Chapter22 CBS/Sony Records is Established in First Round of Capital Deregulation

CBS/Sony Records is Established in First Round of Capital Deregulation

Starting out on a new adventure in 1968, Akio
Morita, Norio Ohga, and Toshio Ozawa
(second, fourth and fifth from left respectively)
with then CBS Chairman Dr. Frank Stanton.

At the beginning of the 1960s, trade friction between Japan and foreign countries was increasing. While its shipbuilding, textile, and other industries were rapidly increasing their exports, Japan cited balance of payments worries as justification for strictly restricting imports and foreign exchange transactions. The United States and Europe were dissatisfied with the situation and made repeated calls for Japan to liberalize trade.

Facing pressure from overseas, the Japanese government gradually began to lift import and foreign exchange restrictions. With this, the deregulation of the Japanese economy had begun, and Japan started to open its markets to the outside world.

As deregulation progressed, restrictions on capital were finally relaxed allowing direct foreign investment. Foreign companies could then set up subsidiaries or joint ventures in Japan, acquire equity in Japanese companies, and participate in the management of those companies. In July 1967, the first round of capital deregulation authorized foreign ownership of companies in designated industries. Depending on the industry, foreign ownership of 50 or even 100% of certain companies was permitted.

Record companies were classified in the "up to 50%" category. CBS Inc. was very interested in expanding its music business into Japan and rapidly began to search for a partner to set up a subsidiary there. At the time, CBS Records commanded a 20% share of the worldwide record market and boasted technological successes such as the LP record. Although CBS Records had been supplying Japan Columbia Inc. with master recordings for many years, the two companies could not reach an agreement on a joint venture in Japan.

In summer 1967, Harvey Schein (then president of CBS International and later president of Sony Corporation of America) visited Japan to talk to various record companies. However, while all of them listened earnestly to Schein's plans, none of them would give him a straight answer with regard to setting up a joint venture. Schein presumed that not answering with a clear "yes" or "no" was normal business practice in Japan.

In October of that year, after several frustrating months, Schein thought of Akio Morita whom he had a relationship with through Sony's broadcast equipment business. Morita was then Sony Executive Vice President. Schein had great respect for Morita as a businessman and merely wanted to ask for some advice, but upon hearing Schein's proposal Morita immediately responded, "How about setting up a joint venture with Sony?" After his experiences with other Japanese companies, Schein was taken aback by the speed with which Morita proposed the venture. It had taken him just thirty minutes to reach an agreement with Morita!

A week later Schein, Columbia Group President Goddard Lieberson, and CBS International Vice President Walter R. Yetnikoff visited the Sony Corporation headquarters to discuss the joint venture in detail. They met with Morita, Senior Managing Director Kazuo Iwama, Senior Managing Director Taketoshi Kodama, Managing Director Noboru Yoshii, and Director Norio Ohga among others. Ten days after the meeting, Sony submitted a draft contract to CBS and Schein was again surprised at how quickly Sony had made a move. Difficult negotiations followed, but both teams worked hard to reach an agreement quickly. Before the end of the year, they had signed a contract committing them to the establishment of a joint venture company, and submitted an application to MITI. News of the proposed contract, and the fact that Sony had already applied for MITI approval, sent shock waves throughout Japan's recording industry. Inside Sony, a new department was formed under the direction of Ohga to establish the new record company.

In March 1968, CBS/Sony Records Inc. was born. Capitalized at 720 million yen, it had the honor of being the first foreign-Japanese joint venture to be set up in the wake of Japan's capital deregulation. However, the road to reach that stage had been full of twists and turns with the company name turning out to be a considerable stumbling block. With its international reputation as a leading record company, CBS insisted that the new company be called CBS/Sony. However, Sony was adamant that it should be known as Sony/CBS since the company would be based in Japan and because Morita's team believed that the new venture would establish Sony as a major worldwide manufacturer of both hardware and music "software." Another reason that Morita and his team were so keen for it to be called Sony/CBS was that Sony wanted to take direct charge of the company's operations. In the end, as neither side was willing to concede, the new company was named CBS/Sony Records on the basis of alphabetical order.

