It's only when the tide goes out that you learn who has been swimming naked. ~Warren Buffett
Executive summary
Stock Code: TSE 8473
Current share price: 2610 JPY
Target share price: 1300 JPY
Downside to share price: 50per cent
Meet SBI Holdings, the smaller, more nimble, ultra-aggressive, over-levered machine that is run by a stubborn dictator like boss Yoshitaka Kitao. The company, previously owned by Softbank Holdings, is a broken shell of a company on so many levels.
Here’s a short summary of what’s wrong with SBI:
1. The company has a portfolio that we believe is worth only 40 to 50 cents on the dollar for what it claims to be. And they are not going to be able to hide it for much longer.
2. SBI is a big victim of the crypto market collapse. The correction will hit SBI hard – no one’s really looking at their exposure to B2C2 and how they value Ripple, both SBI Holdings portfolio companies. Binance founder CZ Zhao claims Big Four accounting firms don’t know how to audit crypto firms so how do we know the $600 million crypto assets on B2C2 is worth anything today?
3. SBI Holdings’ core assets are going to be loss making – and we believe it would happen very soon, beginning with SBI Savings Bank.
4. Its over-leveraged business is going to the toilet because of an impending rate change by Japan Central Bank. SBI’s share price will crash on its equity financing needs when leverage music stops.
SBI Holdings
SBI Holdings is a financial group company that has provided a variety of financial services such as securities trading, banking, and insurance. The company was founded by current President & CEO Yoshitaka Kitao, who was previously the CFO of Softbank Group (TSE 9984). The company became a holding company in 2003 and has initially focused on investing in biotech sector. After writing off its failed biotech investment, SBI Holdings is expanding its field of business in the fintech and digital financial services markets in Japan. The firm incurred a large loss in 2021 in its social lending business after its borrower turned fraudulent and FSA ordered it to stop..
The company has a portfolio that we believe is worth at best 50 cents on the dollar for what it claims to be today. And they are not going to be able to hide it for much longer.
The apple, as the saying goes, does not fall far from the tree. It is imperative to understand how the company is run to see why SBI is a ticking timebomb.
The man leading SBI is the former CFO of Softbank, Yoshitaka Kitao. Kitao, who is known for his aggressive financial engineering, was the chief culprit behind the near-decimation of Softbank Group’s share price during the tech bubble burst in 1999 and 2000. Right before the crash, Kitao was literally launching new businesses every week to drum up Softbank’s valuation. Investors soon saw through the act and fled as the dot.com bubble burst.
His buddy and CEO of Softbank Masayoshi decided to part ways with Kitao after the 1999-2000 debacle. But because of their years of friendship, Masayoshi decided to hand his former lieutenant a lifeline - in the form of SBI Holdings.
Exhibit 1: Picture left is Masayoshi San with Yoshitaka Kitao; Picture right shows Softbank Group share price during the 1999-2000 stock bubble burst
Just to give you an idea of the striking similarities between Softbank group share price (above) and the current asset valuation of SBI Group (below) over the years:
Exhibit 2: SBI Group Asset Values from 2012 to 2022 – Kitao’s signature financial engineering
Here is a key question: how is SBI, which invests heavily into technology companies, at the peak of their asset values in (September 2022) when virtually everyone else has seen the assets plunge because of the market shakedown.
As a reference, Tiger Global is down 50 per cent[1] during the same period. It is almost impossible that SBI has avoided the coordinated fall of the nearly the entire technology sector. Is there really a differentiated investment strategy that has vaccinated SBI from the virus that has infected the entire stock market?
Our research is clear: there is clear deception going on. SBI Holdings is just like any other technology investor and is fooling the entire market about asset values – not by a few percentage points but at least by 50 per cent.
Prices that never move
In the interests of transparency, most investing companies holding unlisted assets such as property and private companies get valuers to check on the value of the assets, marked against prevailing market prices. This aids the valuation of the entire investment firm because prices always move up and down.
