My conversation with Edwin Dorsey
Our discussion on Japan and navigating the terrain
Hey there!
I'm happy to share that my conversation with
, the man behind and discussing Japan is now live!You can find the full conversation here.
We talked about the overall market and some stocks you may be familiar with if you're a subscriber of MIJ. He’s managed to find some fascinating guests for Sunday's Idea Brunch so be sure to head over there and check out the full lineup. (and if you found me through Edwin, a warm welcome!)
This was a lot of work - apparently one of the longest posts he's made - which amounted to 15 pages worth of text! So it’s taken longer than expected but I am working on profiling a new company and hope to be out with it soon!
In the meantime please enjoy an excerpt from the conversation that Edwin was kind enough to allow me to share :)
Wishing you all a great Q3!!!
Having worked both at Japanese firms and international firms, could you tell us a little bit about the difference between the two cultures? What do most foreigners not understand about Japanese business culture?
I’ll put a disclaimer that this clearly has a bias as it is based on my own experience but some of you may resonate if you’ve worked in a traditional Japanese firm.
Whilst many know this already, I think seniority and hierarchy play a big part in Japanese life and organizations. You’re already taught this at a young age in school. You have the Senpai 先輩 who are the seniors in the grades above you and relative to that you are the Kōhai 後輩. You’re expected to respect your senpai and there are obligations to fulfill, including doing grunt work for them. Now depends on where you are but as a Senpai there are some responsibilities too, they’ll take care of you. Sometimes they’ll take out the juniors to dinner and pay for it and things like that.
This bleeds into adult life where the Senpai i.e. your manager or your boss is still respected and almost feared. What this means though is that at times, you find people floating up to the top not based on their merits but simply due to their age. This happens easily because it is very difficult to fire people in Japan. You can imagine how difficult it is for a younger employee to voice their ideas or even just disagree with the more senior people. To this day I still wonder how many great ideas from juniors get killed just because they’re too afraid to mention them. You’re not incentivized to take risks as it is not a meritocracy.
I remember as a junior I’d have to be first in the office to literally water the plants and for lunch, I’d have to go pick up lunch for others at their preferred places. I want to point out that these people were nice people and there was no malice at all. Just that this was what the ‘norm’ was for a junior to do and no one questioned it.
As you might know, our culture is allergic to failure and errors which has been a double-edged sword for us. On one hand, the term ‘Made in Japan’ is synonymous with high quality precisely because of this meticulous process to make things with a mindset to improve and perfect. On the other hand, in an office setting it becomes a huge pain in the a**. When it’s time to make a decision, everyone’s trying to dodge responsibility so they go up to their bosses to ask what the right thing to do is. Their boss will ask their boss and we end up with a needless cycle of ‘let me ask upstairs,’ causing a lot of unnecessary friction.
I quickly realized that working for a Japanese firm wasn’t for me. The 6 am commute in an overloaded train for 45 minutes wasn’t great either!
A friend of mine who is an international recruiter will half-jokingly tell me that a 5-year analyst from Japan is not the same as a 5-year analyst who has worked at an international firm. I found that to be broadly true – in the first couple years because of tradition and culture, you might not end up learning as much.
I don’t want to be very negative on this though, I think this is slowly starting to change as competition for talent is intensifying and employers need to be more attractive to future employees. If you look up the ‘great places to work’ ranking for Japan today, among the top there is still a large portion of it dominated by international firms and I don’t think they’d be happy with that for much longer. I also noticed that the companies I find fascinating in Japan are usually ones that have broken this status quo and have dynamics that are more open to new ideas and innovation.
Also, not that international firms don’t have hierarchies and their own issues with it too, but on average it rewards you more based on merit over age. The structure is also such that you can still challenge colleagues and superiors more easily which I think is important for innovation and progress. In the investment business this is glaringly obvious, imagine being in a Japanese firm and some bright junior analyst disagrees with the portfolio manager but is too scared to voice his concerns because he’s your Senpai.
What do you think are the main differences between Japanese and foreign investors?
Generally speaking, I think the investment horizon is shorter for Japanese investors. Not that foreign investors don’t do this too but local investors are much more fixated on the next quarter. They have more of a trader mentality. You can even see this on FinTwit. For those that are unaware there is a huge Japanese FinTwit community and you see quite a few of them posting their daily returns!
