credit Bank big deals, no less financial deals different in character, yet their by that time. Ripplewood made its skills are complimentary. n the beginning of 1999, Goldman bid, and the process went on for The Bank was finally sold Sachs was appointed to manage I about 8 months. Eventually, almost for technically ¥1 billion, but the sale of the Bank. It was an against the odds, Ripplewood the investors agreed to inject amazing step because a foreign won the bid. Ripplewood won another ¥120 billion in equity. investment bank had never been the bid partly because of a lack The investors were a diverse given such a politically sensitive of alternatives. Paribas was not group. Originally, Ripplewood role before. There were four main very serious, JP Morgan pulled hoped to get some Japanese on candidates that expressed serious out at a late stage, largely because board but, in fact, none of the interest; Paribas, Chuo Mitsui, JP it did not think it could cope with Japanese they approached agreed Morgan and Ripplewood. Of the the reputational risk; and Chuo to take part because they thought four, Ripplewood was regarded Mitsui was really a Japanese the sale would be politically con- as the rank outsider. Indeed, the bid that had been concocted troversial. Unlike the Japanese, code name that Goldman Sachs under pressure from the Financial there was strong demand from gave to Ripplewood in its inter- Supervisory Agency (FSA). The European and American investors nal documents was “cowboy” Ripplewood team fought very and, in the end, the deal was over- because there was a perception hard, and they fought an extremely subscribed. The investors include powerful and Deutsche Bank, Mellon, Abn Amro, dogged lobby- Citigroup, AIG, GE Capital, BSCH, ing campaign. Jacob Rothschild’s investment Their team vehicle, and David Rockefeller, included Paul among others. The government Volcker, former agreed to inject ¥240 billion in chairman of the form of preferred shares. the Federal The Ripplewood team also won Reserve, who a very clever financial deal from was absolutely the government in that they were critical in terms allowed to pretend to sell the of persuading equities that LTCB had been the Japanese owing to the Deposit officials to Company (DIC). In fact, it was let them buy not a final sale since they had an the bank. option to repurchase later. The Mr. Masamoto DIC took the equities that LTBC Dr. Mark Mason, Director, Program on Alternative Investments Yashiro, former had owed and in exchange gave Alternative Investments Report 5 them about ¥250 billion worth very different situation, to avoid the Japanese disliked it—some of of capital as well. The govern- having to pass new laws for the them eventually labeled Shinsei a ment took off most of what it deal, which create parliamentary “child of evil”. The banks biggest considered to be bad loans on scrutiny. The government also “crime” was to inject transparency the Bank’s books, which were hoped that Ripplewood would into a system based on fudge. about ¥4.6 trillion. When all was never actually try and use the “put”, But the other problem was that done, the government had used because it still kept hoping—as the actions Shinsei was taking about ¥3.6 trillion of public funds it had done since 1990—that an tended to make the situation for the Bank. economic recovery would come much worse for the other banks, When the Bank started, it was and make the bad loans good and they did not have the put left with about ¥7.7 trillion of loans again. option to protect them. Shinsei on its books and ¥900 billion started to try and use the “put” in reserves. According to an FSA Shinsei: auction to repay loans to the audit of the Bank conducted Innovation and Success government. The government at the beginning of 1999, there was very shocked when Shinsei he Bank started in March 2000, were about ¥1.9 trillion of non- tried to return almost ¥1 trillion and called itself Shinsei, which performing loans (NPL). It was T worth of loans. The government means new life or rebirth. It had still a troubled Bank. One might began to drag its feet, which was plans to change itself from being wonder why the government did followed by a series of very bitter a business focused on corporate not remove more of the NPLs and public disputes. Mr. Yashiro lending to a three-pronged business from the Bank to the Resolution was called into parliament on that Mr. Yashiro sometimes describes and Collection Corporation (RCC), three different occasions to tes- as being like a plane—in that one the government institution used tify. So was Goldman Sachs—it engine is retail banking, another as a repository for bad loans. was asked to explain why it had is , and the That was, in fact, precisely the created this “put” auction. Goldman fuselage is the old corporate question that Anzai, the president Sachs refused to appear in parlia- lending business. The Bank also of the bank at the time asked. He ment, which was followed by an needed to clean up its balance lobbied to get the government interesting legal exchange. sheet. Although they were sup- to redo its audits. However, the At the same time Mr. Yashiro posed to have about ¥1.9 trillion government refused because it was trying to take on the rest of in NPLs, they quickly decided did not want to have to admit the Japanese banking system, that the real figure was about that so many more companies he was also trying to change the ¥2.6 trillion. were bad. To keep Ripplewood culture inside Shinsei, and to happy they created a “put”, which Almost immediately after move effectively away from the was the right to return loans to Yashiro