Winners / Selection Rationale

MRO is a three-letter acronym for "maintenance, repair, and operations," which means the equipment and materials used in factories and on shop floors. This refers to the indirect materials that are used to make the final product but do not become part of that final product. Indirect materials include compressors, pumps, and other small equipment; drills and other tools; maintenance and repair items, like lubricating oils, mending tape, and putty; and consumables, like dust masks and work gloves. Nowadays, MRO also includes various other indirect materials, such as office supplies (e.g., personal computers, copier paper, and fluorescent bulbs).

Indirect materials comprise multiple product categories. The commodities are supplied by a vast number of suppliers, and each supplier serves a large number of customers. There are over 10 million SKUs, and more than 10,000 manufacturers in Japan and overseas. The majority are small and medium-sized manufacturers. There are just a few large manufacturers. End users are mainly manufacturers, auto repair shops, the factories of construction companies, and the contractors who work at construction sites. End users also include offices and individuals working on their own DIY home improvement projects. The market size for indirect materials in Japan, which was about 8 trillion yen (about US$70 billion) in 2015, has remained at this level since the 1990s. (*1)

The distribution channel for indirect materials is multi-layered: (1) first-tier wholesalers, operating on a nationwide scale; (2) second-tier wholesalers; and (3) sales agents. Both suppliers and customers alike are large in number, but small in size. Trusco Nakayama was founded in 1959 as a wholesaler of machinery tools and indirect materials. In the 60 years since the company's establishment, none of the new market entrants have succeeded in growing beyond a certain size. It is difficult to grow a company in this market, given the large number of manufacturers, the vast array of products, and the degree to which customers are geographically spread out.

In Japan, the main retail channel for indirect materials has been machinery tool dealers, who visit factories and take orders. Machinery tool dealers have extensive knowledge of the highly specialized items and equipment intended for professional use, and they make a concerted effort to supply such items. They build a relationship with the customer's procurement department. As part of their order- taking duties, they share their knowledge with customers and listen attentively to their customers' questions and requests. Dealers must respond to the specific requests of their customers (the factories). However, due to financial constraints, machinery tool dealers would normally carry only a limited number of commodities, and those items tended to be the best-selling national brand products. If a customer wants a product that is not in stock, it will have to be backordered, and the product will be delivered to the customer at a later date. Another challenge has been the industry's reliance on sales calls as the main sales practice. There is a limit to the number of customers that can be visited and the number of geographic locations that can be served. These challenges have been dealt with by dividing up sales territories geographically, and clearly demarcating sales territories for each dealer. Meanwhile, there has been a steady decline in the number of machinery tool dealers over the years. As is often the case, such companies are usually family-run businesses, and when aging business owners retire, business closures are quite common.

The e-Commerce retail sales of indirect materials (pioneered by MonotaRO in 2000) have been growing rapidly while continually attracting various kinds of end users.

(*1) Ministry of Economy, Industries and Trade, Shogyo Tokei (lit. translation - Commercial Statistics).

Trusco Nakayama sources its inventory from 2,416 suppliers, and sells to 5,327 sales agents (as of the end of September 2018). Out of the 2,416 suppliers, 2,224 are Japanese companies. Machinery tool dealers, together with welding material dealers account for 80.7% of sales (on a value basis). Their customers are factories and construction-related businesses. The second-largest customer segment is online sales agents, who comprise 12.5% of sales. Online sales agents sell to a wide variety of customers, ranging from factories to consumers. The third-largest customer segment is home centers and pro shops that specialize in professional-use tools and materials. Home centers (large-scale retailers) and pro shops make up 6.3% of sales, and these retailers sell to construction contractors and consumers. The remaining 0.5% comes from international sales. Overseas dealers provide support for the overseas operations of Japanese customers, and local machinery tool dealers are their customers. Through these retail channels, Trusco Nakayama can reach more than 1 million end users. Of the one million users, large and medium-sized companies account for about 200,000; small companies and consumers comprise the majority, at about 800,000.

