Quality problems lead to soul searching: Are we growing too fast?

Saying 'no' to sales crew was a historic first

For Fujio Cho, explosive growth was a way of life.

During his tenure as president of Toyota Motor Corp. from 1999 to 2005, Toyota's worldwide sales skyrocketed 54.7 percent, to 8.1 million vehicles. To cope, Toyota started building cars and trucks at four new assembly plants around the world and laid the groundwork for two more.

"My biggest challenge as president was keeping up with the growth in sales," Cho said through an interpreter.

He never questioned Toyota's bias toward growth, never considered trying to rein in the rapid expansion to reduce the strains it put on the organization. He followed a guiding principle that had been drilled into all Toyota managers.

"I was taught that manufacturing can never say no to sales," said Cho, 70.

That growth strategy brought insidious side effects. The worst was a lessening of the superb quality that had underpinned Toyota's reputation for decades.

TAPPING THE BRAKES

In 2006, therefore, President Katsuaki Watanabe tapped the brakes. He ruled that the engineers in manufacturing and product development indeed could say no to sales, if that's what it took to ensure quality.

Watanabe thus reversed a principle that had guided Toyota since its earliest years. To appreciate what a radical decision Watanabe's was, one must explore Toyota's history and the origins of the growth-comes-first mentality.

It may have germinated during the war years. Soon after Kiichiro Toyoda built his first car, the Japanese military stepped in. Forget cars, the military ordered; we want trucks for the war effort. As Toyota's only customer, the government set production quotas, in effect telling manufacturing to keep up with orders.

The company never said no. At one point, to meet those objectives, Toyota built trucks with only one headlight.

After the war, Toyota set out to rebuild itself. But in December 1949, it foundered. It needed 20 million or it would fail. At today's exchange rates, not adjusted for inflation, that would be just $167,000. Then, it was a fortune for the struggling company.

Toyota's problems lay in Japan's postwar inflation, a shortage of capital and its tendency to stockpile parts and build vehicles despite a lack of customers.

In essence, Toyota was operating a sales bank akin to the one that nearly bankrupted Chrysler Corp. several decades later. The just-in-time inventory discipline of the Toyota Production System had not yet been put in place.

The Nagoya branch manager of the Bank of Japan had to step in and mediate a rescue plan. He did so despite opposition from his bosses at the nation's central bank, the equivalent of America's Federal Reserve Board, back in Tokyo.

"The central bank governor said, 'We don't need to help Toyota. If we want automobiles, we can buy them from the United States. There's no need for Japan to build passenger cars,' " recalls Susumu Yanagisawa, 74, a Toyota retiree.

BANKRUPTCY SHOCK WAVES?

But the branch manager argued that a Toyota bankruptcy would send shock waves through the region surrounding Nagoya. He prevailed, persuading the central bank and local banks to pony up the money.

The bailout came with stiff conditions.

For instance, the banks insisted on slashing staff. Kiichiro Toyoda, who had promised no layoffs, had to resign to pacify the furious union leadership.

The key part of the plan related to the balance of power between manufacturing and sales. The two sides of the company were split into Toyota Motor Co. and Toyota Motor Sales Co. And the sales side was given the upper hand.

The banks explicitly insisted "that the number of automobiles Toyota produces not exceed the number the new sales company was confident of selling," recalled Shotaro Kamiya in his autobiography, My Life with Toyota.

"The Bank of Japan and the city banks in the loan syndicate judged that Toyota's financial problems came from an overly bullish managerial policy regarding production, which led to costly inventories. Unless this management attitude were changed, the banks said, Toyota could not possibly become financially independent again, no matter how many loans it received," he wrote.

The banks chose Kamiya as the first head of the new sales company. He was an experienced auto sales executive who had been recruited from General Motors Japan before the war. He later introduced many GM practices to Toyota, such as installment sales.

END RUN

He pulled an end run around the banks' restrictions. Although in theory a proponent of independent dealers, Kamiya arranged for Toyota Motor Sales to buy Toyota's main dealer in Tokyo. That dealer became Toyota's sales bank.

Kamiya knew higher volumes allowed the manufacturing company to lower costs. Indeed, he often priced cars below the company's cost of production, betting costs would fall once Toyota received large orders for the inexpensive cars. One way to ensure large numbers of orders: Have a captive dealership place orders whether it had buyers for the cars or not.

Over the years, Toyota learned to coordinate the Toyota Production System and its retail operations in Japan. But the die had been cast. Sales was in charge. And who in sales was going to say, "Slow down"?

It wasn't until the 2000s that the problems became so severe as to lead Toyota to question its "never say no to sales" mentality. The strains were worst in the product-development departments.

"Up to a couple of years ago, everybody, including domestics and Europeans and Japanese, rushed to shorten the lead time" for developing new models, recalls Yoshio Ishizaka, 67. He was president of Toyota Motor Sales U.S.A. Inc. from 1996-99. After that he headed all overseas operations for the carmaker.

"However, the top management, including myself, found that after the line-off of a new product we had to rectify small errors, one after another. It is costly, and damaging to the image of the product," he says.

'PLEASE EASE UP'

"Because we were in the midst of megacompetition, nobody wanted to say, 'Please ease up and extend the time.' A sales guy like myself never said that. But eventually our engineers said, 'If you give us some breathing time, then we'll make it better. So please, please think about how to do this.' "

The strains eventually became undeniable. While Toyota's sales continued to rise, its vaunted quality slipped.

In 2004 and again in 2006, Hyundai beat Toyota to be the top-rated volume brand in the J.D. Power Initial Quality Study. In 2005, Toyota recalled more cars than it sold in the United States.

In 2006, executives were summoned to appear before government regulators in Tokyo. They had to explain why Toyota had decided, despite evidence of problems and two separate internal investigations, not to recall a part that was blamed for an injury-causing accident in southern Japan.

Newly installed President Watanabe shifted gears. He appointed a quality czar, reaffirmed quality as the company's top priority and authorized a change in Toyota's rapid product-development process. Now the deadlines for developing a new model take a back seat to ensuring that quality is not compromised.

Ishizaka endorses the new approach.

"If we knew that quality would be much, much better" by giving engineers a bit of extra time to prepare a new model and the factory to build it, "then we'd have asked our sales organization to stay with the current model for a longer period, so that we'd have a better new model down the line," he says.

NEW ATTITUDE

It's a radical change in attitude. Not everyone is fully comfortable with it yet. Ironically, Cho, who rose through the manufacturing ranks, is less sure about the change than Ishizaka, a sales guy.

"Salespeople are at the forefront of our business, competing against others. Therefore I think that engineering, manufacturing and procurement must be able to fully back them up," Cho said.

Watanabe has made his decision. It could prevent other carmakers from taking advantage of a growing perception that Toyota quality is not what it used to be. And it has the potential to slow the pace of Toyota's breakneck growth.

You can reach James B. Treece at jtreece@crain.com.