Hard road for Softbank - challenges faced by Internet giant - Brief Article

Business Asia, April 14, 2000 by Miki Shimogori

Is Japanese Internet darling Softbank starting to lose it lustre? MIKI SHIMOGORI says analysts are starting to question the company's strategy

Softbank Corp, the Japanese giant whose share price has plunged more than 50 per cent in six weeks, may face a bumpy road ahead, with doubts growing over its Internet "zaibatsu" strategy.

Investors are now taking another look at the true valuation of the high-flying Internet investment company, which has expanded its business aggressively on the back of hefty unrealised gains from stakes held in more than 300 web firms.

Shares in Softbank -- a core Internet stock -- have taken a steep dive of 51 per cent from a mid-February peak of 198,000 yen (US$1873) to 96,500 recently. The downward correction followed a stunning 30-fold rally since the start of 1999.

The Internet "zaibatsu" strategy was revealed last year by Softbank president Masayoshi Son, who wants to create a Web empire by investing in burgeoning dot-com firms with the aim of making its affiliates the number one company in every 'Net niche.

Softbank has thus extended its reach into more than 300 Web-based firms such as Yahoo! Inc and E*Trade Group, while taking the lead in the planned June launch of Nasdaq Japan -- a sister version of the US hi-tech exchange.

On the back of hefty gains in the stakes held in other firms -- totalling some five trillion yen in listed firms alone -- Softbank has become one of Japan's top five companies by market capitalisation, with a current value of more than 10 trillion yen.

Its strategy, however, may be coming closer to a turning point, with investors taking another look at the true health of the high-flying Internet investor.

Analysts said that the Internet "zaibatsu" strategy may not work in coming years, with more Japanese blue-chip firms jumping on the bandwagon to go on-line, helping diminish Softbank's previous role as a mediator in cyberspace.

"It's hard to imagine Softbank can compete with existing big firms like Sony Corp in their specialised area," said Makoto Ueno, an industry analyst at Daiwa Institute of Research. "The world of the Internet is open to anybody, so firms can go on-line without relying on Softbank any longer."

Ueno said only part of Softbank's "zaibatsu" strategy would work. He cited media services based on Yahoo's Internet portal, and its financial service business led by Softbank chief financial officer Yoshitaka Kitao. Each has established a business model that can generate profit, Ueno said.

Some industry officials argue that Softbank's strategy of building up its own Internet "zaibatsu' -- the huge industrial conglomerates that dominated Japan's economy for a century until the end of World War II -- looks similar to what Japanese banks did during the "bubble era" of the 1980s.

On the back of hefty unrealised profits in their property and stock holdings, Japanese banks boosted their global operations, thinking the expansion could last forever. But the bubble burst in the 1990s, leaving massive problem loans.

"There is incredible similarity between the Internet and real estate. The similarity is that cyberspace is actually real estate," said Nikko Salomon Smith Barney analyst Thomas Rodes.

Rodes said real estate should derive its value from what sits on top of the land, and whether it generates cash.

"So the question we need to ask about Softbank, which owns very important real estate, is which companies are going to produce cash. We know Yahoo will, but we have a bit of a cautious view on E*Trade," he said.

Some are concerned about possible conflicts of interest between Softbank's strategy and its role as a venture capitalist. To be a successful venture capitalist, Softbank needs to ensure a profitable exit from ventures in which it invests, but as long as it wants to keep ties for the sake of its Internet empire, it cannot Sell much of its holdings to generate gains.

"I think that the bottom line is they need to settle once and for all whether they are a fund or an operating company, because they are caught somewhere between," said Nikko's Rodes.

Analysts said the company's after-tax valuation suggests its shares should be supported at around 70,000 yen, with their upside limited to around 130,000.

Softbank's lustre as a fund has not dimmed just yet, with global investors eager to have exposure to the Internet. It is still the easiest, liquid way to invest in the Internet.

Analysts said there is a high chance that Softbank will be forced to focus more on cash flow.