THK Co Ltd

TSE:6481

Earnings Call Transcript 2020-Q2

[Akihiro Teramachi, executive]

I am Akihiro Teramachi, President and CEO of THK. I would like to take this opportunity to express my appreciation for your enduring support. First, I would like to thank you for your understanding on holding an online result meeting instead of physical face-to-face meeting. I feel that the COVID-19 situation is still quite serious, and we decided to take caution in holding a large physical meeting. I would also like to extend my appreciation for your ongoing support and your attendance to the online result meeting despite your busy schedule.

Let me first share with you the overview of the results for the second quarter of fiscal year ending in December 2020 using Page 3. Consolidated net sales was down by 30.2% year-on-year to JPY 103 billion. The global spread of COVID-19 forced the automakers to suspend their plant operation, which significantly affected our Automotive & Transportation business. For the Industrial Machinery business, demand for machine tools mainly for the auto sector remained low, while electronics-related demand recovered on the back of 5G and data center-related demand. However, the revenue was down compared to last year when the segment order backlog was at a high level. Against such circumstances, we strove to reduce fixed costs and control overall costs rigorously, but the impact of the sales decline was significant, resulting in a consolidated operating loss of JPY 1.4 billion. Despite failing to achieve our first half plan for consolidated sales and operating income, cost control helped the Industrial Machinery business segment mitigate profit declines, and we were able to secure operating profit of JPY 3.5 billion.

Next, let me highlight the sales breakdown by regions on Page 4. Although we endeavor to cultivate new markets such as medical equipment and railway systems, due to the reasons mentioned in the previous slide, revenue in each region was down year-on-year.

Now let's move on to the operating income and loss on Page 5. We ended the quarter with an operating loss of JPY 1.4 billion.

Let me elaborate on the factors that pushed down the profit. First, with the Industrial Machinery segment compared to the first half of last fiscal year. The factors that pushed down the operating income included JPY 13.6 billion negative impact from lower sales and volume, JPY 1.7 billion due to the impact of change in the variable cost ratio, JPY 400 million stemming from currency fluctuation and JPY 900 million from reclassification of other income and other expenses. Having lowered the fixed cost by JPY 3.6 billion, thanks to augmented cost control, contributed favorably on the operating profit.

Next, let me explain about the changes in the operating profit and loss in the Automotive & Transportation business using Page 6. The profit decline was caused by the negative JPY 5.8 billion impact from lower sales and minus JPY 900 million due to reclassification of other income and other expense. On the other hand, thanks to our initiative to bolster cost control, lower fixed costs by JPY 3.2 billion, improvement in the variable cost ratio of JPY 200 million and currency impact of JPY 100 million contributed positively to the profit. We aim to make some improvement in the second half with sales recovery and continued efforts on implementing the recovery plan we presented at the outset of the year.

I will now go through the balance sheet items on Page 7. Total assets declined by JPY 12.6 billion year-on-year to JPY 456.2 billion. In current assets, cash and cash in account increased by JPY 3.5 billion due to the following breakdown: The operating cash flow was positive JPY 13 billion. The investment cash flow was negative JPY 9.5 billion due to CapEx, among other factors. Financial cash flow was positive JPY 700 million, and there were also some foreign currency translation adjustments.

With lower sales, trade and other receivables declined by JPY 8.8 billion, and the inventories were up by JPY 1.7 billion. Fixed assets decreased by JPY 4.9 billion due to property, plant and equipment coming down by JPY 2.7 billion and goodwill and intangible declining by JPY 1.6 billion.

Liabilities went down by JPY 2.6 billion year-on-year to JPY 175.1 billion mainly due to the following factors. There was an increase of JPY 2.7 billion in corporate bond and bank borrowings and a decrease of JPY 7.1 billion in trade and other payables.

Net assets were down by JPY 10 billion year-on-year to JPY 281.1 billion. The main factors were dividend payment of JPY 1 billion, a negative JPY 3.3 billion due to quarterly net loss as well a drop of JPY 4.1 billion in foreign currency transformation adjustments.

