The Dynamism of Japan’s Retail Industry Development

One area seldom emphasized in textbooks of Japanese business history is the distribution industry. The distribution structure contains multiple stages of wholesaling and features a large, even excessive, number of micro retailers, with many of the retail outlets providing the proprietors’ main income source. This structure has been regarded as a product of the “backwardness of Japanese capitalism” and the “lower level of economic development in Japan.”Footnote 1

Unlike the disparity in size between large corporations and SMEs, which have undergone changes over the years, these unique characteristics of Japan’s distribution industry remained basically intact even after the high-growth period. This continuity is clearly demonstrated by the continued increase in the number of micro-retailers in Japan through the early 1980s.

However, despite the persistence of the traditional distribution structure that dates back to the prewar period, throughout the era of high economic growth, significant changes did take place in Japan’s distribution industry from the postwar reconstruction years to the latter era. Recent studies have clarified the circumstances under which Japan’s distribution industry managed to maintain its structure despite having undergone major changes.Footnote 2

A significant change that occurred postwar and later in the distribution industry was the major transformation in Japan’s consumption patterns, and the emergence and growth of new retail formats that corresponded to this change. The transformation of consumption progressed on two fronts, quantitatively as in a rise in living standards, and qualitatively as seen in westernization of lifestyles.

One of the first new retail formats to grow rapidly in response to change was the department store. Although Mitsukoshi became Japan’s first department store with the completion of its new store in 1914 (Taisho 3), the business as a whole did not take off until the late 1920s and 1930s, with a surge in demand for kimono.Footnote 3 After WWII, Japan’s department stores experienced yet another period of rapid growth in the early 1950s, this time riding the wave of popularity in western style fashion and ready-to-wear clothing. The country’s first department store law was enacted in 1937 (Showa 12) and the second in 1956 when the government belatedly tried to regulate expansion of the department store business.

A new type of retail business that developed after department stores was the supermarket, emerging during Japan’s period of rapid economic growth. Japan’s supermarkets grew rapidly in response to westernization of eating habits. Daiei, founded by Isao Nakauchi, opened its first store in Osaka in 1957. By 1972, 15 years after opening, it had surpassed Mitsukoshi in sales, becoming the largest retailer in Japan. The Large-Scale Retail Stores Law (Large Stores Law), enacted in 1973 and revised and strengthened in 1978, was an attempt to regulate supermarkets, which had expanded their operations during the period of high economic growth.

Against the backdrop of the supermarkets’ rapid growth, the theory of a “distribution revolution” dominated Japan in the early 1960s, emphasizing the following two points: (1) With the development of supermarkets, the number of small retailers will decrease; and (2) The simultaneous progression of mass production at the production stage and of mass sales at the retail stage (as with the expansion of supermarkets), would eliminate wholesale at the intermediate stage (the so-called elimination of the middlemen).Footnote 4 However, as already noted, the number of micro-retailers continued to increase and wholesalers’ business remained vibrant. Why did the “distribution revolution” theory fall short of its predictions? In other words, why did Japan’s traditional distribution structure remain intact despite the growth of department stores and supermarkets? There are two reasons:

The first is that even after the period of high economic growth, the percentage of fresh food consumption remained high in Japan, even as westernization of eating habits continued. Until the high-growth period, Japanese supermarkets were unable to develop a pre-packaging system for fresh produce and thus didn’t succeed in selling them in a self-service format in the aisles (the typical supermarket style we are familiar with today). This left room for small-scale food retailers such as greengrocers, fishmongers, and butchers, who made up a large portion of the micro-retailers, to continue increasing their numbers.

