Kao Corp

TSE:4452

Earnings Call Analysis

Profits Surge Due to Strategic Reforms and Marketing Initiatives

The company exceeded profit expectations in Q1 2024, driven by successful structural reforms and strategic marketing efforts. Net sales rose 5.2% to JPY 365.8 billion, and operating income surged by JPY 14.7 billion to JPY 22 billion, lifting the operating margin to 6.0% and EPS by 241.9%. Key contributors included improved cost structures, increased market shares of core brands like Attack and CuCute, and higher profitability in sanitary and chemical products. The firm forecasts an annual operating income of JPY 130 billion, anticipating continued benefits from price adjustments and volume increases, despite expected rises in raw material costs.

Quarter's Performance Overview

In the first quarter, the company has seen significant improvements in its financial performance. Net sales increased by 0.4% in real terms to JPY 365.8 billion. Operating income rose dramatically by JPY 14.7 billion year-on-year, reaching JPY 22 billion. This resulted in an improved operating margin of 6.0%. Net income attributable to owners surged by JPY 11.7 billion to JPY 16.5 billion, and earnings per share almost tripled, increasing by 241.9% to JPY 35.43【4:0†source】【4:1†source】.

Impact of Structural Reforms

The company’s structural reforms have started showing positive results. Structural reforms, including selling price adjustments and the emphasis on high-value products, have significantly bolstered earnings. Notably, the Fabric and Home Care segment saw its operating margin climb by 8.1 percentage points to 16.1%, while sanitary products returned to profitability. The Chemical business also performed well, with an operating margin of 8.6% and an income increase of JPY 4 billion【4:0†source】【4:1†source】.

Geographical Sales Performance

Geographically, the company had varied results. Sales in Japan grew substantially by 6.2%, and in Europe, they were up by 8.5%, driven by strong demand for hair care and cosmetic products. However, sales fell in the Americas due to a previous year’s price hike affecting temporary demand for hair salon products. In Asia, sales dropped by 10%, impacted by water treatment issues in China and profit-focused measures in Indonesia and Thailand【4:0†source】【4:1†source】.

Consumer Products and Chemical Business

The Consumer Products segment experienced a 2.2% rise in sales. While volume decreased slightly by 0.5%, a 2.6% hike in selling prices significantly boosted operating income by JPY 11.4 billion year-on-year, bringing it to JPY 14.8 billion. The operating margin for this segment improved by 4 percentage points to 5.3%. Notably, the Hygiene and Living Care business significantly contributed to these gains. Conversely, in the Chemical business, while sales declined due to lower fat and oil prices, the focus on high-value-added products led to better operating income of JPY 8.1 billion and an improved operating margin of 8.6%【4:0†source】【4:1†source】.

Strategic Initiatives and Future Outlook

Looking ahead, the company has outlined several strategic initiatives. These include the acceleration of the transformation in the hair care business and continued global expansion of the skin protection business. The company also plans to introduce new high-value products like John Frieda and expand product lines such as Jergen's natural glow and Biore UV. For the full fiscal year, the company expects operating income to be JPY 130 billion, driven by price increases and a focus on high-value products, anticipated to add JPY 20.5 billion to profits. Furthermore, contributions from new product volumes are forecasted to bring in JPY 12 billion【4:0†source】【4:1†source】.

Challenges and Risk Management

Despite the overall positive results, the company acknowledges certain challenges, such as expected rises in raw material costs from the second quarter onwards. Prices for natural fats, oils, crude oil, and domestic naphtha are set to increase. The company plans to mitigate these cost increases by passing on the costs to consumers and focusing on high-value products. Moreover, SG&A expenses are expected to rise due to increased marketing efforts and inflation-related costs【4:0†source】【4:1†source】.

