Earnings Transcript for 4005.T - Q1 Fiscal Year 2024

Operator: It is time to start. We will now begin the conference call for the presentation of our Financial Results for the First Quarter of Fiscal Year 2024. Thank you very much for your participation. Today Mr. Sasaki, Managing Executive Officer will give a briefing on our financial results for first quarter of fiscal year 2024. Later he will be joined by Mr. Yamauchi, Executive Officer and General Manager of Accounting Department to take questions. We plan to conclude the call at 5

Keigo Sasaki: Thank you. I’m Sasaki from Sumitomo Chemical. Thank you very much for attending our conference call, despite your very busy schedule. I’d like to thank the investors and analysts for your daily understanding and support to our management. Thank you very much for that. Now let me start with the explanation of our financial results for first quarter of fiscal year 2024. Please turn to Slide Page 4. This page shows a summary. The core operating income in first quarter was a profit of JPY5.7 billion, a significant improvement from the JPY53.6 billion loss in the same period of the previous year. This is the first time in six quarters that the Company has returned to profitability since falling into the red in fourth quarter of FY 2024. Net income attributable to owners of parent for this quarter was JPY24.4 billion, a significant improvement from the loss of JPY33.2 billion in the same period of the previous year. This is the first time in seven quarters that the Company has returned to profitability since falling into the red in third quarter of FY 2022. By segment, as I will explain the details later, all segments reported year-over-year increase in profit. The consolidated results for this first quarter include Petro Rabigh’s results announced locally for the period of January to March with a lag of three months. The loss was approximately JPY20 billion in terms of our shareholdings, which is a big loss. After fully absorbing these losses we’re able to achieve profits. IT-related chemicals had a profit of JPY18.5 billion in core operating income, a record high for Q1, thanks to strong shipments of display materials and semiconductor-related materials with a tail wind for the yen’s depreciation. Sumitomo Pharma is working to stop the bleeding as soon as possible through thorough rationalization. The plan is to reduce SG&A and R&D expenses by JPY108 billion per year. And in first quarter this fiscal year JPY28 billion reduction was achieved. Core operating income has recovered to a level where losses has almost disappeared. Looking at these factors as a whole, we feel that Q1 for this fiscal year got off to a very good start towards achieving the V-shaped recovery of our business performance in FY 2024 that we have set as our goal. Now please turn to Page 5, which is the business environment surrounding us. First economic conditions. Still low growth is expected in terms of exchange rate. Currently yen is appreciating. In this first quarter profitability improved in exports and overseas businesses due to the weakening of the yen. And below shows the business environment of our major business areas using weather marks. Let me introduce the business areas that we saw changes. First, the second from the top, automobiles. The first quarter saw a decline in production volume which had an influence. Under that Displays. There was a strong demand for mobile device-related components. And at the bottom Pharmaceuticals. For the three key products compared to the plan the performance performed strongly. Business environment of Q1 was introduced. Next on Page 6, let me introduce the outline of the consolidated financial results. Consolidated financial results for Q1 FY 2024. Sales revenue was £612.1 billion, up £49 billion Year-on-year. Core operating income, expressing recurring earnings power was £5.7 billion, up £59.3 billion Year-on-year. Non-recurring items not included in core operating income was £5.8 billion improvement of £24 billion Year-on-year. In addition to £10.1 billion gain on sales of fixed assets from sales of land for dormitories and company housing, restructuring costs including reorganization of Sumitomo Pharma's North American subsidiary narrowed from minus £19.3 billion in the same period of the previous year to minus £3.5 billion. As a result, operating income was £11.5 billion, a large improvement of £83.2 billion Year-on-year. Finance income was £26 billion, an increase of £4.1 billion Year-on-year. Out of this, there was a gain on foreign currency transactions of £29 billion, because of the weakening of yen an increase of £5.3 billion Year-on-year. As a result net income attributable to owners of apparent for this quarter was a gain of £24.4 billion, improvement of £57.5 billion Year-on-year. The current exchange rate is stronger than £150 to the US dollar. The £29 billion financial income includes a gain on foreign currency transactions that will be eliminated under recurring rate. Even if this is eliminated because of majority Sumitomo Pharma's gain on foreign currency transactions which influences the non-controlled shareholding but at the moment even if this foreign currency transaction difference disappears still £5 billion would remain. Next is sales revenue by business segment. I will explain the segments with large changes. Let me skip to Page 11. In the IT-related Chemicals segment, the core operating income was £18.5 billion, up £11.9 billion Year-on-year. For the first quarter this was a record high, core operating income for