arrived, a furore exploded old, hierarchical and rigid culture the government if they lost more about one of the bank’s big bor- that used to exist in Japanese than 20 percent of its value. This rowers—Sogo. The company banks. He wanted a much more was an amazing fudge. The legal had been bankrupt for years but flat hierarchy and international basis for this was a Nineteenth IBJ wanted to organize a bail out culture where bankers were Century law used in markets in scheme. However, Yashiro refused encouraged to become special- Japan to cover trading and con- to take part since it would create ists. This change involved all sumer goods. The way it worked new losses for Shinsei. That made types of internal battles, which was that if you bought a bag of it clear that Shinsei intended to were doubly difficult given the rice and you discovered that the take a tough line on the deadbeat interesting mix of people who rice was rotten you could return borrowers. Foreign observers who work at the Bank. They have the it for a refund. This law was used believed this is what all Japanese old LTCB bankers, Japanese from for LTCB, even though it was a banks should do welcomed Ripple- other Banks, and gaijin investment wood’s tough stance. However, 6 Center on Japanese Economy and Business

bankers and operation people. also shrunk their loan book which is detrimental. Shinsei has There are really four distinct dramatically—at least one-third become a lightening rod for an cultures. There has been great in the last two years—which is anti-American backlash. In many progress in terms of Mr. Yashiro totally unprecedented. The Bank ways, the current debate in Japan trying to glue the Bank together hopes to do an IPO (initial public is very binary when people talk now. After the squabbling, the offering) this summer. They had about reform. There is the status Bank has emerged with a sense hoped to do it last year, but the quo, which is perceived as being of direction partly because of the FSA blocked it. It is still very Japanese, or there is free market external criticism. One of the unclear whether an IPO will go reform, change, and hard-landing striking changes Mr. Yashiro did ahead soon and how the Japanese radical measures of the sort that was to abolish the office lady (OL) will react. If they do try for an IPO Mr. Takenaka tried to promote uniform, and he promoted an and are seen to be making a lot and that has increasingly begun OL to become a branch manager. of money, then it could stir up to be identified with “Americaness”. Another innovation he imple- much more debate and controversy. Perhaps this polarization is mented was to emasculate the inevitable. The Japanese them- corporate planning department, selves constantly say that they and he insisted that separate busi- need outside pressure to change. ness divisions should start to set However, Shinsei, perhaps not policy with a customer driven through its own fault, is the approach rather than being top- most tangible symbol of this down and production driven. Shinsei was able to polarization, and when people Other Japanese banks have copied try to articulate the debate about some elements of these innova- report a ¥62 billion where Japan should be going tions. Quite often, the innovations and what the banks should be that Mr. Yashiro has made inter- profit last year doing, Shinsei tends to be the nally are some of the things other unlike almost example people reach for. What banks have wanted to do for some is lacking, despite Mr. Yashiro’s time but have not had the courage. every other bank. best efforts, is a truly Japanese Another, more visible sign of sense of change and model of success is that Shinsei was able reform. Going forward, I think to report a ¥62 billion profit last Mr. Yashiro would like to present year unlike almost every other himself as the Japanese vision bank. 90 percent of this came of change. At the end of the day, from the lending business, but I truly hope that he can do that. the fastest area of profit growth Meanwhile the investors hope is the non-lending operations, Even though the government owns that they can sell the Bank. particularly loan trading. Shinsei about one third of the bank and has also made progress in clean- will make a profit itself, the idea Question and Answer: ing up its balance sheet. NPLs of risk-reward is not really well Q: What has been the biggest were 20 percent in March 2002. understood in Japan. surprise to the American investors However, they are now estimated So has Shinsei been good for after two years comparing their to be around 10 percent, although Japan? It has certainly promoted initial expectations going into the we are still waiting for the con- many reform ideas within the Shinsei deal and the way things crete figure for the current fiscal Japanese banking system which look today? year. The Bank is perceived to be is a good thing. Unfortunately, Tett: One disappointment one of the only honest banks in it has also contributed to a polar- has been how the economy terms of reporting. They have ization of the reform debate, has performed. Also in 1998–99, Alternative Investments Report 7 the investment team thought that wanted to have fancy properties position to force First Credit to Japan had embraced reform since all over the world and because go bankrupt. First Credit hated it was willing to sell LTCB to a they did not know what else to it, and many Japanese bankers foreigner. If they did not want do with the money. I am often squealed very loudly. However, reform, as some have said, why asked whether I think a large the Tokyo court eventually upheld did they sell