Shiseido Co Ltd

TSE:4911

Earnings Call Transcript 2021-Q3

[Michael Coombs, executive]

[Audio Gap] Present our financial results for the third quarter of fiscal 2020 as well as our full year outlook. Please see Page 3 of the deck.

Despite a challenging business environment due to COVID-19, our results in July to September recovered significantly from the second quarter, which we consider to be the worst-impacted quarter.

I'd like to focus on 5 key points today. First, momentum improved from the second quarter in all of our regions except Japan. Second, the share of skin care in our sales increased by 1.6 percentage points year-on-year, excluding inbound sales in Japan. Thirdly, e-commerce continued strong growth at over 30%, with our global e-commerce ratio reaching 20%. Fourth, we implemented relentless group-wide cost management, which allowed us to recover operating profit following the loss in the second quarter. Specifically, 55% of the gross profit decline in the third quarter was offset by cost reductions. Finally, we made solid progress with our global transformation initiatives.

Moving on to Slide 4, which is a table summary of our P&L for the third quarter. Net sales were JPY 235.9 billion, down 18.4% like-for-like. In line with our strategy, we focused on increasing the share of skincare and e-commerce sales, both of which had a positive impact. Meanwhile, sales in Japan were largely affected by the second wave of COVID-19 and the cycling of a consumption tax hike 1 year ago.

Operating profit declined by 64.1% year-on-year to JPY 12.3 billion. Despite ongoing efforts to drastically reduce costs, these were not enough to offset the slow sales in our Japan business, the company's core segment. Moreover, in order to address such challenges as sales plan accuracy and inventory management, the company revised its inventory valuation, which also affected profit negatively.

Operating margin was down 7 percentage points year-on-year to 5.2%. Net profit attributable to owners of parent declined by 61.5% year-on-year to JPY 7.7 billion, while EBITDA margin was maintained at 15.5% on par with the previous year. Actual profit results, therefore, exceeded our assumptions for the third quarter communicated as part of our full year forecast back in August.

On Slide 5, we illustrate some third quarter highlights of our focus on skin beauty brands, an important part of our WIN 2023 business strategy. Drunk Elephant, Shiseido and Clé de Peau Beauté drove expansion of the premium skin beauty category, which is a core element of our growth strategy, largely contributing to overall growth. Drunk Elephant continued to enjoy strong growth in e-commerce, with the online sales ratio exceeding 65% and growing in the mid-40% range. The brand also expanded its share in Australia, the U.K. and Asia, and was newly launched in Germany in September.

We plan to further accelerate Drunk Elephant's global expansion in 2021 and beyond. Global Japanese brands such as Shiseido and Clé de Peau Beauté also increased their shares in various regions, as shown on the slide.

Moving on to Slide 6, global digital transformation. We're stepping up the development of e-commerce platforms, conducting online promotions and engaging in live stream commerce across all brands and regions. All these efforts are boosting our e-commerce ratio and its growth rate. In particular, Prestige brands are sustaining strong momentum in e-commerce, growing by over 40% and contributing to the global expansion of online sales. We're also strengthening consumer engagement by promoting digital CRM and establishing data platforms.

Furthermore, in terms of our workforce and education, we're enhancing the digital capabilities of employees worldwide through the Shiseido Digital Academy where the digital center of excellence plays a central role. This year, 7,400 people have already received training and will serve as accelerators of digital transformation across the group.

Next, let me move on to Slide 7, our quarterly sales by region. While momentum improved across all regions since bottoming out in the second quarter, recovery was lagging in Japan where consumer traffic continued to decline. This resulted in a sales drop of over 30% in Japan again in the third quarter. Sales in the same period of the previous fiscal year were fueled by the last-minute surge in demand prior to the consumption tax hike on October 1, 2019. But even in comparison to the more normal third quarter of 2018, the Japan market was weak, declining at 27.2%.

Next on Slide 8, our results by business segment, starting with China. First, as you can see, this was the only market which saw growth in the third quarter. At the same time, uncertainties remain such as the third wave of COVID-19 in Hong Kong. Our consumer purchases grew by 5% in total, of which Mainland China increased by 8%. In Prestige, our growth exceeded 35%, helping us to gain market share.

Strong momentum continued in the third quarter despite the absence of large online shopping events like 618 and restrained buying ahead of the upcoming Double 11 in the fourth quarter. Prestige e-commerce grew 45%, while off-line sales continued to grow double digit, contributing to our market share expansion. In Hong Kong, cross-border e-commerce grew by more than 60%.

Moving on to Slide 9 and our travel retail business, where we achieved growth of over 50% in Asia, driven by consumer purchases in South Korean downtown duty-free shop, in Hainan Island and especially e-commerce. We managed to reverse the trend despite a substantial decline in travelers due to continued curbs in international flights. Prestige skincare brands, Clé de Peau Beauté and IPSA were particularly solid.

Next, on Slide 10. Market conditions were severe, as shown on the slide. And coupled with cycling the last-minute surge in demand ahead of the consumption tax hike in the previous year caused a sharp decline in sales. Consumer traffic was slow, particularly at department stores, where we were unable to conduct our previous pre-COVID-19 consumer service due to measures against the spread of COVID-19, including vinyl covers on product samples, discontinuation of in-store sampling and no touch-up activities. As a result, local sales were negative year-on-year in the mid-20% range, while inbound sales dropped by over 60%. Meanwhile, e-commerce grew by 13%, sustaining double-digit growth.

