Asahi Kasei Corporation (3407) Earnings Call Transcript & Summary

Ladies and gentlemen, thank you very much for joining us for the conference call by Asahi Kasei Corp. despite your busy schedule today. I am Futoshi Hamamoto of Investor Relations and will moderate the session. Also present with us today are Hideki Kobori, President; and Yutaka Shibata, CFO. Now let us begin the presentation.

Kobori speaking. Today, I will discuss the progress and outlook of our medium-term management initiative Cs+for Tomorrow 2021. Due to the outbreak of COVID-19, it is difficult to foresee the future, but let me explain about our initiatives for growth, how we plan to execute the medium-term management initiative in this fluid business environment. Page 2. Let me first explain the overview of today's presentation. There are 5 items. First, faced with the global economic crisis, the management climate is challenging and very difficult to navigate in, but we will maintain the basic concepts of Cs+for Tomorrow 2021 while proactively seeking opportunities to innovate with changes to society, thus realizing sustainable growth through voluntary taking actions upon major changes. Secondly, while forecasting performance is difficult, our 3 sector business portfolio is successful, allowing us to maintain a sound financial foundation in fiscal 2020 and 2021 with an outlook for stable growth and profit from Homes and Health Care. Thirdly, with greater financial discipline and further business portfolio transformation, we will strengthen the constitution for cash generation thus maintaining or raising the level of shareholder returns even under the challenging environment. Fourth, in the 5 priority fields for provision of values identified in the medium-term management initiative, we will proactively address market changes caused by COVID-19 through Asahi Kasei's strengths of diversity and capability to change raising corporate value. Last and fifth point, we will continue to reinforce the management platform for sustainable growth through various Cs, the basis of our business management. Especially, we will place our emphasis on communication to build an environment for employees and challenge to heighten operations in the new normal for greater productivity so that we can further enhance corporate values. That was the overview of the presentation. Next, moving on to Page 3. Let me now discuss our stance for execution of our medium-term management initiative in the context of the changing environment. In the medium-term management initiative, we said that by using our 5 Cs and diversity and capability to change as weapons, we would see growth in the 5 priority fields for provision of value so we can contribute to sustainable society. While firmly maintaining these philosophies, we want to recognize expected environmental changes as opportunities to innovate and proactively move ahead toward our goals. To that end, initiatives primarily based on 3 major perspectives will be pursued. The first is thorough financial discipline. We will scrutinize investment efficiency more than ever to only focus on investments carefully selected. The second is our efforts to strengthen constitution. We will work to maximize returns on previous investments while accelerating portfolio transformation through structural changes in less profitable businesses. Third is innovation toward future changes in the environment. Through placing more focus on those that will help us contribute to sustainability and anticipating new needs and structural changes caused by COVID-19, we hope to realize mid- to long-term growth in the end. That was the stance for execution based on the changing environment. Next, Page 4. From this page, I will go into the details of the presentation. First, I will discuss progress on financial objectives, followed by progress on growth strategies, and how we are building a platform for sustainable growth. First, on the progress on financial objectives. Please look at Page 6. In fiscal 2019, due to a slowdown in the growth of the Chinese market, slowdown in the automotive market, falling prices of petrochemical products as well as impacts from COVID-19 in the fourth quarter in the Material segment, net sales totaled JPY 2,151.6 billion, and the operating income, JPY 177.3 billion, both showing declines from fiscal 2018. Since it is difficult at this moment, to come forward with a reasonable forecast for fiscal 2020, primarily because of the impact from COVID-19, we will disclose quantitative forecast when it becomes possible to do so. Similarly, the plan for fiscal 2021, the final year of the medium-term management initiative, will be revisited when we have a good handle on the impact. It will be challenging to achieve the fiscal 2021 targets, but we would like to take every possible measure that we can. Moving on to Page 7, let me explain about EBITDA by sector. As we consider possible impacts from COVID-19, I would like to look at the earnings by sector comparing pre-2008 global financial crisis and the present. The pie chart on the left shows the actual result in fiscal 2007, whereas on the right is the current one. The EBITDA in fiscal 2007 was about JPY 200 billion, which rose to about JPY 320 billion in fiscal 2019, demonstrating a strong profit growth. By sector, compared to fiscal 2007, Homes and Health Care achieved a significant growth, both in profit margin and the amount of profit, with each contributing 1/4 of the total. Even during the recession, Homes and Health Care have been able to generate steady profits, thus serving to support the overall portfolio of the group. Compared to how we were around 2008 global financial crisis, we have been able to transform ourselves to a more profitable structure, resilient to the economic fluctuations. On the right, you can see EBITDA margin by sector. Homes and Health Care have seen a considerable improvement in EBITDA margin. On the other hand, Material went from 14% to 15% during the same period. We believe it is our challenge to figure out how to improve this percentage further. Next, Page 8. Here, you can see sales and profits by sector for 3 years between fiscal 2017 and 2019. Homes indicated in the middle has been steadily growing in terms of net sales, operating income and EBITDA. Operating margin and EBITDA margin have been stably staying at 10% and slightly more than 11%, respectively. Moreover, the Health Care similarly has been increasing for 3 years in terms of net sales, operating income and EBITDA while its operating margin and EBITDA margin have been posting around 13% and more than 20%, respectively. In the near term and looking ahead toward fiscal 2021, our targets do present challenges, but we want to continue our efforts to aim for the plans and targets of fiscal 2021. On the other hand, the Material, shown on the top, had been performing well in fiscal 2017 and 2018 in operating income and EBITDA. However, in fiscal 2019, as I said, we were affected by prolonged U.S.