But the shocking fact is that SBI has never marked down the value of any unlisted asset only unless it is either bankrupted, sold, or IPO’ed (usually at a much lower valuation). Examples of these unlisted assets include cryptocurrencies such as Ripple, its entire Sri Lankan and Vietnamese portfolio.
Exhibit 3: SBI mark to market gains/losses over the last 6 quarters. Note that unlisted assets were never marked as a loss before even when other asset managers were booking losses due to market conditions.
SBI holdings holds risky asset classes such as crypto related assets, including Ripple (think FTX), Sri Lankan assets (now a defaulted country), and many others.
Most of the assets are parked into a company called B2C2, where they are hiding hundreds of millions of dollars in crypto exposure. We believe all of the marked gains over the past 6 quarters of 130b JPY (from exhibit 3, 104+24+2 marked gains in the unlisted companies) should be at least reversed back to zero. In instance of investments into Ripple, B2C2, and frontier market investments should also see at least another 800m USD or ~100bn JPY of investments marked down.
This would be a total mark down of 230bn JPY out of the book value of 860 bn JPY in crypto/VC investments (equivalent to 33% of its market cap).
Some 58 per cent of SBI’s VC fund’s assets were investments made during 2020-2021 when market valuations were at its peak. Everyone knows that 2022 was a year with sky high interest rates, worse than expected corporate earnings; almost every VC/PE firm is holding back their dry powder and marking down their assets in their portfolio.
Yet, SBI Holdings is still marking up their asset values! The company’s unlisted assets have seen six straight quarters of growth going into first half of 2022. This is happening while other reputable asset managers such as Tiger Global, T. Rowe Price, and BlackRock are marking down their assets in double digit percentages and have seen their stock price drop as much as 47%[2]!
SBI is probably the only investment holding company to show a 7per cent annualized profit for the 1H 2022, making them one of the best in the world. How is it even possible, when one of the most well-regarded venture capital funds, Tiger Global, is showing an annualised 8per cent loss as of June 2022?
The RIPPLE effect and crypto exposure
Digging deeper into their holdings, we find it’s very hard to justify the overall valuation of SBI’s portfolio. SBI holds many investments in crypto/fintech area where earnings and valuation have fallen significantly. SBI’s largest and most controversial holding is Ripple.
Currently, SBI values Ripple at US$10 billion, marking their 5per cent stake at around US$515m or 70b JPY[3]. Question is – is this a fair value?
Ripple stocks are exchanging hands in private markets at less than $3 billion before FTX collapsed[4]. All crypto exchanges and assets have been significantly marked down following the FTX debacle and Ripple should be no different. Second, Ripple is currently in a lawsuit with the SEC, which would believe would result in an unfavourable outcome especially after the FTX incident.
As such, we believe that Ripple is currently worth at the most US$2-3b, indicating that there is a downside of 60-70per cent for SBI’s investments, representing a ~US$300-350m or 40-50b JPY of potential mark down in asset value. But if history is any indicator, it is unlikely that SBI will mark Ripple down, adding more deception to an already enormous lie.
What about the crypto coins that SBI has quietly built up beginning in Sept 2021? Recall that one of FTX’s core problems came from Alameda Research’s assets consisting largely of thinly traded FTT tokens at a heightened valuation. SBI also launched a crypto coin fund in Sep-2021 where it spent hundreds of millions of dollars buying Bitcoin, Ether, XRP, Litecoin and other cryptocurrencies. Those have also seen a massive drop in value, yet we don’t see them reflected on SBI’s balance sheet.
B2C2 – a big black hole of crypto
SBI operates four businesses in cryptocurrencies in addition to their financial investments (e.g. SBI VC Trade, B2C2, BitPoint Japan, Crypto Mining). When Luna coin collapsed in May, SBI incurred a loss of 10 billion JPY due to valuation losses on the coins held by its mining business and B2C2. B2C2 was once again mentioned among the victims of FTX’s collapse in recent press[5].
