Macromill Inc

TSE:3978

Earnings Call Transcript 2020-Q1

[Scott Ernst, executive]

Welcome. Good afternoon. And thank you for joining us for our Q1 earnings announcement. On behalf of the entire team, I'd like to thank you for your continued support of Macromill.

For today's presentation, we're planning on spending about 40 minutes reviewing the content that we've prepared, and then leave about 20 minutes for Q&A.

In the content section of today's presentation, we'll cover 4 topics. First, Q1 consolidated financial update; second, Japan-Korea segment update; third, a deep dive into the Japan current situation and our action plans; and then fourth, on overseas segment update. We'll then open it up to questions.

So you'll note that based upon investor feedback and starting in the first quarter of our new fiscal year, we have updated our earnings format to improve transparency about our performance, with more focus on segment-level content as well as business summaries for each of Japan, Korea, U.S., Europe and rest of world.

So let's start with a very high-level summary of our results. I'd ask you to go to Slide #3.

The following are a few key takeaways that I'd like to share with you at the start of the presentation. We'll go into much more detail on these content, but these are the major points that I'd like you to remember from today's presentation.

First, Q1 revenue growth was lower than expected, primarily driven off of a slowdown in Japan. We had experienced the start of this slowdown in the prior fiscal year, but the impact has increased in Q1.

Q1 revenue was JPY 9.88 billion, which is down 5% year-on-year in reported revenue and down 2% in constant currency, with operating profit of JPY 1.2 billion, down 24% year-on-year. While Japan and Korea revenue have declined, we've seen solid growth of 8% in constant currency from our overseas segment.

Through active cost controls in Q1, we've been able to maintain our EBITDA, operating profit and net income targets, consistent with our Q1 assumptions.

Second, that we had implemented immediate action plans in Japan to improve our short-term business performance. The issues we are facing in Japan are a combination of external and internal issues. External factors include changing client requirements, a slowing of market research spend from our clients and increase blurring of the lines between new and traditional competitors as we are all now competing for fewer research projects.

Our internal issues include the need for more focused sales governance, better strategic account planning to make sure that we have our top talent focused on our top growth opportunities and better training of our teams to address the increasingly sophisticated business needs of our clients.

Improving our business performance in Japan is our top priority across the entire company, and we'll spend the majority of our time today explaining the issues that we're facing and the actions we are taking to address these issues.

Third, even with the lower start, we believe we can achieve our targets. Our full year initial annual guidance is unchanged. A slower start on revenue is certainly challenging, but we think the probability of further decline is low based upon more recent business and revenue trends. We'll work hard to get back to the revenue -- solid revenue growth in Japan, in particular in the second half. Because we've taken immediate cost-saving actions and because Q1 profit is in line with our original guidance, we feel that we can also deliver on our full year profit guidance.

Fourth, we remain committed to the revised strategy outlined in our midterm plan. The client, market and competitive issues that we identified in our midterm plan are consistent to what we anticipated. But in particular in Japan, these changes are happening faster than we expected.

What that means is that we believe we have the right strategy to address the issues that we're currently facing and maintain our aspiration to evolve into a customer insight and data company for our clients.

We will continue to be focused on initiatives aligned around strengthening our foundation and expanding our solutions, domains and regions. To that end, we've already made progress in the first quarter, including regional expansion through the acquisition of DI Asia and the opening of our Australia office, the expansion of our solution set with new DMP capabilities, Immerse and the launch of ACT Instant, and we are continuing to invest to become a true data consulting partner for our clients.

And then lastly, digital and global continue to be growth drivers with digital growing at 50% in Japan in the first quarter. We are uniquely positioned to continue -- for continued digital growth in an increasingly regulated market.

Proposed guidelines announced by the Fair Trade Commission in Japan, GDPR and increasing concerns about privacy have all clearly created noise in the market. We, however, believe that these changes are net a long-term positive trend for Macromill and our privacy compliant business model.

Now let me hand it over to Shimizu-san to take us through our Q1 financial performance.

[Masahiro Shimizu, executive]

Thank you, Scott.

