Business Environment

Japan's consumer credit market

Consumer Credit Markets / Consumer Credit Provided 2005

The consumer credit industry primarily provides loan and credit services to private individuals. The scope of this industry is expressed in terms of consumer credit provided (that is, the value of loans extended during the year). The graph above shows the figures for the Japanese consumer credit market overall and its scope. According to the Japan Consumer Credit Industry Association, total consumer credit provided as of December 31, 2005 was ¥76.505 trillion (excluding housing loans). This is approximately one-quarter the size of private final consumption expenditures for 2005 (approximately ¥284 trillion), illustrating how large this market is.

Consumer credit is an essential component of a mature society. In 1980, total consumer credit provided stood at ¥21 trillion, but by 1991 this figure had risen to ¥68 trillion, growing 3.2 times over ten years. Even in the deflationary conditions that followed the collapse of the bubble economy, the market remained virtually unchanged. Today, with economic indicators beginning to show grounds for optimism, the consumer credit market can be expected to grow strongly once again.

In the ¥76 trillion consumer credit market, competition is fierce: banks are strengthening their retail operations, major consumer finance firms and mega-banks are establishing capital and operational tie-ups, telecommunications firms, manufacturers, and IT firms are entering the field. With the liquidation and shakeout of small and medium-sized consumer finance companies, plus the reorganization of installment sales financing and credit card companies, the pace of change in the industry environment is accelerating. This has had the effect of eliminating the barriers between industry sectors, such as consumer loans, installment sales finance, and credit card businesses. Indeed, as in the U.S., competition for a share of the consumer credit market as a whole is growing stronger.

In response to this changing market environment, the AIFUL Group is striving to achieve sustainable growth and stable earnings expansion by branching out into related consumer financing sectors, thus evolving into a comprehensive financial services company.

The consumer finance niche markets

1. Rapid growth of the market for dedicated consumer finance operations

In the 1990s, with the collapse of the bubble economy and resulting asset deflation, many banks and non-bank financial institutions were burdened with nonperforming loans, and thus restrained new financing. In response, consumer finance companies specializing in the unsecured loan business worked to fill the gap, offering services to meet the needs of their customers. This resulted in a broadening of their business scope. As a result, the share of consumer credit provided by consumer finance companies in the total credit provided in the consumer credit industry rose from 6.4% in 1991 to 14.3% in 2001, more than doubling over a ten-year period. Following that, there was a period of stability. Over the ten-year period ending March 31, 2006, the number of consumer finance transactions registered with the Federation of Credit Bureaus of Japan increased by 82% to 22 million.

There are three major factors behind the growth of the dedicated consumer finance operations market. The first is a steady increase in personal loans for leisure activities, as economic growth fuels a continually rising standard of living. The second is that Japan is a very safe country, and since carrying cash entails extremely low risk, it has become a "cash society." Finally, the quality of personal loan and credit card services provided by banks is much poorer than that of dedicated consumer finance operations.

Beginning in the second half of the 1990s, after the collapse of the bubble economy, major consumer finance firms used their expertise from loans to credit administration and loan management to grow their business. They implemented automatic teller machines (ATMs), built and expanded networks of unstaffed service outlets, expanded cash dispenser and ATM networks through tie-ups with financial institutions, and sought to continually increase customer convenience through other measures. Competitors responded adroitly to these developments, sparing no resources to ensure first-mover advantage. As a result, the four industry majors today command approximately 60% of the market, a virtual oligopoly.

2. The dedicated consumer finance operations market matures

The dedicated consumer finance operations market has achieved continuous growth over these years on the strength of demand for its services, but the market environment is now changing. Firstly, there is the effect of the shifting population demographics. People in their 20s and 30s make up more than half of the customers for consumer finance. However, with the rapid advance of an aging population trend, the younger demographic has already begun to shrink. Future changes in population demographics are forecast to bring further contraction in the existing customer base, which makes diversification of the user base a pressing issue for all companies specialized in this field. Next, there is a dilution effect on demand resulting from the expanding supply of credit options. With non-performing loan write-offs almost complete, banks are once again focusing on their retail business through capital and business tie-ups with major consumer finance firms. Installment sales financing and credit cards companies, on the other hand, have moved forward with the reorganization of their industry, and in order to improve profitability, many have expanded their credit card cash advance business. Companies outside the industry such as IT and telecommunications are also attracted by the profit margins in the consumer finance business and have thus chosen to enter the field. The proliferation of players, products, and tools has expanded the range of choices open to users of consumer credit, thus bringing about an ongoing dispersal of customers across the industry and further intensifying the competition for market share.