Some investors take comfort in the fact that SBI only earns 50 billion JPY revenue per year from crypto related business. However, a closer look into B2C2’s financial reports exposes a major red flag in their business. We downloaded B2C2’s annual filing to the UK government and found that the company warehoused a stunning US$431 million worth of crypto currencies and $220m of lending to crypto firms as of Mar-2021, up significantly from the US$3 million level prior to SBI’s acquisition in Dec-2020. This is more than a 100x increase in crypto currencies and they did that just under a year! The big question is, how did B2C2 fund such a big increase in crypto assets, when they have only raised a total of less than $40m of equity investments?
Given the rapid growth in SBI’s crypto business, we believe that they are holding much higher risk today. One may argue that SBI’s loss is limited to their equity investment of ~$24m in B2C2, but the footnote shows that through its numerous subsidiaries, SBI group is actually lending its balance sheet to B2C2 to fund its purchase of cryptocurrencies. As of 31 March 2021, the amount of disclosed loans (through related party transactions) totalled ~$34m to B2C2. Speaking of SBI’s risky lending practice, investors should be reminded of the 30 billion JPY SBI social lending (SBILSL) scandal in 2021 where Japanese financial regulator FSA ordered SBISL to stop operating and SBI wrote down the entire 30 billion JPY in the same year.
How much more SBI has lent to B2C2 from 31 March 2021 until today and how else have they hidden the debts on the accounting books? When we asked for more information about the location of the cold wallets of crypto currencies that the company owns, B2C2 refused to disclose the location and the detailed crypto holdings in their cold wallet when requested. Is there something to hide?
SBI showed only 13b JPY losses in 1H2022 (April – September 2022) of which 7 billion JPY losses is attributed to their crypto mining business and only 4 billion JPY losses was due to B2C2. We believe that the actual loss YTD should be significantly higher.
Disastrous Frontier Market investments
SBI also holds many investments valued at US$549 million in frontier emerging markets such as Sri Lanka, Vietnam, and Indonesia where valuation should have fallen by more than two thirds. That equates to roughly US$350m of potential write downs of assets. For example, Sri Lanka has defaulted on its sovereign debt, and it’s the Sri Lanka’s rupee is down 80per cent since March 2022.
SBI’s 19.9per cent holding in TP bank (valued at US$330 million) has also fallen 49per cent as Vietnam is going through a property loan crisis.
Exhibit 4: List of SBI investment portfolio companies
Bitpoint Saga
On 30th November 2022[6] a Japanese news magazine reported that BitPoint (51 per cent owned by SBI) is wanted for fraud in Taiwan. The pink paper below is the court warrant.
The pink slip says BitPoint Taiwan took 1.58b JPY from several users and the CEO took 630m JPY for his own gains. Our guess is this liability is also not disclosed or included anywhere in SBI’s books as well. SBI acquired 51% stake in BitPoint Japan recently despite of such outstanding liabilities. As we have seen in the case of FTX bankruptcy, fraudulent accounting is common practice in the sector. As we have seen, those accounting firms that worked with crypto firms (e.g. Mazars and BTO) have announced suspending or reviewing their works with crypto firms. As Binance’s founder CZ Zhao has pointed out, Big Four accounting firms don’t know how to audit crypto firms, we also question SBI’s auditor Deloitte Japan’s ability to audit so many SBI’s crypto subsidiaries.
Further, it is important to note that compensation for Deloitte auditing fees also went from 897m JPY in FY Mar-2021 to 1.833b JPY in FY Mar-2022 (see below exhibit). Begs the question of the auditor’s independence and objectivity when the fees have more than doubled within 12 months.
SBI Savings Bank – another ticking time bomb
Led by Kitao, SBI is an expert at hiding true asset values and have faced countless whistleblowing accusations from the FACTA, a respected Japanese financial magazine that have exposed the disgraced Olympus fraud.