Next, on Slide 11, we sum up our ongoing measures for cost management. As a result of group-wide initiatives, we reduced SG&A expenses by JPY 26.9 billion or 55% of the JPY 48.9 billion decline in gross profit. This included the shift of certain market investments from the third quarter to the fourth quarter.

Cost of sales increased 4.5%, and the ratio rose 5.6 points, partly due to an increased inventory write-off provision, while we continually work to address our sales planning accuracy and inventory management. Another factor was lower productivity of our factories due to decreased production.

Next, Slide 12 sums up our market assumptions for the second half of the fiscal year, explained back in August. However, the market situation, including Japan, has been weaker than expected, resulting in a more severe business environment. Based on the results for the third quarter as well as our revised assumptions for the second half, we expect the pace of recovery to be slower than at the time of the second quarter announcement. The pandemic is still expanding today globally, including Japan, and we're not yet able to predict the full impact.

Slide 13 shows our actual results for the third quarter and our revised sales outlook for the fourth quarter based on the market assumptions explained earlier. The gray dotted line is our previous forecast. The red solid line represents our actual results, while the red dotted line is our updated outlook.

The new forecast for the fourth quarter is negative 10% like-for-like. Forecasts have been lowered for all regions, but the biggest factor is our Japanese business or Japan business, which has been revised from minus 8% to minus 24%.

Slide 14 shows our latest outlook for the full year. According to our August announcement, operating profit was forecast to be breakeven, as shown in the box on the right. However, we're currently facing an unfavorable external environment, such as weaker-than-expected consumer sentiment in Japan, while in Europe and the United States, COVID-19 cases have been on the rise, with restrictions on movement and other measures being strengthened.

Considering the market recovery continuing to be sluggish in the fourth quarter, net sales are projected at JPY 915 billion, JPY 38 billion down from the previous forecast. Our operating profit forecast was lowered by JPY 10 billion to minus JPY 10 billion. Net profit will be a negative JPY 30 billion, a reduction of JPY 8 billion. I'll explain the details of this in the next slide. Our annual dividend forecast remains unchanged.

Next, on Slide 15, we show the breakdown of the change in our operating profit outlook, from breakeven announced back in August to the new forecast of a JPY 10 billion operating loss. On an underlying basis, we maintained breakeven in operating profit, thanks to careful examination and streamlining of costs across the entire group, despite the expanded impact from COVID-19 that has aggravated the business environment and diminished our gross margin.

However, we forecast JPY 10 billion of operating loss in fiscal year 2020, resulting from various business reforms, including Japan's inventory provisions and reviewing our unprofitable businesses and restructuring the Americas business rapidly in order to strengthen our business foundation towards 2021.

Next, on Slide 16, I'd like to explain the outlook of extraordinary income and losses. Extraordinary losses, JPY 27.5 billion, broken down as: JPY 18 billion related to COVID-19 reclassifications; JPY 4 billion for organizational restructuring to further accelerate digital transformation in the Americas; and JPY 5.5 billion for disposal of property, plant and equipment, et cetera. The extraordinary gain is JPY 15.5 billion, as shown on the slide.

The next slide is a reminder of our transformation road map under the new strategy of WIN 2023 announced back in August. We're making steady progress in rebuilding our business portfolio and improving our profitability. Though we can't disclose any details yet. We'll do so as soon as concrete decisions are made and approved.

We're also advancing the reform of our business in Japan. One of the steps was the revision of inventory valuation, which we did in the third quarter, which was conducted as part of inventory management reforms aimed at optimizing inventory and production levels.

My last slide, Slide 18, covers our FOCUS program, an important part of our overall business transformation. As explained at the financial briefing back in February, we're currently introducing a globally unified system called FOCUS, in order to upgrade and streamline our systems, our data and our business processes worldwide. While we're currently focused on the design and build stages, completion of global deployment across all geographies is scheduled for the end of 2023. And together with upgrading our inventory and supply-demand management, we will review all business processes and significantly improve our overall productivity as a result.

That's all from me. Thank you.

[Operator]

Now we would like to start the Q&A session.

[Indiscernible] [ Kuwahara-san ] from Merrill Lynch.

[Unknown Analyst]

[Interpreted] [indiscernible] We are not Merrill Lynch anymore, but apologies, [indiscernible]. One question, in -- for Q4, JPY 10 billion of inventory reduction or business restructuring, et cetera, but can you go more into details of this?

For example, in terms of depreciation of some of the inventory that you have, you've done that in Q3. You've kind of cleaned some of the inventory in Q3, but there's more coming in Q4. So what's the background story of that?

And also due to the Americas restructuring, what kind of cost reduction can we expect in the fourth quarter? Those are the areas, specifically, I would like to know for Q4.

[Michael Coombs, executive]

[indiscernible]. Firstly, we did take a JPY 5 billion charge in Q3 for inventory in Japan, and that is a part of the JPY 10 billion. So the remaining JPY 5 billion is what we are expecting to do in Q4, and it has 2 major elements. We are currently reviewing the profitability of certain of our businesses in Japan and studying those to see whether there is an opportunity for us to do some business reforms in the balance of 2020, which would also, again, include inventory charges.

And the second component -- and then you asked about the restructuring in the Americas. We are restructuring our digital -- consolidating all of our digital efforts and shutting down some offices. There is some severance payments involved in that process, and that's what we have provided for in the fourth quarter as well in our overall outlook.

