The advantages and disadvantages of Tombow’s sub-contracting system

Tombow employs a varied approach to sub-contracting, ranging from vertically integrating production for wood-cased standard pencils to fully outsourcing production for mechanical pencils and, similarly, partly outsourcing sales through a wholesaler. This approach to sub-contracting is subject to a number of advantages and disadvantages.
A significant disadvantage relates to the perceived lack of control within the subcontracting system, as supplier management is crucial to a firm’s competitiveness (Hutt and Speh, 1992). This is because ‘Japanese economic relations flow from pliant social networks that enmesh (entities) in a fabric of dependencies and obligations that has no one player in control’ (Lincoln and Gerlach,2004,p.45). This lack of control is evident in that manufacturing activities for Object EO are undertaken by subcontractors that dictate delivery lead times, ad hoc product variability is initiated by anyone and the fact that accurate sales data is not collated to determine key product lines. Whilst Tombow is saving on transactional costs relating to monitoring and control and searching for new suppliers (Fukunari,2001), the financial and reputational implications are far-reaching; despite paying a fixed sum to subcontractors, Tombow cannot manage and reduce costs by improving operational inefficiencies and, at the same time, through lack of its own quality assurance, it is risking its position as a ‘premier pencil manufacturer.’
However, because of the dependencies created, opportunism is minimised, thus increasing the reliability of the trading relationship. These relationships are imbued with symbolic significance which helps to sustain links even where there are no formal contracts’ (Dicken,2003). Tombow exhibits Obligational Contractual Relations with its subcontractors where relations are based on a mutual sense of trust (Sako,1992), illustrated by the fact that Tombow outsource painting for wood-cased fashionable pencils to maintain the long-term relationship with suppliers despite the increased cost in doing so. This bond prevents subcontractors from exploiting the firm to better its own position, as this would lead to ‘condemnation, and the opprobrium attached most likely leads to breaking the trade relation’. (Sako,1992,p,25). This arrangement can, however, be limiting as it reduces Tombow’s ability to switch from inefficient suppliers with which it has a long-term relationship.
Moreover, subcontracting gives Tombow access to a greater scope and scale in terms of wholesaling though this is not managed in an integrated manner. Instead of implementing vertical restraints associated with distribution keiretsu such as exclusivity and price control (Flath,2005), Tombow allow its wholesaler to return slow moving goods for full refund and keeping low minimum order size. Having said this, the trade-off of vertically integrating the entire sales function for partial outsourcing allows for ‘economies of scale and scope that can (only) be achieved through an independent wholesaler’ (Flath,2005,p.3) such as its knowledge and strength in the market, particularly as, according to Exhibit 7-A the highest sales are associated with smaller retailers.
Nonetheless, Tombow does not fully benefit from the institutional relationships with its subcontractors. Management of the firm-subcontractor relationship offers opportunities for firms to create a strategic advantage and better financial performance (Jap, 1999) and this is possible when organisations ‘(1) motivate members to participate and openly share knowledge, (2) prevent members free-riding, and (3) efficiently transfer both explicit and (most importantly) tacit knowledge’ (Dyer and Nobeoka,2000,p.364). Kantoh and Nagano are left to their own devices without interaction from Tombow. This has the danger of creating free-riders that ‘enjoy the benefits of the collective good without contributing to its establishment and/or maintenance’ (Dyer and Nobeoka,2000,p.348). For example, Kantoh benefits from the use of Tombow’s proprietary equipment, such as the die set, as well as repeat orders yet it does not prioritise Tombow over its other major customers nor does Tombow benefit in ways such as cost, operational efficiencies or timely deliveries from Nagano at a time when the pencil market is rapidly changing and new fads are regularly introduced.
This raises two further issues. Firstly, the issue of geographical proximity prevents Tombow from keeping up with these fads. According to Dyer and Nobeoka (2000,p.353) “suppliers must be in close geographic proximity to achieve the association’s objectives”; the fact that Nagano’s factory is located 200km from both the Tokyo and Shinshiro factories points to a possible reason for the delay in deliveries which leads to the issue of stockouts whereby inventory increases for ‘old’ products and the fast moving inventory is not being delivered in time.
Secondly, although proprietary systems are protected, this does not assist with the development of new systems or the even the learning curve associated with existing systems. Hall and Soskice (2001) argue that problems stem from the risk of exploitation associated with sharing proprietary information. If Tombow were to share proprietary information and systems it would ‘create learning opportunities far superior to firms that do not reside within such a network” (Dyer and Nobeoka,2000,p.352). Yet Tombow does benefit from subcontracting in that it is able to lower its long term capital investments and, concurrently, leverage on its key competencies such as R&D. However, whilst this exploitation of the firm-subcontractor relation suits the transfer of existing knowledge, it does not work for the ‘exploration for new knowledge’ (Dyer and Nobeoka,2000,p.365) that would assist Tombow in developing new products or systems.