TT-422 -- Commercial Real Estate Bubble

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A weekly roundup of news & information from Terrie Lloyd.

General Edition Sunday, May 27, 2007 Issue No. 422


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Hardly a day goes by at the moment without a newspaper
report on some massive new real estate deal in Tokyo or
Osaka. For those of us who've been here since the 80's,
it's almost deja vu, invoking images of the lead up to the
real estate bubble of 1989-1991. Just this week, the
Government of Singapore Investment Corp. (GIC) and Sumitomo
announced that they will invest JPY150bn (US$1.2bn) in
retail properties here, effectively joining a slew of other
foreign real estate firms such as Australia's James Packer,
Rubicon (Aus), NewStar (UK), Macquarie Bank (Aus), Morgan
Stanley (US), and many others wanting a piece of the

To their credit, as one of the world's top 10 real estate
companies, GIC couldn't have picked a much better partner.
Sumitomo operates around 330,000 m2 (about 3.6m ft2) of
office space in Japan, making it one of the major players
here. Better still, Sumitomo has the wherewithal to build
rather than just buy, allowing the partnership some
flexibility in how and when it commits its funds.

The GIC deal is certainly a sign of our times. According to
real estate services company Jones Lang Lasalle, foreigners
tripled their investments in commercial property in Japan
last year, to about US$13bn, dramatically up from US$4bn in
2005. Perhaps in response to the wave of money, prices for
commercial real estate also rose 8.9% in the three largest
cities, the biggest jump since 1989. From these figures, it
is not hard to see that we're in the midst of a mini
price-inflation tornado albeit one that is focused on a few
select suburbs of downtown Tokyo and Osaka.

And from what we can see, it appears that as more foreign
cash piles in on top of an already over-active local
REIT-driven market, overpriced bids for real estate are
the order of the day and the funds are feeding off one

[Continued below...]

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[...Article continues]

We saw a similar speculative mini spiral in 2005-2006 in
the stock markets, when foreign hedge funds piled into
Tokyo and were effectively bidding up stock prices against
each other rather than against the investing public at
large. This type of highly-focused foreign incursion can
create very volatile conditions and in our opinion does not
comprise a healthy foundation for a broader based expansion
of the markets. One consolation at least, is that if the
global economy does go into reverse, there is some comfort
in knowing that it is harder to sell off an office
building than shares in a over-bought company.

As proof of extent of the price increases, Mitsubishi Real
Estate cheerfully acknowledges that while aging neighboring
buildings in Marunouchi were still signing tenants in 2006
at JPY40,000/tsubo (1 tsubo = 3.3m2), the firm's newly
completed Shin-maru building was already fully booked in
April 2006 at the new high-end rate of JPY60,000/tsubo.
Japan's second largest real estate firm now makes about
JPY10bn (US$84.5m) profit on JPY18bn of revenues, a 5.5%
return, generated by that one building.

We think there are a number of reasons for the current
commercial property boom:
1. A shortage of prime office space in the "right" parts of
town. Japanese firms have always thought that to establish
your credentials (yes, it's an ego thing), you have to be
in Marunouchi, or more recently in Roppongi or somewhere in
2. A general shortage of Class-A office space due to the
2003 office glut (remember the "2003 problem?") causing
construction firms to cut back on new buildings by around
3. The somewhat serendipitous timing of a recovery by
Japanese exporters, resulting in firms once again making
decent profits and wanting to spend on infrastructure and
facilities rather than on employee salaries.
4. Japan's low interest rates making even modest returns
from REITs look good. Foreign money is flooding into the
REITs, with 55% of shares in March being bought by overseas
5. Wishful thinking by industry commentators -- most of
whom say that the demand for quality office space will
expand for at least the next 3 years.
6. Foreign money feeling optimistic about Japan again.

REITS are certainly having an impact on the market. There
are now 38 J-REITs listed on the Tokyo Stock Market, who
collectively own more than JPY4.1trn (US$8bn) in assets.
Since they are not allowed to build new properties, they
focus on buying existing ones, and thus are putting huge
price pressure on the inventory of properties. To compound
things, apparently only 16% of Tokyo office buildings are
Class-A, compared with up to 50% in other leading cities
overseas. And this all adds up to a classic seller's
market. As a result, returns on Class-A properties are
still in excess of 3% p.a., well ahead of the 1.72% yield
on government bonds.

