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Edited Transcript of 3086.T earnings conference call or presentation 8-Oct-19 10:59am GMT

Q2 2020 J.Front Retailing Co Ltd Earnings Presentation

Tokyo Oct 23, 2019 (Thomson StreetEvents) -- Edited Transcript of J.Front Retailing Co Ltd earnings conference call or presentation Tuesday, October 8, 2019 at 10:59:00am GMT

TEXT version of Transcript

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Corporate Participants

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* Ryoichi Yamamoto

J. Front Retailing Co., Ltd. - President, Representative Exec. Officer & Representative Director

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Presentation

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Ryoichi Yamamoto, J. Front Retailing Co., Ltd. - President, Representative Exec. Officer & Representative Director [1]

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As for results for the first half of fiscal year 2019, consolidated gross sales of J. Front Retailing were JPY 545.8 billion, down 0.2% year-on-year. Revenue was JPY 225.6 billion, down 0.7%. Consolidated business profit was JPY 23.7 billion, down 2.2%. Operating profit was JPY 25.1 billion, up 4.0%. Profit attributable to owners of parent was JPY 14.3 billion, down 9.7%. Compared to April forecast, business profit was JPY 200 million lower. However, due to gain on sales of real estate and others, operating profit was JPY 1.5 billion higher and profit attributable to owners of parent was JPY 500 million higher.

Interim dividend is JPY 18 per share, up JPY 1 compared to previous year as planned. As a result of careful examination, including revision of discount rate from April forecast, we revised upward positive effect of application of IFRS 16 on business profit by JPY 300 million to JPY 2.2 billion for the first half of this fiscal year and by JPY 900 million to JPY 4.4 billion for the full year.

By segment, for Department Store business, from June to July, the peak business period for the first half, temperature continued to be low. As a result, sales of summer items, mainly including clothing, was sluggish both for full priced items and items on sale. In August, typhoons made landfall in Western Japan and 3 stores in Kansai were forced to be temporarily closed. Besides due to rapidly falling yuan, tax-free sales dropped temporarily. We had to face a challenge until the end.

As a result, revenue was down 2.0% year-on-year; business profit was down 4.2%, mainly due to increased costs of system for payment processing in front of customers and increased extra depreciation of north wing of Daimaru Shinsaibashi store despite profit-boosting effect of IFRS 16. Also due to recording of expenses for business revitalization of Shimonoseki Daimaru, operating profit was down 10.8%.

For Parco Business, revenue was down 1.1% year-on-year, mainly due to poor performance of Neuve A operating accessory shops despite contribution of opening effects of Kinshicho Parco and Entertainment business. However, business profit was up 6.7%, and operating profit was up 2.8% due to profit-boosting effect of IFRS 16.

For Real Estate business, revenue was up 5.2% year-on-year due to contribution of Ginza Six, maintaining good performance in the third year opening effects and new properties, effect of transfer of shops around Daimaru Kobe store and Kyoto store to Real Estate business. Business profit was up 10.8%. Operating profit doubled also due to booking of gain on sales of real estate.

For Credit and Finance business, revenue was up 1.5% year-on-year due to an increase in affiliated stores fees and interest on installment sales. However, business profit was slightly down by 0.3% due to increased costs for strengthening organization associated with employment of credit card specialized HRs for future growth and for opening of Tokyo office. Operating profit was up 1.2% due to an improvement of other operating costs.

For other businesses, revenue was up 5.6%, driven by J. Front Design & Construction, which performed well due to increased orders in hotel, construction and others. However, business profit was slightly down by 0.7% and operating profit was down 5.7% due to sluggishness of Daimaru Kogyo involved in wholesale business.