Another point without sounding disrespectful was that because the public was so uninterested in the stock market, there is some room for improvement in ‘financial literacy’. For example, no one talks about EV/EBIT or EV/EBITDA multiples in Japan, and only P/E Ratio. The issue with this though is that many talk about the P/E and how it’s expensive without making some fair adjustments. Things like if the P/E is 25 times but actually half of that ‘P’ is cash the underlying business looks a lot cheaper. Also, J-GAAP requires you to amortize goodwill so the EPS may look lower versus actual cashflows. I have seldom seen many Japanese investors discuss ROIC. Only now I’m slowly starting to see more Japanese companies mention the term ROIC.
However, I don’t think you should dismiss them just because of that. I was initially ignorant too but what I found Japanese investors to be good at as a result of their shorter horizon is that the successful ones are extremely good at figuring out liquidity dynamics in a stock. Things like, where will there be forced sellers? Who would be the likely incremental buyers? Etc. Whilst the long-term-oriented foreign fundamental investors are confused by some of this volatility, the good locals know why. I also found that the top investors in Japan are very good at identifying catalysts for a stock and almost pinpointing the timing of it and positioning themselves accordingly.
What practical tips do you have for a U.S. investor looking to invest in Japan? Do you have a favorite broker? Are there any tax, liquidity, order execution, or other issues investors should consider?
This is going to sound pretty basic and simple but I’ve been asked about Japan by a few well-known investors. What I always tell them is to go visit Japan first and see it for yourself.
What I mean is that it’s almost impossible to conceive what life and business is like sitting in the US (the bright side is you have a work excuse to visit Japan!). I often hear the comment: “Why can’t this Japanese company be more like [enter US company].” We are humans that are subject to availability bias so I think it’s important to overcome that. There are so many quirks in life and business culture here that the easiest way to override it is to experience it firsthand. I try to convey these differences whenever I can to my readers.
I think it’s just that important to just go and meet a few companies both good and bad to really form a baseline of what really stands out. It’s easier to do this online nowadays as corporate Japan has embraced online meetings. It was harder pre-covid. Moreover, with more companies doing buybacks and dividends it’s even more important to talk to them – to see if they understand why they’re doing it and to get a better grip of if they’ll continue returning cash to shareholders. You’ll be amazed how many companies are only doing it because “everyone else is doing it” without really understanding why. It’s hard to get confidence from those ones if they’ll proactively continue to improve capital allocation. Or take a really good mid-term plan, sometimes talking to them makes you realize there is absolutely zero substance behind what they’re claiming to achieve.
One thing to watch out for is not to make yourself look too hostile. Japanese companies are hypersensitive to activists. This is a problem if you have no intention of being an activist but come off too aggressively in a meeting. They might make it more difficult for you to get a follow-up meeting. It’s sad but there is an unofficial blacklist of funds that companies believed to be activists and it just makes life harder to do due diligence.
This is a little more technical and short-term risk-focused but it’s worth checking the balance of stock bought on margin vs short interest. You can look this up for individual stocks on websites like IRBank.net — In Japan margin loans typically need to be paid back within 6 months which can cause short-term selling pressure if the balance of stocks bought on margin is too high versus the # of shares short. You can get weekly data so you can also see how it trends running up to the quarterly earnings to see how much expectations might be baked in. This can cause quite a bit of volatility.
I also have a useful resources page on my Substack as well in case you find that helpful in any way.
What are some of the first things you do when researching a potential investment? What does that first hour of research look like for you? Do you do anything that few others do?
It’s not very unique but one thing I check is the age of the person running the company. What I realized is that the older CEOs are a little too focused on the status quo. They are less incentivized to take risks and focus on preserving their legacy. Whereas the younger owner-operators are ambitious. They’re looking for a challenge to build their life’s work. The sweet spot is to find these businesses maybe 15-20 years in their journey. Usually, these operators are in the age range of mid-30s to late 50s.
There’s this other component I mentioned earlier which is that when the owner gets too old, this could lead to some issues upon his/her passing. In the short term, this could result in selling pressure if the stock is expensive and otherwise a catalyst if the stock looks cheap.
I also check for ownership structure. Sure high insider ownership is great, but not always in Japan. You have a lot of complacent family-run businesses that own a majority stake, but some have zero interest in listening to minority shareholders. It’s conversely interesting when there’s been a change here as well. If for instance, the founder passes away it leads them to sell a portion of their ownership to pay off the high inheritance tax. They will no longer own a majority and there could be a real strategic shift in the business in terms of how it’s run and how they allocate capital.