On October 2012, FACTA questioned SBI over the asset gains booked by SBI of 1.4b JPY in 2011 and 7.3b JPY in 2012 on its 20.9per cent holdings in Hyundai Swiss Savings Bank[7], an unlisted company in SBI’s portfolio. This was during a time when the Korean regulators just shut down dozens of savings bank due to high delinquency and default rates. Hyundai Swiss’s own delinquency rates were at a whopping 51.6 per cent - rendering the bank effectively bankrupt. How can a bank even survive when more than half of its loans were effectively unrecoverable bad loans? And how can SBI still book asset gains of billions of yen?
What happened after the exposé by FACTA was even more laughable. Four months after the article by FACTA, SBI had to step in with emergency funds of 237.5b KRW (~200M USD) in order to prevent a total meltdown of the bank. Hyundai Swiss bank was then made a wholly owned subsidiary of SBI . It was renamed to SBI Savings bank in order to avoid a complete write-down of the investment and to cover up for the investment losses that should have been booked.
But here is where it gets spicy: SBI Savings Bank (or formerly known as Hyundai Swiss Bank) has not been devalued since 2012.
Part of the reason is that on paper, SBI Savings Bank’s bounce-back recovery was nothing but spectacular, especially in the past few quarters as shown in the chart below. Delinquency rate for all loans has dropped reduced from 51.6per cent at its peak to an all-time low of 1.38per cent. But is this sustainable?
A few things to note.
First, the business model for a retail savings bank in South Korea is regarded as much riskier than a commercial bank. This means that the deposit rates that SBI Savings Bank is much higher than commercial banks. To achieve net interest margin rates, it needs to be able to generate higher returns. And to do this, savings bank often engage in riskier unsecured lending to subprime borrowers.
Given that SBI has signalled to the market that it plans to IPO the SBI Savings Bank since 2017, one can only expect that they would do ‘whatever it takes’ to produce better numbers.
This is clearly shown by the steep increase of the loan book from ~4 trillion KRW to ~13 trillion in just over 4 years.
Second, during the pandemic, the South Korean Government provided fiscal stimulus in the form of subsidies for low-income citizens. This is expected to taper off in 2023.
With the steepest decline in apartment prices in two decades[8] in South Korea, we are seeing a ballooning of the retail non-performing loans. SBI’s subprime client base naturally will be among the first to be impacted given Korea’s high consumer leverage.
Third, the SBI Savings Bank is also active in the project finance loan space given its attractive yield. Again, it is high risk, high return.
On 29 Sept 2022, Gangwon Jungdo Development Corp (GJC, 44per cent owned by Gangwon Province and the developer of Legoland Korea) surprised the market when it defaulted on its 205 billion KRW bond[9]. The missed payment raised questions about project financing loans related to hundreds of thousands of projects in Korea, drawing alarming parallels with China’s current property debt crisis. The yield on the 91-day Asset Backed Commercial Paper surged to a 13-year high of 4.58per cent and caused even more stress in the market.
The project finance loan crisis will Impact SBI’s Savings Bank in many ways. Most notably it will impact the Project Finance loans it holds, accounting for 15 per cent of its book. The surging yield will impact SBI’s deposit funding costs as other commercial banks have all raised deposit rate in recent weeks[10].
Last, SBI Savings Bank net earnings of 34b JPY in 2021 contributes to about 25 per cent of the earnings of SBI Holding company in 2021. We believe that this contribution would not only be completely wiped out in 2023, but would even lead to a net loss of about 29b JPY.
In short, SBI Savings bank will contribute to a net contribution of -60b JPY to SBI Holdings’ net earnings: from + 34b JPY to -29b JPY.
Why is that? SBI Savings bank has generated ~50per cent of its earnings from gain on loan sales in 2021-2022. While this is a lucrative business when rates are stable or declining, the loan sales market is currently frozen and is expected to continue for the rest of 2023 because of the expected rate hike in Q1 2023.
