The Losing the Competitive Advantages of Keiretsu Inter-Firm Structure - Research Paper Example

Keiretsu Inter-Firm Structure - The Lost of Its Competitive Advantages Due to Globalization - Table of Contents I. Introduction …………………………………………………………. 3 II. Keiretsu Inter-Firm Structure as a Relationship-Based System ……. 4 III. The Competitive Advantage of Keiretsu Inter-Firm Structure ……… 4 IV. The Decline of Japan’s Economy Between 1990s up to the 21st Century ……………………………………………………… 5 a. The Burst of Japanese ‘Bubble’ (1990 – 1992) ……………. 5 b. The Asian Crisis – 1997 ……………………………………. 6 V. Evidences that Keiretsu Inter-Firm Structure is Losing its Competitive Advantages ……………………………………………. 6 a. A Stable Inter-Firm Equity Holdings ……………………… 6 b. Banking Relationships ……………………………………… 7 c. A Stable Buyer-Supplier Relationship ……………………... 7 d. Mutual Assistance …………………………………………... 8 VI. Points of Discussion …………………………………………………. 8 VI. Conclusion …………………………………………………………… 10 References ………………………………………………………………. 11 - 14 Introduction Before the World War II, most of the Japanese businesses are operational under zaibatsu system or family-based interest groups. After the World War II, it was necessary for the Japanese firms to create an inter-firm networks for the benefits of the small firms. Keiretsu inter-firm structure or a diversified enterprise group contributes a lot to the success of the Japanese economy. Since the World War II, the Japanese businessmen are highly dependent with relying on inter-firm networks which is commonly characterized with the use of horizontal as well as vertical Keiretsu group of companies. Most of the Keiretsu inter-firms create a strong relationship among its board members, personnel flows, and the sharing of mutual business assistance. For this reason, individual shareholders are left with little voice to control over the corporate activities. The Japanese banks are considered to be the one of the largest shareholders and creditors of keiretsu as well as non-keiretsu corporations. These banks are among the most aggressive players in the Japanese corporate governance during the post-WWII.1, 2 Right after the post-WWII, the Japanese banks had no choice but to undertake a huge-risk in exchange for much higher return projects.3 This study will focus on providing evidences that the so-called Keiretsu inter-firm structure is less competitive in times of financial crisis as well as with today’s practice of globalization. In order to provide the readers with a better understanding about the Keiretsu inter-firm structure, the author will discuss about Keiretsu inter-firm structure as a relationship-based system, the competitive advantages of Keiretsu inter-firm structure between the post-WWII up to the late 1980s, and the decline of Japan’s economy between 1990s up to the 21st Century. Keiretsu Inter-Firm Structure as a Relationship-Based System The Japanese Keiretsu inter-firm structure is a relationship-based system that was developed in order to enable a company to return the borrowed money back to its financiers through the use of authority or power. Keiretsu inter-firm structure is a system that creates barriers to entry by restricting the access to transparency as well as the information asymmetries. The lack of transparency and information asymmetry contributes to a fewer market signals when it comes to the prices of the Keiretsu products and services. It is only normal for the use of relationship-based systems to become successful even without the use of any legal protections. For a Keiretsu inter-firm structure to be success, it is essential for the business owners to focus on monitoring and analyzing Japan’s economic performance. According to Rajan & Zingales (1998), a relationship-based system such as Keiretsu can be very promising in case of normal economic activities within the country.4 However, this type of system can be greatly affected in times of economic shocks. In other words, it is economically beneficial to Keiretsu inter-firms when Japan is experiencing a strong economic foundation. The Competitive Advantage of Keiretsu Inter-Firm Structure The Japanese Keiretsu inter-firm structure also known as networking or supplier relationship could create a competitive advantage when the Japanese economy is doing well. The main idea of vertical Keiretsu is to create a strong business relationship between the manufacturing company and its suppliers and customers.5, 6, 7 It is also possible for industrial keiretsu to link vertically with its suppliers by going through a cross-ownership of equity agreement.8 Some financial Keiretsu companies link with a common main bank by extending a part ownership stake with the network firms in order to be granted with loans and other commercial services.9 A positively strong buyer-supplier relationship contributes a lot to the effectiveness and efficiency of the manufacturer’s production and distribution line 5, 10 since it allows the local manufacturers to maximize the use of its capital by strongly implementing a just-in-time (J.I.T.) delivery of raw materials and minimizing the waste of capital resources by over production of finished products. A strong network of closely linked suppliers makes it possible for the implementation of efficient delivery of raw materials to succeed.10 In line with the efficiency of delivering the raw materials to the manufacturing companies in Japan, it is also possible to reduce the production costs because of a more reliable integration and coordination between the manufacturing company and its suppliers. 