From Supply Lines
to Network Lines

in Japan's Manufacturing Keiretsu

by Johannes Selig

The internet's open communications standard offers a practical, inexpensive solution for increased networking within the manufacturing industry. TCP/IP (the Internet's communication protocol) and HTML (the basic Internet scripting language) can be utilized to easily exchange data across otherwise incompatible platforms. In fact, some industry analysts have characterized the 21st century as an "age where information flows seamlessly between agile manufacturers and their suppliers."

In the United States, for example, McDonnell Douglas Aerospace already uses Internet technology to link directly to several thousand suppliers. (The previous network hosted only about 50 suppliers.) According to the Harvard Business Review, "this open and flexible network accommodates users whose IT sophistication and relationship with each other varies greatly."

But while the formation of "virtual corporations" is being used in the West for cost-efficient coordination of large supplier networks, Japanese corporations have only recently started to look into the power of computer networking. [See "Japan's Intranet Business Gets Ready to Roll," in our November 1996 issue, page 17.-Ed.] One hurdle that Japanese manufacturers must overcome is the low level of computer installation and use. Whereas more than half of the labor force in the United States uses personal computers, NTT puts the corresponding penetration rate in Japan at less than 15%. Market researcher IDC Japan, meanwhile, finds a similar disparity in the number of installed LANs (local area networks); only 20% of PCs in Japanese corporations have internal networks, compared with over 70% in American companies.

Furthermore, in a recent study on the status of information technology (IT) in Japan, the Ministry of International Trade and Industry (MITI) reported a sharp drop in IT spending, a result of the recession in Japan in the early 1990s. While the US manufacturing industry is increasing its investments in new technology for supply chain management, MITI sees a continuing lack in state-of-the-art external networked information exchange, especially in Japan's manufacturing industry.

Traditional methods
Why are Japanese manufacturers - world leaders in computer-aided production automation - lagging behind in using the latest communications technologies to extend their supply chain by forming "virtual corporations"? After all, linking suppliers in extended supply chains has been a common feature in Japanese manufacturing since the late 1950s. These "production keiretsu" - multi-level, hierarchical supply chains networking thousands of component or subcomponent suppliers serving the keiretsu "parent" at the top of the pyramid - have long been an established and vital form of organization in Japan.

The inherent communications needs - which could easily be addressed through networked manufacturing based on Internet technology - have existed since the early days of the keiretsu. Japan's country-specific business processes have allowed the maintenance of large manufacturing networks based on "old fashioned" communication methods.

By subcontracting up to 70% (versus 30% in the US) of its production to core suppliers, the keiretsu "parent" can concentrate on final assembly. An average large manufacturer in the US deals with from 500 to 1,500 suppliers. A similar-sized Japanese manufacturer, however, cooperates directly with only 300 to 400 large component suppliers on average. These first-tier suppliers, in turn, each deal with numerous smaller subcontractors, and so on down in a pyramid of layers.

In addition, instead of relying on competitive bidding for each individual contract, Japanese partners negotiate long-term partnerships based on stable prices. While a typical US manufacturer must exchange hundreds of thousands of requests for quotations, purchase orders, and invoices with its suppliers in the course of a year, Japanese business processes enable a drastically reduced volume of information exchange with component suppliers. Furthermore, traditional Japanese business practices regarding data exchange allow the use of the telephone, mail, faxes, kanban (tracking) cards, and proprietary Electronic Data Interchange (EDI) to manage the first level of the supply chain. The core suppliers then manage the continuation of information flow with the other layers of the supply pyramid in a similar manner.

Obstacles to change
There is now, however, a trend at large Japanese engineering companies (such as Toyota, Nissan, and Nippon Steel) to seek stronger information networking based on new technologies. As researcher IDC Japan puts it, "these companies are using networks to strengthen their relations to outside suppliers." But progress overall is slow, probably as a result of the existing structure for managing the supply chain which has so far proven to be a competitive advantage.

According to Dr. Martin Hemmert, an analyst specializing in supplier relations in Japan at the German Institute for Japanese Studies in Tokyo, "already in the late 1980s, over 45% of suppliers with more than 300 employees exchanged information online with their business partners." So the larger suppliers seem already closely integrated in the network structures of the manufacturers. "But," adds Dr. Hemmert, "the high percentage of online communication with larger suppliers contrasts sharply with that of the lower levels of the pyramid. Amongst the suppliers in the lowest level [of the keiretsu pyramid], with typically 10 to 50 employees, less than 15% have online connections to their business partners."

These small companies, as well as middle-level suppliers (with an average of 150 employees), have neither the budget nor the expertise to participate in the creation of a "virtual company." As early as 1988, MITI proposed an increase in computerized networking, and it developed guidelines for the cooperative use of computers in manufacturing with an eye toward the IT needs of small companies. Yet to achieve the government's estimates of a "15% or more cost savings" that can be realized through setting up computerized networking in manufacturing, the keiretsu parent needs to become more closely networked with all layers of the supply chain. So what is the solution?

In order to create networked manufacturing in Japan, it is not sufficient to simply praise the virtues of an open communication standard across platforms and wait for networking to migrate down to the lower levels of the supply pyramid. The challenge is not to convince suppliers to link to a "virtual corporation" with TCP/IP and HTML - they are, after all, already part of a manufacturing network. The real challenge is to provide them with plug-and-play, easy-to-use, reasonably priced access to business applications for purchasing and production planning. This would give all levels of the keiretsu an opportunity to adopt state-of-the-art business process support.

Access to information in a "virtual corporation" could rely on low-cost Internet communication. "It would be nice to look up my production schedule for today from my manufacturer on my television," says Mr. Fukuyama, the 45-year-old owner of a small parts supplier. "I cannot maintain a PC, but I already have an Internet TV." And a worker at a larger supplier laments that, "our IT department is weak in new technology. I would like to get an easy link to my partners without the need for a large IT project." These comments point to the low level of IT sophistication in the supply chain as one reason for the slow introduction of computer networking in the manufacturing industry.

The role of the Net
Japanese manufacturing companies and their core suppliers will have to create "virtual corporations" by considering the information needs and IT knowledge of the lower levels in the keiretsu. Only by replacing or extending their legacy systems with affordable, simple standard business software that gives suppliers immediate access via secure Internet scenarios can the effort succeed. Via the Internet, scenarios such as the retrieval of production orders, kanban production management, or order entry for raw materials could become a "child's game" as simple as taking care of a Tamagotchi pet.

Such scenarios were shown at SAP's Internet/Intranet Release Seminar in Tokyo in April. SAP, a supplier of integrated standard business software, demonstrated, for example, access to a customer's kanban board (in Japanese or English) via a browser and the Internet as one of the standard functions of its new R/3 3.1 Internet Release. When a supplier readies a shipment, the customer's system is updated immediately. The technology is now available to create, from scratch, the needed Internet access-to-business software (such as by writing a CGI or Java script) for such EDI transactions.

Through such solutions, lower level suppliers, instead of having to create their own infrastructure, could hook directly into the system of the manufacturer and/or core suppliers via the Internet. And the manufacturer, interlinked with its core suppliers also based on Internet technology, could monitor online the complete business processes in its large supplier networks.

When this happens, Japan will close the gap in manufacturing using the latest networking technology. And with the improvements coming in data transmission security and capacity, and the right business application software for manufacturers, Mr. Fukuyama may soon be able to switch on his television, access the Internet, and start to manage his production while eating breakfast.

Johannes Selig is SAP's manager for product launches in Northeast Asia. He previously worked as director of local development (including local Internet development) in Japan.

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