Breaking with Tradition

An employment advertisement in the Asahi Shimbun from
March, 1968

Morita was appointed president of CBS/Sony Records and responsibility for the day to day management of the company was placed on Ohga who was then Director in charge of Manufacturing Planning at Sony. In addition to Ohga, nearly ten Sony staff were transferred to CBS/Sony, including Toshio Ozawa, Shugo Matsuo, Yoshikatsu Inoue and Hiroshi Kanai. Ohga offered the four a real career challenge, while demanding hard work and total commitment. Ozawa had joined Sony from Furukawa Mining Co., Ltd. because he wanted just such a challenge. At the time Sony was virtually unknown, having recently changed its name from Totsuko. Deeply affected by the strong and unique leadership of Ibuka and Morita, he thrived on the freedom, flexibility, and spirit of independence championed by the Sony philosophy. His personality was up to the challenge of CBS/Sony.

Ohga emphasized to other employees that CBS/Sony was a totally independent company, neither a part of CBS nor of Sony. He also said that while they should not do anything to damage the brand image of CBS or Sony, they had the authority and freedom to build the new company as they wished. These first employees actually transferred their employment status from Sony to the new company. Although the US side owned 50% of the company, no director was transferred from CBS and the management of CBS/Sony was entrusted entirely to the Japanese side.

To make CBS/Sony Records a success, Ohga was convinced that he needed enthusiastic people with no previous experience in the recording industry. Owning only ten LPs and being totally inexperienced in the industry, Ozawa was the perfect choice for Ohga. Most Japanese record companies had been in business since before World War II. To succeed in the business, CBS/Sony Records needed to distinguish itself from its long established competitors. When the new company placed a recruiting advertisement in a newspaper asking for inexperienced and energetic people with fresh ideas, it received seven-thousand responses. CBS/Sony Records selected eighty music-loving candidates to join the company, including one who was seventy years old. As Ohga had hoped, the new staff disregarded the traditions and practices of the Japanese recording industry as they strove to develop CBS/Sony Records into a formidable competitor.

CBS/Sony Records was determined to discover and develop new artists on its own. They were the lifeblood of the music business, but this challenged the traditional practice that production companies developed artists and record companies only produced records. Like the electronics industry, the music industry required a constant flow of new talent. In order to find these artists, CBS/Sony Records established its own auditioning system.

At first, inexperience resulted in many mistakes. But once thorough market research had been conducted, the company was able to gradually introduce a number of successful new artists. Breaking from the traditional core business of other companies, CBS/Sony Records focused on pop idols and created a new music genre in Japan that would become a runaway success.

The Joy of Creating Something New

The CBS/Sony head office in Ichigaya, Tokyo,
built five years after the company was

Ohga and Ozawa wanted everyone in the company to experience the joy of creation, as if painting a picture on a clean white canvas. Most Japanese companies operated on a lifetime employment system based on seniority. Under this system, it was very difficult for individuals to realize dreams such as becoming millionaires. CBS/Sony Records wanted to create a new system, one that allowed employees to work toward achieving their dreams and goals and to establish their own identity within the company. Ohga and Ozawa wanted employees to take personal responsibility for creating such a company and they encouraged independent decision-making in a number of areas.

Ozawa, who had personally witnessed the restructuring of Japan's coal mining industry, was determined to avoid a similar situation in which many employees had lost their jobs. Based on the principle of expanding its range of business in order to expand its work force, CBS/Sony Records strove to develop new recording industry-related business. This approach resulted in operations such as the CBS/Sony Family Club mail-order business being established.

In 1973, the company was renamed CBS/Sony Inc., and a new head office building was constructed using the profits made in the five years since its founding. CBS/Sony's determination to become an integrated music company handling all stages of music production from planning and design, through to promotion, manufacture, and sales, had brought it much faster growth than its competitors. Within ten years of its founding, the company became an industry sales leader. In addition to having no debt, the company rewarded its employees with bonuses three times a year and its shareholders with high dividends.

