NEC Networks & System Integration Corp
TSE:1973
Earnings Call Analysis
Q2-2024 Analysis
NEC Networks & System Integration Corp
The company experienced a 20% increase in orders in the Systems Integration (SI) sector, totaling JPY 137.2 billion, buoyed by manufacturing and public works. This upturn stands in contrast to the service sector's 7% decline, attributed mainly to a discontinuation of COVID-related activities in a subsidiary call center and decreased telecom expenditures. Not accounting for these exceptional items, services grew by 2%, indicating a steadier underlying trend. Meanwhile, SI/construction-related net sales surged by 18% to JPY 97.7 billion, and services dipped by 4% for similar reasons as orders, but would be up by 5% excluding the outliers. This interconnected growth between SI and services suggests a positive business dynamic in line with company expectations.
DX Solutions, engulfed in the digital transformation wave, saw a marginal 1% decline in orders, totaling JPY 61.1 billion, partially due to the same factors affecting service revenues. Despite these short-term headwinds, the business environment for DX remains favorable, with plans to intensify efforts. Network Solutions orders shrank by 11%, amounting to JPY 39.2 billion, as telecommunication carriers curtailed capital expenditures, and anticipated growth in social infrastructure was deferred. On the brighter side, Environmental and Social Solutions (ESS) orders leapt by 31% to JPY 83.1 billion, propelled by robust ICT construction endeavors and substantial quarterly project wins.
Regarding operating income, DX Solutions' heightened sales performance and strategic initiatives in growth areas like work-style DX led to JPY 1.2 billion hike to JPY 6.5 billion. Network Solutions operating income was relatively flat but managed a slight gain of JPY 0.1 billion, reaching JPY 3.4 billion. The ESS sector saw a remarkable jump in operating income by 3.1 percentage points, amounting to an increase of JPY 1.7 billion to JPY 2.5 billion. This notable rise is seen despite cyclical factors and showcases the fruits of concentrated sales efforts starting in the second quarter.
The company is progressing in its spiral-type growth model, underscored by an almost fourfold rise in consultation-type approach orders. Investment in human capital remains a pivotal focus, with the development of consulting personnel—a crucial element for the company's future prospects—lagging slightly behind targets but with expectations for accelerated progress. Similarly, a push for advanced DX professionals is underway, while strides are made among Beyond 5G experts, indicating a drive towards upskilling and fostering a high-achieving corporate culture, marked by internal innovation contests and employee well-being programs.
The company has adjusted its sales forecast upward by JPY 10 billion, now aiming for JPY 350 billion for the fiscal year ending March 2024. Operating income and net income forecasts remain unaltered at JPY 24 billion and JPY 14 billion, respectively, despite elevated sales and gross profit figures, since selling, general and administrative expenses are also rising to fuel future growth. Dividend policies remain positive, with a constant increase, upholding a 17-year streak of growth, reflecting the company's confidence in sustained profitability and shareholder value enhancement.
