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NAGANO PREFECTURE, Saku -- Japan's stock market has been reeling in recent months, a victim of the demons of financial scandals and possible monetary tightening.

Economic data, though, indicate more promise than peril ahead for Japan's economy, the world's second-largest. Last week, estimates of first-quarter economic growth were revised sharply higher to 3.1% from an earlier estimate of 1.9%. Moreover, business capital spending surged 27.4% in the quarter, a rise that was "broadly based both across industries and regions," according to research from Masaaki Kanno, chief economist for JP Morgan Securities in Japan.

What's most interesting about Japan's economic surge is that it is being led not by the well-known global giants like Tokyo-based Sony Corp., but by less familiar companies such as TDK Corp., which in the past decade has transformed itself from the maker of cassette tapes into the leading maker of hard-disk-drive heads, which read and write data on the disks used in personal computers and other electronics. TDK is based in Tokyo, but most of its innovation can be seen in out-of-the-way places such as Nagano Prefecture.

TDK and some other companies are developing a new global business template, taking advantage of both global acquisitions and cheap production in neighboring China to reinvent themselves. And at the same time, they are trying to change their corporate ethos to become more merit-based, less-hierarchical organizations.

"There is a manufacturing renaissance, but it isn't being led by the biggest companies and it isn't led in Tokyo," Mr. Kanno says.

TDK exemplifies this new trend, which is why it was rated among the five most-admired companies in Japan, according to one local survey, ahead of Toyota Motor Corp. and Honda Motor Co. More than half of what TDK makes is now made in China. Three-quarters of the company's business comes from abroad. A Hong Kong resident sits on the board of the parent company, making TDK one of the few flourishing Japanese firms to allow a foreigner into the fortress. The average age of TDK's 800 engineers is only 40, which is relatively young in Japanese industry.

Last year, TDK's earnings declined slightly to 33.5 billion yen ($291 million) on a consolidated basis on sales of 658 billion yen, which were up slightly from 656 billion yen in 2004.

TDK's fortunes depend on different technology than what it relied on a decade ago, when it was churning out low-margin cassette tapes. Today, its technology is proprietary and has significant barriers to entry. "TDK is leading-edge," says Ta-Lin Hsu, chairman of private-equity firm H&Q Asia Pacific and a former IBM scientist. "Their products are at the heart of disk-drive technology."

A few years ago, Samsung, the giant South Korean electronics company, considered entering the magnetic-head business, an alarming prospect for TDK. "We convinced them that they make so many things, but we are specialists," says TDK's chief executive officer, Hajime Sawabe. "Our middle management is better. This is a closed industry. There are only a few players. Finally, Samsung agreed." Now, instead of being its competitor, Samsung is one of TDK's largest customers.

A big part of the revitalization at TDK -- and at other Japanese companies -- has to do with China. "Without our operations in places like Dongguan in Guangdong, our costs would be 10 times higher," says Atsuo Kobayashi, leader of the Japan Operation of the HDD Head Business Division at TDK's Asama Techno Factory in Nagano Prefecture, referring to TDK's SAE Magnetics subsidiary in China.

But cheap production is only a small part of the story. At TDK SAE's factories, where 50,000 workers cut, grind and assemble wafers, something new is being created. In 1986, TDK acquired ailing SAE, which was established by Chinese former IBM engineers and has its head office in Hong Kong but operations in neighboring Guangdong province. Rather than impose its own system, TDK tried to preserve what it found attractive about its new subsidiary.

SAE feels like a Hong Kong Chinese company, with the best Japanese technology and equipment, Mr. Sawabe says. But more important -- and less predictable -- is the influence of the Chinese subsidiary on its parent. SAE and other units are working a sort of reverse transfer of human technology.

For example, Mr. Kobayashi, the engineer, spent five years working in China. There, the discussions between junior and senior engineers were less formal than in hierarchical Japan. That made it possible to have a far more candid exchange of ideas, especially since the language of the factory is in English, a more direct language than Japanese. Now that Mr. Kobayashi is back in Japan, he is trying to establish a more open style of communication and encourage younger people to speak up more boldly. Mr. Sawabe is very supportive of such efforts, he says.

Decision-making is also swifter. And top people in China go out and pitch customers for sales in an aggressive style that Japanese executives find astonishing.

Also, the Japanese corporate system, with its emphasis on economic security, doesn't apply to their Chinese units. Instead of security, staffers have the chance to receive generous bonuses if they make a difference to the bottom line. Instead of Japanese staff in China demanding Japanese-style benefits, many engineers return home and request the more meritocratic Chinese system.

To be sure, China isn't the only reason TDK is changing. "Flexibility is part of our culture because we are relatively small," says Tatsuhiko Atsumi, a senior manager in TDK's investor-relations group.

If TDK is to survive it must constantly reinvent itself. The magnetic-head business may fuel TDK's growth for another 10 years, but what will follow? Even though Samsung decided not to build magnetic heads, it is developing technology that could one day replace TDK's magnetic heads, just as disks replaced cassette tapes years ago. Meantime, the "head" industry is undergoing consolidation, suggesting competition will intensify.