Japan Inc.'s Real Estate Binge, Part II

Instead of raising dividends, corporations are buying property. Sound familiar?

Cotton Harbor Towers is a potent symbol of the revival of Japan. Rising on the site of a former shipyard along Tokyo Bay in Yokohama, the project includes four towers with 920 expensive condos, a supermarket, a nursery school, and a medical clinic. Investors in the $381 million project include Mitsubishi Estate Co. and Nomura Real Estate.

But the single biggest investor is not a property company. It's JFE Holdings Inc. (JFEEF ), a leading steelmaker. And JFE is not alone. It's just one of many Japanese companies that have developed a new taste for real estate. The property units of Nippon Steel Corp. and Oji Paper Co. jointly set up a $476 million real estate investment trust on Oct. 22 to invest in condos and commercial sites. Diamond City Co., a unit of retailer Aeon Group, is buying the site of a closed Nissan plant outside Tokyo for $118 million. Digital-camera powerhouse Canon Inc. (CAJ ) has gobbled up $526 million worth of property in the past two years. CEO Fujio Mitarai told Japanese media earlier this year his company was intent on purchasing real estate "on an unprecedented scale."

Industrial companies' lust for property might be good news for the long-depressed Japanese real estate market. But it is nevertheless a lamentable trend. First of all, it's a reversal of an admirable development: Japanese companies restructuring themselves by shedding noncore assets, paying off debt, and focusing on their main businesses. Second, such investment is risky, since Japan still has a surplus of office space and high-end housing. Finally, it's unfair to shareholders, who have every reason to expect that when companies have extra cash they will distribute it to investors through dividend increases and share buybacks.

Indeed, the rush into real estate is driven by a glut of corporate cash. Goldman, Sachs & Co. (GS ) expects pretax profit growth for Japan's biggest public companies to hit 20% for the fiscal year ending next March. Nikko Citigroup Ltd. notes that nonfinance companies' free-cash-flow surplus rose 32%, to $157 billion, for the year ended in March, and is expected to rise as much as 10% more this year. But investors will see little of that money. "Dividend payout ratios [the percentage of earnings handed out in dividends] are at all-time lows," says Alexander Kinmont, Nikko Citigroup's strategist in Tokyo. The ratio, he says, is 18% in Japan, compared with 50% in the U.S. "Japanese managers apparently don't give a fig about their companies' shareholders," says Kinmont.

Instead, some of the money that might have gone to shareholders is going into real estate, proving that Japan's corporate leaders have short memories. Japanese corporations have traditionally been big land buyers, in part because land could be leveraged for access to cheap capital from banks. But Japan Inc.'s landholdings brought disaster in the late 1980s, when the property bubble popped, prices collapsed, and borrowers ended up with loan balances far bigger than the value of the deflated real estate used as collateral.

Aggregate numbers on the most recent corporate land purchases are hard to come by. But the Japanese Finance Ministry's most recent quarterly survey of total assets held by nonfinancial companies -- including land and cash -- climbed 3.7% in the April-June period, to $11.8 trillion. That marked the second consecutive quarter of year-on-year growth and the biggest rate of increase in seven years.

Even given Japan's overall economic recovery, investing in real estate remains a gamble. True, property prices, which have fallen for 13 consecutive years, appear to have bottomed out. Land and building prices are increasing this year in Japan's six biggest cities for the first time since 1991, according to Goldman Sachs. But the turnaround is too fragile to justify any big bets. Japan's corporate captains should stop playing Monopoly and do the right thing -- give Japan's long-suffering shareholders a break by sharing the wealth.

By Chester Dawson

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