Japan and India: A match made in Asia

In February, Japanese banking giant Mizuho Financial Group linked with India's Tata Group to invest "tens of millions of dollars" into Tata portfolio companies, reports at the time noted. Earlier this month, Reliance Capital-owned Reliance Life Insurance announced it would sell a 26% stake to Japan's largest life insurer, Nippon Life Insurance, for $680 million. This was touted as the largest foreign direct investment in India's insurance space. And last week financial giant Nomura Securities announced a $500 million India infrastructure fund, raised with capital committed by Japanese investors.

Potential abounds, but what is the reality?

According to Banerjee Brajeshwar, Partner at KPMG Tax Corp. in Tokyo, both Japan and India have traditionally looked to the United States and Europe for business, so "the potential opportunity for growing relationships is immense." In February, the Japanese government signed a free trade agreement with India that eliminates tariff duties on 94% of Japanese-Indian trade, outside of farm products, for the next decade. The countries' defense ministers have also become chummy, and the India-Japan Global Partnership Summit is slated to be held in September.

Just one week after the recent earthquake, Indian media reported that Japanese steel manufacturers may more aggressively set up plants in markets like India, banking on joint ventures already brokered between players in both markets. Other news sources suggested that Japan is considering lifting employment restrictions to allow Indians to work as nurses and care givers, coming at a crucial time in light of Japan's aging population.

"Japan can benefit greatly from India as a fast expanding market and as a supplier of relatively cheaper [skilled labor]," said Ulrich Bartsch, Senior Macro Economist at the World Bank's India bureau. "India and Japan are at opposite ends of the demographic transition: Japan's population is falling and aging rapidly, whereas India is entering the ‘sweet spot' where falling dependency ratios can provide a demographic dividend. Japan will have to relax its restrictions on the movement of labor in the near future."

Opportunities for Private Equity

As one of Asia's most mature markets, Japan sees India as an avenue into emerging market opportunities, apparent through Nomura's announced multi-million-dollar infrastructure fund. Meanwhile, Indian companies can capitalize on Japanese firms' experiences and skills as they establish their own market niche. A prime example is Reliance Life's tie up with Nippon: India's population is just 10% insured, and as 121-year-old Nippon is the sixth largest insurer in the world.

"Few Japanese or Indian companies have a cadre of global executives who can effectively manage businesses in the other country," says Thomas Whitson, Partner at KPMG's Transaction Services practice for KPMG in Tokyo. "Nimble private equity players could take a [leading] role by buying up stakes in Indian companies, internationalizing them, and then selling the interests to Japanese buyers."

Bartsch also highlights interest in the technology sector, an area in which Japan has been especially successful; "an experience which India is striving to emulate." There's also the automotive sector, as the Hero Honda JV and subsequent PE investment from Bain Capital and Singapore's GIC exhibits. From a supply chain and operations perspective, Suzuki and Hyundai use India as export hub for the wider region. "Japan has a lot to teach about its industrial policy and the kind of policies the promote research and innovation," Bartsch adds.

Navigating the hurdles

More strategic, acquisitive and PE-led deals can be expected in the future, although major cross-border movement may not occur as quickly as some companies would hope. For example, foreign ownership of domestic insurance companies is capped at 26%. Nippon executives publicly said that the Japanese insurer would take a larger stake in Reliance Life if Indian regulators were to liberalize this rule.

Aside from sector-based ownership restrictions, India's antiquated legal system, and the ongoing issue of corruption, have also been cited as hurdles in completing such cross-border deals. "India is not a unified market with a set of common laws, tax regulations, etcetera, across the country. Although there are opportunities, India still has a heavy bureaucratic and protectionist overlay. Business, political, and tax regimes differ from state to state," Whitson says.

Yet, Bartsch predicts that at least some of these hurdles will become easier to overcome in the future as India steps up its deal making with overseas players, saying, "Relaxing caps on foreign ownership of insurance is on the cards, also with multi-brand retail."

However, "The Indian market is difficult, and in particularly risks in regulatory changes," he says. "Investors will have to weigh these carefully and see whether they can live with the risks which differ greatly between sectors. Investors should also not feel overly confident that they understand the Indian market better than Indian investors. Transplanting concepts from outside wholesale to the Indian context has seldom worked."

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• Topics
• North Asia
• South Asia
• Investments
• Mizuho Capital