Japan’s carmakers have been churning out record profits thanks to the weak yen and strong hybrid sales, creating a war chest for electric-vehicle investments

Electric vehicle or hybrid? While car buyers debate the technologies’ relative merits, manufacturers need to invest in both.

Take Japan’s hybrid leaders, Toyota and Honda. Last week they both reported by far their most profitable fiscal years ever. The weak yen played a part: The U.S. is their largest market, while they have a lot of costs in Japan, making them big beneficiaries of a weaker local currency. 

Crucially, hybrids are highly profitable, unlike the EVs sold by Ford and General Motors. Honda said Friday that its hybrids in the U.S. commanded the same margins as regular cars but at higher prices.

But Toyota and Honda aren’t taking their recent success as a cue to ease off on their push into EVs, where they lag behind. If anything, the fat profits they are raking in on relatively mature hybrid technology are allowing them to spend even more massively on alternatives. Toyota said it would spend 1.7 trillion yen, equivalent to $10.9 billion, on “growth areas” such as EVs and software in its current fiscal year through March 2025, up from 1.2 trillion last year. Honda has been investing heavily in the EV supply chain, with further details expected at a strategy update this past Thursday.

China is the key problem. Most foreign manufacturers have been losing market share as Chinese consumers adopt EVs and become more comfortable with local brands. This isn’t as existential a threat to Japan’s car industry as it is to Germany’s, but it still hurts. 

China accounted for under 7% of Toyota’s profit before taxes in the 12 months through March, roughly half the level of the previous fiscal year. At a press conference last week, the company admitted that it faced some difficult years ahead before it launches more attractive products, notably software-rich EVs and plug-in hybrids, later this decade.

There is also the question of Chinese competition outside China. The Biden administration raised tariffs on Chinese EV imports on Tuesday, and Europe is considering a similar move. That leaves only emerging markets more exposed. Today, Southeast Asia is a key market for Japanese cars. China’s excess capacity in car production means it soon could become a battleground.

One thing that isn’t in doubt is the financial resources Toyota can mobilize for a fight. After a banner year, it had net cash of roughly $82 billion at the end of March, including cash equivalents and marketable securities while excluding the financial services business. It now expects a less profitable period as it shores up its supply chain, but this could be the company’s traditional conservatism as the hybrid boom continues and the yen remains very weak.

The Toyota ecosystem also includes separately listed Subaru, Suzuki and Mazda through a web of partnerships. For those outside the Toyota network, notably Honda, Nissan and Mitsubishi, the investments required to create software-rich EVs that can win back Chinese customers are intimidating. Mitsubishi already pulled production out of China in October. Honda said Friday it would increase research and development spending by 23% this year to the equivalent of $7.6 billion.

Sharing resources is an obvious path forward: Nissan already has a stake in Mitsubishi, while Honda and Nissan in March said they would explore partnerships for future technology. But executives from the two companies sounded noncommittal when they presented results last week. Following the failure of previous collaborations—Nissan with Renault, Honda with GM—they need to make sure there is more to the talks than warm words.

“I don’t think they can survive by themselves as medium-size players in the long term,” says Julie Boote, a Japanese autos analyst at London-based Pelham Smithers Associates.

Mastering every new automotive technology is expensive. For anyone but the very largest players, it might even be unaffordable.

Write to Stephen Wilmot at stephen.wilmot@wsj.com