Labor Trends Create Massive Headwinds for Japanese Firms

Bill is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Value investors have to be skeptical in order to avoid value traps. Unfortunately, the low price multiples of Japanese stocks are bait that can lure unsuspecting foreigners into a terrible situation.

Value investors should be cautious about Japan given its demographic challenges and imploding tech sector. They should be picky about selecting a few Japanese stocks that represent extreme value.

Japanese Talent Avoids Tech

Japanese technology companies are failing to recruit the most talented graduates, and as a result may become less competitive because they are not developing their human capital. Much of this trend is based on current Japanese perceptions of technology firms being more dangerous than food and agriculture industries.

Many recent graduates prefer to work in the dairy industry to make ice cream and yogurt over working for Sony (NYSE: SNE) or Panasonic (NASDAQOTH: PCRFY). Meiji Holdings, a Tokyo based dairy maker, has emerged as a favored employer among students in the current annual employment drive. In the past, Samsung (SSNLF) and Apple (NASDAQ: AAPL) were the favored employers, but now that they are losing out on new hires, it means that they are losing out on engineers and scientists who would have potentially made new products that could have the potential to revive their brands. If Japanese tech companies are unable to find new talent, the gap between Japanese companies and their global competitors may widen. Apple's patent lawsuit loss to Samsung doesn't help the company's image in Japan either. 

Apple is seeing increasing pressure stemming from recent comments from Deutsche Bank's Japan team. According to a recent report, "results of sales to end-2012 have not been as strong as expected. In addition, the firm said value chain movements suggests a QoQ decrease of more than 30% for 1Q 2013 to respective figures of 28 to 30 million and 25 to 27 million, on a finished and major device basis, for the iPhone 5. The only product they expect to continue favorably is the iPad Mini."

Sharp is in an even tougher position in Japan. Shige Watanabe, an electronics shop owner in the Japanese town of Yaita, says that things are much different for the electronics giant today. 

"It was solid cars on the roads. The factories ran full steam, constantly," he says, standing in front of the electronics shop he has run for 30 years in the Japanese town of Yaita. A car occasionally cruises by his shop window, packed with Aquos TVs and other Sharp appliances, but the giant Sharp plant across the street is still, its windows dark on a quiet Friday afternoon." Though it is still one of the world's largest makers of LCD panels and displays, Sharp is on the brink of insolvency as its prices are repeatedly undercut by foreign rivals. 

Two out of three science graduates who are entering the job market in Japan prefer food manufacturers as potential employers. Meiji has emerged as the most preferred employer in a survey of 16,451 students in the three months ended February. The second most preferred company was Toshiba, a company that makes products that range from the personal computer to nuclear reactors. The third most preferred employer was Kagome.

Food industry careers are considered to be more stable than technology careers. Science students want to build a career at a stable company so that they can work as researchers in the company for a long period of time. In Japan, it is common practice for students to accept a job offer six months prior to graduation, with the hope of staying with that employer until retirement. The consumer electronics industry is seen as unstable and volatile. This has made the industry’s employers unattractive to the current science graduates who put a premium on stability.

Meiji traces its history to 1906 and has been profitable since its creation by way of a merger in 2009. The company is based in Tokyo and has hired 8% more labor force since 2010. The company is receiving a large number of applications in the current season.

Bulgaria Yogurt, the maker of Aya ice cream is also hiring scientists and researchers for its plants as well as for research and development. The company is also in the business of making veterinary drugs, pharmaceuticals as well as agricultural chemicals.

Panasonic, Sony and Sharp (NASDAQOTH: SHCAY) are shrinking their labor force and are hiring fewer young people. As these companies recover from massive losses they have announced job cuts of 29,800 jobs. Sony used to hire 1,000 people from universities every year, now plans to hire only 180 people. This is a 35% drop in the hiring rate as compared to the year earlier and also, the lowest since 1990. The number of engineers that are hired would also drop from 205 earlier to 150 this year. Students do not view Sony as a secure employer.

