TIDMAJOT
RNS Number : 3823C
AVI Japan Opportunity Trust PLC
16 October 2020
16 October 2020
AVI JAPAN OPPORTUNITY TRUST PLC
(the "Company")
Quarterly Newsletter
The Company presents its Quarterly Newsletter, reporting
operating performance, corporate governance developments and the
progress of the Company's engagements for the period ending 30
September 2020.
This Quarterly Newsletter is available on the Company's website
at:
https://www.ajot.co.uk/content/uploads/2020/10/AJOT-Q3-2020-Letter.pdf
Portfolio Statistics
EV/EBIT FCF Yield EV FCF Dividend
Yield(3) Yield
NFV(2)
Net cash(1) as a
as percentage
percentage of
of market
market cap cap
--------- ------------ ------------ -------- ---------- ---------- ---------
Q3 2020 46% 90% 4.3 5.1% 19.1% 2.1%
--------- ------------ ------------ -------- ---------- ---------- ---------
Q2 2020 51% 93% 3.2 6.2% 23.8% 2.4%
--------- ------------ ------------ -------- ---------- ---------- ---------
Q1 2020 52% 96% 2.1 7.1% 34.3% 2.5%
1 Net cash = Cash - Debt - Net Pension Liabilities
2 Net Financial Value (NFV) = Net cash + Investment
Securities
3 The effective free cash flow yield were non-core assets to be
distributed
Dear AJOT Shareholders,
At the end of August Japan's longest serving prime minister,
Shinzo Abe, resigned on health grounds. As the driver and key
promoter of reforms to improve corporate efficiency, it naturally
raises the question - does his resignation mark the end of the
policies that have collectively become known as "Abenomics" and
within that the so called "third arrow" that focuses on structural
reform that has led to a corporate governance revolution in recent
years?
Firstly, we believe that corporate governance improvement and
greater awareness of shareholders has now become ingrained in the
minds of corporate Japan. While Abe's administration pushed reforms
in the early days, the heavy lifting was left to the Government
agencies (namely METI, FSA) and the Tokyo Stock Exchange (TSE).
They have implemented codes and guidelines for companies to follow,
tweaking them over time to encourage better behaviour. This has
been a successful strategy. For example, in 2015 just 12% of
companies on the 1st section of the TSE had 1/3 or more of their
board composed of independent directors. Today that stands at 59%.
While a government who was less focused on reform might slow the
pace of change, it would be near impossible to reverse it, and we
believe that beneficial improvements for shareholders will continue
unabated.
Secondly, Abe's favoured successor, Yoshihide Suga, who won a
landslide victory amongst the ruling party, is keeping the status
quo. He was Abe's chief cabinet secretary and widely seen as his
right-hand man. His political thinking is aligned with the previous
administrations and he has said that he will continue with Abe's
signature economic policy of Abenomics. Any company management that
had hoped a new government might take the foot off the reform
pedal, will be deeply disappointed.
Rather than backtrack, it looks like Suga's administration will
build on from Abenomics and continue to push forward reforms.
Beyond continued pressure to improve corporate governance we are
eagerly watching developments surrounding one of Suga's key
policies - digital transformation.
Pulling Japan's IT into the 21st century
Japan's IT systems are outdated, inefficient and in much need of
improvement. For example, virtually every government office and
company in Japan has a fax machine which relates to Japan's
reliance on the archaic practice of hanko stamps - a stamp required
for over 11,000 procedures to sign off documents. During the
coronavirus pandemic workers would have to go into the office just
to stamp paper documents before either mailing or faxing them - a
totally useless task.
High profile events over the quarter, including the Toshiba AGM
voting scandal and the TSE shutdown, brought the need for
digitalisation to the front of investors' minds. Toshiba's voting
scandal saw shareholder votes cast at this year's highly
contentious AGM invalidated. The voting system is heavily reliant
on counting postal votes, and although they arrived before the
deadline the paper votes could not be counted in time. Then, on 1st
October, the TSE's main system failed and the switch to the back-up
system malfunctioned, halting trading for the full day - the worst
outage since the exchange shifted to an electronic system in
1999.
Suga has placed digitalising Japan's economy at the centre of
his administration. He is legislating for a new digital agency,
created a ministerial post for 'digital transformation' and
appointed a veteran cabinet minister, Taro Kono, to the role of
'administrative and regulatory reform'. Mr Kono created a system
for people to report excessive bureaucracy and within a few hours
had received 3,000 emails before he had to suspend the service
after being overwhelmed.
For our three IT service providers, this is good for business.
AJOT has invested just over 11% of its NAV in DTS Corp, NS
Solutions and Kanematsu Electronics (KEL) - all beneficiaries of
rising demand for digitalisation. Compared to the US, Japanese
companies rely more heavily on the services of third-party IT
providers (65% vs 28%). As we approach 2025, a year that METI
(Ministry of Economy, Trade and Industry) has coined the digital
cliff, Japanese companies will need to increasingly utilise their
services.
Our IT service providers are exposed to the same underlying
growth trends of the market, yet, for reasons unrelated to their
fundamental outlook, trade at steep discounts. DTS, NS Solutions
and KEL trade on EV/EBITs of 6.2x, 8.1x and 7.4x, compared to a
sector average of 12.9x.
All three companies suffer from inefficient balance sheets, poor
shareholder communications, and weak corporate governance.
Furthermore, NS Solutions' & KEL's valuations suffer from being
part of a parent/child ownership structure, which creates a lack of
incentive for management and poor protection for minority
shareholders.
