Honda Aims to Profit from Rivals' Woes

The "Lehman shock" signaled perhaps the worst year in the history of Japanese carmakers, but Honda is having a better crisis than big rivals

While none of Japan's automakers has followed General Motors and Chrysler into the bankruptcy courts, it is hard to overestimate the sense of crisis triggered by Lehman Brothers' collapse last fall. For Japanese carmakers, plunging sales around the world were compounded by a surge in the value of the yen against the dollar and other currencies, eroding competitiveness at the worst possible moment. In January, Toyota's (TM) new president, Akio Toyoda, called the downturn "a once-in-a-hundred-year crisis." A few months later, Toyota announced its first annual loss in six decades. Meanwhile, carmakers and suppliers have contributed to Japan's unemployment rate reaching a postwar high and, on Aug. 30, an almost unprecedented change of government.

Yet, for all the many headwinds battering Japan's car industry, the pain hasn't been shared equally among Japan's nine major vehicle makers. Among Japan's Big Three, Toyota, Honda (HMC), and Nissan (NSANY), Honda looks like the winner, at least in terms of financial performance.

For the fiscal year that ended in March, Honda made a profit of $1.5 billion. That compares favorably with Toyota and Nissan, which both fell into the red, losing a combined $7 billion. What's more, with auto sales still struggling and the yen gaining ground once again, the trend looks set to continue. For the current year, Honda expects modest earnings of around $579 million, but Toyota and Nissan reckon they will lose another $4.7 billion and $1.9 billion, respectively. "We're taking the view that sales will continue to be slow, but compared to the others we are perhaps better off," said Takanobu Ito, Honda's new president and CEO, in an interview with BusinessWeek at the company's offices in Tokyo.

What separates Honda from its rivals? One big factor, of course, is a lack of gas guzzlers. When U.S. auto sales first began to weaken amid high gasoline prices and the fallout from the subprime crisis, big SUVs and pickups suffered first. Honda, with its lineup of gas sippers, was positioned to benefit from the downsizing trend, and its sales initially fared well. Only after the sales plunge spread to smaller models last fall did its numbers really start hurting.

Focusing on Green
Nevertheless, that focus on fuel-efficient small cars and hybrids continues to prop up the profit and loss statement. Smaller, more fuel-efficient models have benefited from cash-for-clunkers schemes. In Japan, the Insight hybrid, introduced in February, is a big seller as customers rush to take advantage of subsidies for green cars.

Then there's Honda's motorbike business—the largest in the world—which the company expects could account for half of operating profit during the current financial year on solid sales in emerging Asia and Brazil. "The bike business is going quite well and offsetting the weakness in car sales," says Ito, 55, who replaced Takeo Fukui as Honda chief in June.

For all that, industry watchers say that Honda's relative success amid the crisis in auto sales is about more than just a favorable product mix. They point out that its corporate culture, characterized by responsive management, a conservative investment approach, and a dose of healthy realism regarding the company's capabilities, shows up more in a crisis. "The thing about Honda is their pragmatism—it's one of the reasons they don't lose money," says Andrew Phillips, an analyst at KBC Securities in Tokyo.

Honda's lack of large vehicles, for instance, is no accident. When executives chose not to follow Toyota and Nissan as they expanded large pickup offerings earlier this decade, they did so against the advice of many in the auto industry. Instead, Honda did its own thing and focused on making healthy profit margins from what it does best—building small and midsize vehicles. While there is an automotive industry maxim that smaller models make less money, Honda finds economies by selling four key models—the Fit compact, the Civic and Accord sedans, and the CR-V crossover SUV—in larger numbers. The four account for more than 75% of its unit sales. Ito says that for a company of Honda's size—it has about half the sales of Toyota—it is vital to cut its cloth accordingly. "We have to be bold on the one hand but also quite prudent," Ito says. "We have to focus and be selective."

A No-Frills Culture
Another differentiator is that Honda, despite annual revenues of around $100 billion, is a relatively un-bureaucratic, no-frills kind of company. Senior executives, usually engineers by training, look more comfortable by a test track in overalls than in the boardroom. Among top managers, only Ito, as company president, has a chauffeur-driven car, which Honda says is for security reasons. Other executives, from the chief financial officer down, either ride the train or drive to the company's head office in Tokyo's Aoyama district. Discussion is actively encouraged.

Ito and other executives, for instance, share a large open-plan office in which Ito sits at a 5-ft.-by-2-ft. desk. Behind him, there is a small round table and four stools where executives can chat freely about pressing issues. Analysts say employees further down the corporate ladder are encouraged to speak up even if it is not what managers want to hear. "The beauty of Honda is that they are willing to hear the painful reality," says Tatsuo Yoshida, an analyst at UBS (UBS) in Tokyo.

That, says Ito, explains Honda's ultimately speedy response to plunging sales last fall. Ito, who led the team of executives that drew up a raft of cost-saving measures, recalls that because it initially resisted the downturn, Honda was slower than some rivals to begin tackling the crisis. But "once we started to consider what we had to do, we were quite quick in the decision-making process."

That culminated in a hastily arranged press conference last December in which Ito's predecessor Takeo Fukui listed a series of painful measures, including delaying a new flagship factory and putting off the introduction of clean diesels in the U.S. and Japanese markets, aimed at cutting costs and averting red ink. The hardest cut, Ito says, was pulling out of Formula One motor racing just three weeks before the start of a new season. Quitting the sport saves Honda an estimated $500 million a year, but one concern was the impact on the motivation of the 400 engineers out of a total of 13,000 in Japan that were assigned to supporting the Formula One effort. Ito, though, says he has "no regrets whatsoever. What's important now is focusing on what we've decided to do and improving our business efficiency."

As part of the shakeup, Ito is keen to further improve Honda's nimbleness. One example: He is also taking charge of Honda's research and development unit. By overseeing R&D and the company as a whole, he says, he will help the company give customers what they want faster.

Room for Improvement
With the outlook for the auto industry still uncertain, Ito now must steer the company through a period of depressed sales while positioning it to benefit from a future recovery. One challenge is implementing its green-car strategy: an ambitious plan to make hybrids account for about 10% of sales in the next few years. The launch of the new Insight hybrid has been a limited success.

The car, which is smaller than the Toyota Prius, is on its way to meeting a global sales target of 200,000 a year, but the numbers in the U.S. have been disappointing. Ito says one reason is that Honda, faced with unfavorable currency rates, has redirected sales to Japan, where the Insight is manufactured and in big demand. But he admits more needs to be done to make U.S. customers buy Honda hybrids. "We recognize there are some issues with the Insight and will make every effort to improve," he says.

Some critics complain that Honda, driven by a desire to balance the books, has dropped its fun-to-drive vehicles. For instance, the S2000 roadster ceased this year and a long-awaited successor to the NSX sports car has been shelved. The attractive CR-Z, a new sporty hybrid due for release in 2010, may appease enthusiasts, but Ito says Honda, having carved out a reputation for fuel efficiency, has no plans to add high-performance models unless they are environmentally sound. "We want to offer consumers fun-to-drive vehicles, but high-output models—so-called gas guzzlers—are not something we want to do," he says.

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