[Unknown Analyst]

Understood. If I may check or confirm. So in the provision -- inventory provision, that's going to -- there's going to be additional for Q4? And also for Americas and EMEA, the cost, I think the cost will be reduced. But what kind of impact can we see for cost reduction for next fiscal year?

[Michael Coombs, executive]

In the process of doing our -- finalizing our plans for 2021, so I'm not really in a position today to communicate specific cost reduction targets for next year. But as a result of all the measures that we've taken in 2020, we've certainly lowered the overall cost base of our business. So as we go into 2021, we expect a continuation of the benefit of that.

And I think your earlier question was whether there is additional inventory -- whether there are additional inventory charges coming in Q4, and my answer would be that we are studying those at the moment to determine whether there is anything further that needs to be taken.

Maybe Tadakawa-san would like to add something.

[Norio Tadakawa, executive]

[Interpreted] This is Tadakawa from Corporate. I can maybe talk to you about the Japanese situation or the situation in Japan. So in terms of the JPY 5 billion earlier, so yes, the provision from the inventory provisions, so there will be that accrued into -- in terms of the COGS. And then in Q4, overall, it's JPY 10 billion in total, and there will be JPY 5 billion that will be accrued into the cost restructuring for Q4.

And in the breakdown of this, for example, looking at Japan, the negative performing businesses in Japan, some of the recently launched businesses in Japan in the last decade or so, there are -- we are starting to kind of see the overall picture of what business can profit in the mid- to longer term. So as we think of -- about exiting from some of the negative-performing businesses, we're looking at what kind of businesses we can withdraw from, and so the inventory from there, we are trying to take away as well and to clean out. So therefore, in Japan, there will be certain inventory provisions that we accrued into Q4.

On the other hand, we talked to this at the end of Q2. But globally, we are doing a big structural reform. So we want to pick up the speed -- accelerate the speed of the structural reform again. So the fixed -- we want to reduce the fixed costs in the Americas, for example. So there are onetime costs that will be put into Q4 as well. And as a total, that will be about JPY 5 billion. That's kind of the breakdown.

[Operator]

Next, Morgan Stanley. Miyake-san, please.

[Haruka Miyake, analyst]

[Interpreted] I'm Miyake from Morgan Stanley. Regarding China, I have a question. In Hong Kong, there is third wave hitting. It's hard to tell, but third quarter revenue itself, previous forecast was 14%, but it's softening. Fourth quarter outlook has been revised down as well. So can you provide more details with regards to that?

And in terms of environment change, competition is said to be more fierce compared to the first half outlook. So could you provide what your take on promotional activities, what's your approach? Do you think that could impact your margin going forward?

[Michael Coombs, executive]

In terms of Hong Kong, we certainly have been impacted by the third wave of COVID-19 that's actually happening. Generally speaking, the impact of the demonstrations that started late last year, around July of last year, has now been -- have pretty much run its course. But the third wave of COVID-19 as well as a decline in the number of tourists from China is weighing on our Hong Kong outlook for the rest of this year, and that is included in the overall slight reduction of our outlook for the China business for the full year and specifically for Q4.

We are seeing a higher level of promoting and discounting, and that is true. And we are responding appropriately to that and also working on ensuring that our value proposition is always competitive. So as we've spoken previously about that, that continues to be the case. The market is fiercely competitive, but we believe that we are responding appropriately.

[Masahiko Uotani, executive]

[Interpreted] This is Uotani. Let me add. First, regarding Chinese consumers, while the market is recovering, we are seeing change in consumer behavior for 618 and Double 11. For such events, there are various promotions taking place.

So in regular off-season, such as July, August, September, when there are no event, the market growth rate is decelerating. So the market is becoming off promotion oriented, that's how the market structure is changing. Now our Double 11 is generating a lot of attention, and all cosmetic manufacturers are focusing even more on these events. And so that is making competition more fierce.

So profitability, compared to before, might be tougher. But then in terms of our structure currently, regarding Prestige, we are seeing strong growth, presale already. For our Prestige brands such as CPB, Shiseido, IPSA, the performance is stronger than our original expectation. So we can expect strong sales from tomorrow onward.

Regarding personal care, on the other hand, which accounts for about -- which is seeing a strong -- weak growth. Profitability standpoint, actually, it's contributing positively. So while competitive environment is fierce, if we are -- in order for us to grow Prestige even more, we need to invest in marketing activities so that we'll not miss on -- miss out on this marketing and promotion activity. So mix-wise, we think it can be better, and it can offset other factors. So this is what we are focusing on.

So that's the -- this is one of the reasons why the fourth quarter profitability looks worse because of an increase in marketing cost. But over the long term, it's true that everyone is going to focus more on e-commerce. So how to improve our profitability and grow our business there is going to be more important.

Omni-channel strategy is also important. To launch limited products -- or to launch high value-added products is going to be an important action for us. Is this okay? Thank you.

[Haruka Miyake, analyst]

Just let me confirm and check. So in that case, the third quarter revenue softness was because it was before the big sales event. And fourth quarter outlook-wise, Hong Kong was the main? What about Mainland China's growth rate for the fourth quarter? Have you changed the assumption? Or have you revised up?

[Masahiko Uotani, executive]

[Interpreted] No change.

[Haruka Miyake, analyst]

[Interpreted] So currently, the feel, the impression is strong, correct?

[Masahiko Uotani, executive]

[Interpreted] Yes, it is.