the Bank? In prac- proportion of the NPL problem Shinsei’s action. So, the bank- tice, I think that the decision to today in Japan is Yakazu related. ruptcy law is changing. Certainly, sell the bank was based on fudge Yes, some probably is. But in ten years ago with EIE one of the as much as any real reform vision. some cases, the purported pres- problems was that the bankruptcy I do not think that the Japanese ence of the Yakazu is used as law was not very clear-cut. government had thought through an excuse for inaction due to Q: In 1997, Mr. Onogi started to the implications much. Later that cultural reasons rather than a make an agreement with Mr. Volpi became clear and that surprised natural physical threat. of the Suisse Bank Corporation. some of the investors. Q: What is the role of bankruptcy Just before they actually decided Q: Why hasn’t the anti-American law reform in this story? It seems to merge they found a lot more backlash affected the bidding for like many investors are coming non-performing loans on the the Aozora Bank currently going in, buying loans, and then flip- books. Mr. Onogi said that he on? ping them back to the borrower. was unaware that there was that Tett: Well, I think it has affected Is there a more efficient way to much in non-performing loans. At the bidding. The rhetoric against resolve these distressed loans? the same time, after he received Cerberus, another American fund, Tett: Much of the time, what a three-year prison sentence from has been vitriolic—critics have investment bankers are doing the Japanese Court, do you per- specifically said that they don’t in Japan is actually cultural arbi- sonally think that he is guinea want to sell it to Cerberus because trage, above all else. They are pig or that he really did some of what happened with Shinsei. taking advantage of situations things that justified him getting The advisors are all still Western where the Japanese feel too a three-year prison term? but that is partly because there embarrassed to act. I am not a Tett: This raises themes that are are very few neutral Japanese bankruptcy law expert. My under- central to my book. The judg- advisers in the system. standing is that bankruptcy law ment that was delivered against Q: Is EIE a front for Yakuza is slowly moving closer towards Mr. Onogi in September 2002 is interests? global standards. In the past it critical for understanding what has been very difficult for banks is happening in Japan today. The Tett: I was fortunate enough to to make companies forcibly bank- judge actually said that Mr. Onogi interview at length many of the rupt when they did not want to was a criminal even though he key players involved in the deba- be bankrupt. Shinsei has broken was doing things that were in cle. I do not think that EIE was a precedent on that, along with line with government thinking at directly Yakuza. I think they were many other things, by actually the time. That judgment was criti- linked to many Yakuza, and many forcibly pushing one of its big cally important because it was the parts of the most powerful bits clients into bankruptcy in December first case being brought against of the Japanese government. 2001/January 2002. It was shock- the management of a Japanese The yakuza and politics and ing when it happened. The bank that had collapsed. It set finance are entwined in Japan. company in question was called the precedent for how other bank One important point is that you First Credit, and Shinsei owned presidents would be treated if cannot blame what happened in about half of the outstanding loans. their banks collapsed. After that the 1980s and 1990s just on the In fact, First Credit had been doing judgment came out, every other Yakuza. LTCB was throwing money something moderately illegal before bank president in town was at companies like EIE because they that. So, Shinsei was a strong thinking, ‘Well, what about us?’ 8 Center on Japanese Economy and Business

On the one hand, Koizumi is telling In terms of whether Mr. Onogi foreigners and Japanese often bank presidents they must reform, was criminal or not, and this is misunderstand each other! clean up the NPLs and act radically. critical for looking at what is Q. What was the outstanding On the other hand, the politicians happening in Japan today, there balance in bad loans LTCB had are saying not to cut off the bor- are a few things to bear in mind. before Ripplewood acquired the rowers and to keep lending to FME. First, unlike Enron, when the bank? How much did the Japanese They were getting completely Japanese bankers and bureau- government spend do bail out contradictory signals from the crats have engaged in fudging the bank? government and, even if they were and what you might call lying in line with government thinking, and deception, this has not been Tett. The debate about how they could still be judged as crim- about personal enrichment, but many bad loans were sitting inals at the end of the day. So it about trying to defend the system. in the bank when Ripplewood is not surprising the bank presi- Most of them entered banking bought it was never resolved. dents are paralyzed and terrified. 