Next, let me talk about the company's key measures. First, let me share with you THK's measures against COVID-19 on the back of the global pandemic and the group's current situation on Page 9. Starting on February 3, we have been holding the global COVID-19 response meeting every business day by establishing the remote work team at the head office and communicating with the overseas offices to coordinate the calls as needed. At the peak, 90% of the headquarter employees were working remotely from home, which went down to 50% after the pandemic situation eased. However, given the recent situation, the total working ratio has been raised again to 70% now.

We also created a value chain team to design an automating working schedule with 2 teams, where the work can only be carried out by [ commuting ], such as some of the headquarter functions and Techno Center, so that globally, the operation will not be disrupted. We've also made a group-wide communication multiple times to share our guideline to all the employees globally and their family members in terms of how to take precautions on preventing the spread of the virus outside of the working hours. Summer break started from August 8, and we have also communicated recommendations and precautions to be taken during the summer holidays.

We have also been active in our sales engagements using web conference tools and Omni THK. We are ready to do whatever we can to support the fight against the virus. Although we haven't been too open about our social contributions, when Japan was hit with the first wave of COVID-19, THK procured 15,000 medical N95 masks and donated them to the mask team jointly established by the Ministry of Health, Labour and Welfare and [ med team ], which were ultimately delivered to the medical institutions. We also submitted our proposal to support the manufacturing of respirators, but we were dropped from the list of candidates. We are willing to offer support in areas where we can contribute with our expertise.

Now let me also explain where we, THK Group, stand today. In China, our operation was suspended from Chinese New Year to mid-February. Since then, we have gradually resumed the operation from areas that were possible. TME, our plant in France, followed the French government's policy and stopped the operation from mid-March to mid-April. The situation was most challenging with Automotive & Transportation business. On top of stopping the operation of our own plants, we were not able to supply our products even after resuming our operation as the automakers had closed their plants for a longer period, and we had no choice but stop our operation for a long time as well. However, many of our global customers deemed us as essential business, a business that is indispensable, and we were requested to continue our supply. We put in rigorous management measures, which helped us to continue our business without any major disruptions. We are very proud of this fact.

Please turn to Page 10. Despite adversities with COVID-19, we also see new opportunities. First, with more teleworking and online studies, data traffic is growing significantly with more people using the network, and data center capacity has been ramped up. These are all leading to significant jump in semiconductor demand, and we definitely want to capture that opportunity. We expect further market expansion, and we aim to grow our business in a timely manner.

Secondly, a new need of avoiding person-to-person contact is rising, which should lead to demand expansion for automation in various fields. For example, we see a shift from shopping at physical stores to e-commerce and usage of services such as Uber Eats to procure food, ingredient and cooked meals. On the same note, growing demand for delivery and logistics services involves many people. COVID-19 is spreading in those logistics facilities. And thus, contactless form of logistics service is growing, and we will capture such demand for automation.

Thirdly, the auto sector is under pressure with less people traveling, resulting in decline in sales and production. With the suspension of manufacturing operation, the OEMs have suffered from production and sales decline. On the other hand, China seems to be recovering. With the spread of COVID-19, we see need for avoiding human contact in public transportation. In the auto sector, there is a rising sharing need such as Uber, with which you share the transportation service as needed. However, there is a concern regarding who used the sharing service before yourself, and some people prefer their own transportation means. In that sense, there is a heightened demand stemming from wanting to own cars, motorcycles and bicycles. Therefore, as the economy recovers, people would revisit the sharing service and once again realize the relevance of owning one's own transportation mean. That is likely to lead to growth in new demand. Over a long time, once the situation with COVID-19 settles down, such trend for ownership may revert. But temporarily, the demand should go up.

Fourthly, we expect greater medical demand. Right now, there are both positive and negative factors. Special demand is spiking up for COVID-19-related products. On the other hand, conventional medical services are not being carried out due to perceived risk of COVID-19 within hospitals because people are putting off comprehensive medical checkups or refraining from going to hospitals for light symptoms. Therefore, demand related to medical equipment used for conventional treatment is declining. In that sense, right now, there are both the positives and negatives from COVID-19. However, once the situation settles down, medical institutions would go back to cruise mode, and demand for macro equipment for conventional treatment should grow, just like we are seeing in China.

In sum, we see short-term negative impact from COVID-19. But over the medium to longer term, business opportunity for THK should be growing.