Sorry, let me add, not just that, but cross-border from Japan. So cross-border EC is showing strong growth. So today, a newspaper reported that the import -- we are importing live streaming from China to Japan. We did this in October and -- for HAKU brand. Tonight, we are going to do this for MAQUILLAGE brand so that our brand holder is going to introduce this on live streaming, and we are seeing strong growth through such initiative. So we are hopeful of Double 11 this time. Thank you.

[Operator]

Now going on to Ms. Sato from Mitsubishi UFJ.

[Wakako Sato, analyst]

[Interpreted] This is Sato. Hope you can hear me.

[Masahiko Uotani, executive]

[Interpreted] Yes, we hear you.

[Wakako Sato, analyst]

[Interpreted] Someone asked a similar question, I'm going further into detail. Americas, the JPY 5 billion for Americas, is that personnel cost, early retirement, for example? Is it that? Or is it depreciation and amortization write-offs? Or is it like an inventory provision? What line would this JPY 5 billion fall under when you talk about the Americas cost reduction?

[Masahiko Uotani, executive]

[Interpreted] In terms of where the item falls, Sato-san, as you -- as mentioned earlier, operating profit -- there's certain things that are within the operating profit, and there's extraordinary loss in profit, too. So there's both of that. So when we add all of that together, it's about JPY 5 billion.

So that's kind of the general idea of this JPY 5 billion. And there are a few components to this, but one thing, right now in the market, there's the -- obviously, the rapid digitization. Of course, this has been going on, but it's accelerating in this COVID. And so our organization, too, is doing a restructuring to be more rational around this and be more efficient.

So yes, some reduction of personnel cost, that is something that we are doing is one of the pillars. And in terms of reorganization in Americas, there's digital and a lot of organization that we've had and a lot of different teams that we've had in the Americas.

But I think at 1 p.m. today, we did disclose about the new management system in 2021. But we will be bringing in the digital -- Global Digital Resource in Tokyo. And so as a result of that, the fixed cost -- the personnel cost that used to be in the U.S. will go down because we'll be carrying that then in Tokyo. And also office-related costs, such as shrinking the office size, because we do need to lower the fixed cost. So labor cost, head count -- personnel costs and office cost. These are some of the components in which we will be doing significant cost reduction.

[Wakako Sato, analyst]

[Interpreted] Understood. JPY 5 billion. I thought it was all operating profit, but it also includes extraordinary profit and loss.

[Masahiko Uotani, executive]

[Interpreted] So OP is only about JPY 1 billion.

[Wakako Sato, analyst]

[Interpreted] I see.

[Masahiko Uotani, executive]

[Interpreted] Yes. The JPY 10 billion in OP is for Q3, what we accrued in Q3. That includes the JPY 5.2 billion of inventory provisions in Japan. And the last -- the remainder is the JPY 5 billion. As you heard earlier, it's about the Japan business, withdrawal of certain businesses or as mentioned about Americas. So there's things that we need to put in those lines, too.

[Wakako Sato, analyst]

[Interpreted] I see. So Americas has a lot more of the extraordinary profits and loss. Okay. Got it. Understood.

Now second question is -- sorry, sorry. So of course, in Japan, looking at the Japan market, there was a rush to buy for the consumption tax, the cycling of the rush to the consumption tax. But what is really happening in Japan? I feel like you know thoroughly about the market.

So in Japan, are there no trade downs happening? And because there's covers on the testers and all that -- and so maybe that's affecting it. And then there's vaccine, stories of vaccines. If the vaccines are there, is the traffic going to recover, and is the disposable income impacting the overall consumption behavior?

[Masahiko Uotani, executive]

[Interpreted] This is about Japan, right?

[Wakako Sato, analyst]

[Interpreted] Yes. Yes, I want to know about the Japanese consumer behavior.

[Masahiko Uotani, executive]

[Interpreted] From October, Tadakawa-san has become the President of the Japan business, so I will have him reply.

[Norio Tadakawa, executive]

[Interpreted] Okay. Looking at the department stores, that is where we see the biggest decline in traffic. So like you said, Sato-san, department stores itself, the traffic of department stores itself is recovering. But the -- if you go to the cosmetics section of the department stores, all the testers have covers, the plastic covers. And if that's so, it's hard for consumers to stop by the counters.

So department stores has -- the main activity was kind of the touch-up sales activities. And therefore, the traffic does decline for department store cosmetics sections. And within consumers, too, we're seeing more of not just window shopping and walking around, but they go shopping with an objective.

So we're not seeing people wandering around the counters and just incidentally buy a product. They go to buy a certain product. But there are exceptions. For example, people working in the medical field. People working in the medical field, they don't want to spread the potential COVID, and they don't want to be affected either, so they don't go shopping around.

So we're seeing that more of this senior segments too are declining in terms of the traffic as well. But for these people, we're making individual approaches. Meaning, through telephone or by line, and that could help us recover some of the traffic.

In terms of your point of trade down, now, yes, I think -- we do think that there is a certain trend of trade downs. But is this going to be long going or not? We are not at a point where we can make that decision right now.

Of course, if there's a vaccine that's developed now and if the vaccine works, are the -- is this traffic going to come back immediately? Well, if the customers come back, the traffic comes back, and we can do these touch-up sales activities, then we think that, yes, it will generally recover.

But these medical -- people working in the medical field and seniors, when we make individual approaches, they're very grateful. They like it. So what that means is that consumers do want to go shopping, do want to check out the products, but they're refraining due to the COVID situation. So even through digital, we're starting to deepen our communication. So we have -- at GMS, we have remote counseling, and for department stores, we're doing night counseling.