Please look at the Page 5. So we have the outline of the performance. Q1 revenue was JPY 9.88 billion for the first quarter, lower than the initial -- the guidance. And the -- it's minus 5% year-on-year. This is mainly the slowdown greater than the expectation in Japan. But the other operating income decrease of 24% year-on-year is in line with the guidance.

On Page 6, we have more details about P/L. So the decrease in revenue is due to the slowdown of Japan business. There's another factor, which is in Korea. The part of the projects revenue, the recognition was delayed to Q2. And for the rest of the world, the business grew as expected in terms of the local currencies. But then in CFD, the result was in line with the previous year.

As to segment performance, Sasaki-san and Scott will explain later on.

Now the key expense items. First, employee expenses. The market style reform made us hire more people, but that's finished. So in the first half -- the quarter, the lower hiring cost and over time decreased employee expenses.

As for panel expenses in the Q2 last year, we did reclassification of the other accounting items. And a part of the other expenses were transferred to panel expenses. Without that impact, panel expenses was in line with that of the previous year.

Outsourcing expense. Now the in-house research capabilities and development of talent made us reduce it by 13% year-on-year.

The D&A, due to the IFRS 16 application, the office rent, which used to be booked as other operating expense, is now transferred to D&A. That was the biggest impact.

And we continue to invest in IT, including the cloud. And some other D&A due to IT has increased slightly. And the cloud vendors fees are also booked in the other operating expense.

And the finance costs was reduced by about JPY 170 million.

As a result, the profit attributable to owners of the parent decreased 8% year-on-year. And the EPS after dilution, that was limited to the 8% decrease.

The operating income margin lowered due to shortfall in the revenue, but the EBITDA margin, partly due to IFRS 16, improved from 18.5% to 19.1%.

On Page 7, waterfall segment based on the P/L (sic) [ segment P/L waterfall ]. The operating income decreased by 24% year-on-year. The breakdown is 21% for Japan and Korea Business and 3% from rest of the world business. Employee expense was lower than that of the previous year, giving a positive impact on both segments. And the IFRS 16 application had some impact on the D&A of the both segment.

In second quarter last year, the reclassified panel expense and the other expense and -- that was shown in this graph. So please confirm that.

On Page 8, the trend of revenue. Our revenue has seasonality. For Q1 as well as Q4, the revenue tends to lower than other quarters. And in this -- the second -- the first quarter, the revenue -- the -- with -- the FX impact was minus 5% year-on-year. But in CFX, it was minus 2% year-on-year. And in CFX, the Japan, the Korea (sic) [ Japan and Korea ] Business, minus 5%; and Overseas Business, plus 8%.

On the right-hand side of graph, we are looking at the revenue on a quarterly basis of last year and year before last. And if we check the seasonality of our business, and they are the growing trend.

On Page 9, expense trend. Compared to the seasonality of revenue, our expense has higher percentage of the fixed rate -- fixed -- the cost. And operating expense is, to some extent, stable.

In the Q1, the revenue there was the slowdown. So we compensated it with the cost reduction, including postponement of investment. As a result, in the Q1, operating expense, there was 2% decrease year-on-year. And some expense linked to the sales, such as panel expense and outsourcing expense, decreased and the employee expense also decreased.

On the right-hand side, we have the graph showing the fixed cost: employee cost, IT and maintenance cost and IT investment and rent and leasing. And as you can see, it is stable since the acquisition of the joint venture business with Hakuhodo in the first quarter 2019.

Page 10. The headcount was increased by 188 year-on-year, in which 160 increase was in Japan business. And this is to strengthen the staffing of key divisions. And to deal with the work-style reform we increased hires. But with the Hakuhodo, the employee expense, they are lowered compared to the previous year then due to the lower hiring costs and over time. In order to provide a more efficient service to our customers, we do not have a plan of mass hiring in the near future.

