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Edited Transcript of 4004.T earnings conference call or presentation 25-Apr-17 9:01am GMT

Thomson Reuters StreetEvents

Full Year 2016 Showa Denko KK Earnings Call

Tokyo May 21, 2017 (Thomson StreetEvents) -- Edited Transcript of Showa Denko KK earnings conference call or presentation Tuesday, April 25, 2017 at 9:01:00am GMT

TEXT version of Transcript

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Corporate Participants

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* Toshiharu Kato

Showa Denko K.K. - CFO, GM of Finance & Accounting Dept, Corporate Officer and Director

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Presentation

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Toshiharu Kato, Showa Denko K.K. - CFO, GM of Finance & Accounting Dept, Corporate Officer and Director [1]

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My name is Toshiharu Kato, CFO of Showa Denko. Before I start, I'd like to thank you for your interest in the business performance of our company.

First and foremost, please accept our sincere apologies for causing a delay in the financial results announcement due to the situation at BE International Corporation, a subsidiary of SHOKO Co., Ltd. I am not going to details of the findings of the Special Examination Committee. However, the committee reported that there were virtual round-trip transactions, which effectively provides short-term lending, though none of the officers or employees of SHOKO or BE International were aware that the transactions were without any material substance, and that there were no similar transactions with the SHOKO Co. and other group entities.

The delay in the financial results announcement was caused by the inadequate oversight at the SHOKO Co. and BE International. Showa Denko takes this matter seriously.

Today, we submitted to the Kanto Financial Bureau, our financial results as well as the annual securities report for fiscal year 2016. In line with the recommendations from the Special Examination Committee, in addition to the financial results, SHOKO announced today that matters to prevent recurrence of similar problems. Showa Denko is planning to provide support for SHOKO's training efforts going forward concerning management oversight and risk oversight and reinforce our capability to analyze SHOKO's indirect department processes.

We will give full support for SHOKO's implementation of preventive measures so that regain trust that has been lost. We would sincerely appreciate your continued support for our group. As for the influence of corrections to the financial statements of BE International, corrections were made to the accounting numbers related to BE International's specific transactions, as well as to the cash flow numbers of Showa Denko to fix the errors in term deposit accounting of some subsidiaries. The impact for fiscal year 2016 is a JPY 6 billion reduction in sales of BE International. The impact for financial year 2015 is as shown on the attached table. The impact for fiscal year 2014 is a JPY 571 million reduction in net income after calculation of gains and losses from minority holdings, because fiscal year 2014 was the year in which BE International was acquired and the bad debt provision and the goodwill impairment loss were recorded in relation to the acquisition. The bad debt provision has been regularly reviewed from time to time based on the actual transaction values in and after fiscal year 2015.

We are fully provisioning for the outstanding credit balance at the moment. For detailed corrections for past years, please refer to the disclosure document later.

Next, for the shareholders meeting to be held in June and the dividends, I would like to explain. Because -- now, financial results for fiscal year 2016 are finalized, we are holding an extraordinary general meeting of shareholders on June 27. The record date is May 11. In the upcoming meeting, we will be reporting on the fiscal year 2016 financial statements and propose a dividend of JPY 30 per share. We would like to apologize to those who were shareholders as of the end of December for not paying a dividend.

Let me now move on to the review of fiscal year 2016 financial results and outlook on fiscal year 2017.

I will mainly focus on changes from the February 14 guidance. Page 3 is about consolidated companies. I will skip this page because there is no change from February.

Please refer to Page 4. The page shows the summary of fiscal year 2016 consolidated financial results. Since we already included the expected impact of SHOKO Co. in the February 14 guidance, changes are limited here. However, I will explain highlighting changes from the February guidance.

Net sales were JPY 671.2 billion, unchanged from the February guidance. I will explain this later on Page 6, but net sales were down JPY 104.6 billion year-on-year. It is because of the lower product prices in the petrochemical segment due to a decline in naphtha prices and a lower hard disk sales volume in the Electronics segments.

