Japan is suffering from an irrational lack of exuberance. With Japanese stocks bumping along at 20-year lows, the market now figures that hundreds of small companies like Exedy are worth less than their liquidation value. One reason is that many banks, fearing the country’s bad-loan crisis will only get worse, are dumping stock in firms that might fail outright. But that dim view is so indiscriminate that hundreds of profitable businesses are trading at “valuations that can be compared to those of the late 1930s in the United States,” says Shuhei Abe, a Tokyo hedge-fund manager. Among all those depressed stocks, many investors like Abe, as well as big foreign players like Fidelity and Morgan Stanley, are now seeing new opportunities.
Finding them isn’t easy. Brokerages in Japan follow less than 2 percent of all small-cap companies; the rest have probably never seen an analyst. Experts figure the universe of 3,000 small companies contains 500 to 700 potential winners, some that are simply undervalued and others that must reinvent themselves to succeed. That’s where investors like Abe come in–he’s out to change Japan. As founder and CEO of Sparx Asset Management in Tokyo, he manages $3.2 billion, including $490 million in small caps. Last September he signed a deal with the biggest U.S. pension plan, the California Public Employees’ Retirement System, to establish a new fund targeting small, under performing companies that are willing to follow a very specific blueprint for reform.
Abe pressures CEOs of target companies to “put the market ahead of the longstanding relationships” that have defined Japan Inc. He wants them to disengage from the clubby financial-support network by selling nonessential assets and plowing the proceeds back into the company. “I’m saying to him: ‘Commit to the market’,” Abe explains (he won’t identify his most promising finds).
Interest from investors like Abe is helping small caps break their ties to larger corporate brethren. Electronics giant Hitachi recently dumped most of its stake in Horiba Ltd., a measuring-device manufacturer, after being its biggest shareholder since the 1950s. In the old days, Horiba’s loss of such a huge patron would have been devastating. But Horiba’s share price dipped only slightly as other investors–many of them foreign–grabbed stakes. By all accounts, that was good news for Horiba. It wasn’t a bad omen for the Japanese economy, either.
