The japanese distribution system


"The Japanese distribution system is a source of competitive strength." Discuss.


Distribution in Japan is a typically complex, multilayered, inefficient and highly unique system. (Martin et al, 1998) Japan has more wholesalers and retailers per capita than any other advanced industrial nation (Martin et al, 1998), but their productivity is quite low.

Emphasis is though placed on the sustainment of a relationship between distribution's participants rather than sales revenues or profitability.

In Meiji Japan and through to this day, the manufacturing class enjoyed higher prestige than the merchant class, as they were credited with Japan's post-Second World War economic success. (Martin et al, 1998) Manufacturers usually have their own distribution channels, while there is enough pressure on them to innovate and to match competitors' innovations. (Martin et al, 1998) They don't appreciate independent discount retailers, as they get harassed with their lower prices and different channels.

Generally, the Japanese manufacturer typically has a network of hundreds of primary wholesalers who are exclusively its own, while the wholesalers' livelihoods depends on the manufacturer's ability to continue to provide products that will compete successfully against rival chains of distributors. (Martin et al, 1998)

Each distributor is a dedicated and exclusive wholesaler for one manufacturer in each product category and he will not push (even though he may carry) any brand other than the exclusive one that he is contractually committed to sell, as if he carried other brands would be a violation ofgiri(loyalty) that the wholesaler has to the manufacturer. (Martin et al, 1998)

Manufacturers' control over wholesaler and retailers has been established chiefly by oligopolistic manufacturers by usingkeiretsuka(vertical restraints or control). (Martin et al, 1998) With this type of structure there are certain advantages regarding costs and after-sale services, but have been offset by serious shortcomings in price rigidity and dealers' lack of independence in the market, as well as barriers to entry or exit, thus limiting competition practices.

Wholesalers and retailers often deal only with the products of their associated manufacturers, while Japanese in general strive to maintain retail prices at the same level in all classes of trade and those who break the price line are often boycotted by manufacturers, as they are regarded as untrustworthy. (Martin et al, 1998)

Japan's distribution channels are dominated by large manufacturers, who enjoy higher prestige, greater political power and social legitimacy than smaller firms. (Martin et al, 1998)

The Japanese distribution system is distinctive and completely differentiated from the classic American one, which can be described as free from types of external control, not blocked against entries of new players and margin-driven. On the contrary, the Japanese one generally considers as its main concept a web of business people who are colleagues in trade and active in the manufacturing, wholesales, broking services, import and retail sector that act with each others. Their relationship is quite intimate and close, as they are strongly connected. The channel's structure is quite complex, long and greatly extended, as sometimes four levels of wholesale facilities have been discernible. But the number of these levels is mostly decided by the kind of industry, the financial relations among the people belonging to the channel, as well as the actual financial state and size of both the retailer and manufacturer and business's level of brand recognition. This elaboration of the Japanese distribution system originates to a great degree in Japanese attitudes and behaviour and in traditional Japanese business practices.

The multi-layered distribution network and intertwined wholesalers have suffocated competition. (Chen, 2004, 227) However, foreigners select distribution channels that will fit best with their long-term objectives in the Japanese market, but especially for many Western business people, the Japanese distribution system is extremely complex, hardly transparent, and very costly to penetrate. (Chen, 2004, 227)

Japan's transition to a low growth period has been combined with a major expansion of the tertiary, or service, industry, and Japan's distribution sector, heretofore neglected, became critically important, but increasingly, inefficiencies and outmoded practices prevalent in the distribution sectors have been highlighted as problems that should be analyzed and corrected. (Hideto, 1983) Generally, Japanese distribution channels from wholesalers to retails are complicated in structure and tightly interlocking.

While a relatively big number of Japanese manufacturing companies are large-scale organizations, retail companies are usually small-scale businesses operated by households with the exception of some department stores and "super" stores that sell in bulk.

As a result of the transition to a low growth period, in which manufacturers reduced their output and made an effort to rationalize their operations, they increasingly resorted to unilateral agreements by large companies, which facilitated the implementation of inefficient and old-fashioned practices in the distribution system although distribution had a progressively significant role in the economy.

High barriers restrict the entry into the Japanese distribution systems and this impenetrability and complexity of Japan's distribution system has also been a major non-tariff barrier to the importation of foreign goods and Japan's trading partners, particularly the United States, have vehemently criticized this feature of the Japanese economy in the wake of Japanese firms' rapid penetration of international markets.