In fact, net sales were down in all of the segments. Operating income was JPY 42.1 billion, up JPY 300 million from the February guidance due to the increase in the Others segment. Operating income was up JPY 8.5 billion year-on-year. Although, we had a negative growth in 2 segments, namely Electronics and Inorganics segments, and we had a positive growth in 4 segments, namely Petrochemical, Chemical, Aluminum and Others. Overall, the income growth was positive.

Ordinary income was JPY 38.7 billion, up JPY 300 million from the February guidance. Nonoperating income and expenses are unchanged from the February guidance and down JPY 1.9 billion year-on-year. While equity in earnings of affiliates improved by JPY 2.4 billion thanks to the high utilization of synthetic resin affiliates.

FX loss deteriorated by JPY 1.2 billion due to the yen's appreciation and others, such as subsidy gain and so forth. Ordinary income is up JPY 6.6 billion year-on-year. Extraordinary loss was JPY 22.8 billion, which was an improvement from the previous year thanks to the reduction of impairment losses by JPY 1.1 billion. Year-on-year, extraordinary profit is down, but extraordinary loss improved by JPY 11.6 billion, because of the bad debt provision recorded in the previous year. As a result, profit attributable to owners of parent was JPY 12.3 billion, up JPY 1.3 billion from the guidance and JPY 11.4 billion from the previous year.

Please refer to Page 5, which is extraordinary profits and losses. Extraordinary profit was JPY 1.7 billion, in line with the February guidance and down JPY 6.7 billion year-on-year due to a gain from the sale of investment securities recorded in the previous year. Extraordinary loss was JPY 22.8 billion, down JPY 1.1 billion from the February guidance and up JPY 11.6 billion from the previous year due to the absence of bad debt provision of SHOKO Co., which was recorded in the previous year.

Impairment loss was JPY 15.6 billion, including JPY 2 billion in restructuring costs recorded during Q2 for streamlining the hard disks production capacity as well as for functional Aluminum materials unit in Oyama City, Tochigi Prefecture and the Vietnamese subsidiary of the rare earth business.

Page 6 shows consolidated sales by segment, which is unchanged from the February guidance. Petrochemicals segment sales were JPY 185.8 billion down JPY 45.5 billion year-on-year. The olefins business saw the ethylene plant utilization staying at the full level, except for March, when shutdown maintenance of polyethylene, styrene monomer and other derivatives coincided. Sales were down due to low product prices driven by lower naphtha prices and shutdown maintenance of several derivatives, which led to a slightly reduced shipment. Organic chemical sales were down year-on-year due to lower market prices of vinyl acetate and ethyl acetate. The Chemical segment sales were JPY 134.5 billion due to JPY 7.8 billion year-on-year. The Electronics Chemicals business saw a slightly higher sales of high purity gases for Electronics due to a higher shipment, while the industrial gases business also grew. On the other hand, the basic Chemicals business saw a decrease in the sales of acrylonitrile due to lower market prices. Functional Chemicals sales were down due to the divestiture of the phenolic resin business in September 2015. Electronics sales were JPY 103.3 billion, down JPY 28.2 billion year-on-year. In the hard disk business, shipment for the server market was strong. Shipment for PC market was slow in the first half, but became stronger in the second half, exceeding the previous year level during the October/December period. For the full year, sales were down year-on-year, because the business did not recover from the volume loss in the first half and it was impacted by the stronger yen.

Compound semiconductor sales were down due to a decline in volume. Rare earth sales were also down due to a decline in prices. The inorganic segment sales were JPY 50.9 billion, down JPY 12.6 billion year-on-year. Ceramic sales were down due to lower sales volume of Aluminum oxide. Graphite electrodes sales were down due to the protracted impact from Chinese steel overproduction, though the volume increased slightly.

Aluminum segment sales were JPY 98.6 billion, down JPY 2.2 billion year-on-year. High purity foil for capacitor sales were up owing to shipment growth for the domestic air-conditioners and automotive markets, as well as a shipment growth to Showa Denko Aluminum (Nantong). Aluminum specialty components sales were down due to lower selling prices caused by a softer Aluminum market and a decline in shipment to the automotive industry. Aluminum can sales were up owing to the volume increase with Hanacans Joint Stock Company's lead production line coming online.

