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Has Japan's Matsukiyo Seen Its Best Days?

Once a darling of investors, the discount drugstore chain has become a victim of overreach and competition.

TOKYO -- When a recession hit Japan a couple years back and consumers tightened their purse strings, few firms figured out how to benefit from the unaccustomed situation.

Japan, after all, is famous for being a brand- and status-conscious society. A discounted

Sony

TV just doesn't seem as technologically advanced as a full-priced unit, even if it has all the bells and whistles. Therein, of course, was the rub. How do you sell bargains to people who feel more comfortable paying retail?

MatsumotoKiyoshi

, a discount drugstore chain with humble origins in the countryside surrounding Tokyo, stumbled onto the surprisingly simple answer: Offer finicky shoppers bargains on products and turn the retailer itself into the brand.

That's exactly what Matsukiyo, as the distinctive neon yellow stores have come to be known by faithful 20-something shoppers, has become. Downtown Tokyo stores choke with bewitched teenaged girls pawing over a sprawling selection of hair gels and sprays, lipsticks and glosses, and a myriad of other grooming accessories. Sure, they could find the products at any other drugstore, but this is Matsukiyo.

In implementing the strategy, Matsukiyo became a darling of investors. Its stock price nearly doubled last year and fickle foreigners, who are in and out of stocks more quickly than the fashion fads that sweep over Japan, bought up about 20% of the company. And like a foreigner triumphing in the ritual-bound world of sumo, MatsumotoKiyoshi became only the third company to jump directly to the

Tokyo Stock Exchange's

first section, Japan's equivalent of the

New York Stock Exchange's

Big Board, from the over-the-counter market.

Success, however, has bred overreach and competition. A growing number of analysts and investors now say Matsukiyo's best days may be behind it.

Over the past six weeks, its shares have almost slipped 10% from its all-time high. While Matuskiyo is still up 105% this year, domestic rivals such as

Tsuruha

and

Sundrug

TheStreet Recommends

are up 216% and 208%, respectively. The entire drugstore sector has doubled the company's performance.

Behind the concerns: A swift and steady expansion -- it's added 45 stores so far this year and total outlets are expected to reach 450 by the end of 1999 -- that is taking Matsukiyo to suburban Japan, where unglamorous loss-leaders such as toilet paper sell better than high-margin items like cosmetics.

Analysts say that in the suburbs, sales of low-end items can account for as much as half of a store's total revenue, while in urban areas that figure drops to a quarter of revenue. Already, the dynamic is cropping up in MatsumotoKiyoshi's statistics. The growth rate of sales is expected to be 17.4% for the first half of fiscal 1999, down for the third consecutive year, according to company data.

"The risk is that

MatsumotoKiyoshi has a low-margin strategy which they haven't adequately explained why they adopted," says

Robert Burghart

, small company analyst at

ING Baring Securities Japan

. ING Barings, which has no investment banking relationship with the company, put a sell recommendation on Matsukiyo in February.

As if MatsumotoKiyoshi's stretched margins weren't enough of a problem, the firm is now facing a foreign invasion. U.K. drugstore operator

Boots

has opened three megastores in Tokyo this year and has said it is thinking about building a few more in 2000.

Sephora

, a cosmetics and perfume chain that belongs to the

LVMH-Moet Hennessy Louis Vuitton

(LVMHY)

luxury goods group, is also scheduled to open up shop this month.

Perhaps it won't take long for the foreign brand names to cast their spell over Matsukiyo's customers.