this segment. In the analysis of year-on-year comparison in terms of price variance, selling prices of polarizing films declined in the display-related materials. In terms of cost variance, depreciation expenses got higher due to a new semiconductor-related plant coming online at overseas subsidiary. In terms of volume variance et cetera. In addition to the increase in shipments of polarizing films and touchscreen panels recovery trends in the demand for semiconductors led to increased shipments of processing high-purity chemicals and photoresists resulting in a significant increase in profits. Please go to the Health & Crop Sciences segment. The core operating income was £5 billion, up £12 billion year-on-year. In terms of price variance, despite lower selling prices for crop production products in South America, profit margin improved due to higher market prices for methionine. In terms of volume variance, the backlog of distribution inventories is being resolved in each region, and due to the recovery from extreme weather, shipments increased mainly to India. Now in the pharmaceuticals segment, the core operating income was minus JPY0.5 billion, an improvement of JPY32.7 billion YoY. In comparison to the previous fiscal year in terms of price variance, selling prices declined due to the impact of NHI drug price revisions in Japan. In terms of cost variance, due to streamlining business operations through combination of group companies Sumitomo Pharma in North America SG&A expenses decreased resulting in a significant improvement in profitability. As for volume variance, shipments of three key products increased. That’s all for the business results by segment. The next page is about the consolidated statement of financial position. Total assets as of June 30, 2024 were JPY3949.7 trillion, up JPY14.9 billion from the end of the previous fiscal year. While Sumitomo Pharma sold investment securities due to seasonal factors there was an increase in inventories of crop protection products and of yen-converted value of assets owned by overseas subsidiaries due to weaker yen, resulting in mostly flat total assets. So there was only an increase of JPY14.9 billion. Interest-bearing liabilities totaled JPY1518.7 trillion, down JPY44.8 billion YoY. Equity was JPY1226.9 trillion, up JPY62.6 billion YoY. As a result, the debt-to-equity ratio improved to 1.24 times, which was an improvement of 0.1 point. Moreover, we are disclosing for the first time, the status of strategic shareholdings, which is of high interest to investors. If you look at the right bottom corner of this slide, the ratio of cross-shareholdings of Sumitomo Chemical and Sumitomo Pharma to consolidated total equity is shown here. As of the end of March, 2024 it was 15.6% but that was reduced to 4.9%. Details will be explained on the next page. We have been reviewing the significance of our strategic holdings of shares every year and sharing them as necessary, but as we facilitate cash generation as part of short-term intensive performance improvement measures, we have been accelerating the reduction in recent years. This graph shows the balance of strategic shareholdings by Sumitomo Chemical on the parent basis and Sumitomo Pharma, which have recently decreased significantly due to the sale of Roivant shares by Sumitomo Pharma this year. Now, the dark blue part shows Sumitomo Chemical’s non-consolidated balance. Since 2021, the balance has been declining because of the sale. And due to the transfer of about JPY18 billion worth of shares of Inabata & Company, which was excluded from equity method affiliates as a result of partial sale of its shares last year, the decrease may appear small and that is about JPY18 billion. So the decrease may appear small, but if this factor were excluded in this graph as you can see on the right-hand side corner, the balance would be about one-third of that in FY2021. The graph above shows the balance as a percentage of consolidated total equity. In FY2023, due to a decrease in total equity, the denominator caused by the posting of large deficit the ratio rose to about 16%. But this year, because of accelerated sale it is now below 5%. Now, the last page. In first quarter, of this fiscal year, we achieved a significant improvement in profits at all levels year-on-year. And as a first step, we’re able to return to profitability. As we reported in May, when we announced our financial results for FY2023, we had expected to start Q1 in this fiscal year in the deficit. About JPY20 billion or more than JPY20 billion in deficits were assumed, but our performance improved more than expected especially in IT-related chemicals segment. The net income attributable to owners of the parent for the quarter, exceeded the annual forecast due to a strong core operating income and foreign exchange gains from a weaker-than-expected yen. It was JPY24.4 billion, which is exceeding the JPY20 billion, which is the annual forecast. As indicated in the table, the progress of core operating income against the annual forecast it’s not that large, but on our part we feel that we were able to return to profitability, at this stage. So we feel a strong sense of confidence. From second quarter onward, the contribution of crop protection business, which is highly seasonal will be added. So we expect that the probability of achieving the announced forecast has increased to a considerable degree. We appreciate your continued support for our company. That is all for the financial results. We’d like to start entertaining your questions. Thank you.