By the end of its tenth anniversary, CBS/Sony had created five separate companies: CBS/Sony Family Club Inc., April Music Inc., CBS/Sony Records Inc. (the manufacturing operation), Japan Records Distribution Inc., and CBS/Sony California Inc. To avoid the stagnancy and inflexibility that often infects large companies, CBS/Sony continued to spin-off operations. This also helped the company maintain a streamlined organizational structure throughout its operations. In August 1978 EPIC/Sony Inc. was established followed by CBS/Sony Publishing Inc. in February of the following year. Furthermore, in May 1979, Sony Creative Products Inc. was set up as a wholly owned subsidiary of Sony Corporation. Ozawa succeeded Ohga as president of CBS/Sony in 1980, and he continued to develop and grow the group of CBS/Sony companies in the years that followed.

To mark its 15th anniversary, the company was renamed the CBS/Sony Group Inc. in 1983. At the time, the CBS/Sony Group was working with Sony Corporation to promote CDs and CD hardware. It would take just a few years for the CD to replace the LP as the principal music recording medium. The invaluable know-how of the CBS/Sony Group played a large role in the success of the CD system as it gained acceptance worldwide. By 1983, the CBS/Sony Group's success and accumulated earnings were so impressive that the company was able to build factories and invest in the CD format drawing solely on its own resources, without any injection of funds from either Sony Corporation or CBS.

In 1988, the CBS/Sony Group celebrated its 20 year anniversary. At that time, Ozawa proudly said, "The history of our Group has been similar to a painter painting on a blank canvas. And we have been painting our own portrait on a blank canvas successfully for the past twenty years." In the first year of operation, company sales had amounted to 700 million yen. In the twentieth year, Group sales exceeded 110 billion yen.

The Acquisition of CBS Records and Columbia Pictures

Norio Ohga signing the contract with CBS at
Sony Corporation of America

At the 20th anniversary celebration for the CBS/Sony Group, Morita foreshadowed Sony's future when he said, "With the development of software, new hardware products come to life for the first time. Ten years from now, when we celebrate the 30th anniversary of the CBS/Sony Group, I hope that Sony will have developed its software business into a large-scale operation which includes images in addition to sound."

In January 1988, the company had acquired CBS Records Inc. and in November of 1989, Sony purchased Columbia Pictures Entertainment, Inc., one of the largest motion picture companies in the world. These two major acquisitions generated mixed media coverage throughout the United States and Japan.

The acquisition of CBS Records was the result of more than a year of negotiations. At the end of 1986, under instructions from Morita and Ohga, Michael Schulhof who was then vice chairman of SONAM, began discussions with CBS Chairman William S. Paley, CBS President Laurence A. Tisch, and CBS Records President Walter R. Yetnikoff. The negotiations, which covered such issues as the price of the acquisition, continued for almost a year before their conclusion in 1987.

The formal acquisition process began as soon as an agreement was reached. Toshio Sakai, who was then Senior Managing Director and General Manager of the Accounting Division, led Sony's team of lawyers and other specialists who negotiated with CBS through the maze of legal and financial procedures. Like Sony, CBS had assembled a large team to conduct the negotiations. Because Sony was acquiring 100% CBS Records' assets including all personnel, everything relating to the deal had to be worked out in painstaking detail to avoid any problems later. Each team was divided into smaller groups to grapple with specific issues. After a month of exhausting negotiations that often continued through the night, all loose ends were finally tied up, and CBS Records with operations in forty countries around the world was a member of the Sony Family.

The acquisition of Columbia Pictures took place next. Unlike the CBS Records deal, there was no protracted period of negotiation between the two companies. Once the Columbia Pictures board of directors agreed to the acquisition, Sony made a cash tender offer for all of the outstanding company shares. What did take time, however, was deciding how to manage the movie company once it had been acquired. Purchasing Columbia Pictures cost Sony $3.4 billion, which was the largest purchase ever by a Japanese company. But when considered in conjunction with the acquisition of CBS Records, this purchase gave Sony control of vast assets in terms of music and motion picture content.

