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(STILL) MADE IN JAPAN
Apr 7th 2004

How are Japan's manufacturers faring against low-cost competition from
China?

JAPAN'S manufacturing has been steadily moving overseas, most obviously
to China. Among the reasons: wages in Japan are much higher, by a
factor of between 20 and 30 times. Look more closely, however, and
China is far from being the only threat facing Japan's manufacturers.
Individual Japanese companies talk as much about competitors in America
and Europe as they do about China. Some are most concerned about the
technological prowess of South Korean firms such as Samsung and Hyundai.

Many Japanese companies are raising their game, using a range of
strategies to fend off low-cost competition from overseas. Some of them
are fortunate because they start from positions of relative strength.
Leading firms such as Toyota and Canon have developed integrated
manufacturing systems that are far more sophisticated and complex than
rivals can manage. In other sectors, companies have learned how best to
protect trade secrets that have long made them competitive, often
bringing back home activities that might otherwise risk exposure to
rivals. And most big firms believe that they can keep an edge in future
by continuing to invest in new generations of products.

Japan's weak spot is in low-cost, mass production, which has been
steadily leaving for lower-wage countries (just as it has also been
seeping out of western Europe and America). There are only rare
examples of Japanese companies trying to compete from a domestic base
in the low-cost arena. One is Suzuki Motor. Its latest hit is a
stripped-down budget scooter that costs one-third as much as regular
scooters. Designed for urban short-distance drivers, it has eliminated
some parts, such as rear suspension, once thought essential. Clever
though this is, low-cost manufacturing in Japan is likely to be limited
to niche products; Suzuki admits its efforts could be "a useless
struggle" against an inevitable tide.

Although they interfere less than they once did, Japan's bureaucrats
are concerned by the prospect of manufacturing, especially high-tech
manufacturing, going abroad. Surely, the thinking goes, if one Japanese
company builds a plant in China, and the technology is copied, then all
of the firm's Japanese rivals will face cheap competition? Hidetaka
Fukuda, who oversees information technology for the Ministry of
Economy, Trade and Industry, says that METI stepped in earlier this
year to persuade NEC, an electronics giant, to sell its plasma-display
business to local rival Pioneer, rather than a foreign investor, as a
way to keep its technology in Japan. Mr Fukuda says that he is
currently in similar negotiations with roughly ten other companies that
might otherwise transfer technology abroad.

Sometimes cheap labour is not the prime motive for moving abroad. For
instance, carmakers and construction-machinery makers say they have set
up overseas simply in order to follow customer demand. Honda, Japan's
second-largest carmaker after Toyota, says that, by building plants
close to its markets, it can reduce production times, distribution
costs and currency losses. Research facilities are set up overseas in
order to tailor cars to meet regional needs, such as sports-utility
vehicles in America with extra towing capacity, rarely required in
Japan. Manufacturing techniques, such as welding methods, continue to
be refined at home.

Indeed, many manufacturers are responding to competition by keeping
core technologies secret and at home, while moving low-value-added
production and assembly operations abroad. For instance, Toshiba,
Japan's biggest chipmaker, is racing to develop high-end chips, and
says it is determined not to repeat past mistakes. Initially it
co-operated with South Korean chipmakers in basic DRAM memory chips,
which have since become commodities, only to find its rivals overtaking
it far more swiftly than it had expected.

Others have discovered additional virtues in making things at home. Two
years ago Kenwood's new boss, Haruo Kawahara, shifted production of
mini-disc players from Malaysia back to Yamagata, Japan. This
"in-sourcing" has raised profits in several ways, which highlight three
long-standing advantages of the Japanese approach to manufacturing:
specially trained workers, low defect rates and "lean" processes that
hold down inventory costs and boost production flexibility.

Unlike Kenwood's Malaysian workers, who come and go frequently, workers
in its Yamagata factory stick around long enough to master several
different tasks. A typical Yamagata worker can quickly do four or five
steps in the assembly process before handing over to another worker,
whereas employees in the Malaysian plant did one step each. These days
it takes four employees to put together a mini-disc player in Yamagata,
compared with 22 Malaysian workers before the move. The Japanese plant
takes up 70% less space, while the defect rate has fallen by 80%.

MOULDY BUSINESS
An under-appreciated, but critical, sector of Japanese manufacturing is
the country's mould-makers. Tiny, secretive firms generally consisting
of less than a handful of workers, these craftsmen usually work in what
look like dim, grimy, oversize garages, filled with worn machines and
piles of scrap metal. Industrial moulds are used to create the shape
and form of almost anything that can be picked up, from ballpoint pens
and toys, to mobile-phone and satellite parts. The work is highly
specialised. Many mould-makers, now in their 50s and 60s, started
learning their trade when they were children.