Others segment sales were JPY 142.4 billion, down JPY 4.9 billion year-on-year. Lithium-ion battery material sales were up thanks to a sharp increase in shipment for smartphones and automotive markets, including PHEVs and EVs.

SHOKO Co. sales were down due to lower market prices, triggered by lower raw material prices, centering around the synthetic resin business.

Please turn to Page 7 for changes in consolidated operating income by segment. Operating income came to JPY 42.1 billion, which is in line with the February guidance and represents a JPY 300 million increase in each of the segments. Petrochemicals was JPY 20.7 billion, an increase of JPY 10.1 billion year-on-year. Olefins are up significantly from a year ago, on the back of a brisk demand and higher utilization of the ethylene brands in China and other Asian markets.

Organic Chemicals are up, helped by continuously high utilization rates of ethyl acetate and vinyl acetate and lower material prices. The Chemicals segment operating profit was JPY 13.8 billion, up JPY 3.1 billion year-on-year. Basic Chemicals are up, thanks to a higher sales volume of ammonia, and a lower price of specialty gas. Electronic Chemicals are down due to the stronger yen, despite a continuously high-level of shipment.

Functional Chemicals are up because of an increased shipment to the automotive and racing concrete markets and lower raw material prices. Industrial gases are up, due to the volume gain of carbon dioxide and dry ice. Power generating business profit has also increased. The Electronics segment operating income was JPY 13.9 billion, down JPY 3.6 billion year-on-year. Hard disks are down due to the yen's appreciation and the slow shipment in the first half, which was not compensated fully by the stronger shipment and the lower cost in the second half.

Compound semiconductors are down due to a decline in volume. Rare earths are up year-on-year. The Inorganics segment's operating loss was JPY 5.8 billion, down JPY 4.5 billion year-on-year. Ceramics are down due to the volume decline of Aluminum oxide. Graphite electrodes are down due to a decline in selling prices, caused by electric arc furnace industries production adjustment. The Aluminum segment operating income was JPY 4.4 billion, up JPY 1.9 billion year-on-year. High purity foil for capacitors are up thanks to the volume increase to the domestic market and Nantong, China.

Aluminum specialty components are down due to a lower volume to the automotive sector. Aluminum cans were up thanks to the increase in shipment volume at Hanacans. The Other segment operating income was JPY 1.8 billion, up JPY 400 million year-on-year.

In the lithium-ion battery materials, the shipment of laminate package material, called SPALF, increased for smartphones and for automotives. The shipment of SCMG, a node material and VGCF, conductivity enhancer, increased.

Please turn to Page 8. The chart shows sales and operating income by segment.

Page 9, please. The chart shows an operating income variance analysis. Compared with the February guidance, there is an increase of JPY 300 million, in Others. I won't go into details on this page.

Page 10 is consolidated balance sheet. Total assets as of the end of December 2016 stood at JPY 932.7 billion, JPY 7.8 billion lower than at the end of the previous year, due to the decrease in inventories caused by low raw materials and the fuel prices. Total liabilities stood at JPY 621.5 billion, a decrease of JPY 10.9 billion from the end of the previous year, due to the reduction in interest-bearing debt.

Total net assets were JPY 311.2 billion, an increase of JPY 3.1 billion from the end of the previous year, coming mainly from profit attributable to the owners of parent.

Please turn to Page 11. D/E ratio was 1.16x, an improvement of 0.04 point from the end of 2015. Shareholders' equity ratio was 31.8%, representing an increase of 0.3 points.

Page 12 shows the historical trends of interest-bearing debt and the D/E ratio.

Page 13 is consolidated cash flows. Cash flow from operating activities was JPY 68.9 billion, up JPY 7.8 billion, year-on-year, due to an increase in operating income. Cash flow from investing activities was a net outflow of JPY 53.8 billion, which is JPY 11.3 billion higher than the previous year. This is attributable to expenditures associated with changes in consolidation and acquisition of subsidiary stocks, as well as in an increase in term deposit. As a result, free cash flow was JPY 15.2 billion, down JPY 3.5 billion year-on-year.

