Softbank breaks Japanese IPO record

SoftBank Corp. just set a new record, becoming the largest ever IPO in Japan. The Japanese telecom business of SoftBank Group Corp. raised $23.5 billion after being fully subscribed, including an extra allotment. This brings the IPO just shy of the record $25bn 2014 Alibaba IPO and makes it the second-largest ever stock listing, even though shares were mostly sold to local investors.
 
Shares were priced on December 10 at 1,500 yen/share ($13.25) and an additional 160 million shares were sold to meet strong retail demand, according to a regulatory filing. The expected listing date is December 19. 
 
The company allocated over 80% of the IPO sale to domestic retail investors, according to Reuters. To generate investor interest, the deal was heavily marketed in a campaign that also used TV adverts to attract subscribers. Yield-starved Japanese retail investors have lapped up Softbank’s promised 85% payout ratio and 5.4% dividend yield. In a country where interest rates are negative and savings yield very little, the 5.4% yield (which outpaces competitors NTT Docomo and KDDI) has been an easy sell. However, there are a number of issues that investors should be wary of. 
 
The IPO comes at a difficult time for investors, not least because of recent market volatility. The telecom industry in Japan has faced considerable pressure as the government is looking to slash mobile phone charges, asking for rates to be cut around 40%. This regulatory pressure is also combined with increased competitive pressures as e-commerce firm Rakuten plans to enter the wireless mobile market.

As Rakuten have announced plans to enter the market, incumbent NTT Documo is raising concerns about a potential price war by announcing price cuts. The entry of a fourth mobile network operator could cause significant competitive price pressures and crimp earnings for the incumbent operators, Softbank included. This could call in to question future cash flows and the sustainability of the 85% payout ratio. 
 
With the dark clouds brewing on the horizon for the Japanese telecom industry, the prospect of increased profits for Softbank may be slimmer. With this in mind, it is worth digging deeper into Softbank’s balance sheet where we see that the company has only managed to boost net income in recent years due to tax cuts and reduced deferred tax payments. With competitive pressures looming, this may not bode well for Softbank in the future. 
 
Another concern is the parent’s (Softbank Group) 67% stake in the company. Softbank group has a large amount of debt. The ownership stake could create governance issues in the future as the group has previously used cash from its wireless division to pay down debt. According to LightStream Research analyst Mio Kato on SmartKarma, SoftBank Group has absorbed 3.1 trillion yen in dividends from its wireless unit over the last three years — and yet its debt – outside Sprint Corp. and Softbank Corp. itself – has surged by 1.7 trillion yen in that time. If this were to happen this would also call into question Softbank Corp’s future profitability and dividend yield.
 
The 85% payout ratio is ambitious regardless of the threat of price wars and government regulation.  Given the downside risk to the dividend and the tough competitive environment, the offering is likely overvalued at 1,500 yen/share. Despite the strong retail interest at present, it is likely that this euphoria will wear off with time.