Second, through their relationships with wholesalers, department stores and supermarkets in Japan compensated for the lack of managerial resources necessary for growth. During the postwar reconstruction period, department stores lacked sufficient staff to properly stock and sell the new lines of clothing, especially ready-to-wear garments. Emerging clothing wholesalers such as Kashiyama Company (currently Onward Kashiyama), led by Junzo Kashiyama, made up for this lack of capacity by dispatching temporary clerks to the sales floors. In addition, during the high-growth period, supermarkets were plagued by a lack of funds needed for chain operations (an essential requirement for selling low-cost, processed food items).Footnote 5 Of great significance in supplementing this shortfall was the turnover difference fundsFootnote 6 that wholesalers, such as those handling food items, effectively provided to supermarkets. Contrary to the forecast by “distribution revolution” theory, Japanese supermarkets during the high-growth era did not adopt a policy of eliminating wholesalers. Thus wholesalers remained active even after the high growth period as department stores and supermarkets, the standard-bearers of the new retail format, actively incorporated wholesalers in their operations.

During Japan’s period of stable growth after the oil crisis, a new retail format gained traction, differing from department stores and supermarkets: the convenience stores (konbini). Japan’s first convenience store opened in 1969, and by 2002, the total number of convenience stores nationwide had reached 41,770.Footnote 7

Japan's convenience store business started with the US stores as a model, but soon achieved its own systemic innovations that eventually became a model for their U.S. counterparts.Footnote 8 Systemic innovations covered a wide scope in areas such as retail operations (high-mix, low-volume inventory sales; 24/7 operations); product supply (“short lead time and small lot”; integration of production and sales; joint product development); and organizational structure (information network; strategic alliance; franchise system). The growth of Japanese convenience store companies was remarkable because they adopted a regionally concentrated, multiple store deployment strategy in which companies competed with each other to realize economies of scale in information networks and distribution. Because Japanese convenience store companies did not have the “location-related” resources and funds necessary to carry out their Dominant Strategy on their own, they actively utilized the franchise system to compensate for the lack of resources.

7-Eleven Japan, led by Toshifumi Suzuki, the leading company in Japan’s convenience store industry, has led a series of systemic innovations. In 1990, 7-Eleven Japan embarked on a bailout of its U.S. parent company, Southland Corporation, which had fallen into a managerial crisis. In addition, in 1993, 7-Eleven Japan’s ordinary profit surpassed that of its Japanese parent company, Ito-Yokado. Thus 7-Eleven Japan scored “double upset wins” over its parents.

Brief Biography of Toshifumi Suzuki

Toshifumi Suzuki spearheaded the creation of the innovative Japanese convenience store system. A salaried manager with a university degree who rose on the corporate ladder, Suzuki was neither a venture capitalist like Kazuo Inamori or Masayoshi Son, nor an owner-manager like Tadashi Yanai. However, like them, he created a business model that became a global success.

Suzuki was born in 1932 (Showa 7) in Sakaki-machi, Hanishina County, Nagano Prefecture. After graduating from Chuo University with a degree in economics, he worked for Tokyo Publishing and Sale (now Tohan) before joining Ito-Yokado in 1963 and becoming a director in 1971.

In 1973, the company formed a partnership with Southland Corporation, a U.S. company that operated 7-Eleven convenience stores, to establish York-Seven Co. Suzuki was appointed an executive director of York-Seven.

The following year, Japan’s first 7-Eleven store opened in Koto Ward, Tokyo. In 1975, 7-Eleven’s 24/7 operations began in Koriyama City, Fukushima Prefecture.

In 1978, York-Seven changed its name to 7-Eleven Japan, with Suzuki assuming the post of president. In 1991, 7-Eleven Japan acquired the management rights of the U.S. Southland Corporation through a bailout. The following year, Suzuki became president of Ito-Yokado also, and in 2003 he became chairman and CEO of Ito-Yokado and CEO of 7-Eleven Japan. When Seven & i Holdings was established in 2005, Suzuki became its chairman and CEO.

In 2016, after the board of Seven & i Holdings rejected his proposal to remove the then president of 7-Eleven Japan, Ryuichi Isaka, Suzuki announced his retirement from active duty. He then became an honorary advisor to Seven & i Holdings.

Suzuki’s Convenience Store Deployment Strategy

Toshifumi Suzuki was called the “God of Retail” for establishing the innovative convenience store system. In 1969 (Showa 44) the very first convenience store in Japan, “My Shop Toyonaka,” opened in Osaka. After that, convenience stores made rapid progress and became indispensable in the daily lives of the Japanese. Convenience stores replaced department stores and supermarkets, becoming the “third protagonist of retail” in postwar Japan.

