Lixil Corp

TSE:5938

Earnings Call Transcript 2022-Q1

[Masako Takada, executive]

It is the scheduled time to start, so we would like to now start the briefing session of the first quarter results for the fiscal year ending March 31, 2022, for LIXIL Corporation.

At this time, once again, in order to prevent the spread of COVID-19 virus, we will be holding this session via internet live streaming and telephone conference. We seek your understanding.

First of all, we would like to introduce the presenters of today. From your left, Director, Representative, Executive Officer, President and CEO, Mr. Kinya Seto; Director representative, Executive Officer, Executive Vice President and CFO, Mr. Sachio Matsumoto; Senior Vice President, Leader of Investor Relations Office, Ms. Kayo Hirano. My name is Takada from the Public Affairs Office. I will be serving as the facilitator today.

Next, I will explain about the briefing session materials. Those who are viewing via web, please look at your web screen, and those of you who are participating via phone call, please look at the information for shareholders and investors posted material. Next, I will explain how today will be proceeding. First of all, from our President and CEO, Mr. Seto, there will be an explanation regarding the Q1 results for the fiscal year ending March 31, 2022, followed by a Q&A session.

I would like to explain how to ask your questions. [Operator Instructions] We are scheduled to end this session at 3:30 p.m.

Now from Mr. Seto, he will be giving you the briefing of the Q1 results for the fiscal year ending March 31, 2022. Mr. Seto, please.

[Kinya Seto, executive]

Hello, everyone. This is Seto speaking from LIXIL. So again, we are able to have very good results. The first quarter, we were able to have a very good start.

If you can move on to the next page, please. This is the regular page. Just to let you know that we're based on IFRS, so the operating profit based on the Japanese accounting system is core earnings, and we focus on core earnings to keep track of our profit based on IFRS, just to highlight that.

So for determining March 2022, the first quarter results, positive growth, both for the revenue and profit. For the first quarter, we're able to hit the record high for the core earnings and below, which was great, and the gross profit margin improved dramatically. And as a result, the core earnings margin has increased to 6.7%.

So far, looking at our financial results in the past first quarter, tend not to be that good. The third quarter, October to December, is the best, followed by the second, the first and the fourth quarter. So the first quarter tended not to be very good at the start. But this year, the core earnings margin started off at 6.7%, which was quite good in the midterm plan. Our target was 7.5%, so we have been able to get very close to that target. And although at an instant, looking at June, the margin was 8.4% for the month of June, another good number. So these are the key highlights. As for the revenue, in Japan, minus 1%, so a slight decrease for the Japan business, but because we had some divestment of the operation company, so excluding that, we're able to grow by 2%. And international was very good. Of course, last year was COVID-19, but international increased by 50% year-on-year. So comparing this against 2 years back, this was a good growth, especially for revenue in international was very good.

And for the core earnings, the international business, especially in the Americas and Europe, we were able to have a good growth. And also for Japan, as we had much progress for the structural reform, we were able to have a good number for the core earnings.

In Japan, as a result, JPY 23.1 billion was a profit for the quarter -- excuse me, for the core earnings, it was JPY 23.1 billion, and profit for the quarter was JPY 16.8 billion. Once again, the record high for the first quarter.

Now what is outstanding for the first quarter results is the gross profit has improved by 5 percentage points year-on-year, which is a big highlight. Of course, there are different factors for this, and the revenue has gone up by more than 10%.

So needless to say, within the cost, there is some fixed cost that is not necessarily related to the revenue. So if the profit goes up by 10%, then the cost ratio could go down that much. But more than that, the bigger factor for that is that in the international markets, we have selected the portfolio and focused on high-margin portfolio, and that was bearing fruit.

And we're able to have a good progress in the structural reform in Japan. Within the Japanese structural reform, we shifted more to the high-margin businesses, more to the renovation business, specifically, and those were quite effective. And a 5% improvement in the gross margin, I think this was the first and the best in LIXIL's history as far as I remember, and core earnings has gone up to 6.7%. EBITDA ratio is 12.5%, which is also a record high.