Trusco Nakayama has both the broadest product line in the indirect materials wholesale industry, and the largest number of items carried as inventory. The company sells about 1,730,000 items. Regarding its inventory, 351,800 items are kept at one of Trusco Nakayama's 22 distribution centers in Japan (as of the end of September 2018). The percentage of items shipped from inventory is 89.9% of the orders received (as of the end of September 2018). The first value proposition that Trusco Nakayama offers the sales agents of indirect materials is the convenience of one-stop shopping for as many as 1,730,000 items. The company also provides a shorter delivery lead time for those items. Customers place an order via the company's e-Commerce website, "TRUSCO Orange Book.Com" or the company's catalogue, "TRUSCO Orange Book," which carries 359,800 SKUs. On the procurement side, the company's electronic purchasing site, "Orange Commerce," is linked to 307 companies and 1,204 factories (as of the end of September 2018). Of all orders received, electronic orders accounted for 81.6% (as of the end of September 2018). The company charges a fee for the TRUSCO Orange Book. The company charges 15, 660 yen (about US$137) for 10 volumes (this amount includes tax). Despite this relatively high price, the company sells about 240,000 copies every year. Trusco Nakayama has 22 distribution centers, 75 sales offices, and 2 headquarters. Thirty-one sales offices carry inventory.

The second value proposition is helping customers (who are sales agents) to reduce their inventory while simultaneously providing the commodities they need to expand their lineup of merchandise. The majority of machinery tool dealers are family-owned businesses that are deeply rooted in the local community. For them, carrying and managing large inventories is a burden, both financially and also managerially. Trusco Nakayama carries its own inventory even for long-tail products (items that sell less frequently). As a result, it has established a reputation for being reliable. Customers say, "Trusco will have it." In addition, the company accepts orders for small lots, so customers can order even just one screwdriver, and have it delivered to them. Most of Trusco Nakayama's customers can receive their deliveries the same day the order is placed or the next day, because the company makes deliveries twice a day. In a sense, the company delivers "the necessary goods in the quantities needed, when they are needed." Sometimes, other wholesalers of indirect materials will buy from Trusco Nakayama. This is because it takes time and involves an additional cost when buying in small lots from a manufacturer. (Manufacturers do not have a system for shipping items in small lots.) Trusco Nakayama will accept returns free of charge when the product has been sourced from its inventory. As a result, sales agents can reduce their inventories without any worries, while still making it possible for their customers to order from a broad product lineup.

The third value Trusco Nakayama provides is operational support to customers that are sales agents. The company encourages customers that operate e-Commerce sites to connect their systems. Trusco Nakayama shares its product database (covering 1,730,000 items) with a limited number of customers. The company also allows users real-time access to inventory data, and has arranged for products to be delivered directly to the end users. As for the customers that operate home centers, Trusco Nakayama helps them to: (1) develop store-branded products; (2) improve the store floor layout and product displays; and (3) help establish links between brick-and-mortar operations and the e-Commerce business.

Trusco Nakayama does not pursue a low price. Customers decide to buy from Trusco Nakayama primarily because of the convenience it offers, such as quick deliveries. Still, customers are hoping to get a reasonably low price.

Mr. Tetsuya Nakayama, President of Trusco Nakayama Corporation, wants to create a situation where customers have no choice but to buy from Trusco Nakayama, even if they do not want to. In other words, the company wants to be indispensable to customers. He believes that customers who buy from Trusco Nakayama just because they like Trusco might stop buying from Trusco if their feelings about the company were to change for any reason (*2). The quick delivery of small-lot orders (even only one or two items) is an indispensable service for customers, and would be difficult for competitors to imitate with the same degree of efficiency. Mr. Nakayama wants each employee to think more about how to improve the customer's business and less about getting orders (*3).

The value that Trusco Nakayama provides its suppliers is access to 5,327 sales agents and more than one million end users. The combined sales of the top seven wholesalers of indirect materials came to about 736 billion yen (about US$6.5 billion), and Trusco Nakayama was the leader, with a 26.5% share of the market in fiscal year 2017.

(*2) Mr. Tetsuya Nakayama, President of Trusco Nakayama Corporation, interviewed by the author on October 3, 2018.
(*3) Ibid.

