NEC Networks & System Integration Corp

TSE:1973

Earnings Call Transcript 2020-Q2

[Yushi Ushijima, executive]

Good morning. I am Ushijima, CEO of NEC Networks & System Integration Corporation. Thank you for coming to the financial results briefing for the first half ending March 2020.

Without further ado, let me take you through the financial results. This is the agenda for today. Results for the first half, forecast for the full year and the progress of measures in the medium-term management plan that started this year.

This is the summary for the first half. As I said, this year is the first year of our new medium-term management plan, which reflects some new efforts of the company. The results for the first half, I believe, reflect satisfying performance in terms of numbers and substance. We achieved both increase in sales and profit, overachieving the forecast for the first half. We were able to make a good start. Orders received JPY 151.7 billion, up 3%, offsetting a reactionary fall due to large overseas project received last year in the order of JPY 10 billion. Excluding this impact, we were able to achieve over 10% growth.

Operating income increased due to profitability improvement despite the fact that we are stepping up investment in growth areas, JPY 4.4 billion, up JPY 1.7 billion year-on-year.

Quarterly net income was JPY 2.9 billion, up JPY 1 billion year-over-year. While extraordinary losses of JPY 2.2 billion was incurred from closing of training center and office alignment, and impact was felt from the revision of recoverability of deferred tax assets in our consolidated subsidiary, Magnus, we were able to post year-over-year increase due to increase in operating income.

Next is orders received by segment. From the top. Digital solutions. Although orders from financial companies decreased due to project concentration in the previous fiscal year, work-style innovation-related orders increased, and therefore, orders received posted JPY 53.9 billion, up 3% year-over-year. Hotel demand remained still strong this year. Excluding such special factors, we were able to achieve 10% growth year-over-year.

Going back to the year ended March 2018 and looking at the average growth in the last 2 years, the growth rate was plus 11%. It is fair to say that we have been able to grow quite steadily in this segment.

Network infrastructure. Orders from telecom carriers tend to shift to the second half, but social and public orders, such as networks for firefighting and disaster prevention, performed well, JPY 46.1 billion, up 9% year-on-year.

Engineering and support services. This is the segment that covers construction and maintenance. While there was a slight decrease as a result of offsetting the reactionary drop in orders due to large overseas orders in the previous year in the order of JPY 1 billion, growth in domestic construction partially compensated for the drop and the segment ended with JPY 47.2 billion, down 2% year-over-year.

Net sales by segment. Growth was seen across all segments. For digital solutions, work-style innovation-related business and network for hotels, which I mentioned earlier briefly, increased. SI and service, both contributed to sales growth, JPY 51.7 billion, up 11%.

Network infrastructure. Sales for telecom carriers were carried over into the second half, but sales for social and public sector increased, JPY 35.6 billion, up 4% year-over-year.

Engineering and support services, covering domestic construction and maintenance. This segment includes office facilities and Mega Solar, which contributed to growth, JPY 43 billion, up 12% year-over-year.

Next is operating income by segment. We were able to post a significant increase as a result of improvement across all segments. Starting with digital solutions. Profit increased due to improved fixed cost efficiency as a result of higher net sales, JPY 4.4 billion, up JPY 1 billion. Operating income margin improved 1.3 points to 8.4%.

Network infrastructure. Profit increased due to higher net sales, integrated use of resources through reorganization of former carrier networks business, enhanced efficiency and project management and improved fixed cost efficiency, among others, JPY 2.3 billion, up JPY 800 million year-over-year. Operating income margin was up 2.1 points to 6.5%.

Engineering and support services. Profit increased due to higher net sales despite an increased impact from unprofitable Mega Solar project in the first quarter, JPY 2.1 billion, up JPY 100 million year-over-year.

Others and elimination. Growth-related expenses increased due to office realignment costs.

Next is forecast for the full year. First half saw a very good start of the medium-term plan. Our full year forecast, shown on this page, reflects uncertain macroeconomic environment in the second half, front-loading of net sales and carryover of first half growth expenditure. Net sales was revised up by JPY 5 billion to JPY 300 billion. Operating income was revised up by JPY 1 billion to JPY 14 billion. Net income, as a result, was revised up by JPY 100 million to JPY 9 billion. By subtracting first half from the full year number, you might get the impression that we are expecting a somewhat weaker second half, but that does not suggest that we are aware of something negative in the second half. Once the uncertainties are cleared, we should be able to deliver on the plan.

This is our forecast by segment. Net sales forecast was revised up by JPY 5 billion in total, JPY 2 billion in digital solutions and JPY 3 billion in others. Operating income forecast was revised up by JPY 1 billion, JPY 300 million in digital solutions, JPY 400 million in network infrastructure and JPY 300 million in others and elimination.

Dividend. We will pay an interim dividend of JPY 40 per share, up JPY 2 year-over-year. Year-end dividend will be paid according to the initial plan, which will mean we are planning increase in dividend payout for 13 years in a row.