8, 11, 12 The stable supplier relationship allows the manufacturing firm to closely monitor the supplier’s ability to deliver good quality raw materials on time.13 It also reduces the information asymmetries resulting into a better incentive for a long-term relationship to develop.14 The Decline of Japan’s Economy Between 1990s up to the 21st Century The Burst of Japanese ‘Bubble’ (1990 – 1992) The economic activity of Japan during the 1990s was not stable due to the sudden downturn in its economic activity. The decline in Japan’s economic activity started with the burst of the Japanese ‘bubble’ between the years of 1990 – 1992.15 At this point, the Japanese financial institutions were experiencing a serious credit crunch as well as the depreciation on the firms and household assets causing the disruption in the Japanese business cycle. The Asian Crisis – 1997 Another major external factor that hit the Japanese economy was the Asian crisis in 1997. According to Lemmons and Lins (2003), particularly the Asian crisis during the late 1990s contributed to the sudden downtrend of Japan’s economic activities.16 The Japanese economy being highly dependent on the exportation of electronic products and automobile experienced a significant decline in their annual sales since most of the nearby countries where they export most of their finish goods were also greatly affected in terms of their own economic activities. Evidences that Keiretsu Inter-Firm Structure is Losing its Competitive Advantages Considering the economic decline in Japan throughout the 1990s, a considerable change in the regulation was necessary particularly with four major pillars in the Japanese relationship-based economy. These major pillars include: a stable inter-firm equity holdings, banking relationships, stable buyer-supplier relationships, and mutual assistance. A Stable Inter-Firm Equity Holdings In order to survive economically, it was necessary for Japan to implement financial deregulation and enter into the global financial markets. This strategy created a much wider foreign investment as well as equity holdings. According to Ahmadjuan and Robbins (1999), the relationship between the institutional investment and foreign investment is downsizing.17 It means that the outside and foreign investors are slowly creating an alternative business model.18 Statistics show that within a short span of time, the foreign ownership in some of the major firms in Japan increased from 5% back in 1991 up to 18% in 2003.19 Therefore, the first pillar wherein there is a strong and stable inter-firm equity holding is already violated. Banking Relationships In terms of banking relationships, the Japanese banking system was greatly affected by the Asian financial crisis as well as the Japanese banking reforms. Specifically the banking regulatory change that was evident during the 1980s and 1990s. The Japanese local banks greatly reduced the traditional bank financing assistance towards the local Keiretsu and non-keiretsu companies. In fact, these banks shifted on facilitating the growth of foreign lending and the bond market instead.20, 21, 22, 23 In the end, a steady decline in local bank financing became very significant. Particularly the Tokyo Stock Exchange has noted down the significant decreased in the local bank borrowing from approximately 90% in 1980 down to 50% in 1991.20, 22, 23 A Stable Buyer-Supplier Relationship Regarding a stable buyer-supplier relationship, it is impossible for a buyer-supplier relationship in Japan to commit for a long-term benefit that is beyond a short-term cost minimization.24 It means that the negative financial effect of the burst of Japanese ‘bubble’ during the year 1990 to 1992 and the Asian crisis in 1997 on the Japanese Keiretsu firms’ difficulty with its short-term finances will create a great impact in the stability of the buyer-supplier relationship. In times of tight financial difficulties, it may be necessary for the Keiretsu suppliers to cut down on the delivery of raw materials knowing that the manufacturing company will have difficulty in paying back the delivered goods. When the suppliers intentionally