From the aspect of Japan's competition policy the following are stated:

1. Although potentially very competitive, certain foreign products are imported only with formidable effort because of the impenetrability and complexity of the distribution system with examples including automobiles, medical equipment, motorcycles, and chocolate. (Hideto, 1983)

2. As industrial keiretsu dominate Japanese trade, imported goods not produced or handled by keiretsu firms tend to be excluded from the Japanese market. (Hideto, 1983)

3. Almost all Japanese producers belong to trade associations, which tend to exclude foreign producers and thus to obstruct trade in imported goods. (Hideto, 1983) However, such exclusionary practices are forbidden by the Antimonopoly and Fair Trade law.

Regarding the antimonopoly policy, the development of distribution keiretsu, which favours anticompetitive practices, can best justify this impenetrability of the Japanese distribution system.

The main characteristics of the Japanese distribution system, which clearly indicate that it is not a source of competitive strength and challenge Japan's antimonopoly laws are four: the development of distribution keiretsu, the increasing existence of oligopoly cases, unjust business behaviours and attitudes that are already accepted practices and exclusive, protective and favourable implementation of antimonopoly laws.

First, regarding distribution keiretsu, manufacturers' and wholesalers' main purpose is to arrange by systematic planning and united effort the retailers and urge them to implement policies effectively shaped by the producers themselves on the retail market. Thus, such coordinated activities intended to foster collaboration can be of many different kinds. These could include resale price maintenance, which entails the vertically fixing of products' price, exclusively operated dealerships, distribution of sales systems according to geographical areas, chain stores, "single-outlet-single-account" cases, preferential refunds of money and payments ahead of time, and so on.

Second, oligopolies have been developed in the distribution system as a consequence of substantial restrictions on new firms to access this business activity.

Moreover, diverse outdated and unfair business behaviours and attitudes are frequent practices and noticed to a great degree at the distribution level. These are the utilization of long-run promissory notes or even blank ones, purchase orders not distributed, absurd and inappropriate returns and "application sales".

Furthermore, there are substantial limitations by the law on competition policy, which place limits on new business entries and their participation in the distribution system.

Therefore, the development of distribution keiretsu is regarded as the most important topic for antimonopoly strategy in Japan. This term reflects the arrangement, control and influence that manufacturers exert to the distribution channels. Keiretsu-style distribution system means that retail stores and wholesale premises of a keiretsu group are incorporated into a single whole association having business and social relationships and linkages. Its clear distinction from industrial keiretsu is that the controller of these keiretsu is undoubtedly the manufacturer.

Most distinctive cases of distribution keiretsu develop in the car, electronics, cosmetics, pharmaceutics and newspaper industries although they can be noticed in other industries with some variations.

Today both durable and non-durable consumer goods involve the common marketing features of distribution keiretsu. (Hideto, 1983)

More specifically, the following practices point out the anticompetitive character of Japanese distribution keiretsu.

First, exclusive dealing contracts with certain manufacturers limit or prevent retailers from doing business with others and merchandizing their goods.

Moreover, territorial limitations restrict the geographical region in which a trader can sell. Concretely, there are closed territory structures that assign a specific area to an exclusive dealer, while the open territory structures don't have such limitations.

Furthermore, single-outlet-single-account structures are challenging the strength of competition at the wholesale level, as they constrain both retailers and wholesalers regarding their choices of collaboration having to transact only with designated wholesalers and merchants respectively.

Also there is noting discrimination regarding the rebates, as they either depend proportionately on the amount of the dealer's sales of a specific manufacturer's product or on the sales of a specific manufacturer's product relative to the dealer's overall sales. For instance, Matsushita's rebate system rewards is based on the percentage of Matsushita-brand products in the stores' inventories and has helped preserve loyalty among the company's 25,000 national stores in Japan by in effect discouraging them from buying and offering other maker's products. (Martin et al, 1998)

In addition, manufacturers organize dealer associations, which include all their designated dealers in a specific geographic area. The purpose of these organizations is to contribute to cooperation among various dealers and to facilitate the manufacturer's ability to impose its marketing policies on them, thus tending to foster a continuing relationship between the manufacturer and its dealers and contribute to price uniformity. (Hideto, 1983)

Regarding the returns policy, in Japan makers of a wide range of products liberally accept returns of unsold merchandise, in fact unlimited returns for books, magazines, apparel, cosmetics, and electric appliances, though not to an unlimited extent for records, pharmaceuticals and stationery. (Flath, 1989) Returns in Japan have mainly to do with unsold products rather than damaged or defective, which are usually destroyed rather being held in inventory for sale at a later time, suggesting thus a monopoly pricing model of the returns practice. (Flath, 1989)