Next, into the substance of the new medium-term management plan. Let me take you through progress made so far vis-à-vis the plan. The following few pages are a recap of the new medium-term plan announced in May. Page 13 illustrates the positioning of the new medium-term plan. Rather than just focusing on the next 3 years, the new medium-term plan provides a vision towards 2030 and looks at the next 3 years in that context.

Our vision for 2030 is to contribute to building a more welcoming and convenient society through communication. In the meantime, there are new and emerging technologies, cutting-edge technologies that start-ups are working on are very attractive. We see ourselves co-creating with partners, including start-ups, serving as a communication service orchestrator to produce a new value chain by leveraging on our strengths. If that is the positioning of the plan, how are we to change our structure. There are 2 trends we see in the technology field. One is captured in the frequently used term digital transformation.

There are numeral cutting-edge technologies, such as AI, among others. We are living in a time where new and cutting-edge technologies can truly be used. The company will be transformed in such a way that we can fully leverage cutting-edge technologies we have access to. Second is network technology. 5G is emerging in this area, which I'm sure you are fully aware of. 5G technology is giving rise to new infrastructure of unprecedented scale requiring update of existing infrastructure. By capturing these 2 major trends, we are eyeing at new opportunities the combination of digital and network will bring.

This is what we are envisioning as growth strategy. These are the 3 basic strategies, strengthening our competitiveness and growth power in the digital and 5G era. Businesses that were dispersed in the past have been consolidated with resources allocated to digital and 5G network infrastructure. The company covers a very broad business base. We intend to make use of our strengths across different business domains to operate in an integrated manner.

This is what we mean by acceleration of innovation through all NESIC. We are at a juncture where business model is changing. It is, therefore, important for us to utilize advanced technologies as business. We have a new organization called Business Design operations unit that will be specifically be engaged in this type of business. These 3 are the core of the strategy for the company to shift our gears to achieve sustainable profit growth. By undergoing a major change in organization, we were able to improve operational efficiency. Details need to be analyzed and a further improvement in efficiency need to be sought, but implementing the growth strategy in the second half, we intend to achieve our plan.

Now let me go into the substance. The company is putting emphasis on cloud service. We have always been providing services to client companies by using and combining products and services. As you see on the right-hand side of the slide, and you might be familiar with names of companies in the box. We invest in companies that have unprecedented technologies or unheard of products. Take Zoom, for example. This, I believe, is one of the companies that is bearing fruit. It enjoys an overwhelming position in video communication solutions. We combine such services with other cloud-based services. This technology has good affinity with work-style innovation, which we have been working on over many years. Making use of these technologies within the work-style innovation business and offering them to customers in such a way that we generate new businesses. Types of cloud services we have access to are increasing. And I believe we are much better off in our service offerings compared to even 6 months ago.

Let me briefly mention what cloud service is. You might be familiar with this, but let me take a moment to explain. There are various types of cloud services, Slack, Box, Office 365, Zoom, to name a few. Each of that then have their own respective best practices, if you like, unique and cutting-edge technologies. In the past, we would design the system, build it and use whatever system that fits, but these services only require monthly subscription fees, no cost or time required for designing or developing. There are challenges, too, however. When the whole system is designed and developed, it is usually well balanced. But since these products are developed separately and independently, the challenge resides in how the products can be used in an integrated manner. This is one of the challenges of utilizing cloud within a company.

As the slide says, we will shift to the true cloud service. We will bring together the benefits of cloud and our expertise to deliver ease of connectivity to our customers. This is our business. Just like building blocks, combining blocks together to make the whole system usable as an integrated system. Customers will be able to use cutting-edge technologies without spending a lot of time and cost and be able to change small parts of the system when new technologies emerge. This is what the new era is expecting of us and how things will be done in the future.

Slide 18 basically talks about the same thing, except from a different angle. At the bottom, you can telephones, networks and monitoring cameras. We have been doing business in these areas, connecting telephones to telephones and networks with networks. We were in the replacement or upgrading business. Cloud service, in the meantime, is quite diverse. Instead of customers building something that fits them, this as well is to change to fit the available cloud services. In between, we have a platform offering, which enables easy connectivity of the cloud services and customers' business. Our business is in helping customers improve their operational efficiency and innovate their business by using cloud services. In the upper right corner, you can see the word Symphonict. Symphonict is the name of service we offer that connects existing telephone networks, monitoring cameras and sensors to new cloud services through a digital platform. This illustrates how we are expanding the scope of our business. From a product system integrator, covering the bottom part of the diagram, to a multi-cloud service vendor, covering the top part of the diagram.