So -- on the other hand, as for the SG&A, not much increase for SG&A. Last year, because of COVID-19, we could not be engaging in much activities. Considering that, I think we were able to have a very good control for the past year, as we worked on the structural reform. This is one of the impact and effect. Now breakdown by segment. LWT, significant growth mainly in international. For the core earnings, significant growth as well. The portfolio is not functioning well. That's a major factor. And for Japan, the structure of the business has been transforming. And LHT also not on structural reform.

For the revenue, as I mentioned earlier, there was some divestment of the business. So as the revenue, it's down, but the core earnings almost doubled. And LBT is the only business that was still struggling a little bit for LBT after the Olympic Games are over. And with the pandemic, the projects are being more of a long term and postponed, so the revenue is not growing. It's actually coming down. So selectively, we are focusing on high-margin projects intentionally. That's another factor, and I'll come back to this later on.

But in a selective way, we are focusing on high margin. But building business, what is different from the housing business is that once the business that we take this year will be realized next year and the year after that. So for the past year, the businesses that we gained for the past several years, the low-margin projects, sort of offset the high margin. So we are confident we should be able to recover this going forward. For the H&S, there was some divestment of the business as well. So if you exclude this factor for the divestment, then basically, it's almost flat. So all in all, we're able to have a very good core earnings improvement. As for the equity ratio, it was reflecting the good results, leading to the improvement of the equity ratio.

Next page, please. As for the cash flow, last year, because the business shrunk because of the pandemic, and it started to inflate, so working capital is down for that part. But -- and also another factor is, last year, we implemented the early retirement program, and the cost for that -- so the cost for the early retirement program as part of the structural reform, that's a cash out for this year. So that's negative. But on the other hand, as much as we could, we wanted to shift the businesses to the platform to be asset light. So the basic expenditures has come down by 14 from 19.2. So that's the improvement of the cash flow. So offsetting that, all in all, JPY 8.1 billion of decline of cash flow for the operating. But for the financing, the cash flow, we borrowed for COVID, and that's gone. So combining those structures, all in all, I think, we're becoming more muscular, so to speak, and the changes in the cash flow have happened. If you look at the results by business segment, first of all, LWT, I may be repeating myself, the international business, in particular, Americas and Europe, performed strongly. In Europe, the margin is high, and it is growing. Compared to the previous year, it has improved.

Well, the previous year, there was COVID. So of course, this year, it is going to be better. But even compared to 2 years ago, they are achieving good numbers. So for Americas and Europe, or EMEA, they have contributed by large.

On the other hand, we are separating as Europe, Middle East and Africa. And for Africa, we have a small business. But this year, there were riots in some countries, and they were quite a confusion, so we have struggled in Africa.

As for China, it was good. And as I have mentioned last time, China, there is a real estate total volume restrictions that is imposed. So they are facing a situation of the Japan's real estate bubble. So for us, we have to be cautious towards the business for developers. We need to thoroughly collect and also increase the small-scale businesses, and we are actually shifting our business. Other than that, the business itself, we can largely grow this further. But switching the business model, we believe that we will become more sound and have a sound business and grow. And for Asia Pacific, we have struggled last year due to the COVID-19 pandemic. But from June to July, various countries are experiencing a lockdown once again. So regarding the Asia Pacific region, it is not fully satisfactory situation yet.

On the other hand, for Japan, the demand is strong. Therefore, of course, we're able to have a good result.

Overall, the structural reform is contributing by large, and as core earnings for both international and Japan together, we were able to achieve a large growth, with 11.2%, the core earnings margin, that was a good result, too.

As for housing technology, excluding the divestment, we experienced growth in both revenue and profit. The January, March as new housing starts, we will see the result in the sash business from the April to June. But environment-wise, it is not such a good environment. But depending on the new housing start, business originally has increased by and large in the renovation business.

And also, this year, the core products will be the products that is generated from the platform strategy. Therefore, through that, we'll be able to -- we have improved the core earnings margin almost double of what it was. And I believe that the housing technology business has put their full efforts in this. And on the other hand, for building technology, as I've mentioned, they are struggling a bit. However, the revenue is recognized in stages. So the business that is conducted right now, even though the revenue is sacrificed, switching over to the trend of only bringing in the businesses that are profitable will lead us to generate the improvement of profitability from next fiscal year onwards, and we are confident about that. For the housing and service, if we exclude the divestment for the first quarter, it will be at the same level as the previous year.