-China trade frictions, slowdown in the Chinese economy and in the automotive market and the outbreak of COVID-19, resulting in a significant drop in profits. The operating margin fell below 10%. In this sector, we have realized that the targets for fiscal 2021 are becoming increasingly difficult to achieve and that it is extremely important to review the strategies, including possible changes in the portfolio in the sector. Page 9, where we have described our financial health. This is a graphical representation of how Asahi Kasei remains stable both in the net worth ratio and D/E ratio. The left chart shows the net worth ratio from fiscal 2006, all the way to last fiscal year, fiscal 2019, which demonstrated a stable performance at around 50%, including the period of global financial crisis. On the right, you can see the chart for D/E ratio. Due to factors such as major M&As, the ratio went up and down to a certain extent. But even when we took out a large amount of borrowings, we managed to maintain the ratio at around 0.5. We expect both ratios to stay at similar levels, and we'll work to take growth strategies to enhance the corporate value while maintaining the financial health. Page 10 is about shareholder returns policy. Our basic policy is that in order to decide the shareholder returns, what we will focus on is not the short-term profit fluctuations, but mid- to long-term free cash flow outlook. As we have done previously, we will realize shareholder returns basically by dividends, aiming to maintain or increase dividends per share. In addition, from the perspective of not being driven by changes in the net profit each year, but of providing returns for the capital invested previously, we will take into account the metrics of dividend on equity, or DOE, going forward. We also will look at share buybacks and as appropriate, considering the suitable level of equity. Though a challenging environment is expected, we are planning to maintain or increase levels of shareholder returns based on mid- to long-term free cash flow outlook. Page 11 shows the actual track record of the dividend. The right axis indicates annual dividends per share while the left access, the dividends on equity over the years shown in bar charts. Since the global financial crisis, we have either maintained or increased dividends per share, and it is our basic policy to continue to maintain or raise the level of dividends going forward. Next, let me move on to discuss progress on growth strategy on Page 13. I will describe the strategy in terms of actions in 5 priority fields for provision of value. We have executed initiatives to accelerate the growth in 5 priority fields for provision of value identified in the medium-term management initiative or Environment & Energy, Mobility, Life Material, Home & Living, and Health Care in fiscal 2019. Due to time constraint, I will skip the explanation of each segment. But as one of the major topics, in Health Care segment, we acquired a U.S. pharmaceutical company, Veloxis, and that established a platform to expand business in North America. Please refer to each segment later when you have time. This slide shows long-term investment for sustainable growth. In FY '19, over JPY 400 billion of investment, including CapEx and the financials of M&A, et cetera, were decided. In the previous 3-year medium-term management initiative of FY 2016 to '18, the annual average investment was slightly over JPY 200 billion, so we decided to almost double the investment. As for the breakdown, CapEx investments were about JPY 200 billion, and this increased slightly over the previous period. On the other hand, financials, including M&A, grew to over JPY 200 billion. And in total, investments over JPY 400 billion were decided. As for the long-term investment for FY 2020 and '21, based on the operating climate, we will focus resources on selected investments that will contribute to sustainability, raise productivity, realize innovation and also in the business where demand growth is highly likely through emerging needs. I would like to comment on the review of operating climate in priority fields for provision of value. Let me describe how we will promote the 5 priority fields for provision of value, considering the impacts of COVID-19? Chart on the left shows a mapping of expected COVID-19's impacts and changes in respective business. With short-term effects on demand on the horizontal axis and magnitude of long-term structural market changes on the vertical axis. Regarding the short-term effects on demand, demands in Mobility and apparel fibers in Life Material will decline or will be obscure. As for Home & Living and Environment & Energy, we need to observe the effects carefully. On the other hand, in Health Care segment and electronic materials, consumables and healthcare materials in Life Material, demand will be relatively stable and growth opportunity might be emerging. Regarding the long-term structural market changes due to rising or changing needs related to life, in critical care and hygiene materials, we expect that new opportunities for value provision will be created. And product and service needs will be arising from new lifestyles. New trends in the auto industry case, 5G in next-generation telecommunication and the smart house, et cetera, will be accelerated and new needs for new life and work style in the new normal will be emerging. Let me explain the perspective on our growth strategy based on the view of the business climate. Please turn to Page 16. This slide shows perspective on growth strategy in priority fields for provision of value. As for Health Care, which is shown on the right hand axis of short-term effects on demand, will accelerate this growth by concentrating management resources. We will strive to grow it as a third business pillar by further cultivating critical care business and through advancement in North America. As for electronic materials, consumables and healthcare materials in Life Material while carefully observing short-term effects, we will grow them, providing innovative materials and solutions for new needs arising from advanced 5G awareness for hygiene and the changing lifestyles. As for Environment & Energy and Home & Living, while reducing the impact through productivity improvements, we'll maintain an advanced growth strategy, shown in the medium-term management initiative. On the other hand, as for Mobility and fibers-related Life Material, where challenging business environments are expected in the short term, we regard these structural changes as opportunities in the medium and long term to seek medium-term profit growth. And we will continuously accelerate transformation of portfolio to high value-added products and reinforce marketing to key customers. Let me turn to Page 17. I'll explain approach of business portfolio transformation a key in the growth strategy that I described. We review the business portfolio position considering business profile, including priority fields for provision of value, contribution to sustainability and competitive advantage in the market, in addition to the growth, profitability, amount of profit and productivity. We review the updated business portfolio position twice a year. Based on the result of the review, head office and business sites work together to select key themes for business portfolio transformation for execution. In FY 2019, as mentioned at the beginning, due to prolonged U.S.