DX stands for digital transformation. And this is the key point in digital business. Let me give you an example to make it easier to understand. This is an example of how we use the service internally. You might have heard of Slack. It's a business chat service. Currently, under the spotlight, as they can replace existing e-mails. In the past, we used to send e-mails to our bosses to report something that will be escalated to his or her boss. That was what we referred to as escalation. With Slack, messages are sent to all members at once. Information is communicated at once. This is the kind of change Slack brings and, therefore, growing quite rapidly. The service started at the consumer level, but it is now attracting a lot of attention for business use. It is not only chat that it offers. The key is how this could be used in a business context. In our case, we have dozens or hundreds of field sites with people working on a daily basis. In the past, escalation of information was done to a certain level, which was eventually compiled into a daily plan. And at the end of the day, the reverse process was taken for work completion. It required a lot of time and effort. By using Slack, however, information is shared very quickly. And at the end of the day, if there is a problem, a red bar will appear, indicating there is a problem. The method and flow of management are completely changed. And in our case, time required for reporting process was reduced to 1/3.

I talked about connectivity. What is entered here goes to sales force, enabling customer management. We, with the help of AI, are doing causal analysis of actual incidents to prepare ourselves to be able to come up with statistical analysis of what could lead to potential incidents. In this way, technologies should help improve quality. If there is a need to speak directly, as you see in the center, reports of problems can be notified automatically to the superior by phone, while looking at the graph on the screen. Just one approach can trigger multiple and simultaneous changes. This is one example of use of a multi-cloud system.

One other point I see value in is that this can be done from a smartphone. In other words, all the work can be done from a smartphone. This is a striking feature of a multi-cloud system. I think this example helps us better picture what to expect.

And this is an example for Mercari also using Slack. They have been using Slack as their communication tool. What is entered in Slack is used in an integrated manner to a cloud coordination platform connected to a documentation management tool, for example. There is a page on expense settlement where employees can settle their transportation fees. In-house inquiries can be made from Slack as well. Mercari is using Slack as an interface for such services.

There may be some who still questioned what cloud services are useful for, but this is something that can change a lot of things. We are ahead of others and have partnerships with the more powerful companies than others. This process was accelerated in the 6 months. We are unique in that we implement what we offer as service to our clients. From October, we have started to decentralize our SaaS. Concentration of employees in Tokyo is causing serious issues with commuting. There are many even within our own organization who spend 3 or 4 hours on commuting every day. For various reasons, we started an initiative to shorten commuter time to less than 30 minutes. Size of our headquarters in Iidabashi was reduced to 1/3 and created 7 satellite offices in places like Kashiwa, MusashiKosugi, and others. Employees who were sitting next to each other working in one team are now decentralized to these offices. One could be in Kashiwa, another could be in Yokohama or MusashiKosugi. They can work from different locations with shortened commuter time is the same team.

This is part of our effort to change the way we work dramatically. Cutting-edge technologies such as Slack, Zoom, Wrike and others that you see on the slide are used to make this possible.

It's only been 1 month. Positive results as well as challenges are likely to emerge. But we have made a very good start. We have quite a history when it comes to work-style innovation, but this has taken us to a whole new level. Please keep an eye on our new challenge together with cloud service connection. We welcome visitors. If you have any interest, please do not hesitate to let us know.

New business creation is another important pillar in the midterm plan. And this is an example of onshore eco-culture of salmon. The plan is to dramatically change the fish farming industry by using our ICT digital technology. This is an announcement made on transforming the fish farming business as well as our business model. Our strengths are, as seen on the left, in ICT and digital technology. In this particular project, we tied up with the largest operator in Japan in the onshore fish farming industry, Hayashi Trout Farm. Hayashi Trout Farm has an overwhelming capability and experience. And yet, they faced challenges for being a primary industry operator, but technology enabled work-style innovation and increase in efficiency. Instead of us operating in existing areas with existing technologies, we intend to collaborate with partners by addressing various social challenges, as mentioned in the SDGs. Changes in the primary industry, in this particular case, has led to work-style innovation, improved efficiency, dramatic cost reduction, quality improvement and price increase.

This illustrates what I just said. We, as you see in the upper left, have been building and providing ICT services to operators. Going forward, however, we take one step deeper and co-create with operators through innovation with digital technologies. This expands our monetizing opportunities from just system development to various touch points such as point of sales of fish.

Business expands even more through franchisee sales. There we'll be monetizing opportunities in service delivery. Step 1 was launching a business in Yamanashi. After we gained some experience in Japan, we plan to do business overseas. The goal is to become the #1 onshore fish farming operator in the world with JPY 30 billion in sales from this business alone, including franchisee sales. We will report to you on any new updates.

I have given you some specific examples. For 5G, I think it will take a little more time before it takes off as a business. But in the meantime, we are preparing for it and seeing increase in prospective customers. I will continue to communicate to you on the updates of our midterm plan. We will continue to do our best to deliver good results in the second half as we did in the first half. Your continued understanding and support is greatly appreciated.

This concludes today's briefing. Thank you very much.

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