Next, as for nonconsolidated results for Daimaru Matsuzakaya Department Stores, gross sales was JPY 325.3 billion, down 0.9% year-on-year. Revenue was JPY 126.7 billion, down 1.6%. Business profit was JPY 14.5 billion, down 0.9%. Operating profit was up 21.1% year-on-year due to booking of gain on sales of real estate. Gross sales of Department Store business, excluding Real Estate business, were down 1.1% year-on-year. Gross sales of existing stores were down 0.2%, excluding effect of closing of Yamashina store in March and transfer of shops around Kobe and Kyoto stores, and adoption of fixed-term lease for the second floor of south wing of Nagoya store.

I will talk about the sales in details. Tax-free sales of Daimaru Matsuzakaya Department Stores for the first half increased 14.6% year-on-year to JPY 32.3 billion. Both the number of customers and average spend per customer increased. Monthly trends are as shown in the graph. In August, tax-free sales dropped by 2.4% temporarily due to rapidly falling yuan and others. However, tax-free sales were up 19% in September. I cannot deny tax-free sales are impacted by currency movement and geopolitical risks and demand fluctuates a lot. However, we keep our view that inbound market remains one of pillars of medium-term growth. We will continue to position growth of inbound tourists as expansion of trade area and promote strategic initiatives, such as sales for development and policies for customers.

Spending by the affluent in Japan remains strong. In March this year, we greatly changed systems of sales activities by reorganizing department store gaisho organization and using ICT for operations to further strengthen service to the affluent in Japan. It took a certain time to rebuild relations with customers under the new organizational structure and establish new flow of operations for persons in charge at beginning of period. Therefore, sales decreased temporarily.

However, in May onwards, excluding extraordinary factors in July when we changed days of major events, sales were back on positive trend. As for initiatives to develop new gaisho accounts in the first half, we newly acquired 7,016 gaisho accounts, which generated sales of JPY 5.9 billion.

Expenses decreased JPY 1.3 billion due to application of IFRS 16. Besides, we released personnel expenses, miscellaneous expenses and others. On the other hand, extra depreciation associated with north wing of Shinsaibashi store for which renovation started after opening of new main building of Shinsaibashi store last month increased JPY 1.1 billion.

Operational cost, mainly related to system for payment processing in front of customers increased JPY 900 million. Advertising expenditures, including development cost of mobile apps, used as tools for new customer strategy increased JPY 500 million. Therefore, cost reduction was small in total. That's all for an overview of nonconsolidated results for Daimaru Matsuzakaya Department Stores.

Consolidated statements of financial position and cash flows are as shown on this slide. Free cash flows were JPY 37.4 billion, securing more than JPY 20 billion, even if effect of IFRS 16 is excluded.

Let me move on to forecast for the second half and full year for fiscal year 2019. Global economy is becoming more uncertain, not only due to prospects of U.S.-China trade friction and Brexit, of which deadline is approaching, but also due to increased various geopolitical risks. Many external, demand-oriented Japanese companies are already damaged. If decrease in corporate earning expands, domestic consumption will be impacted eventually.

On October 1 this year, consumption tax rate was raised. In September, before tax hike, there was last-minute surge in demand for high-priced products, such as luxury-branded products and cosmetics. Department store sales increased 30% year-on-year. The growth rate was close to growth rate before consumption tax hike of the last time in 2014. Existing store sales grew by 36.2%. Last time, in reaction to last-minute demand, the impact of consumption tax hike lasted for almost 1 year, mainly in volume zone.

This time, the consumption in October onwards, various measures are introduced, such as reduced tax rate, government-led point rewarding to control the post-tax hike demand fluctuation and measures to support families with small children, including free day care services and kindergarten classes. Therefore, some people view that reactionary drop in and after October will not be so big. That said, we have to think that further progress of polarized consumption, increasingly budget-minded consumer spending and increasing urban/rural divide are unavoidable structurally. I think social structure transformed by digitalization, value shift from possessing to sharing and rapid progress of sharing economy mainly based on subscription model will accelerate further.

