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Livedoor’s run-in with the authorities January 18, 2006

Posted by fukumimi in general, Japan.
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Joi Ito on the Livedoor bust:

http://joi.ito.com/archives/2006/01/17/live_door_raided_last_night.html

Is Joi Ito claiming this was a “set-up”, in that the Livedoor management did not engage in activities contrary to securities laws? I think we would all like to see you back up that claim. I would agree the company was targetted by prosecutors, but if you draw attention to yourself in the vulgar manner that he did, and pick fights with the establishment, you are inviting the establishment to attempt to teach you a lesson.

The fact that Livedoor happened to position itself as a counterpoint to the establishment (more for financial, political and PR advantage than by the fact that it _really_ walked the walk of a better model of Japanese business – more like it aped the less appealing facets of US-style fundamentalist market capitalism as embodied by the dot.com fraudsters and others like Enron, Worldcom and a long list of other companies (thankfully considered passe by real progressive businesses) should not and cannot excuse breaking the law and attempting to manipulate the market.

Japanese prosecutors don’t do raids of public listed companies involving a dozen locations and a couple of hundred staff in front of TV cameras unless they are 99.9% sure that they can get a prosecution, so the couple of charges that were used to get the warrants (which indeed is a relatively difficult task in the Japanese system, which usually means the media and the suspected parties often get a head start) will surely stick. But the real goal is to unearth evidence of other criminal activities, directly involving the mothership (ie Livedoor, rather than Livedoor Marketing), and there are already reports that there is a strong suspicion on further counts (which were probably heavily suspected as well)

If Horie and company were really about creating a new and better business environment in Japan, they would not have engaged in trying to play the market  in the same fashion as countless “old Japan” companies have done. Further, the money-above-all-else style of business smacks of either Reagan/Thatcher or dot.com eras, and is hardly the model of progressive business strategy (although one might argue the dark ages have to be traversed before we reach the age of enlightenment). Surely new Japan has to be as much about legal compliance, corporate social responsibility and an adherence to ethical values
as it is about taking on parts of the establishment which require an overhaul and adopting more globally competitive practices.

Fraud on the scale which is being suggested needs to be dealt with in the harshest terms, and we need prosecutors (and judges) taking a hardline stance against white collar crime of this sort.

The maximum sentence for the breach of the securities code in question is a measly 5 years and the maximum fine an absolutely shocking \30M ($340k or thereabouts?). There are no doubt other companies who are engaged in similar activity, and ideally this case would be the tip of the iceberg, but somehow I suspect this will just be one (or a small number of) public execution(s) for show, and others will be allowed to go unpunished _as long as they don’t get any ideas about challenging authority_.

I fully agree that the establishment is well overdue for an overhaul, but g-d help us if Horiemon and his cohorts were our best bet.

Let’s face the facts, Livedoor may have been a pioneer of high profile aggressive business practices on a large scale, but it was hardly a innovative internet services company. Indeed, the lack of revenue from its portal business should give you a clear indication that the whole thing was just a big M&A play, with Livedoor adding little value to its acquisitions beyond its high profile brandname (and even that brandname was a double edged sword due to the inability of Horiemon to stay out of the media circus)

PS There were rumours in December that prosecutors were gearing up for a high profile hit. At the top of the list of prospects were apparently Livedoor and a high profile domestic PE fund who has been known to have dealings with Livedoor, both of whom have been bothering the establishment. Additionally, there are persistent rumours that the date of the raid was chosen to deflect attention from the Huser hearing in the Diet which the LDP probably suspected would lead to negative publicity for the ruling party and some prominent members (on the 16th there were reports that Shinzo Abe, the front runner for to replace Koizumi when he steps down in Sept, may be implicated in some way and Kosuke Ito who has prominently been linked to Huser is a faithful Koizumi soldier).

One bit of good news coming from this ordeal which has hit the markets hard this last couple of days. We won’t be seeing Horiemon anytime soon on TV outside the news, and his plans to release a CD of a band comprised of himself and some associates is likely to be shelved.

