TEPCO

Toshiba – when did it all go wrong?

Toshiba’s profit inflation scandal only really hit the Western media headlines when President Hisao Tanaka resigned on July 21st, but the Japanese media have been covering this story since April of 2015, when the accounting irregularities first surfaced and an independent committee was set up.   Signs of trouble ahead were flagged up by me two years before that, when it was announced that Tanaka was the compromise candidate to become President, resulting from the fight going on between the outgoing President Norio Sasaki and his predecessor and chairman Atsutoshi Nishida.

Tanaka was the first Toshiba president not to come from one of the main business units, having spent most of his career in procurement.  Sasaki was from the nuclear power side and Nishida from the PC business – both areas were traditionally profit generators for Toshiba but since 2008 at least, as has become apparent recently, more dogs than cash cows.  Presumably the hope was that Tanaka, as an outsider to both businesses, would not be beholden to the factions and vested interests, and would somehow quietly restructure and clean it all up.  But of course, without his own factional support, and the old guard still in place, he was in too weak a position to do that.  It makes me even more admiring of Takashi Kawamura at Hitachi – similarly from outside the main businesses of Hitachi, but able to turn it around from its largest loss in Japanese manufacturing history.

Which actually makes it even more obvious that Toshiba must have been having problems from way back.  When I was at Fujitsu (2010-20013) we used Toshiba, Hitachi, NEC and Mitsubishi Electric as comparables in terms of financial metrics.  Fujitsu was suffering by the comparison, the only source of light relief being that NEC often did worse.  Toshiba gave the impression of somehow muddling through, without really trying anything very drastic, which given the pain everyone else was going through, does in retrospect strike me as suspicious.

Do we need to be worried about other Japanese companies?

This was the angle taken by the two UK journalists who managed to track me down while I was on holiday in Croatia last week.

Much has been made in both the Japanese and Western media of the perils of putting profit targets above all else (something which Sasaki started but Tanaka had to take the blame for) and juniors not being able to fight against senior executive pressure.  But this is not unique to Japan – look at Enron, Fifa and RBS for example.  The person to first blow the whistle on Toshiba turns out to be an internal auditor, whose warnings about the PC business were ignored by the former CFO and head of the internal audit committee. Questions also need to be raised about what the external auditor was up to all these years.

There are some European angles to the story.  For example, one of the businesses named as having inflated profits is the smart meter business.  Toshiba won an order from TEPCO (yes, of Fukushima fame) for a smart meter telecommunications system, beating Hitachi and Mitsubishi Electric.  Toshiba had acquired the Swiss smart metering company Landis & Gyr in 2011, but many doubted, given Toshiba’s history, that they really had the expertise to execute such a complex networking project.  According to Japanese telecomms experts, Toshiba ignored some key risks and costs in its low bid.  The Hitachi consortium was seen as a much better bid technically, but was 4 times the cost of the Toshiba offer.

Where then were the internal business assurance checks to prevent such a loss generating deal? According to a Toshiba executive, the internal company system had become so strong, the headquarters functions no longer had much control over them.  Some form of an internal company system was introduced by many Japanese companies (including Mitsubishi Corp when I was there in the 1990s) as a way of making lead executives from each business more accountable for profit and loss.  Again, the Hitachi restructuring under Kawamura is instructive on how to do this so that governance is strong enough to prevent each internal company from covering up its problems and cooking the books.  Toshiba may have on the surface looked like a pioneer in corporate governance, but as Nicholas Benes, Japanese corporate governance expert says “Just because you were the ambassador to Brazil, does not mean you are fit for the audit committee.” Good corporate governance has to come from within as much from without.

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