Panasonic is holding seminars at its offices and campuses in order to attract applications from talented students. It plans to hire 350 people next year, from universities. In 1992, it hired 1,400 people. Vice Chairman of Panasonic, Masayuki Matsushita has mentioned that even though the company faces difficulties today, it is not going to continue to decline and that joining the company could be an opportunity for a new graduate to succeed. Sharp has said that there is doubt about its ability to survive. It plans to hire 130 people but hired 240 last year.

In contrast, Samsung does not make public its hiring practices but plans to hire 9,000 graduates from universities this year.

Japan’s tech sector is suffering in a very public way. Suppliers, and potential employees are steering clear. Their reluctance to work with these companies will only hurt these firms in the future.

Discounts to Book Value

Clearly, Japanese firms—especially technology firm—suffer incredible headwinds. As investors, we have to determine if they are trading at low enough valuations to compensate us for this risk. Many Japanese stocks have attractive price-to-book ratios:

<table> <tbody> <tr> <td> <p><strong><span>Ticker</span></strong></p> </td> <td> <p><strong><span>Company</span></strong></p> </td> <td> <p><strong><span>Industry</span></strong></p> </td> <td> <p><strong><span>P/E</span></strong></p> </td> <td> <p><strong><span>P/S</span></strong></p> </td> <td> <p><strong><span>P/B</span></strong></p> </td> </tr> <tr> <td> <p><span>SNE</span></p> </td> <td> <p><span>Sony</span></p> </td> <td> <p><span>Electronic Equipment</span></p> </td> <td> <p><span>NA</span></p> </td> <td> <p><span>0.15</span></p> </td> <td> <p><span>0.51</span></p> </td> </tr> <tr> <td> <p><span>NTT</span></p> </td> <td> <p><span>Nippon Telegraph & Telephone</span></p> </td> <td> <p><span>Telecom Services - Foreign</span></p> </td> <td> <p><span>9.63</span></p> </td> <td> <p><span>0.45</span></p> </td> <td> <p><span>0.54</span></p> </td> </tr> <tr> <td> <p><span>NMR</span></p> </td> <td> <p><span>Nomura</span><span> Holdings</span></p> </td> <td> <p><span>Investment Brokerage - National</span></p> </td> <td> <p><span>42.57</span></p> </td> <td> <p><span>1.01</span></p> </td> <td> <p><span>0.9</span></p> </td> </tr> <tr> <td> <p><span>MTU</span></p> </td> <td> <p><span>Mitsubishi </span><span>UFJ</span><span> Financial</span></p> </td> <td> <p><span>Money Center Banks</span></p> </td> <td> <p><span>137.5</span></p> </td> <td> <p><span>2.56</span></p> </td> <td> <p><span>0.79</span></p> </td> </tr> <tr> <td> <p><span>IX</span></p> </td> <td> <p><span>ORIX</span></p> </td> <td> <p><span>Credit Services</span></p> </td> <td> <p><span>12.76</span></p> </td> <td> <p><span>1.07</span></p> </td> <td> <p><span>0.74</span></p> </td> </tr> <tr> <td> <p><span>MFG</span></p> </td> <td> <p><span>Mizuho Financial</span></p> </td> <td> <p><span>Foreign Regional Banks</span></p> </td> <td> <p><span>5.89</span></p> </td> <td> <p><span>2.68</span></p> </td> <td> <p><span>0.84</span></p> </td> </tr> <tr> <td> <p><span>SMFG</span></p> </td> <td> <p><span>Sumitomo Mitsui Financial</span></p> </td> <td> <p><span>Foreign Regional Banks</span></p> </td> <td> <p><span>10.15</span></p> </td> <td> <p><span>2.74</span></p> </td> <td> <p><span>0.83</span></p> </td> </tr> <tr> <td> <p><span>PC</span></p> </td> <td> <p><span>Panasonic</span></p> </td> <td> <p><span>Electronic Equipment</span></p> </td> <td> <p><span>NA</span></p> </td> <td> <p><span>0.17</span></p> </td> <td> <p><span>1.04</span></p> </td> </tr> <tr> <td> <p><span>MITSY</span></p> </td> <td> <p><span>Mitsui & Co.