JSR Corp

TSE:4185

Earnings Call Analysis

JSR Q2 2023 Results and Downward Forecast Revision

JSR's second quarter of fiscal year 2023 saw significant growth in revenue and profit across all segments compared to the previous quarter, even as the semiconductor industry continues to face challenges. In contrast to the quarter-on-quarter improvements, the full year consolidated earnings forecast has been cut from JPY 42 billion to JPY 18 billion due to uncertainty in demand, particularly in semiconductor materials expected to remain flat. While the Life Sciences segment anticipates a sales and profit increase in the second half, it's a different story for JSR's semiconductor materials, with only a full recovery expected in fiscal year 2024. Despite the downward forecast revision, the company is intensifying cost reduction measures and profitability initiatives, including structural reforms, and maintaining its strategic direction and midterm vision. Additionally, a tender offer by JIC Group for JSR's shares is proceeding, aligned with strategic goals to bolster the company's long-term competitiveness by going private.

A Challenging Environment Met with Cost Reductions and Focus on Recovery

The company encountered a challenging fiscal year 2023, with significant quarter-over-quarter growth yet facing an overall difficult demand environment. The semiconductors industry, including materials demand, is particularly stressed but shows signs of stabilization. Profitability was notably affected in the first quarter by unique factors such as accounting adjustments and major repairs in the Life Sciences segment. Cost reduction measures and profitability initiatives are being emphasized to face the downward earnings revisions, from an initial forecast of JPY 42 billion operating profit, it has been adjusted to JPY 18 billion.

Segments Under Scrutiny: Semiconductor to Life Sciences

Memory production is expected to endure further adjustments, impacting demand, while Display materials have entered an adjustment phase after unexpectedly high utilization rates. Nonetheless, the second half of the fiscal year should show continuous recovery in industries apart from semiconductors, carrying cautious optimism into 2024. Life Sciences are rebounding despite some year-on-year losses attributed to one-off factors and a decrease in demand within certain areas of the biotech landscape. Sales forecasts in Life Sciences are riding on the back of planned sales in areas such as IVD testing kits and the expansion of CDMO facilities.

Fiscal Year Projections: Mitigating Risk with Strategic Decisions

While the forecast for the fiscal year 2024 predicts a near-flat semiconductor demand, the company expects a full recovery to commence in the following fiscal year, betting on growth in AI chips market share and technological developments. In terms of Life Sciences, short-term weaknesses are anticipated, but significant sales and profit increases are also forecasted for the segment. Additional risk factors regarding smaller biotech customer portfolios and rising interest rates have been considered in the forecasts. Yet the company is determined to leave headroom for potential upside not currently factored into their projections.

From a Private Transition to Technology Investment

Emphasis on strategic direction and growth potential remains unshaken as the company progresses toward privatization in collaboration with Japan Investment Corporation, aimed at boosting competitiveness and growth. Maintaining their strategic investments, particularly in cutting-edge semiconductor materials like EUV and advanced DRAM, reflects a commitment to technology development despite the overall demand slowdown. The company appears poised to endure the cyclical downturn while setting the stage for a robust return to form as market conditions improve.

The Wrap-Up: Cost Discipline Meets Strategic Patience

Cost controls and strategic initiatives are crucial in navigating the current landscape. As highlighted in the earnings call, the company's management is keen on cost discipline, reflected in controlled fixed costs and additional cost reduction initiatives that are yet to be fully realized in their projections. They remain firm on their strategic path, emphasizing technology leadership and market share growth as key components for future success. This disciplined approach, combined with a focus on long-term strategy, will be vital for weathering the current market challenges and emerging stronger in the ensuing upturn.

Earnings Call Transcript 2024-Q2

[江本 賢一, executive]

Thank you very much. I would like to talk about the Financial Results of Second Quarter 2023 JSR using the display on the screen. I would like to start from Page 3.

In the second quarter fiscal year 2023, in all segments, financial -- Q-on-Q basis, revenue and profit showed significant growth. While the demand in industries, particularly in semiconductor industry remains challenging. There was an improvement in performance of -- performance on a quarter-on-quarter basis.

In the first quarter, we were affected by accounting factors and major repairs in Life Sciences, resulting in a significant decline in profit. However, these effects were removed in the second quarter.

Fiscal year 2023 consolidated earnings forecast has been revised down this time. The core operating profit has been revised from JPY 42 billion to JPY 18 billion.