[Wakako Sato, analyst]

[Interpreted] Yes. For those that are open until 9:30 p.m.?

[Norio Tadakawa, executive]

[Interpreted] Yes, that's exactly right. So if we can communicate with these customers, I think we can see for recovery in traffic. But would that happen within Q4? We do not think it will happen yet in Q4.

[Wakako Sato, analyst]

[Interpreted] Looking at this COVID situation, you're saying that how you can make your sales activity amidst this COVID is difficult. Is that right?

[Norio Tadakawa, executive]

[Interpreted] Yes. The COVID is what's negatively impacting the consumers' behaviors. Now the specialty stores, the specialty stores often have very good relationship with the consumer. So it feels like the specialty stores have a better traffic trend.

[Wakako Sato, analyst]

[Interpreted] So these specialty stores, are they looking at other manufacturers and other brands? Or are these consumers, are they using other brands? Or where are they shopping?

[Norio Tadakawa, executive]

[Interpreted] Well, we think that consumers are buying more through EC, but we don't have other channels outside of these. So we're not -- unsure exactly where the consumers are shopping and what they're replacing with. But...

[Wakako Sato, analyst]

[Interpreted] Okay, if you have any update on your research, please share with us.

[Operator]

Next, Hirozumi-san from Daiwa Securities. [Operator Instructions]

[Katsuro Hirozumi, analyst]

[Interpreted] Regarding EMEA and U.S., the magnitude of recovery was very strong in the third quarter. How sustainable do you think it is?

Compared to the second quarter, the shrinking of loss was much smaller and it's turning to back again. Why is it?

[Masahiko Uotani, executive]

[Interpreted] Let me answer regarding U.S. and Europe. First, Europe, we are seeing share growth for our skincare brands. Up until recently, in major markets such as Germany, Italy, France, where -- France is actually not -- we are not so strong there, but we have been reinforcing our organization. And so our excision ability is getting stronger. So from late last year, in the European market, we feel that we are getting stronger.

In Americas, makeup has been impacted quite significantly. So it looks tough, but then there is strong contribution from Drunk Elephant, which is up Y-o-Y in terms of our full year outlook. About 65% has been transitioned to D2C. So thanks to that, we are now making good progress to focus more on skincare. However, one thing that we are concerned about is the renewed lockdown in places like U.K., France, Italy, Spain.

Regarding the U.S., the number of cases per day is historical high. There are more than 1,000 people catching infections per day. So unlike March and April, it's unlikely that these countries will be under full lockdown, but then still of self, voluntary restrictions on going out. If there are other measures, we could be impacted again.

So while short-term performance might be strong, it is possible that these future negative events could happen. But aside from -- excluding this, we think that sustainability is -- in terms of growth rate, we think that we have a good foundation, leaving aside the COVID issue. But our core earnings capability is getting stronger.

And fixed cost, we have made a bold reduction. And we are -- there will be more -- there will be second phase and third phase for cost reduction, and we are trying to transform into a more efficient organization with higher exposure to digital channel so that we can benefit from both top line side and be resilient expense-wise.

[Katsuro Hirozumi, analyst]

[Interpreted] So you mentioned -- so basically, it's all about revenue strength?

[Masahiko Uotani, executive]

[Interpreted] Yes.

[Operator]

Now UBS, Kawamoto-san.

[Hisae Kawamoto, analyst]

[Interpreted] Hello? Can you hear me?

[Masahiko Uotani, executive]

[Interpreted] Yes.

[Hisae Kawamoto, analyst]

[Interpreted] In terms of the reduction of the net sales, Japan was JPY 25.5 billion and it's pretty big, so I thought that was an important point. Local, I think the Japanese local consumers, there's a dip in sales. Is it makeup or skincare? And I believe that the channel will be department store, that's big. But drugstore -- I mean, what are the channels? So can you give me a little bit more detail and color to this -- the net sales in Japan?

[Norio Tadakawa, executive]

[Interpreted] I will reply. Basically in Q3 and Q4, things are a little bit different. So third quarter, if you can remember, last year before, there was the cycle of the consumption tax. So last year, Q3, there was a rush to buy, and there was a big hike in sales of skincare and cosmetic. And also, there was still the inbound sales, too. So the inbound sales is very strong in skincare.

So Q3, compared to last year, Japan skincare sales dropped in terms of the skincare for Q3 compared to last year because the situation is very different. Now looking at Q4, we don't think that the skincare is going to continue to drop for Q4. So we feel that from Q4, it will normalize. In terms of category, skincare will probably make its recovery in Q4.

But in terms of makeup, as you know, the point makeup, the overall market is stagnating. So as for that, I think the overall makeup is dropping. Now by channel, we don't really talk too much about by channel in detail. But looking at it from, for example, department store to drugstore, the department store had a big inbound ratio. So as a result of that, the department stores were heavily impacted. So by channel, I think department store was heavily impacted.

[Hisae Kawamoto, analyst]

[Interpreted] Then what about drugstore? So there is no downward trend in drug store?

[Norio Tadakawa, executive]

[Interpreted] No, no, no. There has been impact in Drugstore too. Just overall traffic. As of April -- what we had expected in April, we had forecasted that from September, the local consumers will normalize. As Michael has mentioned earlier, April was bottom. And from May, there's recovery to June. But from June to August, there was not much of a recovery in terms of traffic.