Based on such a recognition, this fiscal year is a turnaround point in the 5 years of our current Medium-term Business Plan. Our group positions the second half of this fiscal year, when we are entering into the second half of the plan, a stage to accelerate structural reform for dramatic growth of the group for the future. We intend to overhaul earnings structure by changing business model, taking measures for rural stores, revising HR systems, et cetera.

Specific numerical plan is as shown in the slide. For the second half of fiscal year 2019, we forecast gross sales will be JPY 621.1 billion, up 7.5% year-on-year. Revenue will be JPY 266.3 billion, up 14.5%. Business profit will be JPY 25.7 billion, up 21.2%. Operating profit will be JPY 21.8 billion, up 30.9%. Net income attributable to owners of parent will be JPY 11.4 billion, down 0.1%. From April forecast, we revised down gross sales forecast by JPY 9.8 billion, revenue by JPY 4.6 billion, operating profit by JPY 3 billion and net income by JPY 2.7 billion, respectively.

As for major differences from April forecast, Daimaru Matsuzakaya Department Stores decided to extend retirement age to 65 this time. Accordingly, reduction of JPY 3.5 billion is expected from revision of retirement benefit, pension systems and others, and reduction of JPY 500 million from recalculation of IFRS 16. Both will reduce SG&A and cost, respectively, pushing up profit. On the other hand, as we reviewed, sales of department stores and Parco, cautiously, we expect a reduction in gross profit.

We also decided to newly book JPY 400 million of extra depreciation of external wall of north wing of Shinsaibashi store and others as SG&A expenses, JPY 1.9 billion of Shinsaibashi store's contribution for construction of subway passageways, JPY 400 million of additional structure reform cost for rural stores, JPY 1 billion of increased expenses through HR system reform and others in other operating expenses.

By segment, for Department Store business, we expect spending by the affluent to remain strong, but revenue will be down 0.9% year-on-year due to significant increase in area of fixed-term lease as a result of business model conversion of Shinsaibashi store impact of closing of Yamashina store and careful review of business conditions of each store. Business profit will be JPY 16.5 billion, up 30.5% due to reduction of SG&A expenses from revision of systems associated with the extension of retirement age to 65 and effect of IFRS 16. However, operating profit will be JPY 11.1 billion, down 9.8% due to newly booking of Shinsaibashi store's contribution for construction of subway passageways, structural reform cost for rural stores and others.

For Parco Business, revenue will be up 53.8% year-on-year and business profit will be JPY 5.1 billion, up 39% due to significant opening effects and sales of reserved floor space associated with Shibuya Parco, of which grand opening is scheduled for November 22. Operating profit will be JPY 6.6 billion, also due to reaction to loss on store closure booked in the last fiscal year.

For Real Estate business, revenue will increase 5.5% year-on-year due to sequential transfer of shops around Daimaru Kobe store and Kyoto store to Real Estate business and operation of new properties. Business profit will be JPY 1.2 billion, down 39.1%; and operating profit will be JPY 1.2 billion, down 29.7% due to increase in depreciation and property tax associated with transfer of north wing assets to Real Estate business, after opening the main building of Shinsaibashi store.

For Credit and Finance business, revenue will increase 4.2% year-on-year. However, business profit will be JPY 600 million, down 49.9% and operating profit will be JPY 600 million, down 48.6% due to upfront costs for initiatives for growth, including reinforcement of specialists and issuance of new card, one of measures to enhance revenue expected for the next fiscal year.

For other businesses, revenue will increase significantly by 28.4%, driven by a significant growth of construction of main building of Daimaru Shinsaibashi store at J. Front Design & Construction. Business profit will be up significantly by 94.1% and operating profit will be up 110.1%.

As for nonconsolidated forecast with Daimaru Matsuzakaya Department Stores for the second half, gross sales were revised down by JPY 5.6 billion from April forecast and will be down 0.5% year-on-year. Gross sales of Department Store business, excluding Real Estate business, will be down 0.6% year-on-year and down 0.1%, excluding Yamashina store.