Further, the industry is facing a period of shakeout and reorganization as a result of revisions to laws and regulations in this area. In December 2006, the Japanese Diet voted to revise the Money Lending Business Restriction Law, lowering the maximum legal interest rates (to 20% for loans up to ¥100 thousand, 18% for loans up to ¥1 million, and 15% for loans over ¥1 million), thereby eliminating "gray zone interest rates." The revision also includes restricting entry into the industry by making the requirements for registration more stringent, and restricting transaction volume to one-third of annual income. These regulations are scheduled to come into force by June 2010 at the latest, and it is certain that they will have a major effect on existing business models. The shakeout of small and medium-sized firms that lack the fund procurement capabilities and marketing clout of the large companies continues, and the major players are tightening their credit standards in an effort to restrain the growth of bad debt expenses. Unsurprisingly, these developments are creating concerns that there may be a temporary credit crunch. AIFUL forecasts that the long-term rapid growth in the dedicated consumer finance operations market that began in the last decade will end, and it is well on the way to becoming a mature market.

It is clear that the unsecured loan business cannot sustain the high growth rate it has seen, and the concept of a comprehensive financial services company was born of this realization. At the same time, though, this area has been the Group's core business, and despite the intense competition, it remains an important source of profit. In the future, the Group will continue to stress compliance and a customer-first philosophy. It will seek to enhance efficiency through drastic improvement of the Group's cost structure, integrating the management of consumer finance subsidiaries with that of AIFUL Corporation, while eliminating and consolidating branches. Further, AIFUL is devising a new scoring model and moving forward with the development of new products, building the capability to offer reliable financial services in a bid to continue growing its customer base.

Changes in the credit card market

1. Credit card business in Japan

According to Japan Consumer Credit Industry Association statistics, by the end of 2005 some 289 million credit cards had been issued, which represents an average of two to three cards per adult. At the end of 2006, bank-issued cards numbered 122 million, shinpan companies had issued 57 million, retailers had issued 83 million, cards, and manufacturers had issued 11 million cards. This clearly shows the dispersal of demand in the face of increased choice. The scope of the market has more than doubled. Annual credit card transactions have shown rapid growth, rising by an average of 6% per annum from ¥15.9 trillion in 1990 to ¥36.7 trillion in 2005 (Japan Consumer Credit Industry Association figures).

On the other hand, while credit card transactions account for approximately 20% of total personal consumption in the U. S., in Japan this figure is less than 10%. Further, in Japan approximately 90% of credit card accounts are paid in full every month via automatic debit from bank accounts; in the U. S., however, revolving accounts are the norm. One reason for this is that in Japan, cashiers almost always offer customers paying by credit card the option of paying the full amount in one lump sum. This system in which a customer has to make a declaration regarding what is fundamentally private affair - his payment method - seems to be unique to Japan. Accordingly, while ownership of cards is at a high level, they are not used a great deal. Also, when they are used, the full capabilities of credit are not maximized as the debt is paid in full each month. This makes them more like debit cards than credit cards.

However, with the rapid advance of information technology in recent years, the infrastructure for credit-card use has greatly improved, leading to better performance and lower costs. Airline companies' mileage accumulation and point programs operated through tie-ups with major consumer electronics retail stores increase the appeal to consumers, and the use of credit cards is on the rise. In recent years, credit cards have been offering specialized services like e-money, cash back, etc. The entry of retailers and manufacturers into the credit card arena is advancing rapidly, and competition for market share among banks, shinpan companies, retailers, and manufacturers is growing fierce.

2. The future of the credit card market

What lies ahead for the credit card market is dictated by the building of infrastructure and increased innovation by credit card companies, who are successfully increasing the share of credit card transactions in Japan's household consumption expenditure. At present, the integration of online shopping and bank cash cards, IC credit cards, and e-money are increasing the functionality of credit cards. Indeed, places that had once demanded cash only, such as public utilities and medical facilities, are now accepting credit cards. As a result, the convenience of using credit cards is increasing rapidly. This market has the potential to grow as the "hard work and frugality" generation of old is replaced by today's "borrow for lifestyle" generation.