The unique features of Trusco Nakayama Corporation's value chain is its R&D, procurement, supply chain management, and human resources management.

Merchandising and procurement
Trusco Nakayama's product line focuses on the indirect materials used for manufacturing. The company does not sell the types of products that consumers would use in their daily lives. The company has expanded its product line, and has also increased the number of items carried as inventory. Trusco Nakayama had 36.4 billion yen (about US$320 million) worth of inventory in fiscal year 2018, when its sales were 213 billion yen (about US$1.9 billion). The number of items that the company sells increased from 830,000 in 2008, to 1,662,400 in 2017. In short, the company's product line doubled over a period of about nine years. In addition, the number of items sold as private brand products grew from 25,000 to 50,200 items during the same period. Sales of private brand products came to 40.1 billion yen (about US$350 million) in 2017. Trusco Nakayama's product catalogue, "TRUSCO Orange Book," increased from four volumes to ten, while the number of products listed in the catalogue increased from 107,000 SKUs to 359,800 SKUs, and the number of manufacturers (suppliers) rose from 980 to 1,572. According to President Tetsuya Nakayama, it is the company's conviction that stronger inventory stocking capabilities contribute to stronger sales capabilities (*4). The company holds a meeting for its suppliers, called the Tanabata Kai, once a year.

R&D
Trusco Nakayama believes that fully utilizing an IT system gives the company operational superiority over its competitors. The company has been aggressively investing in IT systems for about ten years. For example, the company eliminated the use of supplier invoices by automating the payment process. Now, product details are inspected at the time of delivery, and this activity automatically initiates the payment process. The company has been improving both its product search process and its order receiving process at its e-Commerce wholesale site, "TRUSCO Orange Book.Com." The company has adopted artificial intelligence (AI Orange Rescue) for in-house use. The company is working in-house to improve the precision of AI for image searches and product searches using natural and fuzzy language. This feature will eventually be made available to the company's customers as soon as all the necessary preparations have been completed.

Distribution
Trusco Nakayama attaches importance to the "Stock Hit Rate" (inventory items' percentage of total products ordered). The Stock Hit Rate was 89.9% at the end of September 2018. Over time, the company has been expanding its product lineup and strengthening its distribution function. Trusco Nakayama increased the number of distribution centers from 14 in 2008, to 22 in 2018. The company has also been investing in the automation of its distribution centers, and has introduced an automated warehouse system (specifically, AutoStore, a product of the Norwegian company Jakob Hatteland Computer AS). Its warehouse operations are much different from companies that use a "just-in-time" approach to minimize inventory.

Trusco Nakayama owns fleet of trucks and makes deliveries twice a day from 22 distribution centers to customers located within a one-hour drive. The trucks make dedicated runs on fixed delivery routes every day. The company operates satellite branches that are located within a two- or three-hour drive from one of its distribution centers. Inventory is transported from the distribution center to a satellite branch each night, on a fixed delivery route. The inventory is then transported from the satellite branch to the customer's site twice a day. The company has stock branches that are more than a three-hour drive from one of the company's distribution centers. Stock branches receive an inventory replenishment once a day. From stock branches, deliveries are made to customers twice a day. For customers who are not located within the network described above, the company has arranged for a route delivery service company to make deliveries once a day. About 80% of the customers are served by Trusco Nakayama's fixed-route delivery service.

Marketing
Trusco Nakayama invites leading e-Commerce sales agents to tour one of its distribution centers to let them know about its highly reliable quick delivery service. This interaction with e-Commerce sales agents often leads to new customer acquisition. Trusco Nakayama does not make sales calls on machinery tool dealers (the company's main customer segment), nor does the company require its sales staff to acquire a specified number of new customers. Usually, new customers in this segment will approach Trusco Nakayama, or one of the company's suppliers, and introduce themselves to the company.

Trusco Nakayama received about 50,000 inquiries (e.g., whether a particular product was in stock, price-related inquires, and inquiries about whether an estimate can be issued).

Human resource management: Trusco Nakayama has all its employees receive a 360-degree evaluation. One hundred fifty-five managers (as of the end of September 2018) anonymously evaluate all of the company's executives. The company periodically has staff members rotate jobs within their own department, and sometimes across departments. The company has developed various original training programs, customized for each layer of management. These programs are taught by senior employees.