Balance sheet on Page 11. First, the working capital. Our customers are large corporations and the administrative agencies, and the turnover of account receivables is 87 days and the turnover of the account payables in 44 days. There's a gap here, but that gap is stable and the funding is very stable. To be on the safe side, we have the cash and deposit worth 2 months of revenue. And as an insurance, we have undrawn commitment line for JPY 4.5 billion from the bank. And this year, we have been lowering the finance cost. Annualized basis, the finance cost in the first quarter lowered from 1.19% of the previous year to 0.87%. And the BBB+ rating that we obtained last year, according to the R&I, after the regular review this summer, this rating will be maintained and outlook is stable.

Leverage ratio improved. And net debt-EBITDA multiple, we are moving toward the goal of 2 to 2.5 multiple.

ROE, 16.6% due to repayment of the borrowings. Those are -- deleveraged the portfolio, hence the 2.9% decrease year-on-year but higher than 9%, which is the mean number for the Japanese listed companies

Now Page 12, where we generated cash and where we use it. As for Q1, operating cash flow is minus every year because of the payment of corporate tax. Because of the interim payment of tax for this year, this -- the negative range was reduced. And as to the investment, IT and office space investment had occurred. And the free cash flow before finance cash flow was minus JPY 700 million. And the finance cash flow's negative number was better than last year's, so we have JPY 2.5 billion increase in the cash and equivalents, reaching JPY 8 billion.

Next page, the guidance for Q1, the full year and the Q1 results. Now compared to the initial guidance, because of the slow start in Japan, the revenue was slowing down, but the expenses were strongly controlled. So EBITDA, operating income and net income, are -- beat the guidance. As to the FX rate, there's no gap.

And Mr. Sasaki is going to explain about Japan and Korea.

[Toru Sasaki, executive]

Thank you very much, Mr. Shimizu. Let me just give you the business update on Japan and Korea segment.

Please take a look at Page 15. On the top, you see the segment revenue. And at the bottom, there's profit. And each shows quarterly results. Revenue went down by 6% year-on-year. And on a constant FX basis for Korea, 5% decline. And profit declined by 24% year-on-year. And in CFD, 23% decline. And as for EBITDA, with the impact of IFRS 16, the impact or decline was moderate. And that was the result for first quarter.

Now if you look at the quarterly results on the right, the second quarter and third quarter would be the critical periods for the business. So this will be the make or break time for us. But even with the -- well, accounting for the seasonality, these weak results are for different reasons for Japan and Korea. So let me explain each one of them.

Page 16 for Japan. And this is a revenue breakdown. As Scott said, in this area, the mainstay DMP Solution was a driving force in the strength, and we achieved a 50% growth year-on-year. But in other areas, such as online and offline businesses, we're behind the year before by 10%.

And on the right, you see the quarter results for each. And even if we account for the fact that this was on a quarterly basis in Japan business, we fell short of the previous year's revenue, which we take very seriously.

And this is not expected to be disclosed, and this is not written in this slide, but Macromill Japan, Dentsu Marketing Insight (sic) [ Dentsu Macromill Insight ] and Hakuhodo Macromill Marketing, all 3 major group companies failed to meet expectations.

And what has happened? And what are the actions that we are taking? And that's what I'm going to explain about next, Page 17. And let me talk about the market and clients first. And the marketing environment of the clients is changing at a pace that exceeds our imagination. Consumer touch points are increasing and the understanding of consumers are becoming complex. And the data that is required is increasing.

In this context, there's a perception that market researches alone are not enough. And nice-to-have-type researches are becoming subject to resource reductions, and there's a slowdown in the growth of the entire research industry. However, the clients are becoming more cautious in the budget allocation, and they ask for the cost-benefit in the budget. But there are a lot of marketing issues that they have to solve, and they are struggling with these and advertising agencies, consulting firms and tool venders, SIers. Now research industry players, there's no demarcation between those players and they're just asking for marketing partners that can lead them to issue resolution. So there's a competition for marketing budget of the clients and that they are reducing the marketing budget in the clients from the second quarter last year, especially from November. You see market impact in the results, and we are affected in the first quarter as well.

And from July, we have done a thorough work-style reform. And because of the compliance of the laws, the sales have reduced.

So because of these external factors and individual factors, we're also perhaps behind the competition in the research industry. That was one of the reasons. And we are focused on big clients and send excellent sales reps and researchers. And we have taken bold repricing to replace the large-scale projects, but there was a lost -- loss in competition and we're not able to recover from these losses.