And that local -- in terms of local customers, we're not seeing much recovery for local customers in October to December either. There could be mild recovery, but not that much. So therefore, each of the channel sales are dropping or stagnating.

[Hisae Kawamoto, analyst]

[Interpreted] In terms of COVID -- in COVID, it seems that due to the stock market being high, more of the affluent sector is being more active in their consumption and spending. So if that is the case, we feel that the more affluent people will be looking at more premium product and the more -- the less affluent would be looking more at the cheaper channels and products. Would you see something like that as an overall trend?

[Norio Tadakawa, executive]

[Interpreted] It is true that overall, people are becoming more price sensitive. And because there are -- of course, due to this COVID situation, there is a segment of people that are getting less disposable income or have less income. So those people may be trading down to more lower price point products.

Now looking at the more affluent segment, there are some sales in the direct sales activities to the affluent people to the VIP customers. But do we see a big hike in that? Not really. We're not seeing much contribution. This is open. We feel that the inventory at home is going down. Meaning -- so for affluent people, for example, they would go to a department store and they're long-term members of our Shiseido brands, and they're the VIP of department stores.

But -- and when I talk to these people, there's a lot of consumers within the affluent segment that is refraining and reluctant to visit the department stores. So do they switch immediately to the EC channel? Not necessarily. It seems that they're kind of refraining from buying all together a little bit. They're not stocking up.

So if this COVID situation changes, then these affluent people's purchasing behavior may change drastically. It's kind of what we're thinking and seeing right now.

[Hisae Kawamoto, analyst]

[Interpreted] So it's not that the affluent people's treatments are going up? The beauty -- so I was wondering if the affluent people were visiting more of the beauty salons for beauty treatments. That's not directly related?

[Norio Tadakawa, executive]

[Interpreted] No, that's not directly related to the numbers right now.

[Operator]

Next, Miyasako-san from Jefferies, please.

[Mitsuko Miyasako, analyst]

[Interpreted] This is Miyasako speaking from Jefferies. So since I have -- get to ask only one question, and since Mr. Tadakawa is here, I might as well ask about Japan.

So you mentioned once COVID is contained, I felt that you are leaving it up to the external market. But now that Tadakawa is CEO of Japan business, what kind of vision and mission do you have? Now that Japan is becoming a more mature market, how do you plan to address the Japanese market? Is supply chain under control?

[Norio Tadakawa, executive]

[Interpreted] Now the shortage issue is resolved, and so we don't need to worry about the opportunity loss on that any more.

So what Uotani-san said at the second quarter earnings that up until last year, it was dependent on inbound demand, and so our attention may be re-neglected serving our local customers. But this year, now we have a new -- different income statement, different accounting system for local customers aside from inbound so that we can cater to local customers more thoroughly. Rather than new acquisitions, we will -- our focus is to try to get existing customers to come more frequently to our stores and communicate more thoroughly with them.

Another thing is to become -- to be able to speedily respond to market changes. So for instance, if hand cream is necessary now, it used to take a year to deploy. But now the product development cycle, the process was only 3 months or 4 months. So based on being well informed by customer information, we can be flexible and do the out-of-the-box thinking to address such needs.

And in terms of specialty shops or drugstores or GMS, who are important account partners for us, we want to make sure we can collaborate fully with them. In department stores, we talk about omni-strategy, but we have talked about a fusion between off-line and online, such as Isetan's Meeco as well as Isetan's Instagram. Regarding specialty shops, our new initiatives with new specialty shops have been launched already, as what Uotani-san talked about in September. Regarding GMS and drugstores, we are going -- we are strengthening our relationship and alliance with them.

Furthermore, with regards to digitalization, Japanese cosmetic companies as well as Shiseido were lagging behind. But now [ Sunimoto-san ] has joined us to lead Japan's digital efforts, so Instagram, CRM, so that we can develop our talent.

And organization-wise, we are more transparent, and it's less tiered so that we can be more agile in capturing market needs.

[Mitsuko Miyasako, analyst]

[Interpreted] Organization-wise, how are you going to change that?

[Norio Tadakawa, executive]

[Interpreted] Regarding organization? Number of tiers, the number of layers were too many, and that created a gap between the forefront -- operation forefront and the headquarter. So we haven't externally announced this yet, but from January of next year, we are going to abolish the corporate officer system so that a number of layers can be reduced, and we can become a "more flat organization" so that each person who is in charge of business, whether it's marketing or others, so that he can be -- or he/she can be more connected to the frontrunners on the site, so that we can be speedier in our execution.

[Mitsuko Miyasako, analyst]

[Interpreted] So finally, when are you going to change?

[Norio Tadakawa, executive]

[Interpreted] That change will take effect as of January 1.

[Masahiko Uotani, executive]

[Interpreted] And let me add from my side, I'm Uotani. So we don't -- we are not being dependent. We are not leaving things up to the market. So I might have mentioned this earlier, but given what's happened, it made us think about our strength as well as weakness. And these things became very clear to us for Japan business, as Tadakawa just mentioned.

For instance, under such environment, skincare has triggered more demand. If you wear a mask, it can irritate the skin. And so moisturization is more important. On the other hand, lipsticks are not applicable anymore and makeup is under pressure.

So our partners are -- want us to provide expertise and they have high expectation for us to do that. So from October, Beauty Institute, which is the research institute, such institutes have a lot of expertise and knowledge and they might be able to provide insight about makeup as well as others that will meet the current trends. And so we will provide the editorial ability.