Trusco Nakayama does not use temporary staff. The company employs full-time and part-time workers. (Part-time workers are not the primary breadwinners of the family.) Of the company's 2,720 employees, 1,621 are full-timers, and 1,099 are part-timers (as of the end of September 2018). The company commits to hiring workers directly. Trusco Nakayama also employs nurses, who work at the company's offices, as well as childcare workers, who work in the nursery within each distribution center, and cooks, who work at company's recreational facilities. All the newly hired employees are assigned to a distribution center, where they work for 14 months. Trusco Nakayama publishes a booklet that features the photographs of the company's employees, and includes a comment from each person. This booklet, which is distributed in-house, helps employees get to know the other people in the company.

Since 2001, Trusco Nakayama has been introducing programs to help employees work for longer tenures within the company. For example, there is the "Yutori Jitan" system, which allows employees to shorten their working hours by up to three hours a day until their child has graduated from elementary school. In the case of individuals who must care for a sick, disabled, or elderly family member, they may take advantage of the shortened working hours for as long as necessary. This program was started in 2001. Another program, called "Happy Sunday Program," is for employees who are living away from home. The company pays the travel expenses for two hometown visits per month, covers their rent, and gives them an allowance. When employees return to work on Monday, there is a chance they will not be able to make it to the office in time for the start of their work day. (Even if they were to take the very first train departing from their home town, they still could not arrive in time. In such case, the company will allow a late arrival without any penalty, but only if prior notice is given.) This program was started in 2002. Trusco Nakayama has also extended the retirement age twice (once in 2012, and again in 2015). Since 2015, the retirement age for managers is 62, and for all other employees is 65. With the employment extension, employees can now work full time until the age of 70, and part time until the age of 75.

General management
rusco Nakayama's financial management policy is to select fixed costs over variable costs. This means that the company owns warehouses and trucks, carries large inventory, and employs workers rather than use temporary staff. The company believes in taking ownership of assets, because it then becomes possible to make continuous improvements. The decision to take ownership and be responsible for running those operations is also motivated by the following considerations: (1) indirect materials have a thin profit margin; (2) sales are expected to be stable even in the worst times; and (3) the cost structure is such that high fixed costs will result in high returns once the sales volume exceeds a certain level.

(*4) Mr. Tetsuya Nakayama, President of Trusco Nakayama Corporation, interviewed by the author on October 3, 2018.

Trusco Nakayama Corporation made four choices that are central to its competitive strategy: (1) Quick delivery; (2) low-cost delivery; (3) personnel management that fosters a good work environment for employees; and (4) limited services.

Quick delivery is supported by a broad product line and large inventory; a distribution system that is comprised of a distribution center and fixed delivery routes; and automated supply chain management. Low-cost delivery is enabled by the broad product line, a customer base, and investment in automated distribution centers. A low-cost delivery system enables shipments in small lots, and twice-daily deliveries. A good work environment contributes to: (1) the low attrition rate among employees, and supports their professional development; (2) the decentralized operation of distribution centers and branch offices in various parts of Japan; (3) the ability to serve customers in different segments; and (4) the development of private-brand products. "Limited services" refers to the company's decision to specialize in the wholesale of indirect materials. Consequently, there are: (1) no bills payable and bills receivable; (2) no sales activities focused solely on the domestic market; and (3) no cross-holding of shares. The company's specialization in the wholesale of indirect materials enables investments in fixed-cost items, such as distribution centers, trucks, inventories, and employees. (Please refer to Trusco Nakayama Corporation's activity system map, which appears at the end of this report.)

