Japanese startups struggle in a hostile environment

January 14, 2013: 9:22 AM ET

One of the world's most advanced economies is not very hospitable to technology startups.

By Michael Fitzpatrick, contributor

Tokyo sunsetFORTUNE -- Anyone looking for Japan's legendary garage entrepreneurs should not start in the garage. Tokyo, the startup hub for Japan, has few such shelters these days. While the monthly stipend of even a single parking space can cost the same as a rental apartment in California, never mind a garage. (Office rental space, too, is expensive and hard to come by for new firms.)

Considering the size of Japan's economy there are fewer internet startups that one might expect. In country that has become infamous for the hardships facing would-be entrepreneurs, securing workspace is just one obstacle would-be-startups have to overcome. According to the World Bank, Japan comes last in the average annual entry rate of new enterprises among the Organisation for Economic Co-operation and Development (OECD) countries. Add to that the lowest appetite for risk, a dearth of angel investors, and banks that often don't understand what tech startups want to do, and you have only a fraction of such enterprises kicking off compared to the US.

And yet some do manage to sprout now again amidst the rocks and thorns. "This sector is the most under-supported in Japan and therefore attracts the most international attention for its under achievements," says Terrie Lloyd a successful serial entrepreneur living and working in Tokyo. "None-the-less, where there are areas of excellence, the innovation is not far behind. Gaming is an obvious choice, but so are the many new mobile apps (graphics, communications, community) that have popped up in the last couple of years."

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A massive domestic market tied with Japan's latent talent means some startups are flourishing—Gree, Line, to name but two successes. There have been attempts, most notably by the government to seed more such self-starters but so far with mixed results. Officials have set up hundreds of incubators—up from 30 in 1999 to 336 today—but according to one report from Stanford University money has gone on marble bathroom fixings and are often administered by ex-bureaucrats with little business experience.

Young, cash-strapped entrepreneurs wary of the hand-holding of such dubious merit seem to have come up with their own solution—tech startups that take advantage of Japan's cheap, shared-office space where they are unfettered by the curse of top down management and misdirected civil servants and can quietly get along with creating new products and ideas.

Five floors above a frenetic high street in Tokyo's Shinjuku district is Hapon where hopeful entrepreneurs pay a small rent for facilities such as a large open plan office, conference rooms and work cubicles. Several tech startups share the simple but stylish space with its large, novel communal desks cut in the shape of Japan's prefectures.

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This is headquarters for many a startup in a city where office landlords often want to see company statements going back at least a year before leasing. Most importantly these young guns are beyond the reach of Japan's arch-enemy—top-down management style. "Japan's entirely male, middle-aged management has stifled innovation," says Masayoshi Hashimoto who is working on a new tech business with partner Shuku Tanizaki.

Theirs is a web-based project management tool that makes it simple to communicate and collaborate on projects. "It is the infuriatingly irritating way management here operates—using Excel for managing projects for example—that gave us the inspiration to create PradiseWare Inc." says Mr. Hashimoto.

When venting his frustration on Twitter while he worked for a large Japanese corporation a year ago Ms. Tanizaki identified with his anger and through Twitter later joined him to set up Paradiseware. They now meet most days at Happon to do business.

A rare female entrepreneur in a country brimming with dynamic, untapped female talent Ms.Tanizaki was working in finance, where she felt the typical strict hierarchy stifled her. She left to team up with Hashimoto. Working with her new partner she focuses on securing funding while simultaneously working on other startup projects. "We would like a Silicon Valley mode, but circumstances are very different here in Japan so we have different strategies," she says. "Unfortunately in Japan the older generation have all the power and the money."

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Hashimoto adds: "There lots of VCs here but they are only interested in games and new media. Perhaps our best bet is to start a global business. Too many startups here focus on only Japan."

Founder of one of Japan's must successful tech startups Rakuten, Hiroshi Mikitani would agree. He like many in Japan's new entrepreneur's club succeeded partly because of his foreign connections. He started with just two people in 1997 without raising any money and is now arguably Japan's top business success with 10,000 employees. "Other companies like us, like Uniqlo, other aggressive firms are emerging and those of us will set precedence and standards and set the trend," he says.

With Mr. Mikitani now charged, as head of a new panel, by Japan's newly installed government to come up ideas to revive the world's third largest economy his vision for tech startups couldn't come at a better time.

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