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Gaijin at the Gate


Whenever Timothy C. Collins visits Japan--which these days is very often--he's a whirlwind of activity. Meetings with Cabinet ministers. Bull sessions with the bigwigs of the ruling Liberal Democratic Party. ("I talk to a lot of the pols," says Collins matter-of-factly.) Get-togethers with the high and mighty of Japan Inc., including his close associate Mitsubishi Corp. (MSBHF) Chairman Minoru Makihara. Grueling, number-crunching meetings with prospective partners at Japanese companies most Americans have never heard of.

Collins' goal is to become the best-connected gaijin in Japan, an insider in a system where insider status counts for everything. And Collins is betting almost $2.5 billion of his investors' money that the nonstop networking will pay off in an improbable success story. As the founder and chief executive of Ripplewood Holdings LLC, a private equity fund, he is committed to the idea that Japan is the ultimate restructuring play, a collection of undervalued assets that the specialists Ripplewood employs can turn around with elbow grease, some well-applied capital, and Western management knowhow. "Japan has one of the most productive industrial infrastructures going," says Collins. "It has the best engineers in the world, the best products, the best processes." Japan, in other words, is a buy.

CHALLENGES. Although Collins has his admirers, plenty of Westerners these days think such bullishness is just plain nuts. Japan presents challenges unlike anything the 45-year-old investment banker and buyout specialist has encountered in his 23-year career in the U.S. Japan's banks are saddled with rocky loans worth more than $1 trillion--and no one in Japan has figured out how to clean them up. Straightening out companies? Bosses can barely bring themselves to lay off enough employees to keep their operations alive. The economy is entering its fourth recession in a decade, with no relief in sight. Big U.S. multinationals such as Merrill Lynch and Ford, which owns 33% of Mazda, have lost buckets of money on their Japan plays. A recent casualty: On Nov. 13, Morgan Stanley Dean Witter & Co. said it would close Morgan Stanley Nippon Securities Ltd., its Japanese retail brokerage.

Yet Collins, far from his Kentucky home, where Ripplewood was the ancestral tobacco farm, is betting his investors' money that he can crack this system. Ripplewood has assembled a portfolio of properties that in their own way tell the tale of Japan's decline. Among them are Niles Parts, a supplier that Nissan Motor (NSANY) dumped; Nippon Columbia, a poorly performing recording studio that also runs Denon Electronics, an audio-equipment business; and Seagaia, a bankrupt seaside resort in southern Japan that may be one of the biggest white elephants in tourism. It boasts a vast indoor beach complete with wave-maker. The jewel in this battered crown: Shinsei Bank Ltd., the former Long Term Credit Bank of Japan Ltd., one of the country's great financial institutions until it collapsed under a heap of debt.

The deals have made Collins one of the most closely watched foreigners in Tokyo. "I think the sale of LTCB to foreigners and Ripplewood was probably the best step Japan has taken to reform its financial markets," says Jack R. Rodman, managing director of Ernst & Young in Japan.

Collins is in a scary position, though. General Electric Capital Services Inc., for example, now owns assets worth $35 billion in Japan. Yet by and large it sticks to safe, predictable businesses it knows well such as consumer finance and leasing. Collins, by contrast, is placing big direct bets on some of the diciest parts of Japanese industry, and he has no safety net. Even his own team sounds a bit doubtful at times. "I certainly have the impression they're optimistic about Japan," says Paul A. Volcker, the ex-chairman of the Federal Reserve who is an adviser to Shinsei. "For the sake of the world, I hope they're right."

Collins and his partners have also become a lightning rod for Japanese xenophobia. There have been media campaigns against Shinsei ever since news first broke that Ripplewood was in the running for the bank. Pundit and former McKinsey & Co. partner Kenichi Ohmae railed against the very idea of foreigners taking over LTCB. Last year, Shinsei broke the honor code of Japanese finance by refusing to join with other banks in forgiving loans to Sogo Corp., a big department-store chain. Instead, Shinsei exercised an escape clause Collins had wrung out of Tokyo and handed the bad Sogo loan over to the government. Shinsei's unexpected move forced Sogo into bankruptcy, wiped out thousands of jobs, and made Japanese headlines for weeks. Bank regulators are now resisting Shinsei's effort to hand other loans back to the government and are rapping Shinsei for not honoring an agreement to earmark a portion of its loans for small business. On Nov. 7, Shinsei CEO Masamoto Yashiro fired back, telling a parliamentary hearing that authorities misled them about the quality of the bank's loan portfolio.