Operator: Thank you. We will now receive your questions. Now the first question is from Morgan Stanley MUFG Securities, Mr. Watabe.

Q – Takato Watabe: Thank you. I’m Watabe from Morgan Stanley. Congratulations for achieving profits. I have two questions. One, on 30th of April, there was an announcement of the structural reform. About the progress cash flow JPY600 billion to be created or short-term concentrated improvement of performance, what is the current progress? The Q1 core operating income does that include the sales of assets or not?

Keigo Sasaki: Thank you for your question. Thank you very much for your words of congratulations. About your question on 30th of April, we announced our structural reform or the immediate term concentrated measures to create the cash of JPY600 billion. At the moment, it is advancing quite smoothly. We will be increasing the amount and at quite a fast space I think we are able to catch up. In some areas, there are some points that we are not yet able to announce, but we started to get quite sure. And your other question, we've seen this profit. Sales of businesses only a few is included. There were some announcements, we have already made in China LCD chemical-related assets or other businesses which don’t have such a big impact.

Takato Watabe: Thank you. Then the large increase in profit of IT-related chemicals is nearly based on your ability. There’s nothing in particular included?

Unidentified Company Representative: Yes. In that sense, some onetime asset sales are not included. And actually, as I explained display and semiconductor materials demand increased, so shipments also increased. That is the major impact.

Takato Watabe: I see. And the plan is a core operating income of ¥100 billion but in each segment in IT-related chemicals I think they are having good results. But essential chemicals and health and crop sciences what is that situation? Rabigh seems to be difficult for the April to June period. So what is the current market situation to achieve the full-year target?

Unidentified Company Representative: Thank you for your question. Yes. First of all for IT-related chemicals as I mentioned I expect the good performance will continue for a while. For health and crop sciences Q1 usually is not that large. South America would be in the second quarter and North America also profit concentrates on first quarter. That is the situation. So at the moment I cannot say anything in particular. I don’t have any information at the moment, but I believe we can move forward to achieve the plan. For essential chemicals, as you mentioned, Petro Rabigh financial results you have to wait for a while we are waiting for the financial results. After that MMA market situation is recovering for example. But polyethylene is a little better, but polypropylene is in a very difficult situation. Centered on China production capacity is increasing but demand is not increasing that much. This situation is continuing.

Takato Watabe: I understand. Thank you very much.

Operator: Mr. Yamada from Mizuho Securities.

Makio Yamada: Yes. Yamada from Mizuho Securities. Confirmation on the previous question by Watabe-san in Q1 the onetime factor like business transfer is not included. Is it only for IT-related chemicals or for the whole company?

Unidentified Company Representative: The whole company. There's not much included in the whole company. So this is a real earnings power that is shown for the whole company yes.

Makio Yamada: Thank you. And then my first question. In essential chemicals, the cost variance plus 10, so depreciation costs may have been lower. But in Q4 in the last fiscal year, there’s large non-recurring losses and 70% were from essential chemicals. That’s what you said. So the depreciation cost decline from that has not manifested itself that much. Has there been any reshuffling of the items?

Unidentified Company Representative: Thank you for the question. For the essential chemicals, cost variance that you mentioned, the gain on this part well a large portion of that is from last fiscal year’s impairment loss that has resulted in the increased gain. But there is an increase in fixed costs so it may look a bit smaller.

Makio Yamada: So what has increased? From Q2 would those items see a decline?

Unidentified Company Representative: Well, in first quarter, there’s not much item, but there’s repair maintenance expenses that was in a lump-sum manner that was incurred in Q1, but we would not expect this to continue.