While store sales will increase at most of flagship stores, including Umeda, Tokyo, Sapporo and Nagoya stores as a result of careful review of economic environment, expected growth rate is small. In the second half, at Daimaru Shinsaibashi store after opening of the new main building, apparently, sales will be down 2.3% as fixed-term lease area accounts for 65% due to business model conversion. However, transaction value, including fixed-term lease for space, will increase annual transaction value of Shinsaibashi store. After opening from September 2019 to September 2020, will exceed JPY 100 billion. Around 15% increase in sales is expected from luxury sales of fiscal year 2018.

There are a lot of factors pushing, of course, such as extra depreciation of north wing of Shinsaibashi store and an increase in advertising expenses to enforce sales promotion of mobile apps. On the other hand, rental expenses will be down associated with application of IFRS '16 and personnel expenses will decrease significantly from the original forecast as a result of revision of retirement benefit and pension systems after a decision of extension of retirement age to 65.

As a full year consolidated forecast for fiscal year 2019. Gross sales will be JPY 1,167 billion, up 3.7% year-on-year. Revenue JPY 492 billion, up 7.0%. Business profit JPY 49.5 billion, up 8.8%. Operating profit JPY 47 billion, up 14.9%. Net income attributable to owners of parent JPY 25.8 billion, down 5.7% year-on-year. From April forecast, gross sales were revised down by JPY 21 billion, revenue by JPY 8 billion, operating profit by JPY 1.5 billion and net income attributable to owners of parent by JPY 2.2 billion. Forecast of business profit is kept unchanged. Forecasted ROE is 6.3%.

We plan to pay year-end dividend of JPY 18 per share. Annual dividend per share, including interim dividend, will be JPY 36, JPY 1 increase year-on-year, ninth consecutive dividend increase.

Forecast for consolidated statements of financial position and cash flows are as shown on this slide. In the second half, despite large scale capital expenditure for main building of Daimaru Shinsaibashi store, Shibuya Parco and others, free cash flows will be positive at JPY 2.9 billion, even if effect of IFRS 16 is excluded.

Now, I will talk about progress of Medium-term Business Plan and initiatives for future growth. Five-year Medium-term Business Plan, which started in fiscal year 2017, has just reached a turnaround point. The big theme of the medium-term plan is business portfolio transformation. As for achievements so far, Real Estate business, which became independent as a new segment, increased share of operating profit notably due to success of Ginza Six and others. I think the first step of business portfolio transformation was shown.

However, business portfolio transformation is based on the premise of big growth as a group. While taking on the challenge and nurturing new business fails, it is needless to say we should be sensitive to the changing times also in existing core fields, such as retail, transform business through quick response and advance initiatives for steady growth.

Two projects symbolizing those will be realized this autumn. Firstly, new main building of Daimaru Shinsaibashi store, which just opened on September 20. Direction of new department store business model, combining both ability to attract customers and profitability, was embodied. One of the big characteristics of Shinsaibashi store is customer structure. Shinsaibashi store has a strong customer base, consisting of the affluent, mainly gaisho customers and foreign tourists. Under the former north wing and south wing structure, the affluent and foreign tourists generated more than 60% of total sales of Shinsaibashi store.

Therefore, for categories we can grow with the affluent and inbound tourists, we aim to maximize profit through kaitori, purchase on no-return basis; and shoka shiire, purchased recorded when sold. For other categories, we decided to reinforce ability to attract more customers and make revenue more stable and more efficient with shops and brands through fixed-term leasing, specifically for luxury brands, cosmetics and others, which are categories strongly supported by these customers. We will maximize gross profit by growing sales through kaitori or shoka shiire.

Compared to conventional north wing, cosmetics and beauty-related sales floor area almost doubled. 28 new brands were introduced. Floor area for luxury increased by 15%. 11 new luxury brands were introduced. In particular, we expanded significantly these 2 strategic categories to reinforce.