Cash flow from financing activities was a net outflow of JPY 13.2 billion, representing a smaller outflow of JPY 8.1 billion this year compared to last year.

Please turn to Page 14. As of the end of December 2016, we had 10,146, a decrease of 415 from a year ago. In Japan it was an increase due to the consolidation of SunAllomer and in overseas, the headcount decreased by 617, mainly due to the reduction in hard disk business subsidiary, exceeding the increase in Hanacans, Vietnam.

Page 15, please. The page shows capital expenditures and the depreciation expenses by segment. These are unchanged from February 14.

Please go to Page 16. These are major assumptions of fiscal year 2017 forecast. The impact of integration with SGL GE is not included here. There are changes to the first half assumptions. For the remainder of the 6-month period, FX rate assumption is JPY 110 to the dollar, which will make the first half average JPY 111.8 to the dollar. The second half assumption is unchanged from JPY 105 to the dollar.

In terms of FX rate sensitivity, JPY 1 change to the dollar in appreciation will lower operating income by JPY 500 million per year. Domestic naphtha price assumption for the first half is JPY 40,300 per kiloliter. Aluminum LME price assumption for the first half is $1,912 per ton. Interest-bearing debt is JPY 352 billion, JPY 7.9 billion lower compared to the end of 2016. The headcount assumption is unchanged, with 181 more people to be on staff at the end of 2017, to reach a total headcount of 10,327.

Page 17 shows consolidated performance forecast. We have revised the first half figures to be in line with the current situation. But the second half figures are unchanged.

Net sales are JPY 745 billion, JPY 25 billion higher than the February forecast and JPY 73.8 billion higher than the previous year. The details will be explained on Page 18. Operating income is JPY 54.5 billion, JPY 12.5 million higher than the February forecast and JPY 12.4 billion higher than the previous year. The brisk demand for petrochemical products led us to revise the first half guidance upward. Electronics and other segments are also in favorable conditions.

Nonoperating loss is expected to be JPY 7 billion, this is JPY 1.5 billion less than the guidance. Because of the revised FX rate assumption for overseas subsidiaries, this represents a year-on-year deterioration of JPY 3.6 billion. As a result, ordinary income is expected at JPY 47.5 billion, up JPY 11 billion from February guidance and JPY 8.8 billion from the previous year. We are forecasting a net extraordinary loss of JPY 17 billion, which is JPY 5 billion less than the February guidance. Because we are front loading some of the structural reform and the profit improvement measures for the rebuilding and the base shaping businesses in this fiscal year.

So as a result, profit attributable to owners of parent, will come to JPY 25 billion, up JPY 5 billion from the February forecast. Cash dividends per share is unchanged at JPY 30 per share.

Page 18, please. The page shows progress in cumulative operating income, under Project 2020+. The total progress so far, which is the combination of 2016 actual and 2017 forecast is JPY 96.6 billion, which is JPY 10 billion higher than the second year medium-term plan target and it represents 68% of the final year target of JPY 143 billion. We will continue to focus on the achievement of the final year target by executing initiatives planned for this year one by one.

