How Merrill Lost Its Way in Japan

Wall Street powerhouses have long had designs on Japan's fabled $10 trillion-plus in household savings. None more so than Merrill Lynch & Co. (MER ), which in 1998 snapped up Japan's fourth-biggest broker, the failed Yamaichi Securities Co. It was billed as a breakthrough foreign takeover that would pull Japanese finance out of the dark ages. The goal, Merrill Japan Chairman Hisashi Moriya intoned at the time, was to become "Japan's most trusted broker."

The idea was that Merrill's pedigree would wow Japanese investors. After all, local houses like Yamaichi and Nomura Securities Co. churned and burned accounts, levied larcenous commissions, and generally treated investors badly. Merrill, via a reformed Yamaichi, would fix all that with U.S.-style compliance training, a global menu of mutual funds, and sage financial planning. Its first major ad campaign said it all: "Merrill Lynch--Somebody You Can Talk To."

Once it won their confidence, Merrill would have access to a deep pool of Japanese investors that would help the firm sell off big chunks of initial public offerings underwritten by its investment-banking arm. In other words, the retail strategy was key to stoking Merrill's more lucrative business underwriting stocks and bonds and offering financial advice and strategies for its blue-chip corporate clients in Japan.

Instead, the venture, Merrill Lynch Japan Securities, turned into a money pit. Although it attracted a respectable $14 billion in assets, the retail unit has also devoured estimated startup costs of $200 million, plus cumulative losses of at least twice that over three years. Now much of the venture is likely to be shut down.

What went wrong? Plenty. Merrill essentially made a bet that Japan would soon see the emergence of a broad-based investing culture similar to that of Europe, if not the U.S. Yet individual investors in Japan still account for only 6% of the stock market. Thanks to economic uncertainty and a decade-long bear market, some 70% of household savings are parked in bank accounts or Japan's state-run postal savings system.

WARM AND FUZZY. Not even existing Yamaichi clients were impressed by Merrill's Wall Street pedigree. Instead, they recalled that a mismanaged Yamaichi misled clients about its financial health for months and went belly-up in late 1997. No amount of warm, fuzzy marketing could change that perception.

It also didn't help that Merrill bore the costs of retraining some 2,000 ex-Yamaichi employees to balance their obsession with transaction volumes--and commissions--with quaint ideas like trying to invest a client's money wisely. A Merrill spokesperson in Japan--top executives declined to talk--says the broker still expects to break even at the end of 2002.

True, there is a niche of wealthy and sophisticated Japanese investors, but not enough to justify the brick-and-mortar investment that Merrill took on. Fidelity Investments distributes its funds via banks and brokers. Citibank peddles its financial wares through its existing retail bank network and online. Meanwhile, with Merrill's imminent retreat, Japan's trillions in uninvested cash remain a tantalizing prize for the next Wall Street titan ready to try its luck.

By Brian Bremner in Tokyo

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