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Comments»

1. Chris_B - January 24, 2006

Please remember that money above all else is not limited to “Reagan/Thatcher” or “dot com” business models. The same practices exist here and have for all of history. By choosing to frame your statement in Western business terms you seem to imply a form of moral superiority in a domestic business model. I recognize the value of soft/social capitalism, but lets not pretend that is the hard rule here.

The history of Japanese capitalism also includes the kuromaku, sokaiya, sarakin and even reputable shoken gaisha which have been caught out in pump & dump schemes, market manipulation etc and gotten away without punishment. Where were the caring domestic companies when Yamaichi Securities was hollowed out from the inside by the executives? As I recall it was a western investment bank that hired all the suddenly unemplyed traders and back office employees. My point is only that the pendulum swings both ways.

(As I type this an Acom ad plays on my TV)

2. fukumimi - January 24, 2006

Point(s) taken. I did not mean for my comments to come across as an argument of cultural superiority or as an assignement of the moral bankrupcy of certain Japanesebusinesses and institutions to anglo-saxon values per se.
My reference to the Reagan/Thatcher brand of market fundamentalism and the dot.com era which saw a resurgence of rather dubious business practices in a similar vein was a (admittedly rather oblique) reference to the fact that many (not all, but very many) Japanese IT and internet venture companies which sprang up in the Japanese dot.com boom did/do not have much of a trackrecord of real innovation, rather they rip off (for want of a better phrase) ideas from the real innovators in the US (and to a lesser extent, other geographies). Livedoor was as guilty of this type of business as anyone else.

I see more similarities between Livedoor’s M&A modus operandi in recent events and historical precendents overseas, compared to domestic precedents. That was the (only) frame of reference within which the references to Reagan/Thatcher and dot.com eras are intended to refer.

I would further suggest that the US markets (or some of them at least) have in modern history consistenly been and are at the forefront in trying to define an improved model of market capitalism. The fact that the US has been home to some of the biggest scandals is an unfortunate by-product of it being one of the most innovative in pushing the envelope of market economics. When the envelope is being pushed, there will unfortunately be people who try to look for ways to cheat the system. But the same effort to explore new boundaries is what makes the US the sole financial superpower. As you say, the pendulum swings both ways. Japan is not at the leading edge of defining this evolution. Therefore, its legislators and regulators have much less of an excuse of getting caught unprepared. Let me say for the record, a lot of this could have been prevented if these bureaucrats were not asleep at the wheel (as they are almost all the time).

I see parallels between their IT business strategy (for what that’s worth, given the reality of Livedoor’s business portfolio) and what I perceive as their attempt to bring the aggressive M&A tactics employed by companies in overseas geographies (where these tactics are permitted) into Japan. When it comes down to it, Livedoor isn’t in trouble for its “innovative” M&A tactics, rather for more mundane details. But I get a sense that Horie (who has in the past repeatedly like to say that he is not Japanese but a global citizen) has looked towards the US for inspiration, as is the norm in the Japanese IT community. It is a shame that he decided he would ape less noble examples of business practices (which are borderless and have domestic examples granted, but I suspect he was more familiar with Worldcom and Enron than Shiseido given that he boasts he does not read the Japanese newspapers) as well.

I just feel a repeated sense of deja vu with Livedoor, as I can clearly point to similar precedents overseas for almost everything it does, which further reinforces my feeling that the company wasn’t very innovative at all.

PS As far as the Yamaichi employees are concerned, yes, it was ML who picked up a whole bunch of them. But let’s not kid ourselves to believe it was some selfless act of charity. ML was looking to build out its retail securities business (and was in negotiations with Yamaichi before the collapse). It hired several thousand ex-Yamaichi employees. But virtually none over the age of 35. I’m sure you are familiar with the Japanese job market and the significance of that age.

3. Chris_B - January 25, 2006

Being 37 and working for a large Japanese company myself, yes that number is special to me ^ _^

I did not mean to say that ML was acting out of altruism, but they gained twofold, one by snatching up retail skills, two by generating good PR locally. I think no local shoken gaisha would have even thought of that move given the soto/uchi mentality so prevalent in the corporate world here.

