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Reuters Article

Sony hits stumbling blocks on road to recovery

By Nathan Layne
TOKYO (Reuters) - It seems to be one thing after another for Sony Corp. (6758.T: Quote, NEWS, Research) these days.
After a recall involving millions of Sony-made personal computer batteries and yet another delay for the PlayStation 3 game console, even one of Sony's top executives is questioning whether the company is on the right track.

"If you asked me if Sony's strength in hardware was in decline, right now I guess I would have to say that might be true," game unit head Ken Kutaragi said after Sony pushed back the PS3's European launch by four months to March.

The delay means Sony will miss the crucial Christmas shopping season in Europe, giving Microsoft Corp. (MSFT.O: Quote, Profile, Research) and Nintendo Co. (7974.OS: Quote, NEWS, Research) a head start in the race to win over next-generation gamers in key markets like Germany and Spain.
But for investors, the bigger worry is what the setback says about Sony's reputation as a top-class manufacturer with the ability to deliver quality products to the market on time.

The news came within weeks of two major recalls by PC giants Dell Inc. (DELL.O: Quote, Profile, Research) and Apple Computer (AAPL.O: Quote, Profile, Research) of Sony lithium-ion batteries that can overheat and catch fire.

"All of this has raised concerns about whether there is something fundamentally wrong with Sony's manufacturing process," said Mitsushige Akino, chief fund manager at Ichiyoshi Investment Management. "And it could further damage the Sony brand."

The incidents will serve as a wake-up call for Ryoji Chubachi and Howard Stringer, who have experienced mostly success since becoming president and CEO of the world's second-largest consumer electronics maker in June 2005.

The duo inherited a bloated conglomerate that seemed to have lost the ability to churn out hit products. The Walkman had been replaced by Apple's iPod as king of portable audio, while Sharp Corp. (6753.T: Quote, NEWS, Research) had taken the lead in LCD TVs.

Sony now has a market value of $43 billion, less than half of rival Samsung Electronics Co. Ltd.'s (005930.KS: Quote, Profile, Research) $112 billion, which was smaller than the Japanese firm before 2002.
Stringer and Chubachi moved swiftly to slash jobs, sell off non-core assets and focus resources on key areas such as chips and flat screens.

FALLING BEHIND

The reforms appeared to be paying off.
Helped by strong demand for a new line-up of LCD TVs and a recovery in its PC business, Sony booked a 68 percent jump in operating profit for the past year ended March. Profit is expected to fall this year, however, due to heavy start-up costs for the PS3.

Sony pushed back the PS3's European launch because production of a component for the laser in the optical disc drive had fallen behind schedule. It was the second delay this year for Europe. North America and Japan are still set for a November launch.

Shinko Securities analyst Hideki Watanabe sees both the PS3 delay and the battery recall as manifestations of deeper problems rooted in poor management decisions taken during the 90's when Nobuyuki Idei was at the helm.

He says Sony was slower than rival Matsushita Electric Industrial Co. (6752.T: Quote, NEWS, Research) to recognize the rapid shift to digital from analog technologies and was quicker to adapt. Matsushita worked harder at shortening lead times and cutting costs.
"In the digital era speed is everything," Watanabe said. "This is Idei's legacy. The new management knows what it has to do but there is such a big gap. Matsushita is running at full speed and it won't be easy for Sony to catch up."

Watanabe does not expect Sony to lose Dell and Apple as customers because the batteries are highly customized and it would be very difficult for the PC makers to make a switch.

He sees the PS3 production problems as a far more dangerous development because the game division has been a cash cow for Sony, helping keep the group afloat as it posted heavy losses on core electronics products.
"I see a major risk that Sony's presence in the game market will weaken," he said. "Investors will have to start considering the possibility in the future that the game division will not produce any real profits at all."
Sony's stock has lost 5 percent since Dell announced its recall in mid-August, lagging a small gain in the broader Tokyo market. Sony is up some 20 percent, though, since it was announced in March 2005 that Stringer would take the top job.

Certainly things have improved markedly since Sony stunned investors in April 2003 with an unforeseen quarterly loss of about $1 billion in what came to be known as the Sony Shock.

"Sony has no doubt passed through the worst stage," said Ichiyoshi's Akino.
"But investors can't let their guard down."

(Additional reporting by Kiyoshi Takenaka)

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