Sony Network Breach Puts Hirai to the Test as Succession Looms

The day after Sony Corp. (6758) named Kazuo Hirai the frontrunner to succeed Chief Executive Officer Howard Stringer, Japan’s strongest quake hit. Three weeks into the job, an intruder hacked into the company’s online services.

The theft of personal data and possibly credit-card information for 77 million of Sony’s customers will test Hirai’s leadership because it’s the first major crisis since he became head of all consumer electronics on April 1, investors and analysts said. The breach has already led to a legal and regulatory backlash after the Tokyo-based company took more than a week to warn subscribers their accounts were compromised.

“The market is watching how Hirai handles this, especially whether it’s business as usual or he takes the chance to change things,” said Yuuki Sakurai, president at Fukoku Capital Management Inc., which manages the equivalent of $8.6 billion in Tokyo. “The solution will have to be pretty drastic to convince users that the system is safe.”

Sony yesterday slumped to the lowest in almost two years on concern the fallout will set back efforts to compete against Apple Inc. (AAPL) and Microsoft Corp. in online movies and games. Hirai is in charge of turning network services into a 300 billion yen ($3.7 billion) business in two years by connecting Bravia TVs, Vaio PCs and PlayStation game players.

Photographer: Kimimasa Mayama/Bloomberg

Kazuo Hirai, president and chief executive officer of Sony Computer Entertainment Inc., speaks during the unveiling of Sony's PlayStation Portable video-game player during the PlayStation Meeting 2011 in Tokyo. Close

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Photographer: Kimimasa Mayama/Bloomberg

Kazuo Hirai, president and chief executive officer of Sony Computer Entertainment Inc., speaks during the unveiling of Sony's PlayStation Portable video-game player during the PlayStation Meeting 2011 in Tokyo.

“Almost everything Hirai has been trying to do has an element of network,” said Masahiko Ishino, an analyst at Mitsubishi UFJ Morgan Stanley Securities Co. “Sony’s strategy to connect its products through network is very crucial for the company’s transformation. Sony may struggle if the business gets disrupted.”

Falling Shares

Shares of Sony fell 4.5 percent to 2,260 yen in Tokyo trading yesterday. The stock market is closed today for a public holiday.

Hirai, who hasn’t made any public statements since the attack, wasn’t available for an interview because the 50-year- old executive had no time for it, spokeswoman Yuki Kobayashi said.

Sony’s breach may top the computer theft of 47.5 million credit- and debit-card numbers from TJX Cos. in 2007. The data theft at the Framingham, Massachusetts-based owner of the T.J. Maxx and Marshalls discount closing chains was the biggest on record the time.

According to Sony, the attacks occurred from April 17 to April 19, with the hacker stealing e-mail addresses, birthdates, login information, purchase history and possibly credit card information. The company shut down the PlayStation Network and Qriosity the following day and issued the warning six days later.

Forensic Analysis

“It was necessary to conduct several days of forensic analysis, and it took our experts until yesterday to understand the scope of the breach,” Patrick Seybold, a Sony spokesman, said in an e-mail on April 26. The Tokyo-based company said it notified consumers as quickly as it could.

The response may have been too slow.

Sony now faces a lawsuit filed in federal court in San Francisco that alleges the delay in announcing the breach left PlayStation users exposed to losses related to credit-card data theft. The complaint seeks payment for credit monitoring for all plaintiffs, refunds for defective services and PlayStations, and unspecified punitive damages. Satoshi Fukuoka, a Tokyo-based spokesman at Sony, declined to comment on the legal proceedings.

Sony may face tens of millions of dollars in costs, according to Marc Zwillinger, a partner at Washington-based Zwillinger Genetski LLP, which specializes in cyber-related law. In similar breaches, companies have had to pay at least $1 a person, though ultimate cost will depend on the damage caused by the breach, he said.

Government Inquiries

Spokesmen for Wells Fargo & Co. (WFC), American Express Co. (AXP) and MasterCard Inc. (MA) said they were monitoring cardholder accounts and hadn’t seen unauthorized activity relating to Sony.

Regulators are making inquiries. The U.K. Information Commissioner’s Office, which can fine companies as much as 500,000 pounds ($832,500) for violations of privacy law, this week said it began examining the incident. Ireland’s Office of the Data Protection Commissioner and Connecticut Attorney General George Jepsen have said they’ve asked Sony for information.

The network was introduced in November 2006 when the company started selling PlayStation 3 game consoles, according to Sosuke Kamei, a Tokyo-based spokesman for Sony’s game unit. Hirai was promoted to President Sony Computer Entertainment Inc. in Dec. 2006, replacing Ken Kutaragi, developer of the PlayStation.

Rebuilding PlayStation

“Hirai was the one who has been nurturing the PlayStation Network business and it stumbled,” said Yuji Fujimori, a Tokyo- based analyst at Barclays Plc. “You can’t fix what has happened, so the challenge will be how to rebuild the business.”

The PlayStation Network provides access to online games, movies and TV shows. The service shares data with Qriocity, which offers movies or music in 11 nations on Web-connected Bravia TVs and Blu-ray players.

Sony said in February revenue in the network services business reached 38 billion yen in the nine months ended Dec. 31, accounting for less than 1 percent of total sales, according to spokeswoman Makiko Noda. The company, which had targeted doubling annual sales at the unit in the period to March 31, said at the time it may miss the goal.

Grooming Hirai

Hirai this month took control of a newly created group that combines all of consumer electronics and network services, from game consoles to Bravia TVs and Cyber-shot cameras. Chairman Stringer cited Hirai’s ability to turn around the PlayStation games division for promoting him to the expanded role.

Stringer had been grooming Hirai, Hiroshi Yoshioka, Yoshihisa Ishida and Kunimasa Suzuki since 2009 as the next generation of leaders to carry out his vision to integrate Sony’s TVs and computers with content from the entertainment businesses. After the Walkman’s domination of portable players in the 1980s, Sony lost against Apple with the iPod, failed to fend off Samsung Electronics Co. in TVs, while Nintendo Co. took the lead in video-game consoles.

In naming Hirai on March 10 to oversee all of Sony’s consumer electronics, Stringer picked the only one of the “Four Musketeers” he’d been grooming who isn’t an engineer by trade.

Hirai, who received a bachelor’s degree in liberal arts from the International Christian University in Tokyo in 1984, joined a joint venture set up in Tokyo between Sony and CBS Inc. after graduation. He moved to Sony Computer Entertainment America in 1995 and became president of the U.S. unit in 1999 before becoming head of the games business in 2006.

“This is a very bad thing to happen for Sony, especially when it’s putting so much emphasis on networking, but it’s also an opportunity to rethink their strategy,” said Atul Goyal, a senior analyst at CLSA Asia-Pacific Markets in Singapore. “Hirai is a natural successor, but he still has to prove himself. This is his moment to shine.”

To contact the reporters on this story: Pavel Alpeyev in Tokyo at palpeyev@bloomberg.net; Mariko Yasu in Tokyo at myasu@bloomberg.net

To contact the editor responsible for this story: Young-Sam Cho at ycho2@bloomberg.net

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