Japan’s financial markets – The (in)complete story

On Wednesday, I had the honor of participating in an Economist Conference panel titled “Japan’s financial markets: The whole story”.  I was one of four participants and was the speaker representing entrepreneurial interests that didn’t come from the finance industry.  During my opening remarks, I mentioned that I have personally been involved in at least a dozen financing mechanisms and would love to talk about them during the panel discussion.  Unfortunately, we did not have enough time yet several people expressed interest in hearing about the 12 points.  Therefore, I decided to put it up on blog.

Here is (my) list of financing methods that many entrepreneurs and start-ups go through.  Not everyone does every step but I have generally listed them in the general progression based on the maturity of the venture.

  1. The 3 F’s – Friends, Families and Fools
  • This is quite literally people who go to their parents, uncle, siblings and friends to “invest” money into your idea or concept.
  • Most people who invest at this stage really don’t expect much and mentally have tagged this money at the same level of going to Las Vegas.
  • Similarly, these people usually don’t get involved, sit on boards or provide feedback, oversight or other assistance.
  • Microfinancing
    • This type of loan is not usually found in developed countries but in a lot of developing countries.
    • It is primarily used in countries that don’t have established banking systems or where the amount of monies does not make sense economically for a bank to make.
    • Many of these loans are made to people in poverty who make less than a few dollars a day.
    • The most famous and one of the first is the Grammen Bank, founded by Nobel Laureate – Professor Muhammad Yunus.
  • The VC – This VC does not stand for “venture capital” but stands for the “Visa Card’
    • Popular in the United States, especially with college students since one of the first things you get are tons of credit card applications.
    • This is one of the key sources of the funding for my 1st company – highly not recommended.
  • Crowd funding – Soliciting funding from a group of people with similar interest or hobbies
    • This method of funding small projects is becoming popular.
    • Artists who want to create a CD recording, publish a book or even bottle wine can find a group of like minded people to purchase shares in the interest.
    • Typically the amount invested is between $500-1,000 and in some cases, the artist can raise up to $250K.
    • When the item gets published, the profits are distributed to the shareholders per their percentage stake.
    • In Japan, Music Securities is a good example of company who helps create this market between fund raisers and interested investors.
  • Research funding
    • In the US, agencies like DARPA provide research funding for very well defined project areas that have future Department of Defense related uses.
    • Many projects are broken up into stages and increasing level of funding are provide to lesser amount of selectees, thus focusing in on a specific issue.
    • In Japan, there are broad organizations that provide funding based on general themes.  Applicants are selected and provided funding usually for two years and funding can range from $50-500K per year.
    • The problem with this method is that once you get approved by one agency, its very easy to reuse the application and apply for another agency two years down the line and continuing this process forever.
    • Furthermore, since the themes/topics are overly broad, most anything may apply if the application is well written.  Finally, since there is no specific output goal/requirement, it is very hard to judge whether the final product is useful/valid.
  • Angel investor
    • This investor is just above the 3F’s in sophistication.  The money that this person invests is an order or two larger in magnitude than the total combined 3F’s.
    • This investor has also see other ventures or has started or succeeded as an entrepreneur in the past.
    • Therefore, this investor also tends to help entrepreneurs out in small matters and may also serve as a board member.
    • In Japan, only recently has the tax code changed (gotten a little better) to help faciliate the investments by Angel investors and the ability to write off losses fairly compared to the amount taxed on gains.
  • Bank loans
    • A straight bank loans to a venture company in any country (including Japan) is almost something unheard of.
    • In the U.S., you have institutions such as the Small Business Administration or SBA to help ventures.
      • The SBA does not make loans directly to small businesses but does help to educate and prepare the business owner to apply for a loan through a financial institution or bank. The SBA then acts as a guarantor on the bank loan
    • Similarly, in Japan, you two institutions at the country and local level that provide a similar kind of support.
      • Japan Finance Corporation – New business start-up support loan.  These need to be paid back within 5 years and provide 2x matching fund up to $720K.
      • Credit Guarantee Corporation of Tokyo (or other major cities)
      • In the (recent) past, these two institutions did not coordinate their lending so some ventures received loans from one entity and parlayed the 2x matching funds from the other.  In effect, it was possible to get close to $1M in loans with just $100K of seed money.
  • Strategic corporate investments
    • This type of money is probably the best kind for an up-and-coming venture.
    • It provides both needed capital, a strategic partner, potential customer/user of the product and name recognition.
    • The only negatives is that many companies don’t have systems in place to make venture investments.  Therefore, sometimes it takes a long time to get all the necessary approvals for an investment to take place.
    • Another potential negative is that when you align yourself to a particular company, depending on certain Keiretsu’s that still exist in Japan, you may not be able to sell to their competitors.
  • Venture capital
    • Unfortunately in Japan, I always say that Venture Capitals don’t exist here because they neither venture nor invest a lot of capital.
    • Many VC’s in Japan are extensions of banks and therefore are manned by people from the parent bank.  This usually means that:
    1. The people are usually on short term rotations (about two years) where they will eventually return to the main bank (especially in times of economic distress).
    2. They want to make the least mistakes (and hence decisions) as possible so that any investments they make won’t come to haunt them when they are climbing the corporate ladder back at the main bank.
    3. The people don’t have any practical and real venture or entrepreneurial experience and therefore do not add any other value (i.e., experience) to the venture beyond just capital
    4. The investments decisions are made based on metrics unrelated to the potential success of a company.
    5. Once VC’s invest, many just care about going IPO as quickly as possible.  Therefore, they do whatever it takes to go IPO but don’t help the company develop the plan AFTER IPO.  They forget that the “I” in IPO standards for “Initial” and end up making an IPO and end goal.
  • Government backed VC’s
    • Even worse than the typical VC since they have irreconcilable goals to meet.
    • Adding government bureaucrats into the decision making process only ends up hurting the entrepreneur.
  • Initial Public Offering (IPO)
    • Many people forget that IPO’s are used to raise funds through the public market in order to implement their next stage of growth.
    • Exit and cashing out using IPOs should not be the primary goal.
    • Many companies (especially in Japan) are not meant to go public and don’t have the critical mass (i.e., revenues) to sustain it.  Some do it for the sex appeal but cannot sustain the various regulations, overhead and growht requirements.
  • Private Equity (PE) Firms
    • PE firms have had a bad rap in Japan (and the world) by giving the impression that outsiders will come in and disrupt the harmony of a Japanese company for the pure motive of financial gain.  While this is true in the case of some well publicized hostile take overs, there are many situations where the company themselves call on the PE firms for assistance.
    • Unfortunately, many Japanese companies, after they have gone public, use PE firms to further leverage for the wrong reasons.
    • Once the company leverages, many of the follow through issues were either not thought up ahead of time and/or weren’t implemented correctly.
    • Given the over leveraged nature of the company, they are forced to take drastic measures which usually have them ending up in a worse state.

    Anyway, these are based on some personal experiences working in getting financing for ventures and post ventures.  This is by no means a complete list and the opinions are just generalities and not absolutes.  I am VERY interested in receiving other people’s comments and to add them here. Hopefully, making this a convenient resource for all those entrepreneurs and ventures who are looking to raise money.

    Posted by whsaito

    1. I would love to write and say what a great job you did on this, as you have put a lot of work into it.

      – Ashly FABER


    2. What i find difficult is to discover a blog that may capture me for a minute however your weblog is different. Bravo.


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    William H. Saito