Another practice of manufacturers is that they agree to keep all or part of the sales revenues delaying to pay the dealers, actually giving them a rebate. Although each of these practices as separate acts are subject to challenge under the Antimonopoly and Fair Trade Law as unfair business practices prohibited by article 19, they are in fact widely employed. (Hideto, 1983)

In some cases the manufacturer sends its own capital or skilled personnel to dealers in order to help and further consolidate them vertically. Taking into consideration that these distribution keiretsu have been for a long time in Japan and granted that in some industries exist hierarchy structures with the manufacturer placed on the top having the constant control of the dealers, the latter are bound with them by contracts, practically lacking any ability of bargaining. Thus, manufacturers are favoured and easily able to impose and achieve their expected marketing policies.

The disadvantageous position of dealers can also be seen in some extreme and old-fashioned practices, like the use of blank promissory notes and application sales that are regularly required as part of the legal business agreement. Hence, manufacturers perceive the distribution procedure as a mechanism of marketing their products and granted that some of them predominate in the distribution channels, dealers have been rendered dependent on them and consequently lost their independent and competitive character in Japan's distribution keiretsu.

The ideal choice of a dealer would be thus to end this unfair business relationship and develop new ones with other suppliers, but there are certain restrictions. In those industries in which integration into distribution keiretsu has progressed the farthest, dealer concentration is also very great and bearing in mind that almost all of these industries are highly oligopolistic with relatively strong product differentiation, it is not a simple matter for a dealer to leave a keiretsu and seek a different supplier. (Hideto, 1983)

The result is that both wholesale and retail distributors have lost their independence regarding their business operations and don't operate as competing units. Consequently, innovation in the consumer electronics sectors has stopped because of the constant dependence on producers.

The result is that the relationship between manufacturers and dealers has been converted from one bound from a legal agreement to a hierarchical, patron-client and close relationship.

In Japan the restrictive integration of channels of distribution-that is, the formation of distribution keiretsu-has become a major marketing weapon and in certain oligopolistic industries, the level of integration into distribution keiretsu is very high. (Hideto, 1983)

The extinction of the inter-brand competition among dealers is a result of distribution keiretsu, which facilitates the attainment of producers' commercial and pricing policies, even without constricting directions in the case that distributors don't act independently any more in the keiretsu structure.

As the practice of resale price maintenance is less beneficial to distributors of keiretsu due to the lack of competition, resellers don't compete too fiercely on price and thus have more incentives to maintain resale prices. Manufacturers exploit this weakness and as there is no press from the lower levels of hierarchy to reduce prices, in fact they are able to increase prices without question and at the same time don't have any motivational influence to transfer certain cost savings to final consumers. Therefore, producers usually keep these savings for themselves and use them to promote further keiretsu integration regarding the distribution process and further specialization, mainly by being advertised.

This weakness is strengthened due to the Japanese Antimonopoly laws pertaining to resale price maintenance, exclusive dealing stipulations, and customer restrictions, which are generally more permissive in Japan than in the U.S. and explicitly permit these practices. (Flath, 1989) And although these practices are vaguely not permitted according to the Japanese Law due to their unfair and offensive character, in practice sanctions are excessively insignificant that ultimately the law is disregarded in a way.

In practice, distribution keiretsu contributes to the maintenance of prices among different producers, thus reducing their potential competition on price.

Distribution keiretsu arrangements are most noticeable in markets characterized by high concentration, oligopoly and strong product specialization. Provided that competition among different brands in these markets is extinct, the extremely small number of producers will have competition only from imports and products with distinctive features even at the retail price level. As a result of most producers' ability to determine the issue of a close relationship with a specific dealer of their choice according to keiretsu marketing agreements, it is extremely difficult for new players to enter the competition in the distribution sector because of high specialization and the fact that distribution costs for new participants are greater in amount than normal. Thus, price-fixing agreements among the small number of producers can easily be attained and maintained, so in fact they determine their profit margin.

In general, the fact that competition among the same producer is extinct due to the distribution keiretsu networks in oligopolies with strong specialization facilitates the extinction of the broader competition between different producers and thus oligopolies. However, distribution keiretsu place instead emphasis on the enhancement of customer service, as the lack of price competition leads to more non-price competition, especially in cases of high specialization. According to Chen (2004:234), "the competition for their sponsorship (customers) is mainly concentrated on service and quality. Perfect quality, complete fitness, absolute freshness of produce, swiftness of delivery etc. more often have a decisive influence on consumers than does price alone."