Up until recently, credit card companies were relatively risk adverse, reluctant to provide cash advances and offering only limited credit facilities. However, the mindset is changing. Credit lines for preferred customers are more relaxed, and a strategy of marketing to customers through direct mail and other measures are being pursued. As a result, the consumer finance and credit card segments are expected to undergo some degree of separation but will coexist in the same market, which is likely to expand. Indeed, this development will likely benefit companies like AIFUL who have capabilities in both markets, helping it achieve stable growth and profits.

3. LIFE's credit card operations

The credit card business is a major contributor to the AIFUL Group's consolidated performance, and since LIFE joined the Group in March 2001, there has been steady growth in this area. In the key areas of increasing credit card issuance and raising the utilization rate in particular, the credit card business has achieved remarkable success. To increase credit card issuance, LIFE issues co-branded cards jointly with large, reputable partner firms. Separately, it is taking steps to issue cards with unique themes, such as bank alliance credit cards and non-profit organization affiliated credit cards. Finally, it is diversifying channels for application, including the Web as well as its nationwide network of marketing bases. To increase the utilization rate, Life is running campaigns to promote the issue of credit cards for utility payments and electronic toll collection. It is also increasing its visibility through television commercials, offering popular point programs, as well as taking other effective steps to stimulate the growth of its credit cards in the market. The Group will continue to concentrate its management resources on the credit card business, expanding its own base while forging new partnerships, strengthening existing alliances, and moving forward with new opportunities.

Business loan market

1. Current conditions in the business loan market

According to the Small and Medium-Sized Businesses White Paper published by the Small and Medium Enterprise Agency, as of the end of 2001 there were approximately 5.6 million small and medium-sized businesses - with 20 or fewer employees - across Japan. In the past, the owners of these small and medium-sized businesses secured low-interest financing from mega-banks, regional banks, shinkin banks, and other financial institutions using real estate as collateral. High-interest financing could be secured from business loan companies in the high risk market, using a guarantor. Through either one of these means, they were able to procure funds needed for business.

Today, the long-troubled small and medium-sized companies are at last benefiting from the economic expansion and are showing improvement in their earnings, while their willingness to make business investments is steadily recovering. At the same time, mega-banks, regional banks, shinkin banks, and other financial institutions continue to have a low tolerance for risk, and credit hurdles are high. Therefore, despite the fact that businesses in the middle risk market have immense need for funds, they are unable to have sufficient access to financing.

From AIFUL's perspective, there is a gap in the market that presents an opportunity: in the business loan sector (middle risk market), listed companies with high credit ratings as well as small and medium-sized companies are unable to source financing despite the constant need for funds. The demand for financing from small and medium-sized businesses remains sizeable even in the high risk market. To note, despite the business loan scandal eight years ago that resulted in a contraction of loans made among some major lenders, other leading lenders continued to see loan growth. This shows that small and medium sized businesses and sole proprietorships underpin the strength of business loan demand. In the middle risk market, there is little competition in the area of unsecured financing for business people, thus the growth potential marketing this area is substantial. Financing for small and medium-sized businesses, primarily from mega-banks and regional banks, is fast becoming more available, but in actual fact, this financing is not for small and medium-sized businesses, but more for low-risk medium-sized businesses.

2. AIFUL Group activities

Since 1995, AIFUL Corporation has employed its expertise in marketing business loans to expand its business, with AIFUL Corporation and City's operating in the high risk market, while Businext Corporation and AIFUL Corporation's bank guarantee operations in the middle risk market. If one takes into account the AIFUL Group's loan growth potential in the business loans market, it is reasonable to expect that the Group will continue to increase its presence in this segment. In the Japanese business loan market today, only the AIFUL Group works with multiple brands, establishing credit facilities based on an excellent corporate scoring system, and using a branch network on a national scale. Going forward, the Group's policy will be to focus on the marketing of middle risk business loans, complying with the Interest Rate Restriction Law (Interest Control Law), restructuring its product portfolio, and continuing to concentrate on middle and high risk markets as a source of growth for the Group.

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