Earnings Call Transcript 2024-Q1

[Yoshihiro Hasebe, executive]

Thank you for attending our financial results briefing for the 3 months ended March 31, 2024. I will walk through the materials in your hand in order. First of all, please turn to Page 5. To summarize the first quarter, we have achieved profits that exceeded the plan as K27 progressed smoothly after the structural reform. The following 4 points are the result of our efforts since last year. First, we generated profits through structural reforms. The effect of reducing fixed costs in Merries has begun to emerge and the adjusted selling prices through high value-added products are beginning to penetrate, which means that the earning power is starting to recover.

Secondly, by focusing on marketing and increasing customer loyalty, we were able to improve the competitive advantage of the core brands. As a result, Attack and CuCute have not only kept their top market positions but further gained market shares and profit margins. And thanks to the success of new marketing activities, Laurier's market share and profits have also increased. Thirdly, we ramped up global rollout of high value-added products. I will explain this in more detail later in the section on the progress of 3 areas.

Fourthly, Chemical business turned around and contributed to profits as planned. This is not simply about a recovery in demand, but also approved for the fruits of our efforts since last year, including high value-added products and capital investment. Please turn to Page 6. Net sales increased by 5.2% to JPY 365.8 billion, without currency effect, sales increased by 0.4%.

Operating income was JPY 22 billion, which was higher by JPY 14.7 billion year-on-year. Operating margin was 6.0%. Net income attributable to owners of the parent was JPY 16.5 billion, rising by JPY 11.7 billion. Earnings per share was JPY 35.43, an increase of 241.9% over the previous year. Please refer to Page 7. Key points of the results. In the first quarter, operating income increased by JPY 14.7 billion year-on-year to JPY 22 billion.

The emergence of the effects of structural reform, including selling price adjustments from the shift to high-value products has made a significant contribution. Operating margin of Fabric and Home Care recovered to 16.1%, while the sanitary products returned to profitability. These 2 improved operating income by JPY 10.5 billion. Cosmetic business were in line with the plan, with sales growing at 2%. We are focusing on global brand development. In the Chemical business, operating margin recovered to 8.6% and operating income rose by JPY 4 billion. We will continue to strengthen our portfolio management to achieve ROIC and EVA targets in Q2 onwards.

In addition, we will accelerate the transformation of our hair care business and continue to strengthen global expansion in skin protection business. Please turn to Page 8. Net sales were JPY 365.8 billion, higher by 0.4% in real terms. Overall sales of Consumer Products business rose by 2.2%. By geography, sales in Japan grew substantially by 6.2%, while strong sales of hair care and cosmetic products in Europe led to plus 8.5%.

Meanwhile, first quarter in Americas was affected by a rebound from the temporary demand for hair salon products following a price hike in Q2 last year. However, from Q2 onwards, we plan to expand Jergen's natural glow, Biore UV and Bondi Sands. In addition, new hair care products such as John Frieda are off to a good start. In Asia, due to the continued impact of ALPS treated water in China as well as profit prioritizing measures in Indonesia and Thailand during the transition to ROIC-oriented management, sales were down 10%.

In Chemical business, sales decreased due to the impact of sales price adjustment following the decline in fat and oil prices, but volume and profit increase with the operation of new facilities for tertiary [ amines ] and other products. Please refer to Page 9 next. Let me explain the key points of Q1 segment performance, focusing especially on the operating income.

Please refer to the third row from the bottom. As for the breakdown of 2.2% rise in the sales of the entire Consumer Products business, volume was down 0.5% due to the impact of Merries and Healthya. And the 2.6% hike in sales price contributed to a substantial rise in operating income of plus JPY 11.4 billion year-on-year to JPY 14.8 billion.

Operating margin improved by 4 percentage points to 5.3%. In particular, contributions from Hygiene and Living Care business was significant. Operating margin of Fabric and Home Care improved by 8.1 percentage points to 16.1%. Sanitary products achieved profitability, thanks to the effects of structural reforms.

In Health and Beauty Care business, results were slightly negative in terms of pricing due partly to the impact of the product mix. However, higher volume contributed to improved profit. In Life Care business, sales declined because of the beverage business, but profits improved. Cosmetic business posted a 2% increase in sales due to price hikes and other factors, but profits were flat year-on-year due to lower sales in China. The impact of structural reforms, including career support, are expected to be realized in the second half of the year.