Page 19 shows net sales forecast by segment. There are some changes from the February forecast. Petrochemical net sales forecast is JPY 235 billion, which is JPY 17 billion higher than the February forecast and JPY 49.2 billion higher than the previous year. Olefins are likely to enjoy strong demand in Asia and the market continues to be favorable. The ethylene plant will remain in full capacity operation and increase their sales. SunAllomer will contribute on a full year basis. The Chemicals segment is expected to be JPY 145 billion, up JPY 3 billion from the February forecast and JPY 10.5 billion from the previous year. Electronics Chemicals expect an increase to sales from increased shipment to meet customers' capacity expansion demands. Functional Chemicals expect an increase due to volume growth. Electronics segment forecast is JPY 123 billion, up JPY 6 billion from February guidance and JPY 19.7 billion year-on-year. Hard disks expect a high -- slightly volume increase, coming from a higher shipment of Aluminum media for servers, but it should remain flat due to the yen's appreciation. On the other hand, the lithium-ion battery materials business, which was transferred from the Others segment should contribute with an increased volume. The Inorganics segment is expected to be JPY 57 billion, up JPY 2 billion from the February guidance and JPY 6.1 billion, from fiscal year 2016. Ceramics are up year-on-year due to the Aluminum oxide volume increase. Carbon business is slightly up year-on-year. The graphite electrodes market has bottomed out in 2016. There are signs of recovery in the steel industry of North America and other regions. However, it takes time for the electrode market to benefit from this. So this year is likely to remain tough environment as a result. The Aluminum segment is expected to be JPY 106 billion, up JPY 8 billion from the February guidance and JPY 7.4 billion year-on-year. Rolled product should remain strong and flat from 2016. Aluminum functional materials are expected to go up with strong volume for rolling stocks. Aluminum cans are expected to go up with an increased shipment to Vietnam.

The Others segment is expected to be JPY 134 billion, down JPY 5 billion from February and JPY 8.4 billion from the previous year. This is mainly due to the transfer of the lithium-ion battery material business to the Electronics segment.

Please turn to Page 20 for operating income forecast by segment. We made an upward revision to the first half forecast from the February guidance, while the second half forecast was kept unchanged. The Petrochemicals segment is expected to be at JPY 23.5 billion, up JPY 7.5 billion from the February guidance and JPY 2.8 billion from the previous year. Especially in the first half, the East Asia olefin demand is remaining tighter than expected, with ethane naphtha spread exceeding the assumption as of February. SunAllomer is contributing on a full year basis. The ethylene plant should continue full capacity operations. Organic Chemicals may slightly decline year-on-year due to a softer market.

The Chemicals segment expects JPY 15 billion in operating income, up JPY 1 billion from the February guidance and JPY 1.2 billion from the previous year level. In comparison to the February guidance, Electronics Chemicals shipment is stronger. So the basic Chemicals, such as chloroprene, rubber and acrylonitrile is faring well. Compared to the previous year, Electronics Chemical are up with an expected increase in the shipment of etching gases. While industrial gases and the basic Chemicals are expected to go down slightly, due to higher raw materials and fuel prices. The Electronics segment is expected to be at JPY 18.5 billion, up JPY 2.5 billion from the February guidance and JPY 4.6 billion from the 2016 level. In comparison to the previous year, hard disks are up due to volume growth and cost reduction in the first half, offsetting the impact of a stronger yen.

Compound semiconductors and rare earth are expected to go up. Lithium-ion battery materials were transferred to this segment from the Others segment. Inorganics are expected to record an operating loss of JPY 1 billion, an improvement of JPY 1 billion from the February guidance and a JPY 4.8 billion from the 2016 level. Ceramics are up due to the volume growth of Aluminum oxide. Carbons are also up due to a small increase in volume and cost reduction, in addition to the renewal of hydroelectric power plant. The Aluminum segment is expected to book JPY 6 billion, up JPY 1 billion from February guidance and JPY 1.6 billion from the 2016 level. Rolled products and Aluminum specialty components are basically flat year-on-year, but Aluminum cans are expected to increase year-on-year due to volume increase at Hanacans, Vietnam.

The Others segment is expected to be JPY 500 million, in line with the February guidance. It is down JPY 1.3 billion year-on-year, partly due to the transfer of the lithium-ion battery materials business to a different segment.

Page 21, shows sales and operating income forecast for fiscal year 2017.

Please turn to Page 22 for consolidated cash flow. For fiscal year 2017, cash flow from operating activities is expected to be at JPY 84 billion, up JPY 15.1 billion year-on-year due to an increase in earnings. Cash flow from the investing activities is expected to be on the same level as the previous year, resulting in a free cash flow of JPY 30 billion, up JPY 14.8 billion year-on-year.

Page 23, shows CapEx and depreciation. The forecast is unchanged from the February guidance.

Page 24 onwards is reference materials.

This concludes my presentation. Thank you for your kind attention.