(FORTUNE Magazine) – WHEN JAPANESE electronics giant Matsushita agreed to buy Hollywood stalwart MCA last month for almost $7 billion, it was the largest purchase ever of a U.S. company by a Japanese outfit. But it also marked an ironic end to a 15- year epic: It was MCA, after all, that went to the U.S. Supreme Court in the Seventies trying to block the sale of the home video recorder. It was also MCA that promoted the laser disc as a way to put movies in the home without danger of unauthorized copying. Today, videocassette sales are Hollywood's single biggest source of revenue, and MCA soon will be owned by the world's largest manufacturer of VCRs. An ongoing chicken-and-egg debate about ''hardware'' companies buying ''software'' companies has been under way since Sony purchased Columbia Pictures two years ago. So, why are the Japanese buying up Hollywood? First, Sony and Matsushita see movies and music as wise ways to invest their mountains of cash in industries closely linked to the fate of their own. ''It's a very sensible strategy to diversify from hardware into software,'' says William Pade, a director in McKinsey & Co.'s London office. ''There's a lot more money to be made in a large-scale software business than in their traditional hardware businesses.'' Second, the theory goes, a maker of machines can gain competitive advantage by producing programming for people to run through those machines. This is hardly a new idea: Thomas Edison invented the motion picture projector, then, with a group of cronies, produced and distributed movies to show on them. The Victor Talking Machine Co. sold Victor records so the public would want its Victrolas. RCA sold radios by attracting listeners to its NBC radio networks. And when RCA decided the time was right for color TV, it had NBC create Bonanza -- filmed outdoors and in color -- and Walt Disney's Wonderful World of Color. Sony forgot this history lesson and suffered a major marketing flop with its Betamax video recorder, which it was convinced was technically superior to the VHS system developed by Matsushita and others. Sony set out on its own, believing the machines would be used primarily to record TV broadcasts. Instead, video rental for home viewing became the main reason people bought VCRs, and rental stores chose to invest in tapes for the less expensive, more widely owned VHS machines. ''We failed to recognize the importance of prerecorded software,'' says Michael Schulhof, president of Sony USA. ''It's not a mistake we plan to repeat.'' Both Sony and Dutch electronics manufacturer Philips demonstrated how well software and hardware can work together when they launched their co-invention, the compact disc, in Europe and Japan. Both used their captive record companies -- Philips owns Polygram, and Sony has been a joint venture partner in Japan's CBS/ Sony Records since 1968 -- to provide music for the new machines. Today Sony and its larger, often copycat competitor, Matsushita, are in prime positions to provide software support for any new hardware frontiers -- say, for the high-definition TV both are now introducing in Japan. Sony already is lending its HDTV technology to such filmmakers as Francis Ford Coppola, Steven Spielberg, George Lucas, and Akira Kurosawa, in the hope that their use of the medium will eventually spur demand for it. But Sony's Schulhof insists that hardware makers can't overrule the marketplace: ''We can't force consumers to buy products,'' he says. ''High definition will succeed or fail based on whether the consumer finds it attractive. And if it succeeds, the fact that we bought Columbia will be very helpful to us.'' Is it good for America to have the Japanese gobbling up the industry? Companies still U.S.-owned don't think so. Time Warner Chairman Steven Ross has spoken out against outright purchases, saying partnerships would have been a more desirable alternative. Martin Davis, chairman of Paramount Communications, also objects. ''If you believe in a free market, you shouldn't have any prejudices, but that goes for both sides,'' says Davis. ''To just open up the border to one protectionist, nationalist group -- whether they're Japanese or Canadian -- is dangerous. We can do business in their territories only on their terms, but they can do anything they want in our territory.'' Others disagree. ''On balance, it's good for America,'' argues Robert B. Reich, a professor at Harvard's John F. Kennedy School of Government. ''Most of the value people pay for in entertainment is talent -- an assortment of skills including the ability to belt out a song, to act, to direct, to engage the emotion of a viewer. This constitutes one of our nation's gifts to the world, and we're not going to lose it because Japanese money is added to it.'' Reich observes that the interests of America and American companies don't necessarily coincide, and that what's important is the value America adds to the world economy. He explains: ''Bruce Springsteen doesn't lose his value because he's working for Sony Chairman Akio Morita instead of CBS Chairman Larry Tisch.''