Makio Yamada: You don’t think this will continue. Does that mean that the impairment loss effect from the last fiscal year would be manifesting more in the second quarter onward?

Unidentified Company Representative: Yes.

Makio Yamada: Okay. Thank you. And the third question the balance sheet. The other asset items there is no breakdown that is seen here. So with this yen depreciation in the foreign exchange adjustment item, I think there will be a larger number, but that is not the case because the investment securities valuation amount has been declined. Is that the reason?

Unidentified Company Representative: Yes exactly.

Makio Yamada: Yes. Thank you.

Operator: Thank you very much. The next question is from SMBC Nikko Securities, Mr. Miyamoto.

Go Miyamoto: Thank you. I’m Miyamoto from SMBC Nikko Securities. Congratulations on returning to profit. About health and crop sciences on page 12, first, there’s a price variance of plus JPY9 billion. On the other hand, on page 22 in analyzing sales revenue there’s a volume variance of plus JPY800 million. What’s the background of this difference? And on page 25 by region sales. In general, there’s an increase of 4.4%. If you exclude the foreign exchange impact maybe there’s a reduction. So how would the volume fluctuate if you exclude the foreign exchange influence? And also in South America, you mentioned about impact of competition. But in South America genomic price compared to previous year I think you expect an increase. But is the situation changing? So what is the impact that you feel? What is the situation of health and crop sciences?

Unidentified Company Representative: Thank you for your question and thank you for expressing your congratulations. For health and crop sciences for sales volume variance in the profit and loss analysis volume variance there are discrepancies. I think that is what you meant. In profit and loss, it says volume variance and others, so there are other factors also included. For example, the weakening of the yen for internal transaction that is waiting off. But if there’s a gap in terms of foreign exchange rate influence that would be included in the volume of variance. So there are different factors included. And also in sales revenue, there is a decline, but profit is reflected in a higher figure. The gross profit with things of high unit price and low unit price depending on composition there may be differences. What was good this time as I have mentioned well India was doing well? In general, for the inventories, they are recovering in each region. North America, South America, we are seeing improvements. In particular, India was doing well. On the other hand as I mentioned in South America in the beginning of the year, we expected improvements. However, the current situation within Q1 competition was severe, so price was not raised that much. That was the result of our Q1.

Go Miyamoto: I see. About the volume of shipments of crop protection chemicals was there an increase?

Unidentified Company Representative: For shipment volumes and the sales revenue looking at the detailed sales revenue, which I think was disclosed in South America centered on herbicides there are declines. That is a major factor. So there’s a decline. And in terms of volume, it’s not different, but price was difficult. In Asia, excluding India, there was a recovery in the weather and it’s grown quite a lot.

Go Miyamoto: In particular, there was no impact of sales of businesses in this segment. There is an influence of foreign exchange rate and non-realized gains, right?

Unidentified Company Representative: Yes. No asset sales are included.

Go Miyamoto: I understand. Thank you very much. My second question is also about health and crop sciences. The situation of INDIFLIN, how much is that growing? That is 20 sites. You mentioned that the composition has improved. The new herbicide Rapidicil, which was registered in Argentina what is the situation? You can expect a lot of increase in sales of those products. So could you tell me about the situation of those products?

Unidentified Company Representative: Thank you for your question. First about INDIFLIN in South America or in Brazil it was launched in 2022 and in this season this is the third season. Gradually there are increases and this season we expect increase in shipments. But in Q1 itself still we are not seeing those effects yet. So after Q2 I believe we can expect such effects. And your other question about Rapidicil. In Argentina, as you mentioned, we were able to get registration. The main market is Brazil, but we are not yet able to get a registration in Brazil. So going forward, I believe Argentina will also grow. But the main market, Brazil, we hope we can get an early registration. As you mentioned the peak sales we expect about JPY 100 billion. So I hope that at an early stage we will be able to launch in each region.

Go Miyamoto: I understand. I’m looking forward to that. Thank you very much.

Unidentified Company Representative: Thank you.

Operator: Thank you very much. Now, we’d like to move to the next question from Daiwa Securities, Mr. Umebayashi please.