Also in Chemical business, sales drop due to the lower selling price following the decline in the natural fat and oil prices. Operating income, however, was better at JPY 8.1 billion because of price revisions and focused on high value-added functional materials and other products. Operating margin improved by 4.1 percentage points to 8.6%.

Please turn to Page 10. This chart analyzes the breakdown of plus JPY 14.2 billion, which is the difference in the core operating income in Q1 2023 and operating income in Q1 2024. In Consumer Products, while raw material prices rose by JPY 2 billion, price revisions, including focus on high value-added products and structural reforms made a big contribution. The effect of structural reforms are distributed to selling price section on the chart as improved earnings power and to other cost of sales.

These contribute to about half the increase in profit. In addition, the recovery of demand in the chemicals industry, higher value-added products and selling prices adjustments, which led to JPY 4 billion improvement in gross profit are also contributing to higher profit. Please turn to Page 11 next. As a result of the structural reform, gross margin improved by 4.4 points year-on-year.

Price revisions through high value-added products, change in the product mix and reduction of depreciation and amortization, personnel and fixed costs these are the evidences of our efforts since last year. From Q2 onward, we will implement strategic price increases to pass on the expected rise in raw material prices and other costs. In addition, we will also promote price revisions through high value-added products in order to secure profits.

In the meantime, with regards to reforming our earnings power, which we will work on in a multifaceted way, we will visualize the contents and monitor them precisely. In order to achieve our ROIC and EVA targets set out in K27, we will continue to improve on efficiency by streamlining SKUs and reducing fixed assets, including inventories. With the structural reform as a starting point, we will achieve a V-shaped recovery.

Please turn to Page 12. As announced, we expect the operating income to be JPY 130 billion. This chart shows the comparison of core operating income for 2023 and the forecast for 2024 based on the results of the first quarter. Effects of structural reforms are expected to be more than the initial forecast of JPY 18 billion. Marketing expenses will be effectively deployed but are planned to be increased for global expansion. Other risks such as raw material price hikes based on geopolitical risks and the Chinese market are taken into account.

Let me explain the details. As mentioned on the next page, we expect raw material prices to rise from the second quarter onwards and see an annual increase of JPY 8 billion. We will pass on this JPY 8 billion in price increases and add another JPY 12.5 billion to profit per year by selling prices according to high value added. That would bring up profit by a total of JPY 20.5 billion through price adjustments.

In addition, contribution of JPY 12 billion is expected from the increase in the volume of consumer products, including new products. Other cost of sales includes effects of the impairment loss of Merries booked in 2023 and lower labor cost of beauty advisers. In Chemicals, tertiary amine and fragrance production facilities that started operation in Europe will contribute for the full year and volumes of Performance Chemicals and Information Materials are also expected to increase, including higher value-added products.

In addition, the gross profit margin will improve by JPY 12 billion due to an improvement in the profit of oil and chemicals as a result of higher prices of fats and oils.

In addition, SG&A expenses are expected to increase by JPY 8.5 billion from the previous forecast to JPY 25.5 billion, incorporating the spending and marketing for skin protection and cosmetics to wrap up global rollout and increases in personnel and other expenses to cope with inflation. As a result, the operating income is expected to be JPY 130 billion. Please turn to Page 13, which shows the forecast of raw material prices.

Raw material prices in the consumer products business fell from a year before by JPY 2 billion in the first quarter but will increase year-on-year from the second quarter onward. In addition to natural fats and oils, crude oil and domestic naphtha prices will rise. For packaging materials, in addition to higher naphtha prices, higher labor costs for processing will be taken into account. Energy and logistics costs are also expected to rise, resulting in an increase of approximately JPY 10 billion from the second quarter onwards or JPY 8 billion for the full year.