For Morita and Ohga, acquiring CBS Records and Columbia Pictures meant the fulfillment of the Sony Group's ultimate strategy: to secure high quality software in order to complement and promote Sony's wealth of hardware products. The process of developing the software side of the business had begun in 1968 with the creation of CBS/Sony Records. This experience strengthened Sony management's belief that in the long-run Sony needed to simultaneously develop both AV hardware and software for that hardware. Acquisition seemed the logical route to realize Sony's overall strategy. CBS Records and Columbia Pictures were later renamed Sony Music Entertainment Inc. (SME) and Sony Pictures Entertainment Inc. (SPE).

These two purchases were central elements in Sony's global business strategy for the 21st century. Sony had already gained a strong reputation as a supplier of high quality, innovative products related to technologies such as magnetic recording, optical devices, semiconductors, and digital signal processing. In addition to these hardware-based technologies, Sony now possessed a wealth of "software," which would help to establish a convergence between the two sides of its operations. In doing so, Sony was moving toward a goal of creating a blueprint for audiovisual business in the 21st century.

Entering the Computer Video Game Business

A long line of people waiting to see a prototype of
the PlayStation at the October 1994 Electronics
Show in Japan.

The digital technology revolution has brought about the birth of new media and the integration of computers, telecommunications and television. In the age of multimedia it is essential to achieve synergy between hardware and software, and the companies of the Sony Group continue to work toward this end.

Sony applied digital technology to audio products for the first time with the development of the compact disc. Ten years later, it was used again in to develop the MiniDisc, which brought a new personal music medium to the market in 1992. During the ten year period in between, products like the CD-ROM and Video CD were also added to Sony's lineup of multimedia products.

Over the years, the revolution in hardware technology has created many new possibilities for media and content development. With its wealth of experience in the software industry, SME is well positioned to take advantage of new business opportunities. For the entire Sony Group, synergy between hardware and software products is growing as the hardware and content businesses work together to advance each other's technology and future direction.

An example of this synergy can be found in a new venture which emerged in November 1993. Sony Music Entertainment (Japan) Inc. (SMEJ) and Sony Corporation had jointly established Sony Computer Entertainment Inc. (SCE) to engage in the development, marketing and licensing of video game consoles and game titles. Although Sony had previously been involved in business tie-ups with computer game companies, Sony decided that the new company would concentrate on independent software development. To this end, personnel from various sections of the Sony Group, including broadcast products development staff and SMEJ staff involved in software development, were brought together at SCE.

Toshio Ozawa, former chairman of SMEJ, was appointed president of SCE, with Teruhisa Tokunaka of Sony Corporation as vice president. Shigeo Maruyama, a man renowned for discovering and nurturing new artists at EPIC/Sony also joined the new company. Led by Ozawa and his new management team SCE's employees came together from many different backgrounds and began creating a unique corporate culture which incorporated elements from across the Sony Group.

A year after its establishment, SCE successfully combined the hardware expertise of Sony Corporation with the software know-how of SMEJ to develop the 32-bit PlayStation video game system. With its CD-ROM-based software and the processing power of a computer workstation, PlayStation was far more than just a toy.

In December 1994, PlayStation was launched in Japan. At that time the computer game market was dominated by Nintendo Co., Ltd., and there was no guarantee that a Sony brand product would be able to capture significant market share. Nevertheless, the initial stock of 100,000 units sold out on the first day of business, and the next 6 months recorded accumulated sales of more than 1 million units. Sony's entry into the video game market had been an overwhelming success. Following this initial triumph in Japan, SCE launched the PlayStation in the U.S. and Europe in the autumn of 1995 under the new leadership of Tokunaka. As of May 1996, the accumulated number of PlayStation units sold worldwide had exceeded 5 million forming a true milestone in Sony's sales history. It was the first time that a single model had sold such a large number of units in such a short period of time.