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I am Ushijima, President and CEO of the company. Thank you for joining the financial results briefing for the first half of the fiscal year ending March 2024. Let me start by taking you through our results for the first half of the year. This is a summary of our first half earnings. It was an uphill battle up to the first quarter, but recovery started from the second quarter with the first half earnings as shown in the slide. Orders received was up 11% year-over-year at JPY 191.2 billion. The telecom and carrier markets remained tough with cutbacks on spending, and there were shifts in investment timing from the first half to the third quarter. But the growth in manufacturing and public utility business and large government and overseas projects contributed. Net sales up 9% at JPY 155.2 billion. We had quite a big orders backlog and finally saw strong recovery in sales from the second quarter. If you look at Q2 alone, year-over-year growth was 10%. Operating income. Last year, loss-making projects overseas were terminated. But income increase on the back of sales and gross profit growth more than compensated for the SG&A increase, up JPY 1.6 billion at JPY 6.2 billion, a significant growth in profit year-over-year. Net income attributable to owners of the parent up JPY 0.9 billion at JPY 3.6 billion. Cash flows up JPY 1 billion at JPY 9.1 billion. Orders backlog up 21% at JPY 237.9 billion. The company made record high first half results in orders, sales and gross profit. This slide shows changes from Q1 to Q2. Orders were down slightly Q-on-Q for the reasons explained earlier, such as shift in investment timing among others. For net sales, Q1 was 6% growth year-over-year. But finally, in the second quarter, year-over-year growth reached double digits with order backlog beginning to move. Strong recovery from the second quarter is also reflected in gross profit numbers as well. Orders received and net sales by business model in the first half. Let me start with orders received. In SI, manufacturing, public works and large orders have been received, up 20% at JPY 137.2 billion. In the meantime, service was down 7%. Closure of COVID-related call center business in our call center subsidiary and cutback in spending by telecom carriers had an impact, down 7%. But if you take those factors out, it was 2% growth year-over-year. I, therefore, do not see this as a bad trend. The same could be said for net sales. Contribution of backlog sales is in full swing. SI/Construction was up 18% from the same time last year at JPY 97.7 billion. Service was down 4% for the same reasons as for orders received. If you take those factors out, it was 5% growth year-over-year. Service and SI business are both closely related. Rather than just seeing this as sluggish growth of service, service should be seen as the driver of SI/Construction business. This trend is, therefore, not bad. We rather see it as in line with our understanding of the trend. Next is orders received by segment. Starting with DX Solutions, down 1%, JPY 61.1 billion. Although strategic areas, such as work-style DX increased, closure of COVID-related call center business left an impact as explained earlier. Projects that were shifted to the second half are included in this segment. This explains the minus 1%. However, the market condition remains favorable, and we have a positive view on expanding the business. Network Solutions down 11%, JPY 39.2 billion. Telecom carriers continued control on CapEx spending weighed in. Social infrastructure business, which we initially expected in earlier pickup, is now expected to only take off on a full scale later than originally expected, perhaps next fiscal year. For those reasons, the first half figures were as you see on the slide. Environmental and Social Solutions, or ESS, up 31% and JPY 83.1 billion, marking a very strong growth year-over-year. This is due to ICT construction business, both in Japan and overseas, increasing, combined with large project orders awarded in the first quarter, which includes equipment sales and overseas construction projects. Turning to net sales by segment. DX Solutions up 14% at JPY 58.9 billion. The impact of closing COVID-related call centers had an impact on net sales as well. However, work-style DX and existing areas of business contributed to this performance. Network Solutions up 6%, JPY 38.6 billion. Both social infrastructure and carrier-related business grew owing to sales from orders backlog. Environmental and Social Solutions. Sales from backlog started to contribute on a full scale from the second quarter. Looking at the 3 months in Q2, this segment recorded a 15% growth year-over-year. Order backlog kept building up, but we have a sense that finally, sales started to move from the second quarter. Over to operating income by segment. DX Solutions was up JPY 1.2 billion to JPY 6.5 billion. Operating income increased due to sales expansion and growth in strategic areas such as work-style DX in addition to improved sales mix and gross profit margin. Network Solutions up JPY 0.1 billion at JPY 3.4 billion, flat growth year-over-year. This is due to reduced CapEx spending by carriers, delays in social infrastructure business, combined with slight increase in equipment sales and lower GP margin offset by increase in sales. Environmental and Social Solutions, or ESS, up JPY 1.7 billion to JPY 2.5 billion. Operating income margin was up 3.1 points. This is a significant increase. If you take onetime factor in overseas projects last year, the growth is flat. But full-scale sales from the second quarter contributed to profit growth. Others and