We plan not only to pass on those increases in prices, but also to increase profits by performing our earnings power, for instance, through adding higher value. Please turn to Page 14. From here, I'll explain about ramping up of global rollout of high value-added products using 3 slides. On Page 14, our skin protection business, consisting of UV care and self-tanning as a prime example of our global Shoptalk strategy, will be accelerated starting this year, driven by Bondi Sands, joining Kao Group and China, sales grew by 30% year-on-year.

As for Biore UV Care in China, Aqua Rich, Aqua Protect Mist and Aqua Rich Aqua Protect Lotion water layer pack, which are very well received in Japan last year, we quickly launched resulting in a 24% increase in sales year-on-year. We are promoting the use of UV cameras to visualize unevenness in application and other digital content to attract new customers in younger generation. In Bondi Sands dices, we will promote brand awareness expansion and trial use this year, especially in North America, focusing on digital marketing measures through social media.

We will also ramp up global rollout of high value-added products in each of other regions. Please turn to Page 15. Regarding SENSAI, in various regions, SENSAI is steadily consolidating its position as a luxury skin care brand, especially among wealthy customers. In Europe, our main market in Germany, in particular, [indiscernible] a new product launched this fiscal year, and masks in the highest price range have been performing well, and we achieved the #1 market share in the mass category and #2 ranking in the skin care category.

Next is Curel, where we aim to be the world's most useful brand for people with dry and sensitive skin. In China, the essence launched at the end of February as a locally produced and consumed product increased 30% in sales compared to the plan. It received a trend award from a beauty magazine and award from the Chinese Society of Dermatology Finally, for KATE, we are promoting KATE's unique worldview and products to young customers, mainly through digital marketing in each region.

In the first quarter results in our main stage Japanese market, we achieved the #1 share in the lipstick, eyeshadow, eyeliner and eyebrow categories and secured the #1 position in the self-selection makeup market for 21 consecutive years, solidifying our position as the #1 brand. Please turn to Page 16.

In the Japanese market, we have started a transformation of our hair care business in our effort to reorganize the formation of hair care brands in addition to strengthening the existing 3 mass brands through re-branding, we have started full-fledged entry of high premium brands into the expanding high-priced segments.

Through these efforts, we will enhance our overwhelming #1 position in the Japanese bath products market. As the first offering for our full-fledged entry into the expanding high premium market, we started selling Melt a new hair care brand that proposes beauty care for relaxing moments to care for her while unwinding in some stores since March. In terms of Melt marketing, we are developing real-world experience sites and various measures targeting consumers with a high sensitivity to beauty using digital technologies. The brand has been rising steadily in sales and were received by retailers, although there has been only a short period of time since its launch.

We will continue to nurture the brand and develop into a representative brand of high premium products. Oribe, a prestige brand for hair salons continues to grow steadily. In the European region, a particular target for expansion, sales grew by 60% year-on-year. In terms of our position in the U.S. market, we have built the #2 market share in shampoos and conditioners and #1 in styling agents in the high-end market, respectively.

And in addition, we have built a strong positioning as number two, in the e-commerce channels and #1 in department stores. The key to those successes is Oribe's community creation activities through a luxury experience will expand this successful model globally in the future. We will build a model that will lead to increased loyalty and repeat business by enhancing empathy for both Oribe and Melt.

Please move to Page 17. Key highlights explained at the outset are shown again here. We are on track to achieve K27. In the first quarter, I believe we were able to demonstrate the profit generation through structural reforms. This effect will continue in the future. On the other hand, we will steadily reform our earning power, starting with the Japanese market by improving the competitive advantage of our core brands.

Then we will ramp up global rollout of high value-added products, including chemical business, which we hope will lead to further growth. Please take a look at Page 18. This is the last page and describes the major upcoming events. As mentioned in today's presentation, marketing strategies utilizing DX are important for ramping up global rollout in the future.

We will hold a briefing on DX strategies in June. Furthermore, in the second half of the year, we also plan to hold a briefing on strategies for the hair care business, which we have positioned as a business transformation area. I look forward to your participation.

This concludes my presentation. Thank you for your attention.

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