Although the demand environment is showing signs of recovery after bottoming out, the forecast for second half fiscal year 2023 reflects the uncertainty in the current demand environment.

SEMI, which is about Semiconductor materials. Semiconductor materials demand is expected to remain nearly flat H-o-H in volume.

Industry is recovering in [indiscernible] since the first quarter, and this trend is expected to continue in the second half of the year.

On the other hand, Memory production is likely to undergo a further adjustment in the second half, and we assume that the demand environment will largely remain in the mentioned [indiscernible].

Display, which is about our display materials, saw higher-than-expected utilization in the flat panel display industry in the first half of the fiscal year. But the industry is currently in an adjustment phase and this is reflected in our forecast.

As a whole, the company lowered its forecast, reflecting a decline in sales volume at SEMI. A full recovery in SEMI's demand is expected in fiscal year 2024. Strong growth trajectory is expected with AI chips in addition to the market recovery. We are expanding our market share, focusing on advanced materials.

As on the middle, EUV [indiscernible], despite a challenging overall demand environment, we have managed to increase sales of EUV including MOR.

As for Life Science. Life Sciences was affected by temporary factors. In addition, other small-scale biotech development activities in Europe, the United States and China are on a recovery trend, which were resulted in a reflection. We expect a weak situation for this fiscal year, which we were resulted in a reflection of the forecast for CRO and CDMO.

On the other hand, overall Life Science is expected to see a significant half-on-half increase in sales and profit.

Sales of IVD testing kits are expected as planned in the second half. In addition, the expansion of CDMO's new facility and overall's sales recovery are factored into the forecast.

While the earnings forecast was revised downward, company-wide cost reduction measures and initiatives to improve profitability including structural reforms will be strengthened. Revision of the earnings forecast is based on short-term demand trends. Our business strategy and progress towards achieving midterm vision remain unchanged. Efforts to expand market share, strengthen technological development capabilities and enhanced profitability are steadily progressing. A recent increase in profitability is expected for the demand recovery phase.

Lastly, as for -- on June 26, 2023, as we announced, Japan Investment Corporation, JIC Group announced its scheduled commencement of a tender offer for JSR's shares through a strategic partnership with JICC, in which the 2 companies share the same strategic direction, we will accelerate the promotion of our strategy by going private while flexibly promoting the industry restructuring of the semiconductor materials.

We aim to strengthen international competitiveness and the mid- to long-term growth potential of our businesses. We believe that the transaction is the best strategic option to all stakeholders of JSR, including shareholders, global customers, employees and partners.

The regulatory processes in Japan and overseas are progressing. And there are no changes from our disclosure. Basically, the document submissions have been completed with the relevant authorities we have anticipated, both domestically and internationally.

The commencement of -- for the tender offer is expected to be in late December as stated in the disclosure. However, it is difficult to determine an accurate estimation of the procedural timeline. And we will announce exact date in due course.

That was the overall highlights. And on this stage, I would like to talk about the highlights of the results. You see a year-on-year core operating income on the upper half in a waterfall chart.

A significant decline is in the Digital Solutions, a profit decline of JPY 10 billion. This is mainly due to a decrease in demand compared to the previous year. Sales in the semiconductor segment decreased by approximately 20%. Although there were some uncertainties in semiconductor demand, overall performance was solid in the first half of fiscal year 2022. However, the demand environment deteriorated significantly this time, affected by the semiconductor cycle. The silicon wafer input, which is an indicator of demand, is perceived to have had a similar decrease as well.

Out of the Digital Solution, display achieved increase in revenue and profit due to increased production by customers following the recovery of the flat panel display market. Edge Computing was affected by the sluggish smartphone market.

Next, Life Sciences. As shown here, in the first quarter, JPY 4.5 billion was posted, a loss of about JPY 4.5 billion due -- was posted due to onetime factors in Q1. And also the impact of the planned major repairs at the Colorado facility and provisions for inventory write-downs, et cetera, also had impact.

Other than the special factors in the first half of fiscal year 2022, there was sales of IVD testing kits. However, this year, IVD testing kits sales was expected in the second half. There was also some demand decline in CRO as well.

Plastics. As for Plastics business, profit recovered year-on-year due to improved trading spreads.

In other segments, due to cost reductions, profit recovered.

Next, Q-on-Q numbers. On a Q-on-Q basis, there was a significant increase in revenue and profit. Digital Solutions revenue and profit increase. Both semiconductor and display revenue and profit increased. The demand environment for semiconductor materials continue to be sluggish but sales improved Q-on-Q and EUV is making steady progress.