Many consumer finance or BNPL companies are struggling recently[11] due to U.S. and European rate hikes and we expect Japan to be no different. Added to the expected 0 loan sales in 2023, SBI savings bank’s credit cost would likely increase back to the levels of 2017 – which is when we estimate its earnings would decline from 25 billion JPY to a net loss of 29 billion JPY. See the model below for a better illustration of the expected fate of SBI Savings Bank in 2022.
To summarize, the total effect of the SBI Savings Bank’s damage to the SBI Holdings’ books, we believe the book value of 170b JPY of SBI Savings Bank should be written down to ~100b JPY, applying a 0.6x on the book value based on the reasons stated above.
The total loss to be consolidated to SBI Holdings’ book in 2023 should equate roughly ~29 b JPY. Based on our understanding from people close to the Savings Bank, this is also a key reason for the delay in their expected IPO.
SBI needs to refinance ahead the 2023 CB maturity
SBI has a total of 644b JPY worth of bonds outstanding of which two zero-coupon convertible bonds are due in 2023 and 2025.
While the average coupon is only 0.72 per cent, the interest rate on their recently issued bonds is rising. Thanks to BoJ’s ultra-loose monetary policy, SBI is still able to enjoy 1 per cent + in funding cost but that can quickly change next April when BoJ governor Kuroda steps down.
Japan is facing rising inflationary pressure with CPI running at ~3per cent level and the JPY has depreciated to a 30 year low recently. The BOJ has mopped up most of the JGBs up to seven-year maturities and is facing increasing pressure to abandon its Yield Curve Control (YCC) policy. SBI may see a step function change in its funding cost if BoJ gives in to the market pressure.
Given its high leverage and potential losses in its investment portfolio, we believe that SBI will likely refinance its 50b JPY zero coupon CB in early 2023. Given the weak market sentiment and higher interest rate demanded by investors, such refinancing would have negative impact on SBI’s share price. We have already seen some companies proactively refinancing despite their low share price (e.g. Cyberagent saw -10per cent impact on its share price recently after issuing a 40 billion JPY CB on Nov-2).
Conclusion / final valuation of SBI Holdings:
In a scenario where we believe SBI will have to mark down at least 45-50per cent of their asset value, we believe that SBI would need to raise at least 100 billion JPY of fresh capital to replenish its balance sheet.
We value SBI on the value of its security trading, FX trading and SBI Sumishin bank business, which should generate peak net profit of 35 billion JPY. Applying a 10x P/E would yield equity value of 350 billion JPY. If we add the full value of their 50 per cent stake in Shinsei Bank, SBI is worth at most 1,300 JPY per share, implying over 50 per cent downside to its share price from current levels.
Exhibit 6: SBI profit contribution by 2023 E
Exhibit 7: SBI leverage ratio pre and post Shinsei Bank Acquistion
Exhibit 8: Sum of the parts valuation of SBI equates to around 1200-1300 JPY in equity value per share.
[1] https://www.bloomberg.com/news/articles/2022-10-10/tiger-global-whale-rock-losses-mount-as-stock-pickers-reel?leadSource=uverify%20wall
[3] Confirmed by SBI Holding’s Investor Relations team as well
[4] https://cointelegraph.com/news/why-is-xrp-seeing-a-monster-rally-when-ripple-is-worth-just-3b-on-the-secondary-market
[7] FACTA online https://facta.co.jp/article/201210014-print.html
[8] https://www.reuters.com/markets/asia/south-korean-apartment-prices-drop-steepest-pace-two-decades-2022-11-16/
[9] Reuters South Korea's Legoland default points to wider bond market stress | Reuters [10] Sangsangin Saving Bank is paying 6.1per cent for one year deposit in Nov [11] Reference AFRM US or UPST US where share prices have all gone down ~90per cent YTD