We are engaging with management to address these issues and we
believe if they can be improved in line with our suggestions and
the valuation normalises, we could see upsides in the order of
50-100%.
Parent/child Structures Back in the News
Since AJOT's launch a key theme within the portfolio has been
the collapse of parent/child structures. Pressure from regulators,
the Tokyo Stock Exchange and shareholders has forced companies to
evaluate the antiquated practise of exerting control over a company
without owning 100% of the shares. Minority shareholders get little
say in how the subsidiary is run and the lack of independent
oversight leads to governance issues and underperformance.
It was, therefore, welcome news when at the end of September NTT
announced that they will offer minority shareholders a 40% premium
for the 34% of NTT Docomo that they did not already own. NTT cited
synergies as the reason for the deal including being better placed
to build out its next generation 5G network. While not explicitly
mentioning corporate governance, we expect that scrutiny over the
structure was a motivating factor. The $40bn transaction was the
largest tender offer ever undertaken in Japan bringing the issue of
parent/child structures to the forefront of investors' minds.
There are still over 200 listed subsidiaries in Japan, and while
that has fallen from over 4001 at the peak in 2007, it's still
significantly more than we see in other developed markets (0 in the
UK and 281 in the US). We expect further parent/child structures to
be collapsed, whether the child is bought out by the parent or sold
off to the highest bidder.
We benefited from the buyout of two subsidiaries last November
when Toshiba Plant and NuFlare, were taken private by their parent,
Toshiba Corp, at premia of 27% and 45%. As of the end of September
AJOT had 17% of its NAV invested in listed subsidiaries.
Engagement
Whilst our public engagement was quiet over the quarter with no
notable events, this does not mean we were not active in private.
In fact, and in a similar vein to our work with Fujitec, we sent
detailed presentations and letters to two companies in our
portfolio suggesting ways in which to improve corporate value and
ultimately achieve a share price +100% higher than where they are
today.
One presentation was well received, and management have already
agreed, in principle, to implement some of our suggestions while
for the other company our presentation was met with some
resistance. We are at the early stages of our engagement with these
companies and by the time of their AGMs next year we hope that we
can point to tangible progress.
It is interesting to note the strong performance from both
Teikoku Sen-I and Fujitec, who were the 2nd and 3rd largest
contributors to performance over the quarter. We engaged publicly
with both companies earlier in the year, submitting two shareholder
proposals at Teikoku's AGM and releasing a public presentation on
Fujitec. While we prefer to engage in private, our public campaigns
show management of our other portfolio companies that if they are
not willing to listen and implement changes in line with our
suggestions, we have the ability, willingness and knowhow to take
our recommendations public. Importantly, especially in Japan, we
are careful that our public campaigns are not seen as overly
hostile, and that we approach it from a long-term perspective. At
both Teikoku and Fujitec we have retained a close and cordial
relationship with management, with whom we are in regular
contact.
Our first public engagement campaign begun with TBS in October
2017 (prior to the launch of AJOT) when we asked management to sell
investment securities and return excess capital to shareholders.
After three years of engaging with the company, and although
management made small steps in the right direction, including the
cancellation of treasury shares, a buyback and stock-based
compensation; it became clear that the company would continue
resisting change, feeling little pressure from their base of
allegiant, passive, cross shareholders. It is, therefore, unlikely
that any substantial change is going to happen at TBS in a
reasonable time frame. We see better places to invest your capital
and over the quarter we took the decision to exit our position.
While the returns were lacklustre, underperforming the wider
Japan market, it has been a useful experience for us in terms of
shareholder activism and the significant press attention that our
campaign garnered has been helpful for raising our awareness with
other investments.
****
Our Japan resources continue to grow as we welcome Makiko
Shimada to the team. She will be joining from one of the main
Tokyo-based investment banks next January. Including Jason Bellamy
(based in Tokyo), Yuki Nicholas (London-based assistant) and Kaz
Sakai (part-time before joining in July 2021 after completing his
MBA) we now have four Japanese native speaking professionals, which
is allowing us to accelerate our research and engagement
efforts.
COVID might have delayed some aspects of corporate reform in
Japan, but it has by no means derailed it. Shareholder engagement
activity is increasing year after year, with companies slowly but
surely improving their returns for shareholders. Despite this, and
the undervaluation of the market, foreigners continue to be net
sellers. We are happy to take the other side of their trade and
believe that Japan is not a market that should be overlooked.
Quarterly Contributors/Detractors
Quarterly Contribution
Largest Contributors bps Percent of NAV
---------------------- ----------------------- ---------------
Pasona 168 6.6
---------------------- ----------------------- ---------------
Fujitec 107 8.6
---------------------- ----------------------- ---------------
Tecikoku Sen-I 99 6.6
---------------------- ----------------------- ---------------
Quarterly Contribution
Largest Detractors bps Percent of NAV
---------------------- ----------------------- ---------------
Toshiba -27 1.1
---------------------- ----------------------- ---------------
Tokyo Radiator -15 1.8
---------------------- ----------------------- ---------------
Fukada Denshi -14 2.9
- ENDS -
For further information please contact:
Joe Bauernfreund, Asset Value Investors
Tel: 020 7659 4800
info@ajot.co.uk
Fiona Harris, Quill PR
Tel: 020 7466 5058 / 07792 523455
fiona@quillpr.com
Sarah Gibbons-Cook
Tel: 020 7466 5060/ 07769 648806
sarah@quillpr.com
Andreea Caraveteanu, Quill PR
Tel: 020 7466 5059 / 07902 142991
andreea@quillpr.com
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announcement.
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END
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October 16, 2020 11:13 ET (15:13 GMT)
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