As for Life Science, there was an improvement due to the absence of [indiscernible] loss in the first quarter, JPY 4.5 billion loss in the first quarter and CDMO's profit improved.

Plastics, demand is still recovering, but the trading spread has expanded due to price revisions.

Although there is a significant decrease in profit compared to previous year, a definite recovery was shown Q-on-Q. Next page, please.

I would like to talk about the [indiscernible] of the numbers that I have explained.

Year-on-year, core operating profit of first half fiscal year 2023 was minus JPY 1 billion, a decrease of approximately JPY 18 billion year-on-year. Digital Solutions and Life Sciences decrease in revenue and profit year-on-year. As I mentioned earlier, semiconductor materials declined sales by about 19%.

And for Life Science, as I mentioned earlier, in the first quarter accounting -- first quarter accounting factors and the deterioration of demand and last year's test kit timing was the cause.

If you look at Q-on-Q, in all segments, there is an increase, both in [indiscernible] revenue and profit. Although a weak -- demand environment is still weak, the worst period has already passed and there has been improvement Q-on-Q.

On the next page, I would like to talk about the details of the Digital Solutions business. If you look at the lower bottom, year-on-year waterfall chart is shown. First, semiconductor materials, it decreased revenue and profit, as mentioned. Display achieved increased profit due to good utilization rate at customers. The major cause of the decrease into the solution was affected by the decline -- declining demand environment.

If you look at others, mainly fixed cost, semiconductor materials, due to upfront investments, EUV MOR and Asia's -- investment in Asia will be continued and it has increased.

On the other hand, overall fixed costs, testing controlled, which is below the budget.

Now, on Q-on-Q, in addition to the increase in sales volumes, fixed cost impact has turned to the positive. The difference in the fixed cost accruals, we have reduced the fixed cost, and so that trend to a positive result.

Next page, Digital Solutions business. Revenue growth rate of major products. EUV achieved a sales increase of 15% year-on-year, and 35% Q-on-Q. Despite the sluggish overall semiconductor demand, there was an increase in sales for advanced DRAM. MOR also showed strong progress.

Next, segment data of Life Science business on year-on-year decrease in revenue and profit. The revenue decrease was mainly due to the impact of sales of IVD testing kits in the first half, FY '22. For FY '23, the sales are planned for second half. The profit increase was due to the decreased profit in various businesses along with IVD testing kits mentioned above, CDMO's special factor in Q1 FY '23 and declining demand in CRO and BPM also led to the profit decline.

Looking at the Q-on-Q increase in revenue and profit. The increase in revenue and profit was due to the CDMO's improvement with the removal of special factors and sales expansion. CRO and BPM also saw increase in sales.

Next page, Plastics business. Year-on-year on -- year-on-year Q-on-Q increase in revenue and profit. As for demand, demand is still recovering and profit increased due to the expansion of trading spreads, resulting from improved sales prices.

Next page is the summary of FY '23 consolidated earnings forecast revision. The earnings forecast has been revised this time, expecting a decrease in core operating profit from the initial plan of JPY 42 billion to JPY 18 billion. The waterfall chart illustrates the factors contributed to the profit decline.

The decrease in sales in Digital Solutions significantly impacted the marginal -- margin profit decline. For SEMI, a sales decline of slightly over 10% compared to the initial plan is factored into the forecast. The semiconductor industry faces uncertainty for the time being, resulting in a flat assumption of the demand for second half FY '23 compared to first half.

For Display, we expect a decrease in demand due to production adjustment in second half, but a partial rebound from high operations at customers in first half FY '23.

As for Life Science, it's expected to increase compared to the previous year but remain a few percent below the initial plan. The decrease in marginal profit, therefore, that sales increase was reflected into the revised forecast.

Overall, fixed costs are under control and within the plan, cost reduction measures of JPY 1 billion are factored into the forecast.

As for other factors, include an impact of approximately JPY 2 billion due to currency fluctuations. The initial plan of JPY 135 per dollar has been changed to JPY 143 per dollar for the full fiscal year. So the second half, JPY 143. So the positive effect of the weaker yen has been reflected.

Special factors in Life Science business have resulted in an increase in profit compared to the initial plan. This includes approximately JPY 2 billion accounting factor recognizing Q1 FY '23, as well as estimated disposal losses for inventory and provisions for doubtful receivables related to certain customer transactions. These factors are based on the current estimation.