It would be easier if everyone admitted Livedoor is a holding company instead of calling them an IT company. How many IT companies have a division selling used cars? As far as the sloppy corporate ethics goes, imagine the consequences of something like SOX being passed here? Of course it will never happen, but if CEOs here had some motivation to enforce ethical accounting things would be alot different. Some genuine shareholder activism besides the childish cries for compensation of the Fuji TV president would also be a breath of fresh air.

Speaking of which, what are your thoughts on the shareholder compensation fund that is supposed to be setup with the money from the TSE’s JCOM bungle? Seems to me like the idea creates a moral hazzard which in turn will encourage more uneducated investment and thus worsen the TSE’s woes by creating more trading volume and probably increasing the chances of a similar incident in the future.

4. fukumimi - February 6, 2006

I know a few ex-Yamaichi guys, those that were able to get on-board at ML seemed to do pretty well, although none are with ML now…. (Interestingly, one is at Shinsei Bank, another spectacular domestic clusterf*ck risen from the ashes through adoption of good non-traditional practices no doubt encouraged by the US concerns who have guided it since its acquisition. Regardless of the “vulture fund” tag xenophobic Japanese commentators like to assign, it is clear that Shinsei is doing a real good job of satisfying its customers. The rather iffy circumstances in which Shinsei was acquired by said fund is another matter)

Regarding SOX, I’m not sure if that is even needed in the US. Seems to me, all the big scandals have been/are being addressed adequately with pre-SOX laws. The auditors and IT firms and consultants are happy no doubt, though. The fact is (as you are aware), in Japan, the regulations and their enforcement are so sloppy, if an effort was made to make regulations enforceable (by spelling things out and making clear cut rules regarding what is and is not ok) and actually enforce them, that would make a huge amount of difference.

Although not a fan of the US legal culture, I would defintely be in favour for reviewing penalties for various crimes. The financial penalties are out of date (legislators either not having the foresight to tracking these penalties to inflation or some other metric) and the custodial sentences are also way too lenient compared to other nations for a whole host of crimes. It does stem from the basic view of prisons as correctional facilities rather than centers for punishment, but I am not sure what the problem is for giving rapists life sentences, and putting all molestors who prey on women and especially children on a sex offenders register and electronically tagging them and prohibiting them from commuting in overcrowded trains.

Regarding the fund that is being set up in the aftermath of the JCOM fiasco, it is only being applied to Japan Securities Dealers Association members who are being asked to return the profits they made as a result of the TSE’s errors. It appears the stockbrokers who will forego their profits will get a tax credit. So it seems to a certain extent taxpayers will be the victims of the TSE’s incompetence as a result of the diminished corporate tax revenues. Sure seems like a raw deal for us little people.
I don’t see why the TSE could not have handled the whole affair differently (although the fact is that they have proved themselves to be incompetent on multiple occasions in the past, so I guess we cannot be too suprised). Why did they not suspend trading on affected stocks immediately to limit damage? Surely they have a mechanism in place which allows them to suspend trading on individual stocks? Clearly they have limited imagination when it comes to disaster planning scenarios, and one of the main causes of this fiasco was that their systems did not function as designed, so it would seem the TSE (and its system integrator (Fujitsu)) should be picking up the tab in any case, alongside any costs that Mizuho should bear for its own incompetence which triggered the affair off in the first place.

Individual investors are not affected, in that they will continue to be responsible for their own mistakes. Sure seems like a double standard.

Regarding your point about the potential moral hazard, within the limited context of registered dealers, the existence of the fund may make the employees less uncomfortable about making mistakes. However, if such mistakes are made, firms will inevitably lose some money because there are plenty of individual investors waiting to pounce on such mistakes who do not feel obliged to return profits made on some firm’s mistakes. The existence of the fund will limit but will not eliminate financial loss in the occurence of a mistake. In any case, corporations should be making sure they are not using systems and processes which allow mistakes of such magnitude to occur in the first place……


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