Then what do we need to do? Now there are short-term actions and mid-term actions. In the short term, as we have done before, we need to beat the competition in the industry, and we have to grow faster than the market. Page 18, please.

Based on my experience, those that would go down -- the companies that go down will no longer be able to do what is given. So you have to enhance governance and management. More specifically, account information needs to be always up to date. And in order to do that, we need to increase touch points with the clients and collect information. And based on the information collected, we review the account plans for the top 100 clients and reallocate the personnel. And there are diverse needs from the clients, and we need to assign sales reps and researchers that are in line with the needs. And this is also effective in terms of beating the competition. For example, if there are key persons that are transferred to different departments in the clients or competitors are sending personnel stationed in the clients or the proposal from the competitors in the competition, if we cannot get this information, then we could lose major sales revenue. There's a heightened risk, and these pieces of information have to be maintained through day-to-day sales activities.

So sometimes, we are overconfident and the information that has been accumulated is something that we tend to consider right. So we have to correct that and there's a reallocation of personnel, the dedicated account managers for digital and global businesses, respectively.

So we have established a new sales department. And also, Macromill consortium has increased the membership because there are many companies who are emphasizing this idea, and we are collaborating in identifying specific clients.

And in the offline areas, we are focused on digitalization, and we are at the pilot phase for a new service launch.

And the agency business, where we struggled in the first quarter, we have been taking advantage of our close connection with Dentsu and Hakuhodo and increasing the staff that are stationed in the agency sites. And with that, the people in the agency are more comfortable in talking to our staff, and we can get the information for planning. And that would help create the opportunities for researches as well. So that was a short-term action plan.

Now we started a slow start. But as for the second quarter onward, it will be 1 year since the start of the slowdown of the earnings results. And also, short-term actions will make progress. And looking at our most recent market trend, we don't expect things to deteriorate any further. And as Scott and Shimizu said, the risks are not zero, but we don't believe there's a necessity to modify or revise the full year guidance.

Let me talk to -- talk about mid-term action plans, Page 19. So the environment surrounding the clients' marketing is changing, and marketing budget competition is intensifying. And there is no true marketing partners in Japan to the clients. So in order to become such partners, we are trying to evolve into a company which is research x data. And as an update, since August, location information and easy data acquisition is now complete. And we have improved the data using Macromill ID as a key to realize single-source analysis.

As we have announced in the press release, in Southeast Asia, our proprietary panel is still expanding, and the consortium that I have shared with you is increasing their membership. And we have started a collaboration to identify specific clients. And in offline area, we are having a pilot program to launch new services.

Now in order to become marketing partners, we are steadily making progress in expanding acquired assets and capabilities. Let me now just share with you the client case studies. When the clients use our market research, there's verification of hypothesis that is being done. But most of the hypothesis have already been established by the client side and only after the verification phase they would ask us to help them. But the case that I'm going to share with you is where we made commitment at the time of the building up of hypothesis.

In one company, the beverage brand has issues and hypothesis and also data aside from research, and they have shared everything with us. And we combined our data with that -- the information and then made a verification and came forward with new hypothesis. And that context is that we have concluded that there is an issue in their target. And it was highly appreciated by the clients. And aside from the research budget, they closed their book in December. So from January, aside from research budget, they have given us a new budget for new businesses.

And also, we have participated in a project to develop strategies for opening stores of new business format in one company. And first of all, secondary data and the various data that we have in Macromill are taken advantage of to do hypothesis building and verification for targets,

and this was also highly rated and we were awarded with new businesses such as market size estimation and competitive analysis.

So this client had been talking to consulting firms and agencies, but they were struggling to succeed. And we have done the top management approach, and it worked well for us.

So in both cases, it just happened the targets were the businesses, but there are 2 key messages in here. So gaining position, where we were given the issues and make commitment, that is very important. Also, now starting this -- our unilateral research proposal is important. And if this project spreads, then nobody would say that marketing research is not necessary anymore.