In biotech industry, there has been a decrease in funding due to rising interest rates, et cetera. We have many small biotech ventures in our small customer portfolio, though there are a major pharma companies. In addition, some development projects in the preclinical phase require caution regarding the demand, trends and collection of receivables because of short order period in some cases. These risks have been factored into the forecast partially.

On the other hand, we have not reflected additional measures for cost reduction, profitability improvement, sales expansion in Life Sciences and elimination of aforementioned risk factors in the current performance outlook. So these are potential upside factors and we are actively working on them.

Next page is the actual versus FY '23 consolidated earnings forecast revision. All in all, it is expected to achieve a significant profit recovery from the first half to second half of FY '23. On the right, you see the gap between the first half and second half.

As for Digital Solutions, if you make comparison, the profit decline is expected. For semiconductor materials, there is the impact of sales and cost timing. Assumption of demand condition is to be flat between first half and second half.

Display is expected to have a slightly lower performance than the initial plan due to production adjustment of customers in second half. [indiscernible] significantly profit recovery is expected. We factor the disposal losses and other special costs in second half but also in corporate sales of IVD testing kits and profit [indiscernible] from the expansion CDMO production, the recovery in demand for CRO and BPM.

Additionally, the execution of profitability improvement initiatives and operational improvement projects will be aggresively pursued to deliver the results in second half FY '23 and FY '24.

As for Plastics, it is planned sales expansion due to demand recovery, further improvement of trading spreads and cost reduction.

Next page, that shows the rapid environment assumption for outlooks. The silicon wafer input, which is a benchmark for [indiscernible] and demand was initially assumed to be around a 5% decrease for the current fiscal year. Last year, we were estimating a little negative. But the financials of the first half was minus 15% to 20%. It is expected that the gradual recovery will come, but a decrease of over 10% is anticipated for FY '23. In FY '24, double-digit strong growth is expected.

The operation -- Display, the operation of FPD makers, major customers of Display was favorable in first half, but is expected to adjust in half 2, resulting in slightly lower performance than initially expected for '23. For FY '24, an increase in operation is anticipated.

Automobile production continues to recover due to the elevation of semiconductor shortages, which also extend to the expansion of our plastic demand.

The overall biopharmaceutical market remains strong despite some stagnation in certain areas. However, investment in biotech market is significantly declined in FY '22, as shown here, and expected to remain weak in FY '23, despite the decline is smaller. We believe the bottom has already been reached and we see orders to recover from industries, which was already incorporated in the second half outlook.

Lastly, Life Sciences. The production schedule of KBI's new company, which is a current issue for us. So a significant capacity expansion was achieved. And in North Carolina, new plant was established and we are working on this.

This bar graph shows in each quarter, the starting [indiscernible] number is shown here. The broken line shows the manufacturing capacity.

From the second half of last year, at the [indiscernible] new plant, commercial production started. And as such, came to the first quarter and the second quarter, the operation has been smoothly expanding toward the second half of this year and the full operation is estimated currently. We expect that the operation will be higher than our estimate for the full year.

At the KBI, we conduct the profitability improvement projects and without having -- without having additional cost, we have been able to expand the production capacity by improving cycle time, that is expected to contribute to production expansion in this fiscal year and next fiscal year.

This concludes my overall explanation. Thank you.

[Eric R. Johnson, executive]

Yes. Thank you, Emoto-san. I'm just going to make a couple of summary comments to emphasize some of the points already clarified by Emoto-san.

First, as was described, the environment is challenging, and we're seeing the impact of this on both of our businesses, in particular, for the semiconductor business. We had projected an upturn in the second half of the year. And as we've highlighted here, we're no longer expecting that upturn.

But we do believe that we have hit the bottom. And as you see, the revised forecast shows flat, first half to second half, and we're projecting the upturn now to start in 2024.

We are, however, still firmly committed to our strategic activities and we're encouraged by the performance we're seeing in both businesses. In particular, we want to highlight again the share for EUV is increasing. We think that's a good indicator for our strategic investments. And also for KBI, we continue to see good progress on execution in that business.

And then finally, in regards to the takeover that we've highlighted here, that there's no change in the expectations that we have for that timing. We continue to make progress with JICC in that effort. And I know many people will have different questions on that. But just to be very direct, we're not changing any guidance on that at this time. We're making progress as we have expected.

And I think with that, we'll turn it over to questions.