Sony's Sudden Samurai Four fixes that non-techie, non-Japanese CEO Stringer must make to rev

up growth It wasn't as far-fetched as, say, a geeky high school student morphing overnight into your web-spinning, friendly, neighborhood Spider-Man. But the Mar. 7 announcement that Sir Howard Stringer would take over management control of Sony Corp. (SNE ), a $68 billion consumer-electronics and entertainment colossus, came pretty close to defying belief in Japan. Sure, Sony is a much-diminished force. But was it so desperate it needed to turn to a non-techie gaijin, a former CBS (VIA ) television news producer who speaks no Japanese and who plans to run the show mostly from New York, not Tokyo? Outgoing Sony CEO and Chairman Nobuyuki Idei says he handpicked Stringer, 63, based on his undisputed success as head of Sony's U.S. music and film operations. It helped, no doubt, that he led a consortium to buy the fabled MetroGoldwyn Mayer Inc. (MGM ) studio for $5 billion last fall, beating out Time Warner Inc. (TWX ). With Sony's operations so enmeshed in the U.S. and its brand so well known around the world, "there is no reason why management should be Japanese," Idei maintains. But there's also no obvious reason Sony should remain the company it is. Stringer has to convince skeptical insiders and outside investors that its warring fiefdoms can finally be quelled and forced into a coherent company. If not, a growing pool of non-Japanese investors may simply insist on unlocking the value of Sony's parts through some sort of breakup. Insiders say a stock sale of Sony's Hollywood studio is already a live issue within the company. Stringer vows instead that, on his watch, Sony will finally achieve the long-promised magic of convergence between its disparate entertainment and consumer-electronics units. If this company were American and not Japanese, the board of directors would probably have forced a drastic solution a long time ago. Can Sir Howard succeed where Idei so visibly failed? Look at the two sides of the balance sheet. On the negative side: Stringer lacks technical depth in electronics. He cannot possibly have a hands-on role in a thorny restructuring in Japan if, as planned, he remains in New York. Most troubling, the road map he is following is the one Sony has been presenting to the world for the past 10 years: to find the synergies among movies, music, games, and gadgets, including many that have yet to be invented. But there are pluses as well. As a foreigner with much charismatic appeal, Stringer

000 more jobs have to go. "In a sense. and Yotaro Kobayashi. it will have to raise that ratio without allowing quality to suffer. Stringer will be working with some of the world's most creative hardware designers. but it's not enough: Sony's electronics division will probably lose $288 million in the coming fiscal year ending Mar. The restructuring goals have to be announced quickly -. most of it from electronics. and other crackerjack nerds. toysters.if Stringer wants to sustain any credibility. And it is resorting to desperate discounting to hold market share. Nissan Motor (NSANY ) CEO Carlos Ghosn. Analysts estimate as many as 10. he would be borrowing a page from the playbook of Carlos Ghosn.) The new CEO must also make it clear that there are consequences for executives who fail to deliver. and cutting the number of global suppliers from 4. "The problem is not an absence of great engineers or the absence of great ideas." He also plans to spend at least one week every month in Tokyo.may be able to impose Western management practices that could radically reshape and revive Sony.before the summer -. standardizing parts. It's losing sales and profits to rivals about as fast as it cuts costs. Idei set a goal to shave $3. What's more.and quickly: 1 HALT THE SLIDE IN CONSUMER ELECTRONICS In 2003. When he's there. While Sony already sources plenty of electronic gizmos from factories in Asia. (Stringer plans to consult with Ghosn. provided I find a way to enlist the support of the employees. That will cost plenty: Severance deals in Japan often involve lump payments of 24 months. senior-chairman of the private equity firm Blackstone Group. Peterson.including internationalists such as Peter G. 31.700 to 1.2 billion from Sony's cost structure. hackers. Stringer calls the Sony brand "one of the 20th century's greatest creations. Last fall the company slashed prices on its liquid-crystal display (LCD) rear-view projection sets to undercut no-name Chinese brands. who announced clear cost-cutting targets shortly after taking over at Nissan. "it's easier for me as an outsider to execute.000 by March." says Peterson. the directors and their advisers -. In doing so.000 jobs. Sony is still a design and innovation hot spot. "I cannot allow the generosity of Sony's [culture] to resist certain . Stringer has to lay off more workers. Sony is on target to hit that goal. here is what he must do -. "I happen to think Stringer is easily the best choice here." says Stringer." If it is going to survive in the 21st. especially in high-cost Japan. chairman of Fuji Xerox -are firmly behind the new CEO. He seems to recognize that. by eliminating 20. robot maniacs." he says. 2007. or 13% of the workforce.