But of course, we have to do perception change. The research company can do this much. That is not the perception that is seen yet amongst the clients. And also, we have to improve capabilities because we have to take advantage of various data, analysts and data scientists and the DMP utilization that is owned by the company. So we have to enhance our capabilities and also establish relations with the upper layers of the organization of the clients. And also, we have to improve skills of the personnel.

So if we believe that it is difficult for us to act alone or we're not satisfied with the realization speed, then we can -- we may take a bold approach or option of M&A.

So that was about mid-term actions. Now let me talk about the Korea business, Page 20.

Revenue went down by 26% year-on-year and by 19% in CFX. And this was a great impact, but we believe that there will be a recovery in 20 -- in second quarter onward. So in the full year, we're expecting a growth in line with the plan. And in the first quarter, there was a major automotive manufacturer's big project that has ended. So that was a negative factor. But most of the factors were revenue recognition timing delay. So in terms of backlog, we are seeing already a recovery.

The Korean market is weaker than Japanese market, but we have the competitive advantage of owning the largest proprietary panel, which is the only player in Korea. And we use our own IDs and acquire marketing data. And this has been now well understood by the clients, and there will be much more spread among the clients. And so we are expecting the recovery in the next fiscal year onward, and that probability is very high.

And there will be an election in Korea in next year, and we have strengthened government-related projects. So this will be also a positive factor.

Now to wrap up. In the first quarter results, we have caused concern to you all. But in the short term, especially in the short term, we have -- going to rein in those operations. And there is going to be a certain gap in the future, but steady progress has been made. And fortunately, there's no doubt about what needs to be done. And in order to become #1 in Japan and in Asia in true sense of the word, I hope you can take a look at us and support us in the long term.

Now over to you, Mike (sic) [ Scott ].

[Scott Ernst, executive]

Thank you, Sasaki-san. Let's look now at Slide #22. So -- where we'll look at our overseas segment.

We had a good start to Q1 with revenue growth overseas at 8% in constant currency along with each of our regions growing year-on-year, beating our internal budgets in terms of both revenue and EBITDA.

As with the prior Japan and Korea segment slide, the Overseas content slide also shows revenue performance on the top and then EBITDA and profit performance on the bottom of the slide.

Q1 overseas revenue reached JPY 2.3 billion, which was flat on year-on-year in reported revenue but plus 8% in constant currency.

Q1 overseas EBITDA increased to JPY 300 million, growing at 7% in reported EBITDA and 16% in constant currency.

Q1 overseas profit was JPY 100.3 million, declining 22% in reported profit and 16 -- negative 16% in constant currency.

In Q1 in the overseas segment, we saw industry growth in the media and entertainment sectors, consumer and FMCG, although alcohol/beverage was flat. We also saw growth from our core solution sets, which are brand engagement growing by JPY 1.7 oku or 17% and product innovation growing at JPY 0.4 oku or around 5% growth year-on-year.

As a reminder, our brand engagement solution set provides our clients with insights on brand performance, creative development and media effectiveness. Our product innovation suite provides clients with insights on market exploration, product development and sales activation.

So now in terms of EBITDA and profit. As we shared earlier, Q1 overseas EBITDA increased by 16% in constant currency with profit declining 16% in constant currency. Clearly, EBITDA and profit are largely impacted by overall revenue growth.

We have implemented zero-based budget and COGS improvement plans to increase EBITDA and operating profit, and we expect the majority of profit will be generated in the second half.

Q1 also shows some additional variation between EBITDA and profit due to IFRS 16 treatment, which we implemented starting in Q1.

Other significant initiatives in the overseas segment include, as you may remember, in early July, we appointed Thijs Elias as the new CEO of MetrixLab, and we have established a new leadership team and structure focused on regions, innovation and commercial acceleration.

Solution innovation has been driven through ACT Instant, our AI-based copy testing solution, and Immerse growth, our digital alternative to traditional focus groups, along with significant investments into our platforms.

We've also, again, seen regional expansion achieved through opening our Australia office.

So you'll note on this slide that we also have a new format for reporting overseas segment info, where we now show high-level information at the region level for each of the U.S., Europe and rest of world. So in the following slides, we'll share additional details about each of these regions. Let's look at our regional summary. I'd ask you to move to Slide #23.