Hidemitsu Umebayashi: Thank you very much. Umebayashi from Daiwa Securities. I have a question about IT-related chemicals. In first quarter things were quite well and maybe you can continue this momentum in second quarter. That’s what you said. But the first quarter may have been too good. That were some of the views that we expressed. So with regard to displays and semiconductors in first quarter and second quarter any changes between those different quarters? Any changes that you are expecting? Can you explain more on that? And with regard to sensitivity to foreign exchange, it may be difficult to calculate now. But with ICT, what is the sensitivity for foreign exchange? How are we supposed to look at that?

Unidentified Company Representative: Thank you for the question. For the last question, the sensitivity to the foreign exchange fluctuations, so the whole company ¥1.5 billion to the ¥1 change. And as for IT-related chemicals, about ¥10 for fiscal 2024, so ¥1 billion. So with the yen’s depreciation and appreciation, there is some difference in the impact perhaps but that is how we’re looking at the sensitivity. And then as for IT-related chemicals in first quarter, as I explained, things were as I explained. But in particular, as for display-related products, the films in terms of polarizing films, perhaps in the second quarter, there were some that have been moved up to first quarter partially. There may have been some front-loading. But in general, we’re looking at the demand being quite strong. So this status is expected to continue in second quarter. Obviously, this segment or portion in IT-related chemicals, our business performance will continue until the Christmas sales and then fourth quarter we will see the decline. So how much we can earn in first, second and third quarter is the key. But in our estimate for now, we believe that we can do quite well. And as for the touchscreen panels, things are not bad and that is expected to continue in second quarter. As for semiconductor-related materials depending on the products, there are some variances but high-purity chemicals are performing quite well. That is how we see it. In AI-related products like products for data centers for instance, we have high expectation on those types of products. I think it is a fast segment make even now. So it’s not the high-purity chemicals but including photoresists going forward things are expected to go quite well.

Hidemitsu Umebayashi: Thank you very much. Just for clarification on a year-on-year basis ¥12 billion in profit increase. Display and semiconductor-related, which one is larger? The display is larger. Is that correct?

Unidentified Company Representative: Yes, that is correct.

Hidemitsu Umebayashi: Thank you. And then I have a question about the restructuring initiatives. As you have been saying there are various projects that are ongoing and you are just implementing those initiatives steadily. If you do that, then you can achieve the target for this fiscal year. Is that correct? Or additionally there might be something else that you can do. If that is the case, then please share that with us, especially the sale of shares of related companies. Inabata & Co. you have already finished that but what has been initially planned has been already achieved so there’s no additional sale that you are planning. Is that correct? Can you elaborate more on that?

Keigo Sasaki: Thank you for the questions. Well, the short-term intensive improvement initiative for profitability it does include sale of businesses and some of the asset sale including related companies and what has been already announced is only part of those efforts. And -- now, of course, we have the counterpart that we have to deal with and we are now under negotiation intensively with some partners. Some may be a bit challenging but in other deals things look better. So, there are those projects. ¥100 billion does include some sale of businesses. That’s what we said at the beginning of this year. But of course, we have to achieve those. But in addition in terms of profitability IT-related chemicals and other segments’ profitability could make more progress than we expected. So, the probability of achieving ¥100 billion has been increased. That’s what we said. We have to steadily and meticulously implement those initiatives. But some have higher probability of success in terms of restructuring of the businesses than others. If you can understand that way that will be appreciated.

Hidemitsu Umebayashi: Thank you.

Operator: Thank you very much. The next question is from Nomura Securities Mr. Okazaki.

Michio Okazaki: Thank you. Okazaki from Nomura Securities. Congratulations for a very good performance in Q1. My first question is also about IT-related chemicals. In particular from Q1, display was doing very well for television use or for mobiles. For mobile, for the Chinese companies or large companies, which were the companies doing well? And towards second quarter the direction of display what would you assume?