When the company launched its answer to Apple Computer's (AAPL ) iPod.changes. Its solution for sharing video among multiple devices is an approach called Giga Pocket that appears to work well only with Sony gear.S." The good news: Stringer has experience. Sony struck a joint venture with archrival Samsung last year to manufacture high-end LCD panels for flat televisions. Japanese deputies will have to wield the ax -." he says.S.and overcome Japan's entrenched culture of accommodation and face-saving. can kill a company. "Kindness. And in at least a few cases it's staying ahead of the pack. Sony made it impossible for customers to play songs in formats other than its own. . Panasonic (MC ). "It is a mistake to underestimate [him]. He whacked $700 million a year out of U. operations since 2001 and overhauled the studio operation by cutting TV producer deals and sharing costs on films. which hits the U. Dell (DELL ). And Sony has fielded a plausible bid to dominate the next generation of high-definition DVDs. Now the world of online video is emerging.to win consumers. 2 COME UP WITH SOME NEW HITS -. Right now. Partnerships speed up product development. in the end. and Disney (DIS ). video could be bigger than music." says MGM Chairman Alex Yemenidjian. a joint venture in cell phones. the ax-man role seems to fall to Executive Deputy President Ryoji Chubachi. market this month. whom Idei has described as a good listener and consensus builder. One example is a portable version of the PlayStation. This game machine will run on a superfast chip called Cell. and the next generation console. Nevertheless. and Sony could be a major player. with its Blu-ray format. which Sony developed in a partnership with Toshiba Corp. Two years down the road. much of the nasty work of restructuring electronics will have to be done remotely. PlayStation3. has gotten Sony back into the handset game.LIKE YESTERDAY Sony is already making some of the right moves in cranking out novel products that consumers want. But Stringer still has to banish some old-fashioned thinking. It's reaching out to other companies to share the burden of developing new technology.rather than lock-in -. In its camp: Samsung. The next three months will test his mettle. and once again Sony seems stuck in the same groove again. and IBM (IBM ). Sony Ericsson Mobile Communications. But it needs to throw its full weight behind industry standards and depend on the excellence of its products -. like trying to control the market with proprietary technology.

. "there's no longer resistance to content people participating in everything." says Andrew Lack. and forced Sony to cave. If senior staff can't meet these requirements. so be it. Idei and other senior executives came up with the sensible idea of selling off its Sony Life insurance division to General Electric Co. If that means planting cosseted Hollywood execs in stiff. only a handful are real profit makers. leaked nasty stories to the Japanese press about Idei. His gang delivered an astounding 68% of Sony's $650 million in operating profits last year. The Sony factions are as wily as they come. " says Michael Lynton." Translation: Studio execs and hardware geeks don't talk. CEO of Sony BMG Entertainment. and -. Sony Pictures Entertainment chairman." 3 CRUSH THE SILOS INSIDE SONY There's no doubt Sony has the most enthralling assets of any entertainment company. A key silo issue is the role of Ken Kutaragi.. Of the hundreds of different products Sony factories exhale each month. so I think we'll see ever more co-operation between music and electronics." The Welshman has pushed hard to break down resistance inside U. Sony shouldn't be the right home for them. hatch plans.S. the official Sony bad boy. Sony's chief technology officer in North America. especially between the movie studio and the games and electronics divisions. There was just one catch: Sony Life execs rebelled. "Tokyo is now Howard. music. [We] are going to have to look at the balance sheet to see if there are too many winners and losers. Stringer thinks the ammunition is in place to blow up some silos. Stringer adds. Stringer's lieutenants are now looking forward to such connections with Japan. Stringer has to set up a framework where executives around the world from games. is deep inside the inner circle of engineers in Tokyo. movies. set goals. Sony should do less to achieve more. (GE ). . As Stringer puts it.Finally. white-collar environments in Tokyo for six months at a stretch. Phil Wiser. and hardware meet often.if they fall behind -. It was profitable but made little sense for a consumerelectronics giant.. "Howard is pretty insistent about supporting the other parts of the company.take responsibility. Back in 2002. Kutaragi created the PlayStation in 1994 and has run the game unit ever since. Breaking the silos is probably the hardest task Stringer faces. And. But even Sir Howard admits that Sony needs "better integration between our services and our device portfolio. operations. "Sony is battling on a very broad front.

