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TDK Corporation -- Moody's downgrades TDK's rating to Baa1 from A3; outlook stable

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Rating Action: Moody's downgrades TDK's rating to Baa1 from A3; outlook stableGlobal Credit Research - 16 Feb 2021Tokyo, February 16, 2021 -- Moody's Japan K.K. has downgraded the issuer rating of TDK Corporation (TDK) to Baa1 from A3.At the same time, Moody's has changed the outlook to stable from negative."TDK's Baa1 rating indicates its fundamental credit profile without Japan support, its positioning relative to global peers, and the risks related to increased investments to make large-volume power-cell batteries a new core business," says Ryohei Nishio, a Moody's Analyst.RATINGS RATIONALEThe Baa1 rating indicates TDK's fundamental credit profile without uplift for Japan's institutional support, which was a key consideration in the downgrade. This rating construct takes into account the company's material overseas operations, with its overseas sales and employee ratio now comprising over 90% and overseas production ratio over 80%.Moody's ascribes less institutional support to such companies with extensive overseas operations, because of their proportionally reduced reliance on the domestic economy. Moody's has perceived a gradual diminishment of institutional support in Japan, given likely support providers, including Japanese banks, have become more selective in providing support to companies in relation to their importance to Japan's economy.The Baa1 rating also better positions TDK's business and financial profiles relative to similarly-rated global manufacturing peers. TDK is much less diversified than ABB Ltd. (A3 stable) and Schneider Electric SE (A3 stable), which have double TDK's revenue and higher margins from their more capital goods-based product lines. For example, TDK's EBITA margin is about 8%-9%, compared with ABB's 10%-11% and Schneider at 13%-14%.TDK's business profile is closer to peers that have narrower business lines and scale, such as Nidec Corporation (A3 negative) and Hangzhou Hikvision Digital Tech Co. Ltd. (A3 stable), whose product mixes are weighted more towards components and equipment that have shorter product development cycles. TDK, however, has consistently spent more than Nidec and Hikvision and had negative free cash flow, while recording lower margins compared with Hikvision's EBITA margin at around 25% and Nidec's at 9%-12%. TDK's margins are weighed down by persistent losses at its sensor and magnet businesses.The downgrade also reflects Moody's view that TDK will spend more and incur higher risks over the next few years in its strategy to establish a new core business, such as large-volume power-cell batteries used in electric vehicles, electric motorcycles and energy systems. This investment program presents risks, because TDK is entering a new market against dominant competitors, in a product that has a long development cycle, with future returns made further uncertain by changes in technology and safety requirements. This strategic shift presents more risks than its established mini-cell battery business for consumer electronics, where TDK maintains a leading market position.TDK's Baa1 rating and stable outlook reflect its diversified business portfolio of electronic components used in a wide range of end-product applications. The company has a track record of navigating around technological obsolescence risk inherent in the industry through proactive asset sales and acquisitions. Moody's acknowledges that TDK has been prudent in managing its leverage by using proceeds from asset sales to help meet its funding gap and finance acquisitions in the past.FACTORS THAT COULD LEAD TO AN UPGRADE OR DOWNGRADE OF THE RATINGSThe stable outlook is based on Moody's expectation that TDK will maintain its competitive market position and technological edge for its core energy applications and passive component products, providing sufficient profit buffer while turning around its sensor and magnet businesses and establishing its large-volume power-cell battery business. Moody's also expects that TDK will maintain conservative management policies, including a sizable cash balance and moderate dividend payout.Moody's could upgrade TDK's rating if the company sustains positive free cash flow through the cycle. An upgrade is also possible if the company's profitability improves from turning around its sensor and magnet businesses, as well as establishing large-volume batteries as a core business. For example, upward rating pressure would arise if TDK's EBITA margin sustainably rises above 10% and debt/EBITDA stays below 2.3x, while maintaining positive free cash flow.Moody's could downgrade TDK's rating if the company's margin erodes as a result of intensifying competition and technological obsolescence in its core products or difficulties in its large-volume batteries business. Moody's could also consider a downgrade if TDK adopts a more aggressive financial policy. For example, downward rating pressure would arise if the company's EBITA margin stays below 8% and debt/EBITDA remains elevated above 2.75x.The principal methodology used in this rating was Manufacturing Methodology (Japanese) published in March 2020 and available at http://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1216244. Alternatively, please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.Headquartered in Tokyo, Japan, TDK Corporation is a manufacturer of electronic components.REGULATORY DISCLOSURESFor further specification of Moody's key rating assumptions and sensitivity analysis, see the sections Methodology Assumptions and Sensitivity to Assumptions in the disclosure form. Moody's Rating Symbols and Definitions can be found at: https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_79004.For ratings issued on a program, series, category/class of debt or security this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series, category/class of debt, security or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices. For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the credit rating action on the support provider and in relation to each particular credit rating action for securities that derive their credit ratings from the support provider's credit rating. For provisional ratings, this announcement provides certain regulatory disclosures in relation to the provisional rating assigned, and in relation to a definitive rating that may be assigned subsequent to the final issuance of the debt, in each case where the transaction structure and terms have not changed prior to the assignment of the definitive rating in a manner that would have affected the rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.For any affected securities or rated entities receiving direct credit support from the primary entity(ies) of this credit rating action, and whose ratings may change as a result of this credit rating action, the associated regulatory disclosures will be those of the guarantor entity. Exceptions to this approach exist for the following disclosures, if applicable to jurisdiction: Ancillary Services, Disclosure to rated entity, Disclosure from rated entity.The rating has been disclosed to the rated entity or its designated agent (s) and issued with no amendment resulting from that disclosure.This rating is solicited. Please refer to Moody's Policy for Designating and Assigning Unsolicited Credit Ratings available on its website www.moodys.com.Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.Moody's general principles for assessing environmental, social and governance (ESG) risks in our credit analysis can be found at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1243406.The Global Scale Credit Rating on this Credit Rating Announcement was issued by one of Moody's affiliates outside the EU and is endorsed by Moody's Deutschland GmbH, An der Welle 5, Frankfurt am Main 60322, Germany, in accordance with Art.4 paragraph 3 of the Regulation (EC) No 1060/2009 on Credit Rating Agencies. Further information on the EU endorsement status and on the Moody's office that issued the credit rating is available on www.moodys.com.The Global Scale Credit Rating on this Credit Rating Announcement was issued by one of Moody's affiliates outside the UK and is endorsed by Moody's Investors Service Limited, One Canada Square, Canary Wharf, London E14 5FA under the law applicable to credit rating agencies in the UK. Further information on the UK endorsement status and on the Moody's office that issued the credit rating is available on www.moodys.com.Please see www.moodys.com for any updates on changes to the lead rating analyst and to the Moody's legal entity that has issued the rating.Please see the ratings tab on the issuer/entity page on www.moodys.com for additional regulatory disclosures for each credit rating. Ryohei Nishio Analyst Corporate Finance Group Moody's Japan K.K. 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