Mika Takaoka explains the reason for this development:

One factor explaining the rapid growth of convenience stores was the change in consumer behavior referred to as the “instantization of consumption” (Yahagi 1994,Footnote 9 pp. 58–63), to which existing retailers were unable to adequately respond. By thoroughly pursuing convenience, which consists of three elements – ‘nearby’ (location), ‘anytime’ (hours), and ‘availability of daily necessities’ (product lineup) – convenience stores have effectively responded to new consumer demands during a period of stable growth.”Footnote 10

Takaoka went on to note that the development of convenience stores in Japan had the following two characteristics:

The first was the extremely rapid pace of convenience store deployment. In the case of Daiei, Japan’s largest supermarket chain at the time, with 223 stores as of 1998, the number of stores had risen 2.06-fold in the 20 years since 1973 (108 stores in that year). By contrast, 7-Eleven Japan, Japan’s largest convenience store company with 7,001 stores as of 1997, increased its store count 18.67-fold in the 20 years after 1977 (375 stores in 1977). The comparison between the two companies illustrates the speed of convenience store development in comparison to that of supermarkets.

Second, convenience store deployment brought a marked concentration of stores in specific regions. This method of store deployment is called the “Dominant Strategy.” A comparison of Daiei and 7-Eleven Japan shows that Daiei stores existed in 35 prefectures in 1993, while 7-Eleven Japan stores were present in only 25 prefectures in 1997.Footnote 11

Toshifumi Suzuki, who was chairman of 7-Eleven Japan as of 2003, explained why 7-Eleven Japan stayed with the Dominant Strategy.

The reason for using the Dominant [Strategy] is that, when delivering products, transportation efficiency is higher when stores are concentrated in one area. Not only that, it also allows for speedy deliveries, so fresh products can be delivered. It also enables a single food factory to deliver to multiple stores, increasing the productivity of the factory. From the supply side, delivering products to stores, the Dominant [Strategy] is advantageous. We are now delivering boxed lunches to stores three times a day, and this is possible because the distance between stores is short and delivery costs are low, thanks to Dominant Strategy. From the customer’s point of view, 7-Eleven’s presence is literally “convenience,” whether they look to the right or to the left. In this sense, the Dominant Strategy is crucial for the retail industry.Footnote 12

Introduction of the Franchise System

The innovative convenience store system established by Toshifumi Suzuki was also characterized by its active introduction of the franchise system. The franchise system is defined as “a system in which the franchisor (the company offering the license, or the headquarters) grants the franchisee (the company receiving the license, or participating retailers) the right and license to conduct business activities using the trade name, trademark and other resources in return for a certain amount of compensation. It is also a continuous relationship that provides subsidies for organizational development, education and training, merchandising, and business management”.Footnote 13

In contrast to the dominance of directly run stores in the United States, the birthplace of convenience stores, the franchise system has spread widely among convenience stores in Japan. Mika Takaoka explains the reason:

Japanese convenience store companies adopted the franchise system because (a) in order to deploy the Dominant Strategy, it was necessary to open many stores in a certain area, and convenience store companies did not have the managerial resources (i.e., funds to purchase land and buildings for stores) to achieve this. It was also important that (b) in the case of a franchise system, the franchisee has a sense of running “my own store,” which increases the incentive for the business and raises the quality of consumer service compared with stores operated by [parent] company employees.... (a) is consistent with the “theory of constraints” and (b) with the “incentive theory of motivation”.Footnote 14

In light of this commentary, the theory of constraints held true in the early stage of development when Japanese convenience companies (franchisors) lacked sufficient managerial resources. However, the franchise system continued to take hold in Japan even after convenience store companies grew and were freed from resource constraints, arguably because the circumstances highlighted by the incentive theory of motivation remained.