Games could be a stand-alone company. is the last thing on the mind of Sony's rank and file. "We've been blasted the last couple of years for not having a Michael Dell in charge. 4 THINK THE UNTHINKABLE What if Stringer fails to tease out the synergies that would elevate Sony -.and what if Sony's notorious factions defy his efforts? As Stringer himself concedes. "the worst nightmare would be passive resistance. he was knocked off the board. A stock offering of the studio would be snapped up. of course. "Ken doesn't have a lot of friends in the home office. management could focus on cutting costs and rolling out new products. A bust-up. ." If it happens. considering the good job Stringer's lieutenants have done in containing costs and producing hits like Spider-Man." It's certainly the most audacious management call in Sony's 59-year run. the chief should go to the next step and plan an orderly breakup of the company." says one insider. it is hard to think who could.In the recent power shift. Silicon Valley has murmured that parts of Sony would fit nicely with Apple. But Stringer should rise above that and find a suitable cross-boundary role for one of Sony's most creative dynamos. If Stringer can't reboot Sony at this point. With his brash manner. "Here is the face and voice of a powerful figure running a powerful company. And if electronics went out on its own." as one Sony insider puts it.

the betting is that he'll likely keep the software unit and spin off the hardware unit one way or another. recent as well as more-distant events make a case for this argument. Ryoji Chubachi will assume the position of president. The ratio of parts procured internally would drop dramatically. recent price: $40). In our opinion. Sony created a joint venture with Ericsson (ERICY .What Should Sony Spin Off? S&P believes new CEO Howard Stringer will have little choice but to jettison one of the giant's two main businesses. "Sony's Sudden Samurai")." Sony could still compete due its own proprietary technology and reduced costs in low-end parts. and the other five board members will resign. Sony announced a cross-licensing agreement and a joint venture involving LCD panels. Idei indicated at a press conference held on Mar. $38) model.such as a charge-coupled device (a semiconductor used in digital cameras and camcorders) and a superfast chip called Cell developed jointly with Toshiba (TOSBF ) and IBM (IBM ) -.and outsource the rest of hardware. ranked 3 STARS. in December. with Samsung. . 27. 2004. 3 STARS. KEEPING KEN HAPPY. To revive the cell-phone business. In our view. For example. Sir Howard Stringer will replace Nobuyuki Idei as chairman and group CEO of Sony Corp. (SNE . Given these management changes. 31) given on Jan. imitating Dell's DELL . but by keeping "the engine. we believe. Meeting Sony's target of 10% operating margin would require Stringer to make more progress in the hardware business than the previous management did. hardware most likely On June 22. 3/10/05. At S&P. or strong buy. 7 that meeting Sony's original target of a 10% operating margin (excluding financial businesses) has become a challenge. $29). or hold. We think Wall Street perceives it as a two-sided issue: Stringer will keep the hardware business or the software business. However. One possible scenario we see is for Sony to focus on semiconductor and core technology and key devices -. Doing so will ease the research and development burden. We at Standard & Poor's Equity Research think these moves resulted from shareholders' dissatisfaction with the current board and management's restructuring efforts. we believe the market expects Stringer to conduct a major overhaul of Sony's current business portfolio (see BW Online. we believe. we think that joint ventures alone may not improve the margin. MORE PROGRESS NEEDED. the event that triggered Idei's resignation was the lowered guidance for fiscal 2005 (ended Mar. Also. but not both. 5 STARS. Sony hopes.

