UNCLAS SECTION 01 OF 03 TOKYO 003507

SIPDIS

STATE PLEASE PASS TO USTR

SIPDIS
SENSITIVE

E.O. 12958: N/A
TAGS: ETRD ECON ECOM JA
SUBJECT: Earthquake Dents Japan's Auto Industry


1. (SBU) Summary. The July 16 earthquake off Niigata affected
the Japanese auto industry nationwide. Production recovered
relatively rapidly, however, and industry sources tell us that
lost production will be made up by year end. Companies' all-
important bottom lines will only be minimally affected, if at all.

The quake provoked some criticism of the industry's vaunted just--
in--time lean production system and anxieties over the
vulnerability of manufacturing supply chains. The auto industry
and METI claim the system worked as designed: maintaining low
inventories and a flexible workforce, hallmarks of the lean
production system, proved to be the most cost-effective way to
manage risk. In the future, the auto industry will be hedging
its bets and looking to disperse production around Japan and
abroad. The dominant position of Japan in key manufacturing
areas and the concentration of production in certain companies
and plants create the lingering possibility that a major natural
disaster in Japan could affect manufacturing globally. End
summary.

The Effect of the Earthquake on Auto Production
-------------- --


2. (U) The earthquake off Niigata on July 16 shook the auto
industry all over Japan. Riken Company's Kashiwazaki plants in
Niigata prefecture produce fifty percent of the piston rings used
by vehicle manufactures in Japan and seventy percent of seal
rings used in hydraulic transmission systems on vehicles. By
July 18 auto companies began to announce plant shutdowns due to
lack of these key components starting July 19. The auto plants
stayed shut until the Riken re-started some of its production
lines on July 22, allowing the automakers to resume production as
of July 25. The effects of the earthquake on output, however,
will be felt for another few weeks. Fujio Cho, Chairman of
Toyota and the Japanese Automobile Manufacturers Association
(JAMA), told the press on July 25 that the assembly plants would
not resume full operation until the end of the mid-August
holidays. Toyota President Katsuaki Watanabe announced his firm
missed production of 60,000 vehicles, and depending on the source,
nationwide production was delayed on 100,000-120,000 cars, buses

and trucks, considerably more than the 40,000 units of lost
production caused by the massive 1995 Kobe quake. New-car sales
in the domestic market will temporarily decline, Cho said, noting
that popular cars are out of stock at some dealerships because of
suspended production.


3. (SBU) The shutdowns and production delays are not expected
to have a major impact on the industry, automakers' overall
production or bottom lines. (Note: Eight percent of the total
Japanese work force -- 4.95 million people, of which 820,000 work
in manufacturing -- are involved in the auto industry according
to JAMA. Endnote.) The main shutdown period of July 19-24
spanned a weekend and only three or four days of full production
were lost: At Nissan, a company official told us their plants
were down for just three days. Although the press reports some
grumbling on the part of workers who may be working overtime or
during holidays, a Honda official's remarks to us that that Honda
can compensate by boosting production generally confirmed the
press accounts of the industry's ability to make up lost
production. One of the big investment houses shared their
"instant" analysis with us, estimating a loss of 20 billion yen
per day for halted production collectively for the automakers.
This could be made up by year end by increased production in the
second and third quarters. Toyota's President Watanabe
independently confirmed the same in a statement to the press.
The Big Three Japanese automakers -- Toyota, Honda and Nissan --
all told the media that the shutdowns would not affect exports.

Debate Over the Just In Time -- Lean Production System
-------------- --------------


4. (SBU) The press has questioned Japanese automakers' just in
time or lean production systems which focus on keeping minimal
inventories. Widely acknowledged to be an effective production
method during normal times, its strength now seems to be a major
weakness. The industry and government, however, are disputing
this criticism. A JAMA representative told us the cynicism
displayed by the Japanese press toward the just in time-lean
production system was unfounded. It is a system that works and
strikes the correct balance in managing risks and costs.


5. (SBU) A METI official added that, in fact, the principles of
the system were used to mitigate the consequences of the quake.

TOKYO 00003507 002 OF 003


He underscored, moreover, the response was in accordance with
pre-planned procedures the auto companies have developed to
confront past production stoppages. Since an emergency and its
effect on parts production cannot be predicted, the trick is to
have a flexible workforce rather than a stockpile of "gadgets."
For example, he recounted, a while ago, a Toyota seat-making
plant in the Philippines was hit by a labor strike. Observers
had expected Toyota to stockpile seats as a precaution. Toyota
did not, and when the walkout occurred, Toyota instead sent
middle-aged Japanese women with seat-sewing experience to
continue production. Similarly, the carmakers' quick dispatch of
some 700 workers to the damaged Riken plant demonstrated the
resiliency of a production system that emphasizes labor
flexibility rather than inventory stockpiles when confronted by a
disaster. It was a very sophisticated response with logistics
and support people being sent as well as engineers, the former
arranging for housing and transport, freeing up the latter to do
their primary work. (An industry insider explained to us that
much of the equipment used by the automakers to produce engines
is similar to the machinery at Riken. Thus, with the closure of
the production lines, maintenance workers and engineers could be
dispatched to Riken to repair the damage.)