That is all -- excuse me. Now next slide, please. So regarding this first quarter of this year, it has proceeded in line with the plan steadily. So the work is all done by the people at the front field. Therefore, there are some issues that they have to face, such as they may have to increase the price or they had to increase the price and they had to respond to the COVID situation, but they have thoroughly responded to the situation. So this is a quarter that we are very confident about. Thank you.

[Masako Takada, executive]

I would like to have a Q&A session. So we're accepting questions. [Operator Instructions] So let me introduce the first question from Macquarie Capital Securities, [ Mochizuki ] question.

On Page 19 of the documents, the first quarter and the full year plan by segment. LWT and LHT core earnings margin for the first quarter is actually progressing over the full year plan. I believe that the first quarter results were better than the plan. So is it possible that LWT, LHW full year core earnings margin would be better than the guidance or because of the shortage of number for the second half, it could be a risk factor? So is it too early to say that you could go upside for the core earnings margin for the full year, for the possible factors, for the fluctuation of the core earnings margin, if you can elaborate about the current forecast?

[Kinya Seto, executive]

The first quarter results were actually, yes, better than the plan. They are doing quite well, and LWT, LHT full year core earnings margin, is there a possibility that will go higher than the guidance? Yes, there is a possibility.

But the second factor, because of the potential risk factors such as the shortage of lumber, well, these risk factors have been contemplated from last year already, as I talked about this last time as well. For instance, copper and aluminum price is going up. Basically, they are to pass it on to the products. So there could be a delay of the timing that could lower the margin instantly temporarily. But I think what is expected of the management is to make sure that period is as short as possible. For the wood shock, so to speak, the shortage of lumber, compared to what we had expected -- anticipated, there should be less impact to the progress of the housing. But for the smaller-sized housing companies, there could be some impact. But of course, we have to take that into consideration. And be it pandemic or be it the shortage of lumber or be it the commodity prices going up, basically, those are all one-off issues that we can handle and address. So for each factor or issue, make sure that it's not going to be a spike. That's something that we have to be creative at the top management. But I don't see them as a fundamental issues. Now as for the fluctuating factors for the core earnings margin, as I mentioned, commodity or the delay of the containers or the so-called wood shock, the shortage of lumber, the currency -- foreign currency and then pandemic like COVID-19, there could be many different factors that could fluctuate the core earnings margin. But basically, on that part, we don't think we need to change the direction that we have been walking. If there are some bumps, of course, we need to be creative how to avoid those bumps. If we do that in a steady way, we should be fine.

[Masako Takada, executive]

I would like to take the next question. Mitsui Sumitomo Trust Asset Management from [ Mr. Takagawa. ] There are several questions that we have received, so we would like to share that with you by dividing it into 3. The first, the market environment, domestic and international and also the competitive environment and the consumer confidence, and for the new build and renovation, what are your thoughts?

[Kinya Seto, executive]

First of all, the market environment for Japan and international, if I explain everything, it will be a lot. But first of all, regarding the Japanese market, basically, for the newly built or new housing, it is going to follow a gradually declining trend. And I thought that due to COVID and the wood shock, I thought it is going to rapidly decline. However, we have not reached that situation.

The new housing starts are occurring for the people who have moved to the suburbs. So compared to the previous year, is it worse? It's not. It's how we look at it. But as we head towards the end of the fiscal year, if the small homebuilders cannot procure the material due to the wood shock, then maybe during the latter half, there may be a delay. But it is not going to be a dreadful situation.

And for the international situation, the Americas is very strong. How is that -- how long is that going to continue? It is going to, because regarding the renovation type of work, we are receiving orders for quite a foreseeable future for several years. And for Europe, our water products are in a good situation. And also the European market itself, the low-price emerging country products is having a difficulty to enter the market. That's how the market situation is set up, so that is going to continue for a while.

The concern area that we have in a fundamentals perspective, the market will be China because how is the real estate market going to be moving forward, we do have the fundamental concerns. But we are shifting our direction there in terms of business. We are switching over to the small-scale renovation businesses. And there are many people who reside in China, and their income is increasing. And therefore, we believe that it is not going to worsen.