• rusco Nakayama's First Law of Inventory
  "More inventory, more sales." Trusco Nakayama believes that quick product delivery is the best service it can provide. Many companies avoid holding slow-selling products in inventory. Trusco Nakayama, however, believes that if the products are in inventory, they will sell. The reason that products will sell is because customers value quick delivery. Because the items are shipped from inventory, quick delivery is possible.
• Trusco Nakayama's Second Law of Inventory
  "Focus on the Stock Hit Rate." Many companies focus on the inventory turnover rate. Instead, Trusco Nakayama focuses on how much of the order was shipped from inventory.
• Trusco Nakayama's Third Law of Inventory
  "Inventory provides the energy for growth." Many companies think of inventory as a cost. Trusco Nakayama thinks that a broad product lineup and huge inventory will help the company to earn the customers' trust, which in turn will contribute to its sales growth. Inventory is what enables Trusco Nakayama to demonstrate its reliability. Knowing Trusco Nakayama's strong commitment to inventory, customers can say with confidence, "Trusco has it."

• Does not enter the retail segment. By not selling directly to the end users, Trusco Nakayama can avoid competing with its own customers. Moreover, the company can also expand its customer base, by not only attracting sales agents but also other wholesalers.
• Does not focus on increasing inventory turnover or reducing its inventory. Having a large inventory increases the cost of inventory management, as well as the risk of having bad inventory. However, having a large inventory enhances customer convenience, because the shipping of inventory stock makes possible shorter delivery lead time.
• Does not use bills payable or bills receivable. By not accepting bills payable, Trusco Nakayama can reduce exposure to bad loans resulting from customer insolvency. This enables both suppliers and customers to reduce their workload related to bill collections and troublesome receivables management. Trusco Nakayama pays by cash on the 10th of the following month.
• Does not expand its lineup of merchandise beyond tools for professional use (i.e., indirect materials). Trusco Nakayama has broadened the product lineup within the indirect materials category, further improving the benefit of one-stop shopping for customers.
• Does not conduct sales activities outside of Japan.
• Does not engage in the cross-holding of shares. To enhance fairness in the stock market, Trusco Nakayama encourages its employees to freely sell company shares obtained through the employee stock ownership plan.
• Does not rent distribution centers, branch offices, the headquarters building, or any major equipment. Trusco Nakayama's policy is to take ownership, and thereby ensure that employees will have a comfortable work environment.
• Does not hire temporary staff. Trusco Nakayama employs full-time and part-time workers. (Part-time workers are not the primary breadwinners in the family.) By facilitating the employees' professional development, the company supports its own growth.
• Does not depend on an independent service provider for its distribution function. Trusco Nakayama owns a fleet of trucks, and has developed its own distribution network. For high-density areas, the company makes deliveries twice a day from a distribution center on a fixed route. The company hires a route delivery service when delivering items to customers located outside of its fixed routes.
• Does not charge for returned inventory goods. Customers can settle their returns online.

Trusco Nakayama was established under the name "Nakayama Kiko Shokai" in Osaka in 1959, and started out as a wholesaler of indirect materials, such as machinery tools. In 1963, the company began publishing an original catalogue, Nakayama Shoho. This catalogue is still being published now, but it was renamed, "TRUSCO Orange Book" in 2000.

The development of private brand products goes back to the company's very early years. Trusco Nakayama (named Nakayama Kiko Shokai at the time) was the last company to enter the indirect materials wholesale market. Nakayama Kiko Shokai saw an opportunity in peripheral professional-use products at a time when its competitors were focusing on tools. The company developed its first private brand product, called "Komyotan," a powder for rust, corrosion and seizure prevention. The company packaged this product in smaller portions at a time when competitors were offering it in only one size, an 18 liter can.

Trusco Nakayama began developing its own distribution network and started making small-lot deliveries in its early years. In 1994, the company established its first distribution center in Kyushu. Since then, the company has strengthened its efforts to improve the logistics function. Trusco Nakayama installed a barcode inventory management system in its distribution centers in 2002. It introduced a logistics management system (Coconuts) in 2005. Trusco Nakayama commenced operation of its first large-scale distribution center, Planet East Kanto, in Matsudo, Chiba, in 2006. Since then, the company has been investing in large-scale distribution centers, and adding more products to its inventory, maintaining the view that more inventory will help to improve customer convenience.

Trusco Nakayama Corporation's five-year averages for the return on invested capital (ROIC) and the return on sales (ROS) exceeded the industry average. (Profitability analysis was conducted by PwC Japan.)

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