Keigo Sasaki: Thank you. About your question, for display, let me talk about displays. The large-sized products for televisions in this area sometimes we see recoveries but then it turns bad again. It goes up and down. On the other hand for monitors, I believe, it will be doing well going forward. But what was better is for mobiles. OLED polarizing film was doing very well and to a certain extent, I believe this may continue going forward. As I mentioned, in Q1, there were some demands carried forward from second quarter, so this may not be a straight increase from Q1 to Q2. That is polarizing films. For touchscreen panels, in the first quarter, I think it was doing well. And compared to the fourth quarter, it was quite good. I hope this solution will continue towards the second quarter as well. There may be some demand carried forward, so it may not be growing immediately, but I think the growth will continue at a certain pace. That is for displays. For semiconductors, it will be difficult to say. Usually towards the second half of the year, we expect full-fledged recovery. But first quarter was good, but going forward, I believe that situation will continue in a stable manner towards a full-fledged recovery.

Michio Okazaki: Thank you. For confirmation, for mobiles OLED was good. Is that centered on the China area companies? What’s the situation for major companies?

Keigo Sasaki: Chinese companies, well, sales to China is growing quite steadily including for smartphones. That is my understanding.

Michio Okazaki: And also for the large companies, is that going well?

Keigo Sasaki: Yes. You are right.

Michio Okazaki: Basically you are strong for OLEDs. So in total, does it mean that you’re increasing your share?

Keigo Sasaki: I cannot disclose information about individual customers. But in principle, OLED is doing very well.

Michio Okazaki: Thank you very much. My second question for core operating income for this year, sales of businesses onetime gains of ¥30 billion is included, but at the moment does that remain unchanged? In Q1, they are not yet included. It may be difficult to say what is the timing? But do you think there will be influence from the sales of businesses in H2?

Keigo Sasaki: Thank you for your question. Some level of sale of businesses are included in these figures and to do that, we are now working to do that. But there is a counterpart to that, so it is difficult to say when this is going to be realized. But after the second quarter, I hope we can realize. So we are now doing our efforts to do that.

Michio Okazaki: Basically, the amount that you had remains unchanged?

Keigo Sasaki: Within the ¥100 billion, a certain amount is included, but we are not yet so sure that we have to change the figures.

Michio Okazaki: That is all. Thank you very much.

Operator: Thank you very much. We’re approaching our scheduled ending time, so we would like to take the last question. JPMorgan Securities, Nakada-san would you please limit your question to one?

Yasuhiro Nakada: Okay. Thank you. Congratulations on being profitable. I have not expected this, so congratulations. Petro Rabigh, there’s a cumulative loss that is building up. Petro Rabigh for April to June performance is very challenging. If the cumulative loss is building up, what would happen? And what is the future direction? You said that you are forming a task force for discussion. Can you update me on the progress made as far as you can tell?

Keigo Sasaki: Thank you for the question. As for Petro Rabigh, as we explain every time since this is a listed company, there’s a limit to what we can say. So I hope you can understand that. And for the first part of your question, the taskforce has been formed and Petro Rabigh profitability improvement is being discussed including various initiatives. That is how we are. That’s exactly what we said on April 30 and that situation has not changed. That has been continuing. And also for April to June performance we’re not privy to that. So probably they will make announcement as part of earnings call and we have to wait for that. And because of laws in Saudi Arabia for the capital or equity if there is a certain level of losses cumulated then you have to make announcements so we have to take action. That is part of the regulation loss. So in terms of compliance with the loss there will be certain procedures that they would follow. But at this moment there is nothing that we can say because we have no idea. So we’re just waiting for the information to come.

Yasuhiro Nakada: Thank you. So if they are in a situation where action is required. So that facilitate and accelerate the discussion for a solution? Is that the expectation that we can have?

Keigo Sasaki: Well, originally, regardless of the situation, we are aware of this challenge and we have been going through various discussions already. So they may not be exactly or directly linked with the actions required by the law. But if the initiatives can be presented as soon as possible that will be better.

Yasuhiro Nakada: Thank you. That’s all.

Operator: Thank you very much. This concludes the Q&A session. Lastly, I’d like to invite Mr. Sasaki for the final remarks.

Keigo Sasaki: Thank you very much for attending the conference call today. The first quarter as I explained we are able to make a good start. But we should keep our efforts to achieve a V letter-shaped recovery of our performance and accelerate our efforts and also to strengthen our financial situation, reduce the interest-bearing debts as well. We look forward to your further support in the future. Thank you very much.

Operator: This concludes today’s conference call. Thank you very much for your participation.