For Southeast Asia, short term, due to COVID, we believe that they will be facing a difficult situation, but that is a one peak of a difficult situation that is going to happen temporarily. So we believe that it is going to gradually recover. So in terms of market situation, there's a delay, but it's just one bump. As for the competitive environment, we have been working on the global competition. However, it seems that the surrounding situation has slightly changed. What I mean by that is from -- there's a flow from -- the product flow from China to Americas. Our competitors are importing quite a bit from China, so that part is becoming difficult. And for Europe, too, they were importing the emerging countries or China, but there are a lot of regulations that are imposed now for that. So for the competitive environment for us, it is becoming a bit easier for us. What was the last one?

[Masako Takada, executive]

It's the market, the competitive environment and the consumer confidence.

[Kinya Seto, executive]

Well, I have been explaining this repeatedly in this briefing session. Due to COVID pandemic, the consumers, instead of traveling or eating in restaurants, they are spending time at their homes, so they want to better their homes. So the project type of confidence -- consumer confidence may be slightly weaker.

[Masako Takada, executive]

The second question from [ Takagawa-san ], the core earnings for the first quarter for the domestic LHT was JPY 10.9 billion. What were the specific products or the renovation products, the reason for the improvement?

And for the international LWT core earnings for the first quarter, JPY 15.9 billion, again, ASP grow. What was the reason for the improvement, if you can elaborate further?

[Kinya Seto, executive]

For Japan LHT, as explained earlier, the basic revenue has not changed that much, but our structure is shifting more to renovation, which is critical for us that there is a shift more to the renovation. In the past, when it comes to renovation, the traditional idea was simply around water. But now, there is more interest around windows and exterior. And because of increasing natural disaster, there is a stronger demand for the shutters. So the renovation ratio is going up, which is a positive for the margin.

Another major issue is that this is a public issue to improve the environmental issues, so that's why we need to appeal. Needless to say, on our part, we've been working on structural reform, not to be involved in a stupid competition, if I may say it that way, to make sure that we go for the profitable business to have a discipline in that, and then the cost reform, so to do the platform production and to -- not to focus on the low-margin businesses.

So these are really all fundamental. So rather than the market situation, but rather, I think, we are stronger ourselves. So going forward, related to the earlier question, the aluminum price is actually surging. And because of the timing in the certain months, the business may [indiscernible]. But over the long term, I think we should be able to overcome that. Now for LWT, on the other hand, all the products are actually improving. But especially in Europe and Americas, once again, if I may repeat, those markets were very good, especially in the consumers' confidence. I think, for some time, we can have high hopes for that, those regions. In Americas, we read the news articles about interest rate or maybe not that much of a new housing. But in the case of the Americas, first comes renovation, remodeling. Because they don't buy used, renovated houses, they have to build the new houses.

So considering that kind of housing renovation models, I think it will continue for some time.

Now for American Standard and GROHE, especially for American Standard, well, toilets were not profitable. That was our biggest headache. So by improving margin -- or we negotiated so that we can improve the margin. We're able to improve the cost and also increased a variety of the services and products. So I think we're able to do a good job in the portfolio management.

[Masako Takada, executive]

This is the third question from [ Mr. Takagawa ]. The wood shock or the materials -- raw materials increasing, how is that going to impact you? And how are you going to absorb that, including passing on the cost increase to the price?

And the restructuring reform has had gone through it's cycle, and the market is looking at the growth. So what is the timing of disclosing the reexamination of the midterm plan? And how are you going to further grow?

[Kinya Seto, executive]

Well, it is as explained. And what is happening in terms of raw material cost hike at the appropriate timing, we will be passing it on. And depending on the product, maybe that timing may differ. Regarding the wood shock, if this progresses, then the cost is to increase. And that part, the customer may have to take a burden of it. And whether that's going to decrease the demand, that's not going to happen. We have to continue the passing on the cost increase. The hot increasing material, the steel, till now, it was copper or aluminum. But now steels are increasing by large. And for the bathrooms, here, there is a rapid increase in price.

But for us, of course, there's the issue of at what timing, but we will have to pass on the increase of the raw material cost. And this large restructural reform phase has gone through one cycle, but we still have things to do. But we said that we're going to first grow international business, and the product and the market that's going to make more money, we're going to focus on this. And you can see that we have been achieving that overseas business.