-China trade friction, the slowdown of Chinese economy and demand decline in automobile market, we observed the change of trend from the previous moderate global economic growth. Bearing that in mind, we have been reviewing business portfolio transformation. As a result, we decided the discontinuation of business of ABS resin, acrylic sheet and others and started execution. But despite these, looking back the last few months, due to COVID-19, the business climate trend even more challenging. Therefore, management will ensure to accelerate that transformation, having a more severe view for the portfolio transformation. Let me explain the specific contents of building platform for sustainable growth. In addition to 4 C presented in the previous medium-term management initiative of Compliance, Communication, Challenge and Connect, in this medium-term initiative of Cs+for Tomorrow 2021, Care was added, and we will promote strengthening the platform through these 5 various Cs. Newly added Care indicates the stance of Asahi Kasei to make business contribution against global shared challenges, including COVID-19 and the sustainability with keywords of "Care for People, Care for Earth". 5 Cs are all important, but in the new normal, we'd like to particularly focus on Communication and Challenge. As for Communication, we develop working environment to enable the employees to work effectively in various work styles. As for Challenge by accelerating the promotion of digital transformation further, we'd like to improve productivity. On Page 20, as a part of newly added Care, major contributions of Asahi Kasei concerning COVID-19 are described. Today, people in the world are working day and night to beat novel coronavirus. Asahi Kasei will do whatever we can globally and proactively to overcome this challenge. Ventilators of ZOLL and the Therapeutic Apheresis of Asahi Kasei Medical are making effective contributions for infected patients. And we'll continue to proactively cooperate in the future research and development of pharmaceuticals. In Materials, we have many materials product for masks and the disinfectant wipers that contribute to prevent infections, and we are increasing their production. We continue to pursue the group mission of Asahi Kasei Group to contribute to life and living for people around the world. For another part of Care, measures for sustainability, please turn to Page 21. For this year, we have been taking measures for sustainability with key words of "Care for People, Care for Earth". We have taken specific measures in the field of environmental, social and governance. In environmental aspect, we have been contributing to reduce GHG and plastic waste. Working with a third party, we select the environmental-friendly businesses and measure their environmental contribution quantitatively. We'd like to carry out disclosure in line with the recommendations of TCFD, which shows the impacts and opportunities of climate change in this fiscal year. In social aspect, we are particularly enhancing management initiatives to improve health. The key to achieve targeted sustainability of Asahi Kasei as a human resources amid the changing environment of COVID-19 through enhanced management initiative to improve health for more fulfilling work and the improved productivity will deliver results. In governance, monitoring the overall aspects of sustainability, we established a system to promote sustainability. Enhancing the effectiveness of Board of Directors will implement the high-quality business management. One of the focused Cs in the new normal is Challenge. As for upgrading operations by digital transformation, we have been already promoting it. But not only for efficiency and upgrading manufacturing technologies through AI, we will promote their use also for business strategy formulation and the new business creations. For example, IP information is used for business strategy formulation of Sage, which Asahi Kasei acquired in 2018, in search for new fields to develop. IP landscaping is highly effective in search of new business fields and business strategy formulation, and it is currently being utilized in various projects. We established open innovation site for digital engineers as a part of initiatives to enhance digital transformation promotion structure. We increased digital professionals headcount to 150 by the end of fiscal 2021 to accelerate digital transformation. This is another focused C, Communication for building foundation for employees to thrive. It is essential that employees feel that they want to work together as a team, regardless the work style. By changing the mindset from the sense of obligation, I have to work to we want to work together as a team. We'd like to develop human resources and organization of high performers, even in the uncertain business environment. To that end, with a belief of human resources first, we will develop environment to enable employees to perform in the new normal and develop appropriate institutions and systems. We also strive to raise management ability to enhance engagement. Finally, I'd like to comment on 3 points. First, we view the current broad social transformations as opportunities and are proactively executing change. Secondly, we are reviewing what should be preserved and what should be changed and advancing business portfolio transformation to continue to provide value to society. Thirdly, by boldly taking challenges, actively making connections and changing the concept of communication, we are leveraging our strengths of diversity and the capability to change to achieve sustainability, namely, contributing to sustainable society and sustainable increase in corporate value. With this, I conclude my presentation. Thank you for your attention.