HIGH-WIRE ACT. If Collins can turn around Shinsei and his other ventures, all the abuse will be worth it. His success would signal to the West that buyouts and restructuring--the alchemy that transformed the U.S. economy in the 1980s--can work in Japan. And perhaps the idealist in Collins will get a boost, too. "What I'm doing is fascinating and important. And that's a powerful motivator," he says.

The odd thing about Collins' Japanese high-wire act is that in the U.S. he avoids the sort of deals that grab headlines. For Collins, an engineer's son, the more humdrum the investment, the better. Frozen-pie companies, industrial-equipment lessors, auto dealerships--he buys them cheap, fixes them by hiring skilled managers, and eventually sells. Ripplewood Partners LP, the fund he started in 1996, is now cashing out of some of its U.S. deals and earning at least triple the original dough the fund ponied up. "If private equity firms can get twice their money back in the current environment, it is a huge achievement," says Phil Shaw, a managing director at INVESCO Private Capital, which is a Ripplewood investor. Shaw also happens to be a fellow alum of Collins' from Yale University's School of Management.

Given Collins' reputation as the consummate dealmaker, it's ironic that he almost checked out of the investment game in the late 1980s, when he was working at Lazard Freres in New York. A philosophy major in college who maintains a keen interest in the spiritual side of things, Collins wondered if he shouldn't be doing more with his life. In 1988, he spent a month laboring at a refugee camp in Sudan, all the while sorting through his priorities. In the end, Collins sought the advice of a mentor, Texas financier Richard Rainwater, who made millions for Bass Brothers Enterprises Inc. and, later, for George W. Bush. Collins recalls Rainwater telling him: "God didn't make you a poet, or an opera singer, or a six-foot-eleven center. But you are pretty good at doing this."

So Collins stuck with business, resolving to use his earnings to donate generously to his church and other charities. He went on to run the New York office of Toronto-based investment company Onex Corp., then founded Ripplewood. In business, Collins works his gold-plated Rolodex for all it's worth. Among the Friends of Tim are Volcker, Rainwater, and champion networker Bill Clinton. Collins uses all of his contacts to sniff out deals. He may spend three years gathering intelligence on an industry or a company before he moves in. "There is a sort of cowardice in what I do," says Collins. "I am really risk-averse."

The question is whether he has correctly sized up the risks in Japan. Prices for industrial assets there are certainly dirt cheap. According to an Ernst & Young study, investors have recently acquired Japanese loans and real estate with a nominal value of $300 billion for $30 billion.

Some assets, of course, are priced low because they're not worth much. Collins insists he hasn't been snookered, but he had to work his board over hard before he got its O.K. "I objected to his idea of coming to Japan," says Mitsubishi's Makihara, who also sits on Ripplewood's board. "I said: `Why don't you look somewhere else?"' But Collins kept pushing and convinced his directors that the deals were too tempting to resist. LTCB, with $81 billion in assets, cost Collins and his backers just $9.4 million, plus a promise to invest $1.13 billion more. And that was after the Japanese government took $37 billion in bad loans off its books. Collins bought the Seagaia resort, built at a cost of $2.3 billion, at auction for $130 million.

It's not just low price that motivates Collins. In Japan, most companies are dismally behind the U.S. in such areas as exploiting information technology to get the maximum in pricing power and productivity. Customer service is unsophisticated. Hookups with big multinationals that can provide economies of scale are rare.

A-TEAM. Collins sees these as defects he can turn into assets. LTCB, for instance, was one of the institutions that financed the country's post-World War II recovery, and it had relationships with hundreds of blue-chip companies. Collins figured if he could get his hands on LTCB, he would be in a position to provide banking services--plus merger, restructuring, and investment advice--to Japan's corporate elite. Despite his enthusiasm, the only reason Collins, who had no banking experience, went ahead with the deal was that he found the perfect CEO--Yashiro, the retired chief exec of Citibank Japan, who was living in London. After Yashiro agreed to run Shinsei, he and Collins recruited some high-powered advisers, including Volcker and J. Christopher Flowers, a former Goldman, Sachs & Co. partner and bank turnaround specialist, now a Shinsei director. One connection led to another: The team persuaded Citigroup, Mellon Bank, and GE Capital to put money into the Shinsei pot. Yashiro, Collins likes to point out, didn't take the job for the paycheck. He took the job because he considered it his duty to save the venerable bank. "He's a patriot," Collins says.