So we'll start in the U.S. In constant currency, we saw modest regional growth of 3%, which is driven by growth in the food and beverage, cosmetic -- and the cosmetics segments. Q1 U.S. revenue was JPY 1.1 billion, declining 5% in reported revenue and plus 3% in constant currency.

U.S. revenue was driven by food and beverage industry growth primarily from our alcohol/beverage clients, with 3 of our largest alcohol/beverage clients growing quarter-on-quarter. We also saw growth in our cosmetic industry segment driven by a prestige skin care, makeup and fragrance company.

Q1 revenue was also driven by net new client win with an American company that provides organic foods and drinks.

In terms of solution growth, product innovation growth was JPY 1.4 oku or 61% growth year-on-year.

Precision Sample grew by JPY 32 million or 17% in Q1, continuing the strong performance that we saw in the last fiscal year.

While we saw modest growth in the U.S., the U.S. is a priority market for us, and we're not satisfied with the growth achieved, and we need to accelerate the U.S. more. We've already implemented a number of initiatives which we believe will improve our performance. This includes a new leadership team in the U.S. led by proven leaders with a track record of success within the company. We've implemented a Go USA initiative, which is a program to improve how our teams work together, including sales, research and our solution experts who are all now aligned on our commercial targets and winning big pitches.

We've implemented additional training, more accountability and better strategic account planning.

The good news is that the issues we face in the U.S. are largely all internal issues. The challenge may be, however, because these issues relate to teams, talent and culture, it may take some time to see material changes in the U.S. It's probably not until the second half before we see a significant acceleration in our commercial performance in the U.S. We are, however, committed to achieving the targets and growing faster in the world's largest research market.

So now let's look at Europe performance in Slide #24. Europe showed good Q1 revenue growth, growing 11% in constant currency driven by our 2 largest European countries.

Q1 Europe revenue was JPY 8.8 oku, growing at 2% in reported revenue and 11% in constant currency. The U.K. and the Netherlands each grew by about JPY 60 million each, representing around 18% growth based upon accelerated revenue conversion from projects that we had already sold.

In addition in Europe, we saw industry growth in our agency, electronics, media/entertainment and FMCG clients. In Europe, we also saw growth in both of our core solution sets with brand engagement growing by JPY 1.1 oku or 28% year-on-year and product innovation growing at JPY 37 million or around 15% year-on-year.

So now let's move to rest of world, Slide #25.

Rest of world includes EMEA, Latin America and rest of the world countries. Rest of world showed strong Q1 revenue growth of 24% year-on-year in constant currency in these emerging markets. Q1 revenue in rest of world was JPY 300.1 million, increasing 15% in reported revenue and 24% in constant currency.

Rest of world includes relatively smaller countries in emerging markets where we see high-growth potential and additional opportunities for country expansion. Across rest of world, we also saw industry segment growth in consumer and FMCG. In rest of world, we saw particularly strong year-on-year growth in our product innovation solution suite, growing at JPY 64 million or around 55% year-on-year.

So now let's wrap up, Slide #26. So in summary, Q1 revenue was lower than expected primarily driven off of a slowdown in Japan, but we've been able to maintain our EBITDA operating profit and net income targets, consistent with our initial guidance assumptions for the first quarter.

We've implemented immediate action plans in Japan to improve our short-term business performance, and improving our business performance in Japan is our top priority.

Even with the lower start to the year, we believe we can achieve our full year targets. And our initial annual guidance remains unchanged.

We remain committed to the strategy that we've outlined in our midterm plan and believe we have the right strategy to address the issues that we're currently facing.

Digital and global continue to be growth drivers, and we are uniquely positioned for digital -- for future continued digital growth in an increasingly regulated market.

And then finally and most importantly, we remain positive about our market opportunity and remain committed on delivering the vision of becoming the first truly global digital research company.

So with that, let's stop there and open it up to questions. [Foreign Language].

[Portions of this transcript that are marked [Interpreted] were spoken by an interpreter present on the live call.]