Now we would like to take questions.

Yamada from Mizuho Securities.

Toward the end of the presentation, you described how your business management and communication will change due to COVID-19. I'm interested to learn more about your response to COVID-19. I'm asking this question because in the case of a business model where you mass produce commodity products to sell in large volumes, operations are easier to be run as routines, and therefore, less affected by the possible disruptions of communications as seen under the outbreak of COVID-19. However, as Mr. President said, since the growth of your company has been driven by diversity, I'm concerned that disruptions of communications could have a significantly negative impact on your business. Given that, will your basic approach remain unchanged to maintain diversity through measures, including reviews on the business portfolio while implementing investments in information systems and organizational changes? Or have you come to the point of realizing that your business is so diverse that it would be difficult to have a good control over it. And therefore, you need to reconsider strategies, including diversity? Could you elaborate on your response to COVID-19? That is my first question.

In February and March, when we realized that we will be affected by the outbreak of COVID-19, we have started to provide the environment and tools to allow our employees to work from home. Since April, we have been operating with 90% of employees working from home, particularly those based in Tokyo headquarters and in Osaka. As you said, currently, we feel routine operations can be run mostly sufficiently using online tools. In this context, what we are beginning to learn is that IT tools are extremely useful and convenient in collaborations between different geographic locations or different departments helping to accelerate such activities, as we can communicate instantaneously through online video conference tools. We found it quite effective to be able to share documents on the face-to-face basis, or be it online, as we engage in our activities. In that sense, members who are willing to work more proactively are actually broadening their activities. That said, restrictions on our activities, such as inability to visit customers have been obviously still looming large, which we hope will be gradually lifted sometime down the road. But as far as communications across functions and businesses are concerned, things are going in a very positive direction. On the other hand, when it comes to developing new businesses and operations, we are still facing constraints. In routine operations, increased communication is making our work more efficient. But for new businesses, since it is difficult for people to gather and have discussions or to try taking many different actions, what we need to do is to select what is most effective to do and concentrate ourselves on it in our activities to produce actual results. Such focused efforts, pre-planning, and more cautious targeting will be required. Under such constraints, as we work on new positive initiatives, it will be extremely important to get a broad range of people involved, having communications to carefully select initiatives to pursue and focus on producing results.

