Small Business: The Other Japan Is Dying

A wave of failures hits the small fry

Junichi Hoshino, 43, is desperate. When Japan's economy started to tank three years ago, Hoshino had to close one of his two small factories and lay off some 40 workers. Now, things are even worse. With only 10 workers left, there is little room for more downsizing at 82-year-old Kanwa Corp., which makes parts for communications systems sold by Nippon Telegraph & Telephone, NEC, and Matsushita Electric Industrial. Business is so slow that Hoshino has just enough orders to keep going for the next two months. To top it off, his own supplier of screws recently went belly up. Hoshino is defiant: "We will not go bankrupt," he says. But the future is dark.

Almost half of Japan's industrial output still comes from small and midsize manufacturers such as Kanwa--some 800,000 mom-and-pop operations where much of the work is often done by hand in small workshops that line suburban backstreets. It's the other Japan, the one foreigners dazzled by the might of Toyota Motor Corp. and Sony Corp. rarely see. Yet while Japan's multinationals are raking in record export earnings, many of these small suppliers are battling for their lives. They are struggling for bank credit, trying to cope with a stagnant domestic economy, and crumbling under demands from big corporate customers to cut their prices. If the pain continues, a wave of bankruptcies could force Japan's jobless rate to new highs, push the economy deeper into recession, and put further pressure on the government to take action.

This isn't the first time Japan's small fry--which make everything from screws to testing equipment for companies like Toyota and Matsushita--have taken a beating. When the goliaths first started using parts from cheaper overseas suppliers in the 1980s, these companies scrambled to adapt. They also had to spend heavily on new machinery to meet the rising standards of the multinationals, their main customers.

But for many companies in this beleaguered sector, things have never been this bad. First, the multinationals are upping their demands for better parts at lower prices. Worse, there is a new twist to the pain: Japan's banks have stopped lending. They must shore up their capital reserves to meet stiff new regulatory requirements that the government is mandating to prevent a collapse of the banking system. Hard-pressed, many banks are collecting loans from smaller companies instead of rolling them over: They see the small companies as greater credit risks than the multinationals.

A CRY FOR HELP. Yet by refusing to grant more loans, the banks are pushing many of these workshops over the edge. Now, roughly 16% of Japan's corporate bankruptcies are tiny low-tech suppliers. "If banks continue to collect on loans, then we can expect more bankruptcies," says Yoshihiro Matsumoto, an analyst at credit-research agency Teikoku Data Bank.

Many, in fact, are being crushed. Freezer supplier Daiichi Reito filed for bankruptcy last December after Tokyo-Mitsubishi Bank reneged on a promised loan of $240,000 only 20 hours before the company had to settle some bills. "If they had made the loan as they promised, we would not have to go bankrupt," says 43-year-old Yoshihito Kasai, standing outside the company's Tokyo headquarters. He has worked at the company for 13 years. "Now I have to find a new job."

Of course, some of the midsize operations are doing well. Automotive suppliers such as electronic-component maker Denso, air-conditioner maker Calsonic, and suspension maker Yorozu continue to grow. They are large enough and rich enough to build cheaper plants abroad, usually in alliance with the big carmakers they serve. More important, they have enough financial muscle to keep up with Japan's rapidly changing technologies. Carmakers are now demanding new and improved parts, ranging from transmission gears to seat belts. This race to upgrade is separating the well-positioned players from their less nimble brethren. "Assemblers are demanding that suppliers [make] new kinds of parts," says Kunihiko Shiohara, automotive parts analyst at ING Barings in Tokyo. "Small companies have less money to spend to do that."

The bosses of these companies can find themselves in dire straits, too. Funiaki Tomioka, 48, closed his sheet-metal factory several years ago. Today, he makes sheets of metal with his 70-year-old father in a garage at their home. "We're in a situation where we cannot afford more people, but we cannot afford new equipment either," he says. And his customers keep pressing him to slash prices more. "They tell us that they can get the same parts for half the price in China," says Tomioka.

No wonder many small manufacturers are crying for help from the government, which is desperately trying to revive the economy. In January, it decided to ease up a bit on the tougher capital requirements for banks. And Prime Minister Ryutaro Hashimoto has pledged to make $200 billion available to small and midsize companies through new government lending programs. Meanwhile, the Ministry of International Trade & Industry has set up a hotline for companies to call if banks threaten to choke their credit.

DESPERATE BANKS. Yet most suppliers doubt these steps will help much. For one thing, it's probably too late for many. And some suspect government funds will never actually reach suppliers. The funds must trickle down through desperate banks, which will be tempted to hold them as long as possible. And suppliers say that even government-controlled financial institutions have lately started to turn them away. "We don't trust banks," says Kanwa's Hoshino.

So these small enterprises are trying new ways to raise capital. "Companies that don't have land or a building [as collateral] are in a very weak position to borrow," explains Hitoshi Ishida, managing director of DDK, a union of small and midsize companies. "The banks will not lend to them, so even if they are profitable, many companies are going bankrupt." Ishida's group helps companies get around this problem by convincing banks that there is safety in numbers. They take out loans on behalf of the entire membership so members can pay bonuses to their employees and buy new equipment. As a result, DDK's membership has grown steadily, to about 850.

Such efforts will probably multiply. There are no signs that the major corporations will come to the aid of their smaller suppliers. "Before, companies would ask for small discounts of just 5% to 10% on our parts if they purchased many of them," says Yo Igari, president of a 32-year-old supplier of centrifuge parts called Taiyo Kikai Ltd. "Now they are asking for 20% discounts on small orders of new products." Tough terms. Yet as Japan's economy keeps misfiring, they may be the best deals small suppliers can get.