Yashiro has started to turn Shinsei around. After running losses for the three previous years, the bank turned a $730 million profit for the fiscal year ended Mar. 31, 2001, mostly from cost-cutting. That's quite an achievement in a sector awash in red ink. On Nov. 12, Shinsei estimated earnings for the fiscal half-year ended Sept. 30 at $270 million. The Yashiro and Flowers strategy is to transform Shinsei from a low-profit industrial lender into a top-flight retail and commercial bank. Yashiro hired about 10 execs from his old haunt, Citibank Japan, including a top info-tech whiz, Dhananjaya Dvivedi. The old IT system was so poor, says Yashiro, that "the bank didn't have a monthly profit-and-loss statement." It took Dvivedi and his team of Indian software engineers 10 months to rip out and replace LTCB's archaic networks. On the corporate banking side, Yashiro and Flowers have set a goal of generating 30% of revenues from fees and commissions this year, compared with next to nothing before Ripplewood stepped in. "The bank is doing very creative things," says Rodman of Ernst & Young. "That reflects the fact that it has hired the best investment bankers from all over Asia."

"KILLER" EXECS. But the worsening environment and the bank's souring relations with the government may take a toll. Shinsei claims 55% of the loans classified merely as questionable when it took over the bank are actually nonperforming. But because of the tiffs over small-business loans and the Sogo bankruptcy, it's not clear the government is going to honor its promise to buy back loans that drop by 20% or more in market value through March, 2003. Soon after the Sogo bankruptcy, another big Shinsei borrower, consumer-finance specialist Life Co., suddenly informed the bank it had a negative net worth of $1 billion--though government auditors had classified it as sound. Yet the government is resisting taking over the debt.

Partly because of its political sensitivity, Collins has walled off Shinsei from his other Japanese deals, which all conform more closely to the Ripplewood style. Financed out of a $1.2 billion Japan fund that closed last year, they are what he terms "basic businesses" that have run onto the shoals. As with Shinsei, Collins didn't invest until he had lined up what he calls "killer executives" to run them.

Take Japan's Niles Parts Co. The company is still run by the founding Suzuki family. But Richard M. Donnelly, the former head of General Motors Europe--who also runs Ripplewood's extensive U.S. auto parts investments--guides its strategy from the board. Donnelly's grand plan for the former Nissan Motor affiliate is to make it the nucleus of an international auto parts company by merging it with future acquisitions. Niles' Kentucky factory has a solid reputation in Detroit as a supplier of switches and sensors for cruise control and power-window systems, he says.

Another rehabilitation candidate is Nippon Columbia. Its recordings include a lot of syrupy traditional Japanese love songs, but it also has "a wonderful underleveraged jazz catalogue," Collins says. "And Denon has the potential to be the premier high-end consumer-electronics brand in the world." The plan is to split the studio from Denon and run the two separately. In charge of making that happen is Strauss Zelnick, the former head of BMG Entertainment, a unit of Bertelsmann AG.

Ripplewood also has a long-range vision for Seagaia, with its 1,300 hotel rooms, five-plus golf courses, and that man-made beach called the Ocean Dome. Michael F. Glennie, who joined Ripplewood after managing a $1 billion portfolio of leisure properties for Miami-based Boca Resorts Inc. and who once ran New York's swank Waldorf-Astoria Hotel, is the new CEO. Seagaia lost money every year after its 1993 opening, Glennie points out, mostly because it operated like a government agency, awarding big supply contracts without competitive bidding. Its primitive reservations system never adjusted pricing to seasonal demand, keeping its occupancy rates at a money-losing 48%. Glennie is convinced the resort's potential as both a domestic and international vacation and convention destination has never been exploited. After snapping it up for a song, Ripplewood refinanced Seagaia's debt and is now talking to Marriott International Inc. and Starwood Hotels & Resorts Worldwide Inc. about managing the property.

It will take thousands of executives as motivated as Donnelly, Zelnick, and Glennie to pull Japan out of its mess. True, private-equity investors are a patient lot. But they want to double or triple their money for their pains. And they'll certainly be spooked if a high-profile deal such as Shinsei goes sour. Meanwhile, other outsiders are getting cold feet.

Foreign acquisitions are down 57% year-to-date compared with the same period in 2000, according to Thomson Financial. Collins isn't fazed: "Investing here is maybe more important than doing it somewhere else," he says. By that standard, if Collins wins, Japan does too. If not, Ripplewood may join a distinguished list of foreign investors who thought they saw something that wasn't really there. By Brian Bremner in Tokyo, with Julia Lichtblau in New York


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