Please turn to Page 11. Even with what we are going through, as I have explained, the pillars of our growth strategy remain unchanged. They are full-scale globalization, development of new businesses and achieving change in business style. We will strive to proceed further with this strategy and expand the business domains.

On Page 12, you can see the key initiatives we are taking for the Industrial Machinery business and Automotive & Transportation business.

Let me elaborate and start with the development of Omni THK on Page 13. We have presented the details of Omni THK a number of times already. It enables non-face-to-face sales activities using smartphones and PCs. User base for Omni THK is growing. Large companies can connect this system with their own. And by viewing the screen on Omni THK, customers can access their EDI and can place the orders through us.

We are also developing Omni THK beta for customers of smaller size. The cutover is yet to be completed. But hopefully, we want Omni THK to be available on the Internet, ready to be downloaded before the end of the year, so that the customers of smaller scale can shop THK product just as they would buy goods on Amazon.com. Omni THK is a touch point with the customers for the front team. Yet what is critical is the backyard system within our company. In that sense, we are making further progress by capitalizing on digital transformation by using RPA, engaging in inside sales activities with Salesforce, analyzing data with Tableau, a data analytics software, and using marketing automation. The goal is to achieve the ultimate efficiency, rigorously managing inventory, plan for the optimal production by demand forecasting and optimized raw material procurement. As I explained in the previous meeting, human involvement is the biggest factor that slows down the whole process. By leveraging on the use of technology, we want to redeploy talent to other responsibilities.

Next, let me also explain about our development of OMNIedge on Page 14. Since starting to take orders for OMNIedge to service LM Guides in December 2019, it's been adopted by customers from a wide range of sectors, starting with auto parts, electronic parts, materials, food, pharmaceuticals and cosmetics.

Here are some of the customers' feedback. "We felt there was a limit to simply relying on seasoned engineers' sound and visual check to determine the replacement timing of LM Guide. But with the introduction of OMNIedge, we no longer needed to depend just on the experiences of the seasoned engineers. When machines for which we do not own backup broke down, that incurred a huge loss in the past. We expect OMNIedge to help mitigate that risk. What incentivized us to adopt OMNIedge was the low cost. Equipment used under harsh environment require frequent component replacement. We are hoping OMNIedge will be effective on such equipment to enhance the utilization rate."

So these are what we are hearing from our customers. Originally, we have planned to install OMNIedge to many more customers. But unfortunately, due to COVID-19, we have not been able to dispatch our employees to the customers' sites. Instead, we actively installed OMNIedge at our -- all facilities. We have already installed OMNIedge to THK's domestic plants to over 700 equipment and have been building up the database. With a more robust database, we've been able to increase business discussions we are having with our customers. One benefit of work from home is that traditionally, such proposals and customer visits were made by just the salespeople, whereas now more people from different functions can get involved easily, resulting in higher efficiency and increase in the number of business discussions.

Going forward, with further shift to automation and operation without people engagement, machine monitoring will be increasingly important. OMNIedge will be indispensable in order to assure uninterrupted plant operation. We also want to offer a new version which can be used with products that are not from THK. That should further enhance the usage rate by customers, and the benefit of the OMNIedge service will become even greater. In addition to simply offering a product, we will add value to our offering by using IT.

Please turn to Page 15. As shown on the slide, with an anticipation of medium- to long-term demand expansion for the Industrial Machinery business, we have been expanding our global production footprint. THK MANUFACTURING OF VIETNAM or TMV, shown at the bottom of the slide, was completed in November 2018. Since last year, the production of major LM Guide has commenced, and business is growing steadily. We expect the operation to reach close to full-scale by the end of the year, and current business is outperforming the plan.

Yamagata Plant was completed in March 2019 and started the operation in real terms from June. It is a highly automated cutting-edge plant. And with the recent business expansion into semiconductor and medical fields, the operation of the new plant is making a significant contribution.

In Korea, which is a major semiconductor market, we completed SAMICK THK Daegu Technopolis Plant in the industrial park. Equipment are being transferred from the old plant to this plant, and we are also purchasing additional equipment with the added capacity. The land size is 50,000 square meters with a floor space of 43,000. And as a single fab, it boasts the largest size within THK Group. The plant will be in full-fledged operation from October, and we will capture the demand from the Korea market.