The best firms, clustered around Ota, Shinagawa and Sumida wards in
south and east Tokyo, make moulds, often prototypes, for the top
international names in cars and consumer-electronics--and even for
NASA, America's space agency. "Mould-making technology lies at the base
of all manufacturing. If this were to start disappearing, it would be a
danger sign for Japanese manufacturing," warns Mr Kinoshita.

Opinion is split as to whether warning lights are now flashing. Since
1990, almost 40% of mould-makers in Sumida have gone out of business
(and only one new one was set up), while more than a third of the
remainder had no work at the start of the year, says Yukio Ouchi, an
economic commentator who has studied more than 4,000 mould-makers. This
reflects a broader trend. One street in Ota, once filled with top-notch
mould-makers and other small manufacturers, initially dubbed
"bankruptcy street" was subsequently renamed "suicide street",
reflecting growing pressure from loan sharks.

Kazuo Hori, president of Koyo Seiko, a mould-maker mainly for ballpoint
pens, says he has lost almost half his business, mostly to China, over
the past year or so. Though some big manufacturers are coming back
because quality is higher at home, many mould-makers have gone bust
during their absence. More disturbing is a recent trend in which
unscrupulous Japanese manufacturers steal mould designs to send to
cheaper Chinese makers.

Still, there are bright spots. Business is booming for mould-makers
that specialise in car parts and mobile phones. Despite the overall
decline, many of the best firms have managed to hang on, says Mr Ouchi.
Diversification helps. Tohru Izumi, boss of Izumi Kanagata, counts
every Japanese carmaker and, since the late 1990s, an increasing number
of foreign carmakers, such as BMW and Jaguar, as recipients of
car-audio panels made from his moulds.

Which bits of Japanese manufacturing will survive and flourish will
depend on managers' ability to identify, hold on to, and improve,
Japan's inherent strengths. In an influential recent article, "A
Twenty-first-century strategy for Japanese manufacturing"*[1], Takahiro
Fujimoto, a professor at Tokyo University, said it is too simple to
suggest that Japan should focus on high-value-added production. What
Japanese manufacturers really excel at, he argued, are "products whose
functions require many components to be designed in careful detail and
mutually adjusted for optimal performance". This requires close
teamwork within a company, as well as co-operation with suppliers.

THE JAPANESE WAY
This ability to meld different skills and technologies is a common
feature among top Japanese manufacturers in several sectors. For
instance, successful photocopier companies, such as Canon and Ricoh,
combine precision mechanics, advanced chemical processes for toner
inks, and servicing skills. Cars, too, are all about mixing different
technologies. "There is no 'core' technology in cars," says Mitsuo
Kinoshita, chief production control and logistics officer at Toyota,
Japan's top carmaker, which last year overtook America's Ford to become
the second-largest seller of cars. For example, he explains, it is not
enough to perfect a hybrid system (which combines an engine that runs
on petrol with an electric motor) in the laboratory: an equal amount of
expertise is needed to make sure it works when actually placed in a car.

It is hard, says Masahiro Sakane, president of Komatsu, Japan's biggest
construction-machinery maker, to come up with fresh business models
that exploit mixed technologies. Yet doing this well produces rewards.
Komatsu added information technology, such as global-positioning
systems (GPS), to hydraulic excavators three years ago to combat theft,
and help machinery-rental firms track how much fuel individual
excavators had left in their tanks. Yet this has also unexpectedly
helped raise sales of Komatsu's excavators in China, where the
beginnings of a credit crunch are emerging--banks consider excavators
with GPS easier to seize as collateral against soured loans.

One company in an excellent position to see how Japanese manufacturers
are faring is Omron, which makes a range of sophisticated sensors and
scanning devices that get used on other manufacturers' assembly lines.
Omron sells these devices not only to Japan's domestic manufacturers,
but also to firms building overseas plants in China (among other
countries). Factories in China are upgrading their methods, and are
buying more Omron devices to help. Factories in Japan, however, are
hardly standing still.

One Omron product that is popular in both China and Japan is a scanner
that inspects the substrate of printed-circuit boards for minute
imperfections. In China, placing one of these scanners at the end of
the line is good enough: defective products can be discarded before the
rest are shipped to customers. In super-efficient Japan, however,
detecting flawed products so late is seen as shamefully wasteful. So
Omron has made a new system for Japanese clients that networks several
substrate scanners together. Complex software gives a warning when
aberrations start to appear--and then immediately pinpoints which
machine needs tweaking.

CANON FIRING
Canon, which has a high-tech product line ranging from precision
photocopiers, to optical components for digital cameras, to expensive
equipment for making semiconductors and flat-panel television screens,
is a good example of how Japanese firms are re-grouping in the face of
competition from abroad. Fujio Mitarai, its boss, said earlier this
year that over the next three years, 80% of Canon's global capital
spending will be in Japan. Among other investments, it is building a
high-end digital camera factory in Oita prefecture and a new research
centre near Tokyo.

