On Wednesday, UFJ Holdings' directors opened merger negotiations with Mitsubishi Tokyo Financial Group
Assets of $1.74 trillion amount to a large wad of bills. It's bigger than the GDP of France, Great Britain, or Canada. You could build a pretty nice tech portfolio with it, buying every share of Microsoft, Cisco
UFJ and Mitsubishi Tokyo have a combined market capitalization of about $85 million, which raises the issue of whether the duo should be valued at closer to Citigroup's $233 billion market cap. The question isn't entirely academic, since Mitsubishi Tokyo lists an American Depository Receipt (ADR) on the New York Stock Exchange.
The combined entity does have some things going for it. Just a couple of years ago, Japan's banks were dealing with a mountain of bad loans that led to concerns that the entire banking system could collapse. But three of the four big banks have reduced their non-performing loans dramatically in the last year, alleviating that worry. Furthermore, after a decade of stagnation in Japan, there are signs of recovery. Japan's first quarter annualized GDP growth was 5.6%, and corporate profits are improving.
In addition, the merged company has the potential to gain economies of scale, reducing expenses by eliminating redundant operations. In banking, size can provide significant competitive advantages.
On the other hand, there are good reasons why small investors should be cautious. First, on a strictly practical level, it's difficult researching foreign companies, particularly when much of the corporate information is in Japanese. Second, UFJ is the weakest of Japan's banks. It has had multibillion-dollar losses in the last two years, and it was -- you guessed it -- the only one of the big four banks to have its volume of bad loans increase last year. Even more suspiciously, UFJ was rebuked in June for being evasive during regulator's inspections.
Meanwhile, though Mitsubishi Tokyo is the strongest of the big four, it still has cultural issues that can result in decisions against shareholders' interests. Japanese "corporate families," like the Mitsubishi family, tend to support each other even when the business case might be questionable. For example, recently DaimlerChrysler
Thus, there are some good reasons why the combined entity has a lower market capitalization than Citigroup, even when Citigroup's difficulties are taken into account. Investors should be aware of both UFJ's red flags and the special challenges associated with international investing.
Fool contributor Richard Gibbons owns shares of Mitsubishi Tokyo Financial Group, but none of the other companies mentioned in this report.