Product-by-Product Merchandise Management and “Hypothesis-Testing Ordering”

The distribution innovations led by Toshifumi Suzuki were put into practice not only at 7-Eleven convenience stores but also at Ito-Yokado supermarkets. One element of the distribution innovations was the practice of “hypothesis-testing ordering” for product-by-product managing of merchandise.

A common feature of two of the world’s largest retailers, U.S. Wal-Mart and 7-Eleven Japan, is their introduction of POS (Point of Sales) systems in the early 1980s. They are also similar in having established competitive advantage by combining their information, distribution, and product procurement strategy to implement their own distinct SCM (Supply Chain Management) systems earlier than their competitors. However, some differences in their approaches could be described as stark contrasts.

Mika Takaoka and Mihwa Lee compared Wal-Mart and Ito-Yokado, as they are of similar business types, and noted “Wal-Mart’s low SG&A (selling, general, and administrative expenses) ratio and Ito-Yokado’s high gross margin”.Footnote 15 According to Takaoka and Lee:

Japanese labor costs, including those of part-time workers are relatively high, and land and rent are relatively expensive, even though land prices have declined since the collapse of the economic bubble. This has undoubtedly kept Ito-Yokado’s SG&A ratio high. However, this alone does not explain Wal-Mart’s low SG&A ratio. Basically, this low level should be viewed as a reflection of Wal-Mart’s SCM focus on overhead cost reduction. On the other hand, Ito-Yokado is able to maintain a high gross profit margin (that is, it is able to set relatively high selling prices) because, as in the case of 7-Eleven Japan, it properly manages merchandise by-product at its stores and makes available a product lineup that is responsive to the needs of customers. When determining its product lineups, Ito-Yokado and 7-Eleven Japan focused on “hypothesis-testing ordering,” which is different from “automatic ordering,” and this factor contributed to high gross profit margins.Footnote 16

In other words, while Wal-Mart focused on lowering SG&A costs in SCM by utilizing information obtained from POS systems and other sources, Ito-Yokado and 7-Eleven Japan combined the information with hypothesis-testing ordering, rather than automated ordering, to achieve high gross profit margins.

Susumu Ogawa explains why 7-Eleven Japan chose to use hypothesis-testing ordering instead of automated ordering:

Product-by-product merchandise management would be meaningless if it were just to obtain sales information for each individual item. Only by utilizing the information on individual items in the process of ordering, is product-by-product merchandise management fully accomplished. In fact, in the convenience store industry, after digitizing order history and sales information, there are two ways to utilize the data for order placement. One is termed automated ordering, and the other is termed hypothesis-testing ordering.

In automated ordering, sales information gathered through digital devices is calculated by computer using formulas pre-determined by corporate headquarters, and the computation results are given to stores. The stores are informed of the quantity of items that they should order.... The advantage of this automated ordering is that the person in charge of ordering does not need much skill.... This is helpful for convenience stores, where part-time employees and temporary workers are the main labor force.

But 7-Eleven Japan did not adopt automated ordering. Its thinking was that in automated ordering, the order quantity is basically recommended by corporate headquarters.... Under such a system, wouldn’t the person in charge of placing orders stop thinking about what kind of products are in demand at his or her store?... The store clerks would lose interest in which products are selling, and as a result, wouldn’t they become insensitive to changes in market trends?...

Thus, the company devised the hypothesis-testing ordering method. Placing orders based on the hypothesis-testing model is like automated ordering: sales history and results are saved as digital information and the information is used for ordering. However, hypothesis-testing differs decisively from automated ordering in that a person in charge of ordering at a store, rather than corporate headquarter computers, analyzes the data and determines the order quantity.Footnote 17

7-Eleven Japan differed not only from Walmart but also from Japanese competitors in that it adopted hypothesis-testing ordering instead of automated ordering. As we have seen, Toshifumi Suzuki achieved numerous distribution innovations and was called the “god of retail.” Although the convenience store was originally born in the United States, Suzuki refined it into an innovative convenience store system which then spread from Japan to the rest of the world. Suzuki may have been disappointed that he retired from active duty in 2016, but there is no doubt his accomplishments will continue to shine brilliantly into the future.