In general terms, the pandemic accelerated the digitalisation of Japanese industries, although the country lags some peers in boosting efficiency with IT. Potential is high, which is why investors should take a look, the author of this guest article says.

As with other economies, Japan has also been affected by the COVID-19 pandemic. A common factor is that lockdowns and other restrictions have acted as a catalyst for rapid technological change accelerating the use of digital tools – a trend which had been gaining ground even before the crisis. Wealth managers have also been caught up in this process.

Japan is famously a home to robotics and, in some respects, is a global leader in related fields. How has the pandemic affected this sector and what are the implications for investments? To consider these questions is Mr Hiroyasu Sato, portfolio manager of the Japan Growth Opportunities Strategy, SuMi TRUST. The editors are pleased to share these views. The customary editorial disclaimers apply. Email tom.burroughes@wealthbriefing.com

In the wake of COVID-19, Japan’s overdue digital revolution might just be about to take off. One of the big legacies of the pandemic for Japan will be the way it has changed attitudes about digitalisation and the modernisation of legacy IT systems. Shockingly, for a country that was perceived abroad as technologically cutting edge before the virus struck, Japan’s digital infrastructure may have been as much as 20 years behind that of the US, the UK and parts of Europe, with most government communications still being carried out by fax. Private industry was no better.  

A number of Japan’s failings during the pandemic were directly linked to inadequate IT infrastructure, online booking systems and poor management of online data. In the wake of COVID-19, companies and government departments realise that urgent reform is needed. Japan has advanced hardware in many of its industries but companies often lack the right mindset to maximise efficiencies from software.

The Kishida administration, which is following in the footsteps of the previous government of PM Sugaand, has made it a big priority to change this. PM Kishida launched its digital agency in 2021, a government taskforce with a mission to centralise government data, oversee digitisation of documents, overhaul old regulations that mandate a paper trail and encourage businesses, large and small, to take digitalisation seriously. This big push for digitalisation in Japan provides strong opportunities for investors, but there are also potential risks.

Opportunities
Should the digitalisation drive succeed, the gains could be enormous. Opportunities for investors come through companies which are set to increase productivity and revenue by introducing overdue digital reforms, as well as those businesses which also provide their own IT systems and software. Sectors where a lot of digital progress could be made include healthcare, where nurses’ reports are still handwritten, real estate, where regulations still tend to assume that all transactions are face-to-face, and the education sector, where paperwork is abundant.

Three companies which are well placed to exploit this trend are SRE Holdings, Infomart and Money forward. SRE Holdings is a “property tech” company providing digital and AI solutions to the real estate market, particularly to brokerages, which in Japan tend to be small companies operating in a fairly old fashioned way. Currently a number of regulations in the real estate sector in the country prevent modernisation through digital solutions and AI. The Kishida administration is liable to roll these back and SRE is extremely well placed to take advantage of this when it happens.

Informart is in the restaurant business and specialises in digitalising the purchasing process for restaurants. In Japan many restaurants are small and run by individuals or small families with paper or fax being the main means of communication with suppliers, banks and government agencies. Informart is pioneering an industry-wide digital slip to allow restaurants to handle purchases and payments more efficiently, provide and receive allergy information and contribute to COVID-19 track and tracing measures. 

Money Forward specialises in cloud-based accounting software for individuals and SME owners. Traditionally Japanese SMEs made little effort to digitalise accounting procedures, a factor which contributes to low productivity. As the pandemic struck, moving these functions online became a necessity because employees could not always be in the office to carry them out in the old manner. Money Forward seized the business opportunity and now has over 180,000 clients. It has also expanded its business areas from accounting and finance to human resources through to M&A activities. The company has long-term growth potential.
 

As well as thinking about companies well placed to benefit from Japan’s shift to digitalisation, investors can also have some confidence that the gains will have a broad impact across listed Japanese companies and the Japanese economy: better and more extensive use of IT is set to lead to real productivity gains. 

Japan’s conversion to digitalisation is part of a bigger trend of cultural change for Japanese companies. Increasingly we are seeing companies introduce a more flexible personnel system in which a company focuses on results rather than age and seniority. Business are also showing greater willingness to think holistically and introduce company-wide procedures and systems whereas traditionally Japanese management has been quite bottom up.

Risks
However, it is not all smooth sailing. The biggest risk for investors is that the government’s digital agency fails in its mission. It has a big task ahead of it. Japan’s opposition to digitalisation is rooted in the management structure of Japanese companies. Essentially large-scale digitalisation, which often comes about in a top-down way elsewhere, isn’t pushed by senior management in Japan, which tends to avoid large-scale changes without very active consent from middle management.

A second issue investors need to be aware of is the possibility of domestic Japanese digital service providers being pushed out by foreign competition. American and European software and digital system providers have a head start over their Japanese equivalents, because digitalisation is already more widespread in their countries, potentially giving them advantages of scale and experience in some cases. This is more of a concern if the software and digital service providers are working for large Japanese companies, the mid-sized and small Japanese companies are more likely to adhere to domestic suppliers. 

Overall COVID-19 has acted as a catalyst in the digitalisation of Japan. The country may still be behind its peers among the developed nations when it comes to boosting efficiency through the use of IT and software but big changes are now imminent. Although there are uncertainties, now is a good time to take a closer look at the Japanese digital and software space to take advantage of the opportunities there.