Canon is hardly naive about the benefits of outsourcing: 42% of its
worldwide production is overseas. To maintain its technological edge
and high profit margins, however, it must balance low-cost
manufacturing abroad with the high-tech precision it achieves in Japan.
Mr Mitarai told THE ECONOMIST recently that he has a rough cut-off rule
for allocating investment: anything for which labour comprises more
than 5% of production costs can be done in China or some other low-wage
country. Because Canon continues to invest in R&D, Mr Mitarai reckons
there should be plenty left to do profitably in Japan. For instance,
labour accounts for only 2% of the cost of its lithographic steppers,
which are used in making semiconductors and fetch around $22m each.

Few of Japan's manufacturing bosses, however, are as relaxed as Mr
Mitarai is about China. In Japan's vast electronics sector, for
example, digitisation has forced business leaders to think long and
hard about China's changing role. The rapid spread of new digital
devices--such as DVD players, mobile phones and digital cameras--has
allowed China to do something much simpler than moving from easy
technologies to harder ones. Instead, it has actually leap-frogged the
harder stuff (ie, analogue devices) to get to newer and easier digital
products.

Manufacturers in China would have a dreadful time producing good
conventional film cameras, for example, because of the complex optical,
chemical and mechanical processes that must be mastered. But Chinese
factories have little trouble assembling digital cameras: all they need
to do is to obtain advanced components from Japan that are pre-designed
to work in harmony when snapped together.

This combination of digital diffusion and Chinese expansion is driving
two profound changes among Japan's electronics firms. First, it has
widened an important split between makers of many final consumer
products (such as Sony, Sharp and Matsushita's Panasonic brand) and the
scores of focused Japanese firms that feed materials, components and
equipment into the process. The second, related, change is a rapid
erosion of the barriers that have long allowed Japanese manufacturers
to protect their trade secrets.

Because China and other low-wage countries need their inputs to make
digital products, Japan's focused suppliers and equipment-makers have
been doing especially well. They boast large global market shares in
specialised niches: ceramics and other fine materials for
semiconductors, tiny motors for hard drives and other digital
equipment, a range of sophisticated machines for making liquid-crystal
display panels, and so forth.

The big consumer electronics companies, by contrast, make a wide range
of both components and final products. China's growing production base
and the spread of digital products thus presents the big firms with a
confusing mix of threats and opportunities. They have lately been
enjoying brisk global demand for mobile phones, digital cameras and DVD
recorders, along with a rising appetite for flat-panel TVs and other
higher-end home electronics. Yet they face tough competition and must
rely on cost cutting and a steady stream of new models to maintain
profit margins that are already low. They must keep shifting production
to China, therefore, to keep up with one another.

LOOKING SHARP
The rapid movement of manufacturing to South Korea, Taiwan and China
is, in turn, forcing Japanese firms to think much harder about which
technologies to protect and which activities to leave in Japan. Since
much of their edge depends on closely held trade secrets, this is
becoming ever more difficult.

Earlier this year, Sharp opened a new "sixth-generation" plant to make
flat panels for televisions in Kameyama, Mie prefecture, which cranks
out panels much bigger than those made in fifth-generation plants.
Sharp (and rival Samsung) is pushing the frontiers of this technology.
Designing a new plant requires the sorting out of dozens of complex
steps, each with its own specialised equipment, all of which must work
seamlessly to churn out delicate panels with almost no defects. Sharp's
reward is good profits at the relatively uncontested high end when it
introduces bigger flat-panel TVs from newer and more efficient plants.

Nearly all of the important suppliers to Sharp are Japanese. That has
been great news for Mie prefecture, which has been reinvigorated by a
cluster of over 50 firms that have built facilities there to be closer
to Sharp's Kameyama plant. Unfortunately for Sharp, however, its
suppliers also work closely with its rivals, many of them Taiwanese. By
the time the paint had dried in Kameyama, imitators in Taiwan were
already cobbling together their own sixth-generation plants.

Sharp goes to great lengths to slow its rivals down. When a machine
breaks down, engineers now try to fix it in-house rather than telling
the supplier--just to keep equipment-makers in the dark about any
problems that might occur on the machines they have sold to Sharp's
competitors. For the same reason, the company quietly rewrites the
software on some equipment once it is installed.

The cumulative effect of many such small steps is to defend Sharp's
global market position from erosion, at least for now. Other Japanese
manufacturers have absorbed this and other lessons. Having invented
lean manufacturing, they are not about to let low-cost rivals have it
all their own way.

*Published in Japanese in BUNGEI SHUNJU in November 2003, translated in
JAPAN ECHO[2]in February 2004

-----
[1] http://www.economist.com/#footnote1


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