For women's apparel, the main challenge facing department stores, we narrowed down both floor area and a number of brands to around 60% under fixed-term leasing contracts. For floor structure, we broke away from traditional department store, merchandise classifications such as women's wear and men's wear, and we actively introduced combined shops by combining men's and ladies fashion as Fashion Floor. As this method was adopted in Ginza Six and achieved steady results, the experience and know-how is utilized in Shinsaibashi store.

For food and drink, keys to ability to attract customers, Food Hall was newly created to provide experience-focused consumption of quality unique to department stores. Floor area increased by 83%. Out of 104 brands in total, 64 brands were newly introduced. We also reinforced entertainment elements dramatically through creation of Pokemon Cafe, Jump Shop and others. To transmit Japanese culture in store environment by merging tradition represented by architectural beauty of William Merrell Vories of Shinsaibashi store before rebuilding and innovation through introduction of latest digital technology, we created special experience unique to a real store.

Fixed-term lease accounts were 65% to total hybrid stores. The bold initiative brought further evolution of low-cost operation increasing reduction of 250 posts in HR structure. For floor level profit and loss, we can now expect positive profit in all the floors, including upper floors, where it was not easy to generate profit.

It has been almost 3 weeks since opening. Fortunately, as we expected, almost 100,000 customers visit on holidays. The store gained support from a broad base of customers, in particular sales of luxury and cosmetics exceeded both last year and plan significantly. The Food Hall, the main feature of experience-focused consumption is gaining popularity among not only Japanese customers but also inbound tourists due to high quality unique to the department store and enhanced convenience of operation until 11:00 at night. At the same time, through the enforcement of content of entertainment, the store is attracting many young customers who did not visit before.

In fiscal year 2020, when new main building of Daimaru Shinsaibashi store, embodying the new department store business model will be fully operated. We expect profit to increase JPY 2 billion to JPY 2.5 billion. At Shinsaibashi store, by repeating PDCA of hybrid model, we will establish it as a new department store business model and apply this to Nagoya store and other flagship stores.

After opening a main building on Daimaru Shinsaibashi store, a new project will be started in north wing, which has been operating a department store to convert into Real Estate leasing model. To be more specific, in north wing, Parco will be introduced as a core tenant from the second basement to the seventh floor above ground. We will consider attracting big tenants to upper floors. At the same time, north wing will be connected to main building of Shinsaibashi store, which opened last month as one. In total, retail facilities of more than 80,000 square meters will be established with the hope of maximization of group synergy.

Opening of north wing is accelerated by about 6 months from the original schedule and grand opening is now scheduled for the autumn of 2020. Shinsaibashi store, including north wing, is expected to push up profit of Daimaru Matsuzakaya Department Stores on nonconsolidated basis by more than JPY 2 billion.

Let me move on to new Shibuya Parco. This project, which started to be considered in 2007, has been working on creation of some next-generation commercial space as an urban redevelopment project since the district was chosen as urban renaissance district in December 2015. As for direction of store creation, we enhanced experiential content, including opening in Nintendo Tokyo, Japan's first Nintendo official shop, an enhanced PARCO Theater.

We are also working on reproposal of fashion by combining luxury, mod and street culture and creation of the next-generation floors using ICT. Beyond the border of conventional commercial facilities by enforcing initiatives in collaboration with designers and creators, we propose fresh stimulation and excitement as experiential value and aim at building, disseminating information globally.

We will enhance identity unique to Shibuya Parco through selection of specialty shops with high-quality design, art and entertainment at the core. Besides, we are merging real store and e-commerce, omnichannel space, Parco Cube for both e-commerce and over-the-counter sales will be created on the fifth floor of new Shibuya Parco. The floor will mainly carry strategic items and limited items as next store.

Other products are sold online through digital inventory management. So customers can buy products which are not carried by the store online anytime. In this way, arrangement is made for stress-free shopping on the spot anytime. Various categories, such as fashion, art and culture are combined with 193 unique and attractive shops, and the floor where each other's charm is brought out will be built. Grand opening at Shibuya Parco is scheduled for November 22. In this way, new Shibuya Parco will evolve PARCO brand as a flagship store for the next generation. We will also spread brand power to other stores.