The REITS have been thriving in this environment for some
time now, but there are signs that prices and acquisition
opportunities are starting to top out -- in downtown
Tokyo, Osaka, and Nagoya anyways. The next move in looking
for better margins is to go to regional cities, or to get
into new market segments such as rental properties (for
people, not companies). There have been a number of deals
announced recently in both areas, such as
Mitsubishi-related Japan Real Estate Investment
Corporation's buying a Taisei office building near Sapporo
station for a prefectural record of JPY7.1bn last year.
Separately, Orix and Daikyo have announced an JPY80bn REIT
to focus on rental properties, and now Deutsche Bank and
Itochu have announced a hospital fund.

A third possible direction for property investors, and one
popular with big foreign investment banks, is to remove the
focus from just being a landlord and instead to integrate
the properties into a business which can provide better
overall returns. We saw this with Goldman Sachs investments
in golf courses and onsen, and more recently by Morgan
Stanley with their massive purchase of ANA's hotel
business. We expect Japanese REITs to follow the lead of
these pioneers and thus perhaps finally the money spigot
will start reaching some of the regional cities.

While industry experts say the market looks great. We are
puzzled by the fact that not so long ago, as recently as
2003 in fact, people were grumbling about the "2003
problem" and how there was too much office space. You may
remember that office vacancies soared to around 8% and it
was a very brave company that wasn't looking for a smaller,
cheaper place to relocate to. Now, in 2007, the vacancy
rate is just 2.8%, a 14-year low. In light of such massive
shifts in market perception, you have to wonder: "where is
all the demand suddenly come from?"

It certainly hasn't been because of a big increase in the
birth rate, nor the rapid influx of foreign firms (other
than real estate investors). No, instead, it looks like the
demand is purely selfish -- senior management wanting
to work with the luxury of downtown commuting
convenience and space-extravagant work cubes. Gone
are those rows of pokey little steel grey government
issue desks that long were the work place of hardworking
salary men.

While this is good news for the furniture makers, and
presumably the employees are happy as well, the cheap yen
won't last forever, and when it does start heading back up,
the profits will dry up pretty fast. Japanese consumers are
no dummies, and while the salary men at work are enjoying
spacious desks, great views, and better air conditioning,
back home their wives are keeping the purse strings closed,
saving as much as they can for when things go bad again.

The trouble is that this binge mentality is also spreading
to companies that can't really afford it. One
still-struggling major Japanese manufacturer we know has
announced that it will move its senior staff from the
current aged headquarters into the brand spanking new Tokyo
Midtown building. This will increase the company's rent
bill by some millions of yen a month, and is a mystifying

Perhaps the management will justify the added expense by
stating that a high-grade office is necessary these days
for attracting new recruits -- indeed, this seems to be an
increasingly common defense for those contemplating a
Class-A building in Tokyo.

Realtors say it won't be long before the market price for
Marunouchi, Roppongi, and the Ginza will hit
JPY70,000/tsubo for Class-A properties. This is still 30%
shy of the record JPY105,000/tsubo during the 1990 bubble,
but nevertheless a worrying milestone. The price pressure
for prime property is spreading landlord expectations to
lower categories of buildings, and anyone moving right
now will know that the asking price for even Class-B and
-C space has jumped 20% in the last 12 months. Even in our
own 30-year old building, the new owner is a REIT and has
demanded a doubling of the rent.

The bulk of Japanese companies can't afford too much of
this kind of punishment, and both the Bank of Japan and the
government know it. As a result, if prices rise much
further, the BoJ is likely to use the interest rates to
dampen the market. In 1990, the interest rates went all
the way to almost 7% (they're at 0.5% now). If that happens
again, it's anybody's guess as to whether the economy has
enough momentum to keep growing or if it will be thrown
back into a deep recession. Either way, three years from
now there could be a lot of foreign landlords with
under performing property on their hands.

Lastly, on a different topic, if you are thinking about
expanding your business to Hong Kong -- often the stopping
off point for China, you may want to set up an
obligation-free appointment with Mr. David Wells, a
well-known business advisor based in Hong Kong with a
track record of assisting foreign firms initially based
here in Japan. He is a business and tax planning expert
who is able to provide management guidance and board-level
assistance in Hong Kong. Wells will be in Tokyo from June
11 through 16, and will be available for private
appointments. Contact him at:

And while we're at it, perhaps a useful prelude to meeting
a HK expert would be the attendance of our own
Entrepreneur's Handbook seminar on June 9th... Seats still