delay the delivery of raw materials to Keiretsu manufacturing companies, the efficiency of their operational activities will also be highly affected. On the other hand, implementing a strict cash-on-delivery payment to the buyer would definitely distract the stable buyer-supplier relationship since both parties have already agreed upon a fixed mode of payment right from the start. Mutual Assistance Considering the after effect of the burst of Japanese ‘bubble’ during the year 1990 to 1992 and the Asian crisis in 1997 on Japan’s economy as well as the significant banking crisis, it would be impossible for the local banks to extend a financial support to the Keiretsu companies. The mutual assistance coming from the suppliers of the Keiretsu manufacturing companies is equally impossible since we are already talking of each company’s survival. Points of Discussion Today’s business focuses more on globalization. Globalization together the use of high technology could open more business opportunities to the local businesses in Japan. The main concept of globalization is to remove all external and internal barriers in order to allow a global free market to flow in the economy of each country. Along the process, it is made possible for the developing countries to outsource some of the raw materials and services at a much lower price outside their national boundaries. On the other hand, the use of e-commerce, information technology and Business-to-Business, greatly supports the main purpose of globalization by making it easier for the Japanese manufacturing firms to bargain for low cost raw materials from the global suppliers that offers an equal quality product with the raw materials that are sold locally in Japan.25 It is very clear that the essence of the practice of Keiretsu in Japan wherein large manufacturing companies is bound on creating extensive business linkages all over the national borders and industries in Japan. The practice of Keiretsu is not designed and developed in accordance to the main purpose of globalization. Considering the fact that Keiretsu inter-firms is not open to the idea of globalization, these large companies would in the end suffer from a significant opportunity loss from not being able to purchase their raw materials at a much lesser cost. Another significant concern is the selling price of finish products to offshore markets. Since large Keiretsu companies such as Toyota, Nissan, and Mitsubishi are purchasing their raw materials locally, it is possible for these companies to sell their finish products at a much higher price.26 This shortens the competitive advantage of these firms to compete in the global market in terms of competitive price and product quality. Today, electronic products are widely developed and manufactured in China, Taiwan and other countries at a much lower price. On the other hand, competitive and high technology automobiles are widely manufactured in the Western countries such as in Germany and some parts of the United States. In case the Japanese local manufacturers will decide not to outsource some of its raw materials, it is likely that the Japanese-made products will not be able to compete and retain a large portion of its global market Conclusion The trend of the world market is constantly changing with time. After post- World War II up to the late 1980s, the adaptation of Keiretsu inter-firm structure in Japan was very promising. It has been noted that the application of Keiretsu in the local business in Japan works well provided that the Japanese economy is stable and performing very well. We have discussed in the paper the negative effects of financial crisis that has resulted from the burst of Japanese ‘bubble’ during the year 1990 to 1992 and the Asian crisis in 1997 with the inter-firm structure of Keiretsu. It was very evident that a serious financial crisis could destroy the four major pillars particularly a more stable inter-firm equity holdings, banking relationships, stable buyer-supplier relationships, and mutual assistance as part of the components that build the Japanese relationship-based economy called Keiretsu. Considering the fact that these four major pillars were greatly violated due to the changing global markets as well as the domino effects of the global financial crisis, strongly proves that the competitive advantage of using the Keiretsu inter-firms structure is no longer applicable in order to keep the Japanese manufacturing companies competitive in the global market. *** End *** References 1 Morck, R and Nakamura, M. (1999) ‘Banks and Corporate Control in Japan’ Journal of Finance. 1999;54:319 – 339. 2 Morck R, Nakamura N, and Shivdasani A (2000) ‘Banks, Ownership Structure, and Firm Value in Japan’ Journal of Business. 2000;73:539 – 569. 3 Morch, R. and Nakamura, N. 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