In California, Japan Banks Fare Poorly

Not long ago, a bank branch manager walked into the office of a competitor in Los Angeles and asked for a job. His bank had been bought by a Japanese bank, he explained, and the parent company in Tokyo would no longer allow unsecured loans of more than $10,000.

“I’m losing all my customers,” the manager complained to an executive at the rival bank, who recounted the story recently in explaining one reason that Japanese-owned banks in California, despite their aggressive acquisitions, have been lackluster performers.

That’s right. Lackluster performers.

Unlike their countrymen in car manufacturing or electronics, who dominate segments of the U.S. market, Japanese retail banks in California have not been impressive. They have neither cornered the consumer business nor made significant inroads into commercial lending here.

They are hobbled by cultural differences, such as the Japanese aversion to making risky loans, and by a market that is one of the most fiercely competitive in the nation. As a result, such key measures of financial performance as the return on assets show that Japanese banks here have not maintained even average profitability, and some have lagged far below average.

“Their financial performance has been below par,” said James B. Bemowski, a financial industry expert in the Los Angeles office of McKinsey & Co., an international consulting firm. “For most of the parent institutions, their California banks are so small relative to their total size that the damage to prestige of pulling back would be greater than the damage from continuing to stay here.”

The view was echoed by many bankers and industry analysts, who agreed that the Japanese banks have had difficulty broadening their customer bases in California beyond Japanese companies and Asian-Americans.

“In my conversations with the (U.S.) banks that I follow, I don’t hear any expressions of concern over any inroads by Japanese banks,” said Dan B. Williams, an analyst in San Francisco with the regional brokerage firm of Sutro & Co.

But, rather than pulling back, the Japanese continue to be driven by economic forces that have led them to expand here and across the United States.

Just last month, an affiliate of Bank of Tokyo agreed to pay $750 million for Union Bank in Los Angeles, a $9-billion bank and the state’s fifth largest. The transaction marks the largest investment to date by the Japanese in an American financial institution, and it means that the Japanese will control five of California’s 10 largest banks.

The agreement also marked the final step in the Japanese ascension here over the British banks, which have abandoned California after once being the dominant foreign banking power here.

California is unique because of the large number of Japanese-owned banks competing in the consumer arena. Nine banks in the state are chartered as U.S. banks, although they are owned or controlled by Japanese. These banks must meet federal regulatory guidelines, which are often stricter than Japanese guidelines, so they face the same capital restraints as their American-owned competitors.

Elsewhere in the United States, the Japanese banking presence is most strongly felt through branches of Japan-based parent banks. These branches concentrate on big corporate business and they are faring better than the California banks, in part because they do not have the same capital restraints. Also, they have the advantage of being funded directly from Japan, where the cost of raising funds is far lower than in this country.

An annual survey by American Banker, a respected trade publication, found that the Japanese are leading a surge in corporate lending by U.S. offices of foreign banks. Business loans in the United States grew five times faster at foreign-owned banks than at American-owned banks between June, 1986, and June, 1987, and the Japanese accounted for 77% of the growth.

The survey also found that the most numerous foreign banks in the United States are Japanese, with 30 institutions controlling 99 full banking offices--20% of all foreign branches. The British, who are reducing their U.S. business as the Japanese increase theirs, are second with 12 banks and 47 offices.

Japan-based banks, which are the world’s largest, benefit from more lenient capital requirements than their U.S. counterparts and from their lower cost of funds. Those factors mean that it is less expensive for them to operate, so their U.S. branches can shave profit margins on transactions to increase their share of the business market in this country.

The Japanese branches have taken over a significant portion of the corporate letters of credit business in New York by reducing profit margins to less than 1%. For example, Mitsubishi Bank got a letter of credit deal for a $300-million bond issue by the city of Chicago with a bid of 3/16 of 1%. Such underpricing is often used to break into any new business.

Earnings Woes

“What the big corporations want is the cheapest price,” said Stephen Berman, a banking analyst with the New York investment firm of County Securities. “They don’t care about loyalty or relationships.”

Berman and other bank analysts say that the underpricing by Japanese branches is contributing to the earnings woes of America’s biggest banks, particularly those in New York and Chicago.

While the gains in corporate business have come in big money centers, the prime focus of acquisitions has remained California, where there is a substantial population of both Japanese companies and Japanese-American consumers.