...The information janitors/


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+++ NEWS

- Blu-ray law suit for Sony
- Camcorder pirating made illegal
- Rate rise warning
- New super-hard ceramic
- Pre-cooked meals last longer

-> Blu-ray law suit for Sony

Sony is back in the US courts again, this time over a
possible infringement on its Blu-ray disk technology.
Apparently the firm has been challenged over the thin-film
reflective layer used on its high-capacity disks. The suit
has been brought by optical disk maker Target Technology
Co. ***Ed: Readers will recall from a previous editorial
that Japanese firms are increasingly becoming the targets
of IP claims by overseas patent holders. We think this is
partly because the world of electronic patents is complex
and Japanese firms haven't paid enough attention to doing
searches, and secondly because Japanese firms are more
likely to be seen as push-overs by aggressive litigators.
We think the number of suits will continue to increase over
the next couple of years, but at some point will peak as
the Japanese learn the international litigation game and
go from being the prey to being the hunters. Already, many
firms are setting up IP management teams, and these people
are starting to gain expertise and sophistication.***
(Source: TT commentary from, May 26, 2007)

-> Camcorder pirating made illegal

One reason why Japanese videos are quite prevalent on is that making recordings of public screenings
has not been illegal. That has now changed, and anyone
caught recording a movie at a public showing will be liable
up to a JPY10m fine or 10 years in prison. The Motion
Picture Association of America (MPAA) reckons that piracy
in Japan costs Hollywood studios about US$742m in lost
revenue annually. ***Ed: Well, '742m' is a nice neat
number. We wonder if the MPAA can substantiate how it
arrived at this figure? While we don't support pirating,
our guess is that the direct losses are probably much
lower. More pirating is likely to happen with home rental
DVDs. But then the studios make money from DVD rentals,
they seem to be less inclined to make a fuss about it.**
(Source: TT commentary from, May 26, 2007)

-> Rate rise warning

While US car manufacturers may be claiming that the
Japanese government is bent on wiping them out with unfair
cost advantages achieved by the low yen, saner heads are
counseling the Bank of Japan to do the opposite and be
careful about raising rates too quickly. Both the IMF and
the OECD have separately issued opinions that while they
expect economic growth in Japan increase slightly to 2.3%
this year from last year, they are advising that the BoJ
should not raise interest rates until there is some clear
indication of inflation. ***Ed: With previous recoveries,
the BoJ jumped in with rate rises too early, to forestall
a repeat of the property bubble of 1990. But each time they
did so, the rises had a strongly negative impact on
consumer spending and thus knocked the economy back into
prolonged recession.** (Source: TT commentary from,
May 24, 2007)

-> New super-hard ceramic

As the Economist has recognized, there is no shortage of
innovation and invention in Japan these days. Researchers
from Akita University and the Akita Prefectural R&D Center
have announced that they have created a new super-hard
ceramic material that uses just 30% of the current level of
tungsten and no cobalt for making cutting tools. The
researchers say this will substantially reduce materials
costs, and creates the useful side benefit of tools that
can operate at temperatures of 1,000 degrees C -- thus
eliminating the need for lubricants. The tools consist of
ceramic mixed with tungsten carbide and silicon carbide
powders, doing away with Cobalt altogether. (Source: TT
commentary from, May 24, 2007)

-> Pre-cooked meals last longer

With food supply problems in Iraq, the US Army may be
interested to know that Nisshin Seifun has created a
heating and packaging process that lets them extend the
shelf life of pre-cooked meals containing no
preservatives, from the current two days to around five.
The process involves re-sterilizing cooked meals with 100 C
steam after the initial cooking is done and the food has
cooled, then wrapping in bacteria-resistant containers.
The company will start selling its pre-cooked meals
Tokyo-wide within the year. (Source: TT commentary from, May 23, 2007)

NOTE: Broken links
Many online news sources remove their articles after just a
few days of posting them, thus breaking our links -- we
apologize for the inconvenience.


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record in assisting foreign firms initially based in Japan.

Wells is a business and tax planning expert who can provide
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in Hong Kong. He will be in Tokyo from June 11th to 16th,
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=========== Entrepreneur Association of Tokyo =============

4th Year Anniversary Seminar - June 11

Speaker: Yoshito Hori, Chairman and CEO of Globis Group

Join us in celebrating our 4 year anniversary at the Globis
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In this section we run comments and corrections submitted
by readers. We encourage you to spot our mistakes and
amplify our points, by email, to

-> No corrections this week.

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