Aussie moguls meet tight supply and corporate protectionism in Japan

By Mark Ballard
1 October 2020

A US venture capitalist has overcome a lack of space for building data centers in Japan's major cities, with help from companies snarled in a corruption scandal and a public dispute over the country's clannish business culture.

Stonepeak Infrastructure Partners brokered a way into Japan's second major city, Osaka, in deals with conglomerate Kansai Electric Power Co. (Kepco) and a regional real estate business, Keihanshin Building Co., it said in August.

A week earlier, Kepco executives had been impelled to make a public apology, the latest of many in a corruption scandal that has forced the resignation of the firm’s chairman, president and numerous executives in purges conducted in March, and October last year.

A local mayor had spent 20 years and 360 million Yen ($3.4 million) in cash and gifts encouraging Kepco managers to place contracts with businesses he favoured, for the construction of nuclear power plants, before the 2011 Fukushima nuclear power plant disaster led most of them to be closed down. Shareholder activists have called for his resignation as well, taking legal action. Kepco itself is suing its former executives to restore its reputation.

Notwithstanding the the scandals, Stonepeak’s move into APAC data centers was remarkable for being in APAC at all. Its senior management team, made almost entirely of former administrators of Australian banking giant Macquarie, a prominent infrastructure investor, have had a decade-long mission statement to invest primarily in North American infrastructure.

Having built Stonepeak from nothing to a $25 billion portfolio of infrastructure assets, they have returned to East Asia with considerable means to build what they say will be a network of data centers across Asia Pacific.

They arrived amidst a rush of other investment funds, and globalising US data center operators, all seeking to build APAC-wide data infrastructure of their own. The Chinese government intensified the competitive atmosphere over the summer by increasing its commitment to invest money in infrastructure. Some commentators say US-China economic rivalry is being played out in a competition to possess infrastructure in the region.

The coronavirus epidemic has meanwhile increased demand for data centers, and buildings to house them, in Japan. Most Asia Pacific property investors, scared off weak and volatile markets, have committed to invest their money in safe places, estate agent JLL said in July. China, Singapore, Australia and Japan were deemed safe. The latter, most so, because it is deemed to have a stable economy, built upon a business culture preoccupied with long-term stability. Investors were to seeking to put more money in 'alternative' real estate assets such as data centers, as well as logistics and housing, to satisfy the needs of a society warped by the coronavirus.

The epidemic has increased demand for cloud computing as well, Savills said in June, in a country where businesses had till now largely not adopted it. Cloud providers though had found few locations with fibre communications cables or energy infrastructure necessary for cloud data centers. Companies seeking to buy data center buildings had found a "persistent lack of opportunities". There had been little investment even in Tokyo's data center sector. Domestic systems integrators dominated the data center market. It was "traditionally very insular".

This view, of an insular, protective data center sector that offers few opportunities for investors, emerged at the annual general meeting of Stonepeak’s other business partner in Osaka, Keihanshin Building Co., in June. Activist shareholders Strategic Capital harried Keihanshin over business practices they say its board members use to protect their own interests, and their property holdings, from outside influence. Keihanshin claims to be one of only a few companies leasing data center buildings in Japan, and has a large portfolio of office and industrial buildings it has earmarked for transition.

The same accusation of corporate protectionism and insularity has raged a controversy in Japanese politics for a decade, when prime minister Shinzo Abe made it a prong of his ‘abenomics’ programme of reforms. Many activist shareholders have taken up the fight against old-boys networks of executive management who protect one another from takeover, creating cosy boardrooms and stale capital that shareholders want freed to be invested more profitably. Japan reformed its corporate governance laws considerably.

Nevertheless, Strategic Capital asserts that Keihanshin’s board, stuffed with former administrators of Japanese financial conglomerate Sumitomo Mitsui Banking Corporation, always makes sure it stays stuffed with them. They maintain cross-shareholdings with other corporations, just as much to protect their own positions against shareholders who might disagree with their decisions, as to stop any hostile takeover bidder finding enough willing sellers of Keihanshin stock.

The activist says Keihanshin has about a quarter of its shares tied up in cross-shareholding arrangements. It reckons the firm has also undervalued its property assets of ¥136.6 billion ($1.3bn) by about 75 percent. It wants Keihanshin to become a Real Estate Investment Trust (REIT), like the big US data center operators, thus making its investors shareholders not in its company but in its assets, and unlocking, it says, the true value of the business. As they debated, China was preparing trials of REITs to be vehicles for its own infrastructure initiative.

Keihanshin’s answer was to put more outsiders on its board, something Abe’s legal reforms have required since 2015. Like other Japanese corporations, it has made a policy of corporate governance reform. Accounting and management associations have applauded a new culture of upright corporate governance.

It also outlined plans to focus more on data centers, which already form half its portfolio, and have become even more profitable than the oligopoly of horse-race betting palaces it has managed for the Japanese state since 1948. Keihanshin told shareholders it planned to put more buildings up for lease to operators in “partnerships”. Data centers earn 8 times more per square foot than the logistics and commercial properties it built with its betting income. Office, retail and hospitality meanwhile have become uncertain bets for investors.

The first step in its transition plan was to sell space in a skyscraper its contractors are constructing as a data center building in Osaka Business Park, where it did its deal with Stonepeak's APAC data center startup, Digital Edge. It plans to design new types of urban data center, to expand into the suburbs and other regions, perhaps to US and elsewhere overseas.

Data center operators and investors have been forced to form joint-ventures with local firms they might otherwise have sought to compete against, according to Savills. A joint-venture between US data center giant Digital Realty and Japanese conglomerate Mitsubishi Corporation in 2017 was an example of this, it said. Equinix, another of the world’s largest data center operators, had leased data centers from Keihanshin Building Co. itself when it first went into Japan. But in April it became a minor part in an APAC venture with Singapore sovereign wealth fund GIC.

Stonepeak already runs a data center operator that competes with Equinix and Digital Realty in North America, Cologix. But it created a new company to expand into APAC, and put up $1 billion to do it. To run it, it hired a couple of former Equinix APAC directors who set up the latter’s leasing deals with Keihanshin.