eliminations up JPY 1.4 billion on the back of ERP system renewal and increase in personnel costs. Gross margin by segment. Challenges remain in Network Solutions with telecom carriers CapEx control still in place, leading to a drop in high profitability business and low profitable equipment-related projects in social infrastructure business, down 2.8 points. DX Solutions and Environmental and Social Solutions' performance was covered in my earlier explanation. Turning to nonfinancial aspects that are focused in the midterm plan. Let me give you an update on the spiral-type growth model we aim to build. The idea is not to just be awarded one project, but to approach customers from upstream before projects are realized to expand and solidify our customer base and to grow high added value business. First is to strengthen consultation-type approach, which is the starting point of our spiral-type growth model. We are gradually making progress in developing consulting capabilities and in diversifying revenue models. As a result, growth in orders received for consultation-type approach increased approximately 4x year-over-year. We are currently working to further enhance our consulting capabilities, develop and offering model and strengthen sales. Second point on customer base. The number of large recurring accounts in the private sector, where we want to grow, was up 6% year-over-year. We are in line with the plan. Our next step is to follow up with existing customers by leveraging on an ongoing business relationship to create more value and customer co-creation based on track record. Regarding expansion of high added value business, which refers to DX strategic areas, such as work-style DX, next-generation network security, among others. This was up 40% year-over-year in net sales. Here again, we are making progress in line with our plan. We will continue to focus on DX next-generation network to improve and expand the Symphonict service to make this growing business even bigger. Turning to initiatives to enhance human capital-oriented management, development of highly skilled talent and corporate culture. Let me give an update on where we are. To expand the spiral-type growth model and the new DX business, we plan to develop capabilities in consulting, DX and next-generation network. Regarding consulting personnel, we have 44 against our target of 190. Through internal discussions, the definition of consultation and the role of consultants were redefined. The revised definition is used to identify candidates and the talent development plan is being executed. By the end of this fiscal year, we need to more than double the number to achieve our target. While we may look slow at start, we plan to achieve the target as planned. The same can be said for advanced DX professionals. We started by taking stock of the required DX knowledge, AI development and data analysis and prepared a training curriculum to develop talent in this area. We are currently just south of 500 against the target of 1,190, which is a little less than half, but I am confident that the target will be achieved. Beyond 5G professionals. We already have quite a number of staff working on network, but our focus here is to expand their expertise into local 5G and beyond 5G. Progress is better than in other areas. We are at 1,350 against a target of 1,580. We intend to steadily secure talent and enhance the quality. Turning to the right side of the slide, embracing a corporate culture of continually taking on challenges and growing. We have been working on creating an environment to nurture such a culture. Hitch contests have been held in-house to accelerate co-creation and innovation and various initiatives are in place to ensure employees are working in good health. As a result, as you see at the top, our initiatives have been recognized and certified. I, therefore, think that steady progress is made here. Moving to forecast for the year ending March 2024 and dividend. The challenging Network Solutions business is compensated by the robust DX Solutions business. We do want to see further growth. Orders received, the business is as explained earlier, we will stick to our original plan to fully deliver on it. Net sales. In light of the situation in the first half of the year, we revised our forecast up by JPY 10 billion from the previous forecast to JPY 350 billion. Operating income and net income. Sales growth contributed to income growth and gross profit. But since SG&A is also increasing for future growth, our full year forecast remains unchanged at JPY 24 billion for operating income and JPY 14 billion for net income. Next is forecast by segment. Orders received. ESS had a strong first half, while Network Solutions is seeing delays in the market to pick up. Therefore, ESS was revised up by JPY 10 billion, while Network Solutions was revised down by JPY 10 billion. Regarding net sales, because of the reasons explained earlier, Network Solutions was revised down JPY 3 billion, DX Solution was revised up JPY 4 billion to JPY 125 billion, ESS was revised up by JPY 9 billion to JPY 135 billion. Operating income. Since Network Solutions market is still sluggish for the reasons explained already, we revised down by JPY 1 billion, while DX Solutions with strong performance was revised up by JPY 1 billion. Order backlog by segment. As shown in the slide, orders backlog is still increasing. We intend to manage it into sales. Dividend. Interim dividend is JPY 24.5 as planned. Year-end dividend is JPY 49. We plan to increase dividend for 17 years in a row. And with that, I'd like to conclude my presentation on the financial results for the first half of the year ending March 2024.