That resale price rigidity and the inability to engage in meaningful comparative buying are viewed by consumers as evident harms of the distribution keiretsu is reflected in the phenomenal growth since the early 1970s of the used car market and the high growth of retail outlets for consumer electronic products. (Hideto, 1983)

Generally speaking, Japan's retail network is much denser than those of the United States and Western Europe, with the highest number of stores per capita and per area. (Chen, 2004, 233) And although many large Japanese manufacturers of consumer products use what are called 'semmon-ten', or literally 'speciality shops', which only sell products from one manufacturer, they have the comparative advantage of a much larger variety of styles and sizes of a given product than the department store and can benefit from their manufacturer-suppliers' advertising campaign. (Chen, 2004, 234)

Thus, according to Hideto (1983:331-332), "the resulting market efficiencies and greater customer service could not have been achieved had there been no distribution keiretsu" and their lack of competition.

Recent developments in vertical relationships have upgraded Japan's distribution channels. After the Kobe earthquake in 1995, the majority of distribution channels were devastated. Under this environment, wholesalers surprisingly pointed out the need for newly designed distribution infrastructure and the abandonment of the traditional keiretsu business relationships. Practically, wholesalers want to build new relationships in order to make stronger their competitive positions. So they have adopted new practices, which have integrated them more into their customers' operations, thus dissolving traditional keiretsu structures. Thus, keiretsu free relationships definitely represent a clear departure from the traditional way of doing business in Japan (Rawwas et al, 2008) and as the Japanese distribution system has recently been undergoing several significant changes and the Japanese market is not as it was in the 1990s, the Japanese Government has adopted a series of measures to facilitate foreign access to the Japanese market, like the dismantling of tariff barriers, the easing of test standards, the relaxing of the rules of licensing, etc. (Chen, 2004, 239)

Nevertheless, while recognizing the progress made by the Japanese Government and businesses toward improving the distribution system, one should not expect that the structural barriers inherent in the system will completely vanish overnight. (Chen, 2004, 239-240).

The overall changes that have been noticed since the 1990s in the Japanese distribution system include a wide variety of competing types of retail stores and many distributive channels for imports that have been appeared and also the change of the transaction relationship between channel members, in which traditional relations have been weakened or broken. (Martin et al, 1998)


In the context of a social system that afforded it little in the way of economic resources and status and a culture that extols the importance of social ties, Japan's distribution system has evolved following a fundamentally different model from that of the USA. (Pirog, 1996) The model centers on distributor linkages to manufacturers, where the distributor accepts a subservient social status in return for the economic security. (Pirog, 1996) From this interaction emerges a political hierarchy in which units are arrayed in hierarchical layers, and power resides at the "commanding heights" of large keiretsu. (Pirog, 1996) Typically, no firm in the group can trade outside of the group without permission. In fact, the prospect of sacrificing existing business relationships for new ones is a shocking concept to many Japanese. (Pirog, 1996)

There are important questions about Japan's antitrust policy and specifically about distribution keiretsu. By means of formal, one-sided contracts and various practices, powerful manufacturing firms have bound dealers to exclusive dealing arrangements, territorial restrictions, single-outlet-single-account sales arrangements, and other vertical restrictions. Manufacturers have also provided various types of incentives, including discriminatory rebates, retailer associations, and expanded financial and managerial assistance.

Distributors at "lower" layers in the vertical structure are tied to the keiretsu system by bonds of loyalty, mutual obligation, trust and power that extend throughout existing distribution structures (Pirog et al, 1996). However, although this structure offers some degree of security to them, it challenges their economic freedom. Hence, in fact dealers are told what to sell, at what price and how much to stock (Pirog et al, 1996).

In spite of some remarkable changes, the Japanese distribution system continues to be perceived by many as what it was two decades ago. (Chen, 2004, 227)

On the whole, the Japanese distribution system can be regarded as a serious barrier to the foreign manufacturer trying to penetrate the Japanese market, but it is important to say that the structural complications and trade practices in the Japanese distribution system have not solely been created to prevent foreign companies from penetrating the market. (Chen, 2004, 239) The case is that they present hurdles to all late-comers from both Japan and foreign countries. (Chen, 2004, 239)

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