30–40 years ago, believing that According to the FSA, it was The judgment also affects their role was to rebuild the nation ¥1.9 trillion. According to Shinsei the way many bank presidents and to build LTCB. Building the management three months later it look at their loan portfolios now, best interest of the group was was ¥2.6 trillion. What happened because what Mr. Onogi and the more important than the individ- between that period? If you were board did in 1997 was to effec- ual. In the crucial case between to ask how many loans in total tively fudge at the limit of the SBC and Mr. Onogi, SBC discov- have gone bad since then, because gray area, and they basically ered that LTCB had made no there are extra loans that have pushed things into subsidiaries. provisions for about two dozen gone bad that were not in that So it was not as crude as sticking of its largest subsidiaries, even ¥2.6 trillion, you would probably files into concrete manholes by though these subsidiaries had get another figure. How many then. It was much more blurring massive problems. In 1997 peo- loans were sitting bad on the bal- the rules of accounting. Most ple did not realize that whereas ance sheet in 1998-1999? That is of the other big banks today normally, in Western banks, sub- anybody’s guess, and that is part have any number of NPLs sitting sidiaries are almost footnotes of the problem. When SBC due on their balance sheet that they to the main bank, in LTCB, sub- diligence started of LTCB in the have fudged in the past or been sidiaries were the bank and they summer of 1997, some of the a bit too lenient with. Daiei is the were not on the balance sheet. bankers had an internal debate case and point. If Daiei collapsed So they went to Mr. Onogi and about what figure they should tomorrow and everyone went said, ‘You haven’t made any give LTCB for the bad loans. to the bank presidents and said, provisions for these loans to The numbers went from about have you always judged Daiei the subsidiaries.’ Mr. Onogi said, ¥300 billion to ¥4 trillion. It was according to the strictest possible ‘Well, we don’t have to make an enormous range in what you judgment? They could not say provisions,’ which was actually considered a bad loan and what yes. Is that going to make them true. The Swiss said that in you counted as subsidiaries. criminal? To understand why the Switzerland you have to make That is really the essence of the Japanese bankers have been sit- twice the provisions because you Japanese banking problem. ting there in a state of paralysis have to support the subsidiaries Q. How much money did the for the last few years, you have in case they collapse. Mr. Onogi government actually inject into to understand that kind of human said, ‘In Japan it is different.’ So LTCB? LTCB and Mr. Onogi actually were incentive right now. I am not Tett. The government is not never lying. He was not telling trying to defend them, but it terribly keen to quantify this the entire truth, but he was not certainly puts them in a very number in great detail. That is lying. That is a pattern often seen difficult position. the way it has been set-up, to in Japan, which explains why Alternative Investments Report 9 not quantify this number because Tett: That is one of the elements the deal and told the rest of the the sight of gaijin walking off present at the beginning of the board it was a bad idea. I think with billions of dollars in profit deal. Ripplewood has gone ahead the reason for the lack of deals would be controversial. The gov- to do some deals linked to the is a combination of political foot ernment always said it injected former LTCB, and the Seagaia dragging, the fact that sometimes ¥3.6 trillion worth into the bank. resort was a case in point. That managers do not want to be However, there are multiple was a former LTCB client; LTCB involved in that kind of thing. figures depending on what is was the second largest lender. It has happened a bit, but not included. What is definite is that What has happened is a combi- as much as they hoped. the government purchased ¥4.6 nation of political resistance in Q: To what extent do you think trillion face value of bad loans, some cases. When Shinsei tried Ripplewood’s strategy hinged on its but that was partly offset by the to take over Life, a consumer being able to restructure corporate value of loans they recovered. company that was a big borrower borrowers’ debt for equity spots They injected ¥240 billion into from LTCB in the past, and restruc- and exiting via the equity market in the capital base of LTCB in the ture and incorporate it into the Japan? For both corporate borrow- form of preference shares. They Shinsei operations in the first few ers and for themselves, how has have since spent approximately months, it created a huge political the equity market in the past few ¥500 billion on the “put” option, controversy. Shinsei had to drop years thwarted that strategy? but that is a moving target. If a that idea all together. On paper it loan goes bad, Shinsei gives it would have made perfect sense Tett: When Tim Collins first went back to the Japanese government because it is a very good core to Japan, he was initially looking plus the reserves assigned to that business. If you take a consumer to get into the industrial sector, loan, and any additional loss the finance business and incorporate rather than buy a bank. In the bank is compensated for. So if that with Shinsei you get a good process of doing the research they give back ¥100, the govern- business platform. Mr. Imai, the to get industrial companies in ment only probably spends ¥30 chairman of the Keidanren, who Japan, he realized that so much or ¥40. The figures from the DIC sits on the Shinsei board, was of the industrial problems were were ¥500 billion, from memory, concerned about the political tied up in the banking sector. The but I don’t have a precise number ramifications of going ahead with banks were acting as nails in the to hand. Q. One of the interesting debates in Japan today is the role of private equity and reform of the industrial system. One way to look at Shinsei bank is a big treasure box of bad loans or good loans to corporate Japan, which in Japan gives you a tremendous influence in a company, much more than in the West. Given that situation, it is surprising that there isn’t more private equity deals out of the Shinsei client base. Do you have a view if that role will ulti- mately be successful and why it has not been successful to date? Seminar in session 10 Center on Japanese Economy and Business

