In the 1950s and 1960s Japan was perceived by American and other investors as a loser of wars, an industrial backwater and a small market. Clearly its reputation was low, making trivial low-cost products; made in Japan meant low quality. People dismissed the Japanese as never having the potential to lead on research or quality.
Templeton had studied the Japanese character and business practices since the 1940s. He knew far more than most. His observations were that the Japanese people were tremendously hard working and they saved to invest in future prosperity.
Out of every yen earned one-quarter was saved, compared with the typical US saving rate of around 5%. Japanese thrift enabled them to invest in more plant and machinery.
There was also a sense of solidarity between companies and their employees; they considered it a privilege to work for a fine company. And they admired business leaders.
In the decade following the devastation of the Second World War Japan had already become an industrial producer on a big scale, focusing particularly on heavy equipment and machinery.
Starting in the early 1950s Templeton invested much of his personal savings in the country but was unable to put client funds into Japanese shares because of the strict exchange controls restricting withdrawal of money from the country: you could put money in, but you could not take it out. Templeton thought that the government would continue to liberalise the economy and eventually allow foreign investment to flow. When he was proved right in 1968, he was ready, and immediately invested client funds.
Japanese shares were trading at an average of only four times Templeton’s estimate of annual earnings, whereas US stocks were trading at 19.5 times.
Other investors were put off by extreme price fluctuations and a lack of information on the underlying companies. They clung tenaciously to their generally downbeat view of Japan.
But Templeton found so many bargains that the Templeton Growth Fund, TGF, never paid more than three times earnings, even for the best companies.
Soon 50% of TGF was in Japanese shares. He was criticised for (a) buying in Japan, and (b) devoting such a high proportion of the fund to Japan. His reply to which was that was where the bargains were to be found.
Principle: follow the bargains not the crowd
Accounting and legal complexity present an opportunity
Other investors avoided Japanese shares because of the complexity of the accounting and legal rules.
Japanese companies did not report consolidated income numbers. So, if a subsidiary earns $1,000,000, but hands over only $150,000 to the parent company, the unaware investor may think that the company parent has an interest in only $150,000 of its subsidiary’s earnings.
In reality, if it owns 60 per cent of the subsidiary, it has an interest of $600,000. Templeton looked for the companies with the widest gap between the parent company reported earnings and the consolidated earnings.
Principle: it pays to read the notes to the accounts when estimating intrinsic value
Hitachi owned a number of subsi………………To read more subscribe to my premium newsletter Deep Value Shares – click here http://newsletters.advfn.com/deepvalueshares/subscribe-1
Prof. Glen Arnold
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