Our international business has grown by 50% compared to previous year due -- even though there was COVID impact, the international business, compared to 2 years ago, for example, Americas 15% and Europe, compared to 2 years ago, they have grown over 30%. So even though we don't have that big, they have grown. So for the international business, strategically, it is going well is how we look at it. And regarding which product it is, there are products that will decline for the new housing. But the key point right now is not just the water products, but the window and external walls. We are strategically growing these products.

[Masako Takada, executive]

Let us move on to the next question. From Morgan Stanley MUFG, Katsuyama-san question.

LHT's core earnings margin is 9.7% is outstanding. It may not just be due to the structural reform. But as the new housing is not necessarily growing, I think the mix improvement with good renovation seems to be another big factor. So how do you see the sustainability of the momentum of the renovation and the sustainability of the core earnings margin for LHT?

[Kinya Seto, executive]

So first of all, renovation for us in Japanese strategy, that's one of the most important strategies for us, as I have been saying, not just a water related, but also renovation of the windows and exterior walls, interior, exterior, especially for the external walls and windows in order to reduce the carbon footprint. As a government policy, at least within Scope 3, that will be the biggest point. Japan, as a whole, 40% of energy is spent in buildings, and the energy is lost the most through windows. So we will be launching the products to deal with that. So we think we can further grow this. In that sense, it is in line with the government policy and in the -- in line with the trend as well, which will generate sustainable growth for us.

[Masako Takada, executive]

Next, Goldman Sachs Securities, Mr. Okada, it is a question.

Domestically and international business both have experienced a good strong revenue. But how are you analyzing the impact reaction effect from last year's COVID-19 situation? Do you think that this increasing revenue trend is going to continue moving forward?

[Kinya Seto, executive]

When you look at the numbers, the part that is difficult to understand is that there are areas that have declined. In the last 2 years, we have been divesting the operating companies. And also for the newly built, we are looking at the profitable ones, and we're intentionally not doing the business that is not profitable.

And so because of that, there's those type of offsets, so it's difficult to understand. But basically, the international business, they are strongly growing. And we have been implementing measures to grow, and that is bearing fruits right now.

On the other hand, for the Japan business, for the renovation business compared to the previous year, it has grown about 15%. Yes, so in that sense, the profit is high, and we've been focusing on the areas that have a potential for future growth, and it's continuing to grow.

And the emerging markets, we believe, will grow, too. But we -- there are areas that, intentionally, we are decreasing. So there's a plus-minus, and there's a negative part. And the negative part gradually disappearing will be from next year onwards. But having said that, the new housing starts declining, that is still going to remain as a negative factor.

[Masako Takada, executive]

Next question from Teraoka-san of Daiwa Securities.

So you've been focusing on the renovation from the past, but is there any background why you have been able to grow it so well?

[Kinya Seto, executive]

As a matter of fact, in our case, let's say Toto, of course, is our competitor. Toto is a water-related service company, whereas we handle windows as well as metal-related, but it was mainly the new housing. That was a weakness. So that weakness needed to change. So renovation equals water, but change that to renovation related to the metals, which is very possible and critical, and I always talk about this. What we see is, for instance, Europe and America, renovation business, 3 new housing, 1 was -- reform is 1, new housing is 2. So that has been the case.

So what's the difference? Looking at the products, these metal-related products makes a big difference. So you could only buy the metal products at the time of the new housing. But clearly, when we think of what to do with the entire globe and with the government subsidy system and launching the products that are in alignment with that, as a result of that, to change products and services in alignment with the global environment. We have been quite successful in doing so, and we will be successful. And not just the environment. Of course, the environment is about the climate change, but also more natural disasters that would increase the demand for the shutters to protect your houses.

So compared to Europe or U.S., Japan had been behind, but I think we've been catching up. And for the water-related, we are actually losing over Toto. Toto is strong with renovation, with higher margin rates. We are better with new housing. That's why the lower margin and not being able to win over Toto.

So we should learn where we could and to focus more on the renovation. That's why we've been working. And products ourselves are being well recognized and growing as a result of that. That's how I see it. If I dare to mention this, compared to Toto, we're good at kitchen and bathrooms, whereas Toto is good at faucets and toilets, and those are high in margin. Kitchen and bathrooms are lower margin. That's why our margin is lower compared to Toto. But kitchen and bathrooms, not just kitchen and bathrooms, but also faucets, we tend to -- we are becoming stronger. That's another successful factor for the renovation.