We are also working on our new plant in India, which was originally slated to be completed in April and to have started our operation from July. However, with the spread of COVID-19 in India, construction work has been suspended. With traveling across the provincial borders becoming somewhat eased, we are restarting some of the construction work, and completion is scheduled for around fall. However, given this delay and the current situation in India, the operation schedule will be pushed back by 1 year, and we are planning to start around July or August of 2021. Some equipment have been delivered following the original schedule, and they have been safely stored.

Page 16, please. We have been successfully broadening the scope of our product application to areas outside of the capital goods by leveraging on the core technology of LM Guide system that we have built to date. As I explained earlier, non-face-to-face business is expanding in B2C as well as D2C. We expect further shift to automation and labor-saving initiatives. This will overlap with my previous comments, so I will skip the details. But I just want to reiterate that this is how we aim to expand into new business areas.

Please turn to Page 17. We have already shared this with you many times. We have been focusing on robots, especially in the service sector instead of us manufacturing [ stems ]. Our robot business is intended to support the companies to automate and reduce human labor in their operations. One example is the autonomous transport robot, which has been deployed to the newly opened Takanawa Gateway station building in Central Tokyo. Another example is a robot that checks people's body temperature, which we are also using internally. It not only checks people's body temperature but can control people's access to the building, such as stopping someone from entering, matching the temperature data to individuals by checking the employee ID card and linking the body temperature data with the visitor information, although we have to be mindful about the privacy data issues.

Last one that I would like to introduce is the product [ touring ] robot. Recently, there's been a heightened need for automating the tasks in the convenience stores and unmanned store operation during the night hours. This leads to demand for product [ touring ] and selecting robot. We have made some proposals, and business discussions are underway.

Next, I'd like to highlight some of the key initiatives taken in the Automotive & Transportation business on Page 18. Impacted by COVID-19, we adjusted the production level and made further progress in automation. We will continue to work to establish a system in place so that manufacturing process can be completed without relying on human intervention. Large projects have been further delayed. Some will partially start from this year, but they will mostly start in 2021 in a full-fledged manner.

Given some very good feedbacks we are getting from the clients, we are hoping to achieve some upside. We are strongly advocating the recovery plan outlined at the outset of the year, including organizational reform. We are reallocating employees in order to enhance the productivity. With these measures, we will endeavor to establish the Automotive & Transportation business as a solid business. It is not mentioned in this slide, but aside from auto braking parts, we also have closed 3 deals in the new business area. We hope to be able to make the announcements soon, and we will continue to expand into the new business area.

Next, let me share with you our earnings guidance for fiscal 2020. Let me start with the trend of the orders received by each region for the Industrial Machinery business on Page 20. For the January-to-March quarter of 2020, orders started to show signs of recovery in all the regions. This trend continued until mid-May, and we thought the order book will trend steadily. However, in respective markets, Europe, U.S. and Japan, spread of COVID-19 halted many businesses, and this adversity in the industrialized countries resulted on a big negative, and the second quarter resulted in a decline.

In contrast, China continues to show steady recovery trend. Export business has been a major challenge for China as with our Europe and U.S. have been affected. We must closely monitor the degree of this impact and how the economic policies of the Chinese government will be effective in stimulating domestic demand. Personally, I am quite optimistic about the growth in China. In that sense, business opportunities should continue to steadily expand, not just for the auto sector, but for automation and labor-saving applications, semiconductor as well as medical.

Page 21, please. Based on what I have explained in our outlook going forward, here is our earnings outlook for fiscal year ending in December 2020. We revised down the net sales to JPY 216 billion, which will be a year-on-year decline of 21.3%. We are augmenting our cost control measures. But with the substantial decline in net sales, we are projecting an operating income of JPY 200 million, loss before income taxes of JPY 1.4 billion and net loss of JPY 3.1 billion.

Page 23, please. This slide shows you the factors behind the changes in revised operating income compared against the actual results from fiscal '19.

This will conclude my presentation on the financial results. This year, we will continue to exert control over costs, while steadily executing initiatives to realize the medium- to long-term growth opportunities that I explained in the presentation. Thank you very much for your attention.

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