And we also have a sales academy so that sales-based proposition can be provided by our special partners so that they can make propositions to the customers, and we are the only company that we can do. Because no matter who we talk to, whether it's department stores or drugstores, they all expressed that they are most -- they have highest expectation from Shiseido. So we have allocated a lot of resource into this, and we are changing our organization according to this.

And earlier, we mentioned about hand cream. Unfortunately, we don't have many or many products that have to do with sanitation or hygiene. And so we don't have this product lineup to offset weakness in makeup, which is unfortunate. But then there are things we can do within our control. We have our prescriptions or ideas about hand -- ingredients for hand cream, so we'll be launching 3 hand cream products.

And also, we think that this is going to be the global-first technology. So jelly BB, this is a BB cream from MAQUILLAGE that will not stick with masks. So we think that technology, we have accumulated over time, can be leveraged, and this is the opportunity to look into the technologies we have. And so these are new product launches that will take place from late this year that can contribute to next year.

So every single employee is thinking about what he or she can do that can be implemented medium to long term so that we can transform ourselves, and this is our mission for Japan business.

[Operator]

Now going on, we would like to have Goldman Sachs, Yamaguchi-san.

[Keiko Yamaguchi, analyst]

[Interpreted] This is Yamaguchi. In terms of the net sales. As for the downward revision, the speed of market recovery is slowing down was one of the reasons. But -- so that's one environment, and there's competition, too. But looking for next fiscal year, where should we kind of be looking at? Is it going to be kind of a lower forecast? What are you kind of eyeing at the moment? And maybe that's why you brought in -- brought the JPY 10 billion for this fiscal year.

And I think I heard kind of some of the numbers for -- in the first half earnings call, I kind of picked up some senses. So I'm just wondering, it could be a top-down comment. But if you can just share with me what you think of for this kind of slowdown in for the next fiscal year?

[Masahiko Uotani, executive]

[Interpreted] For -- yes, based on the forecast for outlook for this year, we're actually discussing 2021. So please be aware that what I talk to you or share with you now is nothing confirmed in terms of 2021.

As mentioned earlier, we want to at least secure a breakeven point, and that's what we had said at the end of Q2. But like you said, there's the JPY 10 billion that will be accrued due to some of the business reforms. And we did think very deep and hard about this, but we decided to do so. So we brought in the JPY 10 billion. So that's why we have said -- we have decided to announce the downward revision of minus JPY 10 billion in operating profit.

But for next year, for Q1, especially in Japan, we wanted to be like kind of the first milestone for a recovery of the Japanese market. We're going to clean up. So meaning inventory related, we're going to clean up the inventory situation as well. And of course, if we have too much inventory in terms of cash, in terms of supply chain and inventory, it just -- it's not very clean. So for next fiscal year, we want to have a good clean start.

Of course, what we don't see very clearly is what will be the COVID situation for next year, because that will impact what kind of recovery can we assume for traffic. What can we do to the consumers that visit our stores? We don't know. So that would be -- we'll have to see how that goes, but we are hoping that by later next year, that the economy will recover and kind of come back to its pace.

So what we're eyeing for next fiscal year is that we will further recover compared to this year. And -- so that we can try to aim for the 2023 target of 15%. And so we want to have solid progress in 2021 to lead ourselves into the 2023 target.

Now for China, as -- we talked about some of the profit challenges that we have. But looking at it on an annual basis, the China local business, it will be a 20 -- operating profit margin of 20%. So China market is becoming very strong for us. It's got a very strong presence.

And in terms of Americas and EMEA, we are recovering. And even within 2020, the loss level is overall on a recovery trend. And this recovery trend of Americas and EMEA's market will continue for 2021.

Of course, there are onetime costs -- one-off costs due to the business structural reform. So that's a little bit onetime thing that we think separately. But from that perspective, so if I were to say -- to summarize in one sentence, for 2021, we want to grow our profit by building these milestones for stable growth.

[Keiko Yamaguchi, analyst]

[Interpreted] 20% margin in China, you mentioned. Does that exclude Hong Kong? This is the Mainland China for 20%?

[Masahiko Uotani, executive]

[Interpreted] No, China region altogether. Overall, 20%. Wait a minute, Yamaguchi-san. We have internally, in Shiseido, standard cost. So this is a standard cost basis that we look at internally, and that's 20% in China in terms of profit. What we announced externally, we do it by segment. So there's a little bit of a discrepancy of this what we're saying in 20% to what we disclose outside. But in terms of China, overall, we are improving the profitability.

[Keiko Yamaguchi, analyst]

[Interpreted] Oh, I see, because I didn't really see China that way right now.

[Masahiko Uotani, executive]

[Interpreted] Well, for this year, this fiscal year, due to COVID, Q1 and Q2 have been a struggle. But Q3 and Q4 the profitability is increasing or improving.

[Keiko Yamaguchi, analyst]

[Interpreted] Yes, I'm looking at the Q3 number, but there are -- yes, there's things that are in the others. But the OP margin that we see externally, what kind of landing -- where are you planning to land for OP margin China this year?

[Masahiko Uotani, executive]

[Interpreted] Sorry, we cannot disclose at the moment.

[Keiko Yamaguchi, analyst]

[Interpreted] So looking at the third quarter result, overall, revenue recovery seems to be lagging. That's my take. Earlier, Uotani-san mentioned that 3 years down the road, operating profit margin of 15% can be easily achievable. That was the impression.