</span></p> </td> <td> <p><span>Conglomerates</span></p> </td> <td> <p><span>6.84</span></p> </td> <td> <p><span>0.51</span></p> </td> <td> <p><span>1</span></p> </td> </tr> <tr> <td> <p><span>KYO</span></p> </td> <td> <p><span>Kyocera</span></p> </td> <td> <p><span>Diversified Electronics</span></p> </td> <td> <p><span>25.15</span></p> </td> <td> <p><span>1.27</span></p> </td> <td> <p><span>0.96</span></p> </td> </tr> <tr> <td> <p><span>DCM</span></p> </td> <td> <p><span>NTT </span><span>DOCOMO</span></p> </td> <td> <p><span>Telecom Services - Foreign</span></p> </td> <td> <p><span>11.52</span></p> </td> <td> <p><span>1.26</span></p> </td> <td> <p><span>0.97</span></p> </td> </tr> <tr> <td> <p><span>TM</span></p> </td> <td> <p><span>Toyota Motor</span></p> </td> <td> <p><span>Auto Manufacturers - Major</span></p> </td> <td> <p><span>17.67</span></p> </td> <td> <p><span>0.67</span></p> </td> <td> <p><span>1.21</span></p> </td> </tr> <tr> <td> <p><span>HMC</span></p> </td> <td> <p><span>Honda Motor</span></p> </td> <td> <p><span>Auto Manufacturers - Major</span></p> </td> <td> <p><span>17.56</span></p> </td> <td> <p><span>0.65</span></p> </td> <td> <p><span>1.3</span></p> </td> </tr> <tr> <td> <p><span>KNM</span></p> </td> <td> <p><span>Konami</span></p> </td> <td> <p><span>Multimedia & Graphics Software</span></p> </td> <td> <p><span>14.2</span></p> </td> <td> <p><span>1.09</span></p> </td> <td> <p><span>1.18</span></p> </td> </tr> <tr> <td> <p><span>NSANY</span></p> </td> <td> <p><span>Nissan Motor</span></p> </td> <td> <p><span>Auto Manufacturers - Major</span></p> </td> <td> <p><span>NA</span></p> </td> <td> <p><span>NA</span></p> </td> <td> <p><span>1.4</span></p> </td> </tr> <tr> <td> <p><span>CAJ</span></p> </td> <td> <p><span>Canon</span></p> </td> <td> <p><span>Photographic Equipment & Supplies</span></p> </td> <td> <p><span>17.84</span></p> </td> <td> <p><span>1.29</span></p> </td> <td> <p><span>1.57</span></p> </td> </tr> <tr> <td> <p><span>MKTAY</span></p> </td> <td> <p><span>Makita</span></p> </td> <td> <p><span>Small Tools & Accessories</span></p> </td> <td> <p><span>17.55</span></p> </td> <td> <p><span>1.92</span></p> </td> <td> <p><span>1.7</span></p> </td> </tr> <tr> <td> <p><span>KUB</span></p> </td> <td> <p><span>Kubota</span></p> </td> <td> <p><span>Diversified Machinery</span></p> </td> <td> <p><span>20.96</span></p> </td> <td> <p><span>1.26</span></p> </td> <td> <p><span>1.87</span></p> </td> </tr> <tr> <td> <p><span>NJ</span></p> </td> <td> <p><span>Nidec</span></p> </td> <td> <p><span>Industrial Electrical Equipment</span></p> </td> <td> <p><span>14.04</span></p> </td> <td> <p><span>1.1</span></p> </td> <td> <p><span>1.95</span></p> </td> </tr> </tbody> </table>

The only stocks that offer enough of a bargain to ignore Japan’s headwinds are Sony and NTT (NYSE: DCM). They each trade at about a 50% discount to book value, and they are trading well below their industry peers in other countries. Value investors should research these companies further.

Investors should steer clear of the other Japanese firms on this list. They either are not trading at a substantial discount to book value or are financial companies which are not trading at a discount relative to their U.S. counterparts.

BillEdson11 has no position in any stocks mentioned. The Motley Fool recommends Apple. The Motley Fool owns shares of Apple. The Motley Fool is short Sony (ADR). Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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