The Japanese willingness to take smaller profits and remain in California, despite below-average performance, demonstrates a central theory of Japanese management philosophy: the focus on long-term objectives, rather than short-term earnings.

Japanese executives, including bankers, tend to be content with smaller, slower growth because of this focus, and they disdain the short-term attitude of their American counterparts.

“For Americans, greed, profit, short-term objectives--that justifies everything,” said Yukuo Takenaka, a Japanese-born American and partner at the accounting firm of Peat Marwick Main & Co., who advises many Japanese executives. “Japanese look at America and they believe that is why the economy here is in trouble.”

The Japanese have also found that the acceptability of mergers and acquisitions in the United States has been central to their growth. As one Japanese native doing business in this country explained: “You can’t buy what people don’t want to sell. In Japan, you could buy a bank, but no one would sell one. Here, that is not true.”

Another factor behind the growing Japanese banking presence is the necessity for Japanese banks to retain their ties with Japanese manufacturing companies setting up factories in the United States.

Japan adheres to “relationship banking” on a corporate level, a concept that largely passed from the American financial scene a couple of decades ago. Major Japanese companies have longstanding ties to specific banks. To maintain the link, the bank must follow the company when it opens an operation abroad.

For instance, when Toyota built its plant near Georgetown, Ky., its two main banks, Tokai and Mitsui, quickly established offices there.

For the manufacturer, it ensures a reliable source of funds at reasonable rates. For the banks, it means that relationships at home are maintained and that there is automatic business for the new U.S. office.

“When a Japanese bank opens a branch here, they contact the Japanese firms in the U.S. that they do business with at home and say, ‘Please help us,’ and they get business like this,” said Takenaka, snapping his fingers.

But the Japanese banks have been slow in expanding beyond Japanese companies doing business here, according to many bankers and analysts.

“We are here not only for Japanese customers but for Americans, too,” said Michinori Nakajima, senior deputy general manager of Mitsui Bank’s Chicago branch. “It has been a very tough job, very difficult to deal with American corporations. But these days our presence in the United States is getting higher and higher.”

Indeed, the rising influence of Japanese financial institutions in the United States is one reason that questions are being raised in some quarters about whether steps should be taken to restrict foreign investment in certain industries.

“We need to be concerned with this issue to the extent that ownership implies power and to the extent that power imperils our sovereignty,” said Robert B. Reich, a Harvard professor and author who recently testified before Congress about foreign investment. “There is no problem so long as financial intermediaries worldwide continue to be competitive with one another and the profit motive is the dominant force. We need to worry when those two conditions are no longer being met.”

The point at which Japanese banking crosses the threshold from competition to domination is difficult to determine, but some advocate at least considering a ceiling or restrictions on foreign investment in banking or other sensitive areas.

“Is there a limit to what we are willing to allow to be controlled out of the country?” asked Susan Tolchin, a professor of public administration at George Washington University and co-author of a controversial new book on foreign investment, “Buying Into America.”

Tolchin contended in an interview that the question of limits should be discussed before foreign investment reaches a crisis point in banking or such areas as defense technology. She said her research shows that Americans seemed most concerned with foreign investment in the banking industry.

Even the inability of the Japanese bankers to rise above below-average performance in California’s banking industry so far is not entirely comforting to some.

“What bothers me, of course, is that we used to make those comments when they first started making automobiles, and look what they have done,” said Bram Goldsmith, chairman and chief executive of City National Bank of Beverly Hills.

ROA: ONE MEASURE OF PERFORMANCE

Return on assets--ratio of net profit to total assets--for Japanese-owned banks in California. Figures are as of Dec. 31, 1987.

1987 Assets Return Bank (in billions) on Assets (%) California First Bank $6.1 0.68 Sanwa Bank of California 5.3 0.23* Bank of California 4.7 0.47* Sumitomo Bank of California 3.6 0.62 Tokai Bank of California 1.8 0.26 Mitsui Manufacturers Bank 1.6 (0.32)** Mitsubishi Bank of California 1.5 0.84 Dai-Ichi Kangyo Bank of California 0.266 0.47 Kyowa Bank of California 0.092 1.10

* 1986 ratio; 1987 figure not available.

** Negative figure.

Source: Banks listed and State Banking Department