whole rotten structure. The theory Takenaka appointment have fizzled economic distortions, they tend was that if you get the nail and out, my guess is that the banks to do one of two things. They shake it, you would have access will get over the sandbar of the either have sufficiently free capi- in much more in way of industrial next March 31 year again and tal markets that investors are able companies as well. Ripplewood the system will stagger on. These to weed out the unproductive parts has gone ahead to do a number capital-raising plans seem a pretty of the economy—like America of industrial deals quite separate bad idea. They are either expensive after the IT bubble where investors from Shinsei. Chris Flowers, who or create double gearing. But removed resources from IT. Or really structured the deal and the the system will stagger on, unfor- you have a sufficiently strong, driving force in the later stages, tunately. What I would like to coordinated government that can was primarily focused on the see is somebody arising with a implement painful changes, like financial side. His background is political support base so they can Sweden after the Swedish bank- in banking. It really was an inter- articulate a banking reform pro- ing problems. In Japan’s situation, esting combination of people. gram in a proactive, coordinating it does not have strong enough When they went in 1998–99, they capital markets to force painful thought quite reasonably one of change, nor does it have a bureau- two things would happen in the cracy or politicians who can Japanese economy. If the Japanese actually coordinate policy or are economy would recover, that powerful as a group to implement would lift all the boats and Shinsei’s What is lacking, change. problems would disappear. If it Q. Do you think a general amnesty did not recover, they thought there despite Mr. Yashiro’s for business executives would be would be a big shake out. They best efforts, is a truly helpful in unblocking the reform did not think the status quo was process? sustainable. It should be stressed Japanese sense of that was what most people were Tett: I think a general amnesty thinking, myself included! If there change and model would be helpful. The fact that had been a huge shake out, if they keep redefining what crimi- there had been a cataclysmic of reform. nal is does not really motivate collapse of several big banks and anybody to take risks, or to stick companies, no one would have out, or to be bold, or to propose time to worry about what Shinsei any ideas. Everybody has spent was doing. If Daiei was going the past five years trying to keep down for lots of other reasons, their heads down and trying to they could not blame Shinsei fashion. That is what the country batten down the hatches. The for that. The idea that the system desperately needs. What you critical issue in devising any could stagger on in crisis, but not have is a status quo. And what policy in Japan is to look at quite-crisis, utterly rotten but still you have once a year is a little incentives. Sometimes people not shaken out, was not there as burst of frustration, leaping out. think Japan has fallen into prob- a scenario. It was not what the Unfortunately, the nature of the lems because Japanese bankers Financial Times was predicting. status quo is so strong, the sheer are really stupid, but they are not at all as the LTCB story shows. Q. What is your view about energy to become a reformer in Japan means it is very hard to People at LTCB have known what the future of the banking sector was wrong since the early 1980s. discussion? maintain a balance, proactive, diplomatic view. The problem has always been Tett: Since the brief spasm of If you look historically how that the incentive structure was reform in the autumn due to the countries tend to cope with not in place for people to jump Hayami hand grenade and the on board with reform. When the Alternative Investments Report 11 due diligence team for LTCB in fact, when they went in there, produce the files and say what appointed by Ripplewood went the LTCB staff realized that it was they thought the bad loans were into the bank in autumn 1999, in their interest to reveal every- and where all the skeletons were they expected it to be difficult to thing they could as fast as possible buried. I tell this story to illustrate get LTCB employees to provide so they could get as many reserves that I have enormous faith that data and files because, theoreti- as possible from the government Japan can change very quickly cally, the Japanese government to have a healthy bank. The team if only the incentive structure was not allowing them to do due walked into the eighth floor and can be put in place to make diligence and LTCB had been the LTCB bankers were practically people feel like they have a stake hiding its problems for years. But, falling all over themselves to in reform. EDITOR Joshua Safier Associate Director Center on Japanese Economy and Business

ASSOCIATE EDITOR Yoko Mochizuki Program Officer Center on Japanese Economy and Business

PHOTOGRAPHY Columbia Photo Bureau

DESIGN/PRODUCTION Melanie Conty

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