[Masahiko Uotani, executive]

[Interpreted] I didn't say easily. I said we'll do our best. We'll...

[Keiko Yamaguchi, analyst]

[Interpreted] And short-term revenue is the source of profit, but our revenue recovery is slower. In that environment, in order to hit 15 OPM target for the medium-term, don't -- I feel that you need to accelerate your efforts in a pulled forward fashion. What do you think about this? Are you going to be more aggressive than you plan to be? Or are there things -- are these things depend on COVID?

[Masahiko Uotani, executive]

[Interpreted] So we are not leaving up to COVID. We will not blame everything on COVID, but COVID is the most important factor for this year. For cosmetic industry, not just for Shiseido, but also for other industries, like tourism, aircraft. Looking at these industries, recently, automotive industry is seeing recovery. But cosmetics -- when it comes to cosmetics, it's based on contacting people physically, especially for Prestige. And if you don't go out, you wear less makeup. So we would say there are adverse headwinds.

And of course, we can't just wait till COVID fades, that's not our plan at all. So there are actions that are being implemented. But most importantly, Page 17, the road map, we have not changed at all since last time. So it's -- what's important is to what extent we can address -- achieve this.

We think '22 is most important, and we are preparing to reap these benefits. So we think that these are -- all these items, portfolio revision, Japan, EMEA, China, strengthening, transition to e-commerce, all these items -- so I can say that these are -- the progress is on -- is in line and on track. And I can't give you details because these are sensitive. But in terms of execution, we believe that we see -- as long as we are able to execute them, we can get to 15%.

[Keiko Yamaguchi, analyst]

[Interpreted] Regarding magnitude of cost down -- cost reduction. In '21, '22, is there JPY 40 billion to JPY 50 billion or?

[Masahiko Uotani, executive]

[Interpreted] Well, not just simple pure cost reductions, it has to be with reshuffling organization. So that could trigger revenue reduction, but so that would strip some revenue away, but that would also strip some expenses.

Earlier, we talked about the Americas, but there are things happening. And also in Japan business, up until recently, we were seeing strong growth in Japan, driven by inbound. And so we tried all these different things. But it turns out, return was less than cost of capital. It was even negative in some cases. So the business condition varies -- it's different business to business.

And so profit -- when it comes to profit, we all look at the average number. But we need to focus on the lower-margin business. And to get rid of them, we'll boost the overall margins. And all of this are addressed in -- on this road map page.

[Keiko Yamaguchi, analyst]

[Interpreted] So this is a fairly clear road map, but are there additional -- if there are additional change in tactics that could be plausible, what would they be? This road map was illustrated 3 months ago. But for now, if there is any item you wanted to add on this road map, what could that be?

[Masahiko Uotani, executive]

[Interpreted] So everything on the road map has been unchanged here. And everything here is seeing solid progress. So that's my message. There's nothing more to add. It's not that there's -- we left out anything. It's not that we want to do this or that on top of this. So we don't think there will be additional items.

[Operator]

[Interpreted] Now we would like to close the Q&A session. Lastly, we would like to ask Uotani-san to make a closing comment.

[Masahiko Uotani, executive]

[Interpreted] There's this last speech that I can make for the session. So if I may say so, this is something that's been mentioned repetitively in today's conference today, but I would like to repeat a few points.

One is because of this kind of environment right now, we -- this is giving us an opportunity to review and oversee everything once again. And the same thing with the Japan market. But right now, the things that are changing -- or the consumers are changing right now. But what can we do to the reality of the consumers' behaviors changing. And that's helping us accelerate the product development. And so even anything little, anything small, there's things we can pick up.

Now if it's hand cream, it could be very small, and it could be a few hundred million yen of sales, but let's do it. We got to pick it up. And so we're doing a lot of project development around that area. And at that same place, so we're not just launching product, but we need to provide information as well. So -- and for example, if you're wearing masks, that gets your wrinkles around your mouth and there's studies around that, that they can increase your wrinkles.

So as the lifestyle is changing, amidst this COVID, what kind of information can we share and provide and what kind of product and service can we put together with it or to answer the needs? And there's a lot of things that only Shiseido can do in terms of these kind of initiatives, and we want to be very thorough to approach these demands. That's one thing. And digital is part of it, live commerce is part of it.

If we didn't do this, department store or EC, transport or EC, I don't think we would have thought very proactively about live streaming and working with department stores and EC -- cross-border EC, if this COVID didn't happen. So there's some positives to that, and I think with our Shiseido Foundation and the marketing structure, we can do this, and we want to be very proactive to that.

The second is the transformation road map. And as you can see that we mentioned briefly about the group transformation road map. Now if you look at it by words, like this, for example, sale of -- or withdrawal from noncore business, strategic M&A, et cetera, there's a lot of organization efficiency that needs to be done in restructuring those businesses. Things that are written here in words, it's actually -- it's very difficult things. As a business management, these are the things that as a business management, if we didn't have to do any of these things, and if we can continue to grow without executing these things on the road map, that's easier. That's smoother for us.

But for a company, we need to overcome these crisis. We need to overcome it. And not only that, we need to be more profitable, and we need to grow even more. And I -- we believe that this year, next year is going to be an important year for us -- or important years for us. And therefore, we need to do these things. These initiatives to do, these strategies do come with pain, but we are ready to do it, and we are committed to do it because we need to do it for the company.

So we look forward to your further support to our company. Thank you very much.

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