Old Dogs, New Tricks Japan's trading houses are reinventing themselves--putting their fingers into new pies and pulling out plum, hi-tech joint ventures

by Murray Hiebert/VENTURE CAPITAL NEW YORK Issue cover-dated June 21, 2001

FOR DECADES, Japanese trading titans were best known for buying and selling raw materials, financing factory construction and peddling finished products throughout Asia and around the world. But over the past decade, as global competition has heated up and Japan's domestic economy has slumped, these companies have begun searching for new opportunities and higher returns.

One way trading houses have reinvented themselves has been to set up venture-capital arms in the United States to invest in hi-tech start-ups--and help them break into the often-difficult Japanese market. "They're trying to make money, but they also see this as a way of learning what's going on in hi-tech areas," says Hugh Patrick, who directs Columbia Business School's Centre for Japanese Economy and Business. "Other VCs can provide money and better management skills, but the Japanese companies can provide a good entree into Japan's market. That's where they see their value added."

GLQ Entrepia is one of the newest Japanese venture-capital start-ups in the U.S. It was started in 1999 by the American subsidiary of Nissho Iwai, one of Japan's oldest trading companies, to help dynamic U.S. Internet technology, broadband or next-generation telecommunications companies make their debut in Japan. Its founder, Gene Kawaratani, a 22-year veteran of Nissho Iwai, describes Entrepia as a cross between an incubator for start-ups in Japan and a firm providing seed money for companies being launched in the U.S.

One of its first clients was ipVerse, a Silicon Valley-based company marketing soft switches, a key component of third-generation networking technology. "Because of language and cultural differences, Entrepia acts as an extension of ipVerse in the Japanese market," says ipVerse chief executive Arthur Klein.

Entrepia took a 1.5% stake in ipVerse, but also plans meetings with target audiences and accompanies its representatives to meetings with potential clients. "This is something you do not traditionally get from the normal venture capitalist," Klein says.

Most of Japan's trading houses, from Mitsubishi Corp. to Itochu and Mitsui & Co., have set up U.S. venture-capital subsidiaries in recent years. Mitsubishi's MC Capital and Mitsui & Co. Venture Partners have jointly invested in such start-ups as e-STEEL, an Internet-based marketplace serving the $700-billion-a-year global steel industry, and ChemConnect, an Internet exchange for chemicals and plastics.

To be sure, there are differences in emphasis among the Japanese venture-capital firms. Itochu International's venture-capital arm invests $50 million-$60 million a year in the U.S. It looks primarily for companies with products that can make it in the world's second-largest economy.

"One of our criteria is: Will a product become a global product that one day will be suitable in Japan?" says Baskaran Panchavarnam, vice-president of Itochu's Venture Investment Group in New York. He cites Sun Microsystems software products, of which Itochu is the world's largest distributor.

Patrick of Columbia Business School says that a growing share of the income of Japanese trading houses in recent years has come from their investments in a broad range of projects in the U.S. "For them it's risky," he says. "The internal structure of the companies is not geared to do these kinds of things. The fact that they're willing to try is indicative of the need to find new ways to make money."

Nissho Iwai America provided 95% of Entrepia's $10.5 million start-up capital; Kaufman Brothers, an investment bank in New York that targets the communications industry, injected the balance. Nissho Iwai spun off Entrepia to give the venture-capital outfit more independence.

Entrepia raised $30.2 million funding in November 1999 --most came from Nissho Iwai America. It is raising a second round, of $100 million-$150 million, that will close in October. Despite the American economic slowdown, Kawaratani expects to be able to raise much of this target. Nissho Iwai is to provide only $20 million. "There's still a big amount of money looking for investment," he says.

Of Entrepia's first fund, $18 million has been invested in 16 different projects. The most profitable has been Sonus Networks. The Massachusetts-based supplier of voice-infrastructure switching products competes with such giants as Cisco Systems. Its initial public offering was one of the few in 2000 to enjoy rising share prices in the bearish market. Entrepia also helps market Sonus products in Japan, selling $15 million worth in 2000.

One of Entrepia's more recent tie-ups in Japan was with Bigfoot Interactive, which provides e-mail-marketing services. Bigfoot's founder, James Hoffman, credits Entrepia with playing a key role in helping his firm break into Japan, where its customers include telecoms giant MCI, drug firm GlaxoSmithKline and tax firm H&R Block. Entrepia hooked up the American firm with two Japanese joint-venture partners, Bluestar Corp. and Mailnews Corp., to found Bigfoot Japan. It then recruited Kazuya Takeda, a senior PricewaterhouseCoopers executive, as Bigfoot Japan's chief executive.

"It is a huge mistake to go into any international market without a strong and motivated local partner," Hoffman says, referring to Entrepia's help. The venture-capital outfit also has an extraordinary level of "focus, commitment and support" and perseverance. Most other investors, Hoffman says, "tend to quickly fall in love with the next thing and you lose their attention."