So you do not think you will need to narrow down the range of businesses that you cover if the current situation becomes what we call new normal, do you?

We have not been able to foresee that much or an overall picture yet. We have been promoting diversity by having cross-functional collaborations from the period of the previous medium-term management initiative as seen between members of fibers and Health Care businesses. And now an atmosphere is developing of employees feeling more comfortable to produce results as they learn the usefulness of tools such as online video conferences.

A second related question. I understand that you said in reference to the impacts from COVID-19 by sector, they are positive for Health Care; probably neutral for Homes. If customer traffic to model homes recovers; and negative for Material. Is my understanding correct? And regarding the future of Material, I believe even if the outbreak subsides to some extent, the business will not get back to where it was pre-COVID-19. Given that, how are you going to plan for investments and quantitative targets? Furthermore, it is my understanding that as Material is the segment which is most capital intensive, if investments in Material are not conducted and M&As are not pursued, you will be able to achieve sufficient cash flow to fund shareholder returns. Assuming that, you said you will now introduce DOE-based approach. Am I correct? Based on what you answered in relation to COVID-19, I would like you to share your thoughts on quantitative targets and shareholder returns.

Thank you for your question. If you look at the 3 sectors, what you said is more or less correct. However, in each sector, the breakdown of the businesses is different, and so we will need to further examine them. But if you look at each sector as a whole, your description is correct, especially for Material, it is important to focus more on transformations of the business portfolio. Previously, we tended to build the portfolio based on the past performance records. However, going forward, as the market is likely to change significantly due to COVID-19 and we will move to the status of new normal, we will need to not just look back on the past results, but take this opportunity to discuss how the market is going to change post COVID-19 and transform the portfolio in response to that outlook. Conventionally, our approach tended to spend cash earned by home sector to make capital investments in Material, but it will now be very important for Material to increase the businesses that can earn cash by themselves. In that sense, we will need to think hard about the investment efficiency, competitive advantages and positioning in the industry, so we can focus more on businesses that will prove to be only 1 or #1 in the industry. It will also be important to drastically skew our management resources into those businesses. More specifically, under the current spread of infection, as disinfection and sterilization functions are in strong demand, we have a lot to contribute in the Material sector, including materials for disinfection and sterilization, and more recently, disinfectant modules using UVC LED, for which we are getting increasing inquiries, especially from the U.S. as well as CO2 sensor modules that check the level of CO2 inside a vehicle or a room to prompt ventilation. By further concentrating our investments and personnel into such businesses, we hope to provide values unique to our company, and accelerate our efforts to change the portfolio into the one consisting of businesses that can realize higher profitability. Moreover, existing businesses will become under more rigorous scrutiny in terms of continuity in the future from the perspectives of profitability and the size of the profit. On the question of whether to seek M&As, we believe M&As are one of the effective options to grow. Therefore, we will weigh increasing capital investments and changing the portfolio through M&As by examining the quality of the businesses and watching how the market will play out on the so-called new normal environment, post COVID-19, so we can use M&As appropriate as an effective means of strategies.

One more question, if I may. Previously, your structural reforms in Material tended to withdraw from commodity businesses and concentrate management resources into high value-added businesses. But going forward, even if you focus on high value-added businesses, unless you target more on the areas where you have real strengths, such as only one or #1 products in the industry, any inefficient businesses may be wiped out due to COVID-19. Do you agree?

Of course, what you said is right. Even with high value-added businesses, per capita operating income among others is an important metrics. Other criteria of importance are growth potential of the market as a whole, or whether the business can continue to grow faster than global GDP for the next 5 or 10 years and whether we have competitive advantages. Therefore, instead of looking back on the past results, we should objectively discuss and closely watch our potential in the future and raise the bar for those numerical targets or criteria more strictly than ever.

Watabe from Morgan Stanley MUFG.

My first question is on Page 6, financial objectives. I realized that you had not disclosed your forecast for fiscal 2020, and I would assume it will be difficult for you to come up with the target for fiscal 2021, given the current situation. However, as we move into the new normal environment, in the new C or Care, you expect to have new demand for ventilators to the order of 10,000 units per month for ZOLL. Do you think this will be achievable? If everything goes in line with the planned capacity, will it become a savior for your company's financial performance?