6. (SBU) Consulate Nagoya notes that Japanese automakers also
may keep more inventory readily available than is generally
understood, particularly for strategically important or single-
sourced parts. On the plant floor, the just-in-time system may
result in as little as two hours of inventory on hand, but
depending on the part, nearby warehouses owned by the automakers
can stock several days of supplies. The JAMA representative
added that there is already some seasonal variation in
inventories to take into account the possibility of a heavy
snowfall interrupting the delivery of components parts from a
snow-bound parts supplier.

Worries Over Manufacturing Supply Chain Vulnerabilities
-------------- --------------


7. (SBU) Although the industry may have dodged a bullet this
time, the quake revealed an unexpected vulnerability -- at least
to the general public and the press -- to Japanese manufacturing
supply chains and has led to some fretting about other weak
points, where one company has a large market share of a critical
product. In the auto sector, several manufacturers have dominant
market shares for other critical parts, e.g.: Denso Corp. has 60
percent of the car air conditioner market; Asmo Co. supplies 53
percent of radiator fans; and Tokai Rika produces 49.4 percent of
the electrical switches. The quake also affected production at
other companies such as Canon and additional electrical machinery
and precision equipment manufacturers which rely on supplies from
spring manufacturer Advanex, whose Kashiwazaki factory was also
damaged. A Sanyo Electric chip making subsidiary stopped
production temporarily due to the quake; the facility had
suffered major damage from an earlier earthquake, which at the
time caused a decline in Sanyo's earnings.


8. (SBU) The Japanese press highlighted other industries that
are vulnerable to disruption, the effects of which would not only
be felt in Japan, but globally. The Yomiuri wrote that the 1995
Kobe earthquake heavily damaged Kobe Steel's facilities, greatly
disrupting the production of wire rods for valve springs on
vehicle engines; with Kobe Steel's 50 percent of the global
market share, the production of autos around the world was
affected. The Yomiuri warned that Kobe Steel's Moka plant in
Moka and Furukawa Electric Co.'s Nikko plant, both in Tochigi
Prefecture, are the sole world-wide manufactures of a substrate
needed for the production of hard disks for personal computers
and HD-DVD players, and Kuraray Co. has a share of about 80
percent of the global market share in polyvinyl alcohol film
which is used for a liquid crystal displays.


9. (SBU) One Yomiuri editorial writer also used the quake as
hook to expound on the dangers of foreign investment, noting on
August 1 that, "If a foreign company succeeds in a hostile
takeover bid against Riken, all Japanese automakers will have
their lifeline controlled by the foreign firm." Post has heard
similar anti-FDI rhetoric before and does not think this opinion
piece will have much impact -- the Yomiuri is the largest daily in
Japan but is not the opinion leader on economic matters -- yet it
is symbol of the depth of feeling here in some quarters about FDI
and the lengths they will go to make their case.

The Aftermath

TOKYO 00003507 003 OF 003


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10. (SBU) Despite the relative success of the auto industry's
response, producers are hedging their bets. The JAMA
representative emphasized that the quake provided a good
opportunity to review supply chains and become more aware of
problems resulting from concentration of production in one plant
or area. Also, METI is recommending checking supply chains using
a U.S. methodology to assess risk. Many big companies have
already done this, but smaller companies have not. JAMA has
called on the parts and vehicle manufacturers to consider
producing at multiple locations. Toyota announced it would
reexamine its supply network to see if dominant manufacturers'
production can be dispersed. Riken is looking to distribute its
production in Japan and as well as to China, the United States
and Europe.

Comment
--------------


11. (SBU) The roll out of statistics in the Japanese press of
the dominant market position enjoyed by certain component
suppliers combined with the concentration of production in a few
key plants is impressive for its implications were a major
natural disaster to strike a central manufacturing area of Japan.
As the Japanese auto-makers take stock of their manufacturing
supply chain, identifying manufacturing vulnerabilities in Japan
that could affect the global economy could be helpful preparation
for the next big quake. Post expects the quake to give further
encouragement to ongoing contingency preparations and disaster
planning on the part of Japanese industry. Toyota, which is a
proven learner as a company, will use the lessons of the quake to
strengthen its operations and risk management practices.
SCHIEFFER