And online showroom is another big factor, the differentiating factor as well.

[Masako Takada, executive]

Next question, Mitsubishi UFJ Morgan Stanley Securities, Mr. Yagi's question. What is the reviewing situation regarding the midterm plan? If -- can you please share with us your thoughts by each business segment as much as possible?

[Kinya Seto, executive]

The -- strategy-wise, we have the internal midterm plan. Whether we're going to disclose that or not, we have not decided yet. From our perspective, this part, in fact, as a company may have a competitive advantage by not disclosing it. And therefore, we're still considering it. And regarding by each business segment, I may be repeating myself. However, as in Japan, the #1 issue is the new housing starts in the long term is declining, and that declining part, we need to cover it through renovation and not just renovation, but we will be launching our own products that are more eco-friendly. And this time, first in Japan, there's a resin sash that can be recycled, and this is something that our competitors are not doing. And therefore, by increasing such type of products, at LHT, it is possible to further grow. And on the other hand at LHT, because in the past, the margin was very low, that is why it was difficult to respond to the hike of raw material prices. And the volatility was large, but we're able to resolve that.

For LWT, a similar situation occurs. But for LWT, we need to have a logistics reform in order to further move forward in digitalization. So the key word for us is digital. It seems that previously, there was a discussion that our structural reform has went through one cycle. But still, we need to proceed in the digitalizations. With proceeding that, there will be further digitalization, and we can make further improvements.

For the international business, in terms of portfolios, we will be concentrating our resources where we can earn the most. And when we think about beyond the midterm, we need innovation. Companies that does not have innovation cannot win the race. And for us, we are seeing many seats of innovation.

[Masako Takada, executive]

Thank you. From Mitsui Sumitomo Trust Asset Management, [ Takagawa-san ] raised a question that was just answered by Seto-san through e-mail. So I take that this question by [ Takagawa-san ] has been answered already.

Next from SMBC Nikko Securities, Kawashima-san's question. International LWT, especially the United States and Europe business were good. So apart from the market factor, if you can introduce any measures that you've taken, which were quite effective.

[Kinya Seto, executive]

Well, one thing is that in Americas, the toilets were actually not a lucrative business. But from earlier on, we tried to narrow down the SKUs, and vis-a-vis the customers.

We also increased the prices for what we should sell. The efforts of narrowing down the SKUs as a result of working on that in the United States and Europe, with the pandemic COVID-19, one thing we can say is that when people buy things at home, there's a tendency that they buy things that they know already.

If you go to a showroom, there's a tendency, they tend to go for something new. But if you have to stay home because you're sick or something else, there is a tendency that you buy things that you already are familiar with, and there is a concentrated demand on the products that you're already familiar with. So we knew that from the past statistics.

When the pandemic occurred last year, the first thing we did was the best-selling SKUs. Production should be continued. Make sure that the production continues for the best-selling SKUs as we manufacture all around the world. By selling SKUs, even if some plants is shut down because of COVID-19, it can be offset by other production facilities, which was good. So increasing price, go for the higher margin and now [ down to ] SKUs. So those were quite effective, best in the United states and for Europe. For the faucets narrowing down the SKUs was quite effective. And also for Europe, another factor is that new products, the flushing system part, we were successful. That could be another factor. Another point, not necessarily this time, but what we've been working over the long term is that good margin growing businesses to shift to those areas. And for others, we have to be cautious. We've been doing that in a steady way. So Americas, we had to sort of go down before we started to go up. But now we're in a full flexed [indiscernible] to be able to grow. China for the past 2 years, the situation has been changing, so we are also changing ourselves to accommodate that. So between now and 2023, I think we'll see some impact in China as well.

[Masako Takada, executive]

We still have time left, so we hope that we can receive your questions. [Operator Instructions] Thank you. It seems that is all for the questions, so we would like to conclude today's briefing session. With this, LIXIL Corporation first quarter results for the year ending March 2022 will conclude. We seek your continuous support and understanding. Thank you very much.

[Statements in English on this transcript were spoken by an interpreter present on the live call.]