Sony could also spin off its games business. Sony could spin off the semiconductor businesses as a totally independent operation. Another purpose of a potential spin-off: Stringer can appease Sony Computer Entertainment President and CEO Ken Kutaragi. If it continues to compete in electronics and entertainment under one umbrella. The new management hasn't disclosed any different concrete measures in corporate strategy.If not. on yearly average.relative to peers -. Required Disclosures 5-STARS (Strong Buy): Total return is expected to outperform the total return of the S&P 500 . If the spun-off company can procure funds from capital markets. We believe that to meet the 10% margin target. the company will expend $2 billion on the chip business alone. we believe that such a spin-off is unlikely. Stringer may want to keep the division within the Sony group to protect secrecy and prevent any leakage of technology. To our surprise. electronics would require an additional $1 billion to $2 billion yearly. would create more accountability within the segment. We estimate that. The division's complacency and lack of urgency has largely contributed to Sony's downfall in consumer electronics. In our view. In addition. we think Sony may experience a cash crunch -. 2007.S should help improve the division's bottom line in fiscal 2006. Becoming a stand-alone enterprise would force the division to improve its product line and cost structure. We believe this would serve two purposes. in fiscal 2006. should also strengthen the games business. which could happen by the middle of fiscal 2006. The launch of PlayStation3.by March. Whether it's hardware or software. HANDHELD STRENGTH. as the head of the new semiconductor company. An alternate scenario. Stringer could name Kutaragi. For the next two fiscal years. Since the next-generation game console could turn into a big earnings driver. However. Sony as a group can prevent any cash shortage in the future. considering fiscal 2004's cash balance of $8 billion. spinning off the consumer-electronics division completely as an independent entity. 2007. First. and keep him as a critical member of management. the disappointed heir apparent who earned respect by launching PlayStation game consoles from scratch. we believe. we think he must consider the spin-off options and execute them quickly. whom we view as disgruntled. This unit and the semiconductor business are similar in nature in that both are capital-intensive. Sony needs to refocus its cash and assets to certain areas. RATING STEADY. the successful launch of the handheld game console PlayStation Portable in Japan and the U. the semiconductor and games businesses together would require $2 billion to $3 billion in investment for R&D and capital spending. it could ease Sony's capital spending burden. we think Sony can spend the leftover capital on struggling businesses. We believe that if the chip and games units can procure funds from capital markets rather than from internal resources. We maintain our 3-STARS (hold) recommendation on the shares with a 12-month target price of $39. Stringer maintained Sony's commitment to the 10% operating margin by the original deadline of March.

financial instruments or strategies mentioned herein may not be suitable for all investors. 1-STARS (Strong Sell): Total return is expected to underperform the total return of the S&P 500 Index by a wide margin. No part of the analysts' compensation was. financial situations or needs and is not intended as a recommendation of particular securities. Standard & Poor's equity research analysts have no access to non-public information received by other units of Standard & Poor's. and may have been provided to you either by: (i) Standard & Poor's under a license agreement with The McGraw-Hill Companies. Additional information is available upon request to Standard & Poor's. with shares rising in price on an absolute basis. 4-STARS (Buy): Total return is expected to outperform the total return of the S&P 500 Index. NY 10041. with shares rising in price on an absolute basis. related to the specific recommendations or views expressed in this research report. Assumptions. or will be. Securities. 2004. and share price is not anticipated to show a gain. seek professional advice. if necessary. with shares falling in price on an absolute basis. SPIAS and their U. This material does not take into account your particular investment objectives. research analysts have recommended 26.3% with hold recommendations and 12. with shares generally rising in price on an absolute basis.2% with sell recommendations. New York.5% of issuers with buy recommendations. Before acting on any recommendation in this material. This equity research report and recommendations are performed separately from any other analytic activity of Standard & Poor's. financial instruments or strategies to you. Disclaimers This material is based upon information that we consider to be reliable. but neither SPIAS nor its affiliates warrant its completeness or accuracy. 2-STARS (Sell): Total return is expected to underperform the total return of the S&P 500 Index. SPIAS is affiliated with various entities. which holds the copyright to this report. Other Disclosures This research report was prepared by Standard & Poor's Investment Advisory Services LLC ("SPIAS"). or (ii) a Standard & Poor's client who is granted a sub-license by Standard & Poor's. 55 Water Street. Past performance is not indicative of future results. Standard & Poor's does not trade in its own account.S.Index by a wide margin. 61. you should consider whether it is suitable for your particular circumstances and. is. and it should not be relied upon as such. Inc. which may perform services for companies covered by the recommendations in this report. directly or indirectly. As of December 31. This material is not intended as an offer or solicitation for the purchase or sale of any security or other financial instrument. Each such affiliate is operationally independent from SPIAS. opinions and estimates constitute our judgment as of the date of this material and are subject to change without notice. 3-STARS (Hold): Total return is expected to closely approximate the total return of the S&P 500 Index. All of the views expressed in this research report accurately reflect the research analysts' personal views regarding any and all of the subject securities or issuers.. .

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