Next, I will talk about Credit and Finance business initiatives for growth. We rebuilt growth strategies of Credit and Finance business with 5 pillars, including improvement of bottom line of existing businesses, strengthening of card products, launch of merchant acquiring services, review of system platform and HR development and building of organization.

We are trying to build management foundation for dramatic growth. The key here is review of card products. For more than 10 years in the past, we haven't reviewed cards as products significantly. We are now preparing to completely renew and create cards that appeal to the young as well as existing customers. To be more specific, in addition to the current Daimaru Matsuzakaya points, we will introduce a new point program. Points are earned through credit card settlement.

Earned points can be exchanged with points of group companies, including Daimaru Matsuzakaya Department Stores. In areas of urban dominant strategy, we want to roll out the program to shops around stores. We aim at full renewal of Daimaru Matsuzakaya card in the next fiscal year. We plan to add this new point to new Daimaru Matsuzakaya card.

For merchant acquiring services, we acquired licenses from Visa and MasterCard in July this year. Firstly, by reviewing agreements of Daimaru Matsuzakaya Department Stores, we will contribute to cost reduction and then expand business. By building relations with customers through such settlement, we will develop various finance services using settlement data.

We recognize it is essential to catch up with a level of card business of competitors or at least JPY 5 billion of operating profit as a first step under the next medium-term plan by expanding settlement, card business and peripheral finance services, such as revolving and insurance business. We want to consider initiatives to establish Credit and Finance business as one of group's pillars, which can aim at dramatic growth in the next step after going through the process. As Credit and Finance business is in a phase of building foundation for growth, full-scale profit contribution will be under the next medium-term plan onwards.

Image of achievement of the current medium-term plan we aim at is shown in this slide. We haven't changed our plan to achieve operating profit of JPY 56 billion in fiscal year 2021, the final year of the current medium-term plan based on the conventional criteria before application of IFRS 16. Due to application of IFRS 16 and acceleration of structural reform, assumptions of profit structure changed dramatically from the time when we made the current medium-term plan, therefore, by reflecting the changes we want to update numerical targets for the final year of the medium-term plan in spring next year.

Next, I will talk about financial strategy. In a period of the great medium-term plan, peak of capital expenditures is in this fiscal year, with openings of new main building of Daimaru Shinsaibashi store and new Shibuya Parco. So in the next fiscal year onwards, annual free cash flows of JPY 20 billion to JPY 30 billion will be generated. We will use generated free cash flow to strengthen shareholder return and our capital base. By promoting balance-oriented capital policy, we will create management structure that can achieve ROE of 8% or higher continuously.

Next, I will discuss ESG initiatives. We started full-scale specific initiatives to achieve the goals set for each of 5 materiality themes we identified last year. For example, for management of the entire supply chain to eliminate environmental and social risks in supply chain, we formulated principles of action for our company and principles of action for suppliers. We will provide an opportunity to share our view through explanatory meetings for suppliers late this month, hoping both we and suppliers will aim to enhance corporate value by being compliant with these principles. As for our ESG initiatives, we will have a lot of discussions with investors at ESG briefing we plan to hold on November 19. We will also ask our outside directors to take the platform.

Lastly, when I think about what it means to enhance corporate value, once again. I think it boils down to how we can enhance both economic value and social value. Our corporate mission is service before profit, meaning those who place service before profit will prosper. In other words, customer-first policy or contribution to the society. I recognize once again that implementation of the mission will lead to enhancement of corporate value through creating shared value or CSV.

ESG initiatives increased cost in some aspects. However, I am sure that ESG initiatives will be opportunities for business model conversion and innovation. With empathy from stakeholders, we will speed up the group business structure reform. And by generating both economic value and social value, we intend to welcome mid- to long-term enhancement of corporate value.

Thank you very much for your attention.