Shiseido Co Ltd

TSE:4911

Earnings Call Analysis

Q3 2023 Earnings: Sales Dip Amid Challenges

Amid a challenging quarter, net year-to-date sales increased by 5%, but observed a 2% reduction in the third quarter compared to the previous year. The e-commerce sector, accounting for 32% of sales, faced a downturn due to regulatory changes in China. Core operating income reached JPY 36.8 billion, with a slight year-on-year increase in cumulative profit by JPY 0.6 billion. However, profit attributable to owners decreased by JPY 8.5 billion to JPY 20.5 billion. The Americas and Europe sustained robust growth, while Japan's local market showed signs of improvement. Nevertheless, reluctance to buy Japanese products post-treated water release and adjustments in Travel Retail affected overall performance.

Challenging Quarter with Setbacks in China and Travel Retail

The company presented a mixed performance in Q3 2023. While net sales increased 5% year-on-year on the third quarter year-to-date, global sales took a 2% hit in real terms due to lower demands in China and Travel Retail.

Noteworthy Growth in Key Brands Amid Market Slump

Despite the overall downturn, specific brands like Clé de Peau Beauté, NARS, Drunk Elephant, and Narciso Rodriguez witnessed significant growth while core brands such as SHISEIDO suffered in China due to sensitive market conditions.

Japanese Market: A Blend of Revival and Reticence

The Japan business showed a recovery with mid-to high-end price ranges outperforming others, registering high single-digit growth in cumulative Q3. Shiseido and Clé de Peau Beauté achieved double-digit growth, indicating resilience despite a general reluctance to purchase Japanese products in certain sectors.

Stagnation in China Despite Strategic Brand Performances

Sales in China faced a significant decline, especially for Shiseido. However, high-prestige Clé de Peau Beauté showed growth, defying the overall negative trend.

Solid Performance in the Americas, Europe, and Asia Pacific

Positive developments were noted in the Americas, Europe, and Asia Pacific regions, where strong double-digit growth was reported, with particular success for brands NARS and Drunk Elephant among others.

Operational Efficiency in Manufacturing with Long-Term Gains

An impairment loss of JPY 6 billion due to the integration of two factories in Osaka was mentioned, yet the move is expected to yield an annual production efficiency gain of JPY 3 billion to JPY 4 billion after 2026.

Profit Sharing Despite Sales Decline

Core operating profit improved in Japan due to a higher gross profit from sales growth and effective cost management in China contributed to the profit increase despite a sales decline.

Aiming for Profitable Transformation Amid Market Shift

The management is focused on returning growth in Japan and winning in China as part of a midterm strategy for stable growth. By 2025, the company aims to shift to a highly profitable structure, targeting a core operating profit of JPY 50 billion with multiple initiatives to improve profitability and efficiency.

Earnings Call Transcript 2023-Q3

[Unknown Executive]

I would like to present Q3 2023 results. To begin, please see Page 3. First, here's the summary of Q3 2023 financial results. In the real terms, excluding the impact of foreign exchange and divestitures, net sales increased 5% year-on-year on the third quarter year-to-date and turned negative 2% in the 3 months from July to September. Local sales in Japan continued to recover steadily in the mid- to high-end price range mainly due to the strengthening of new product development.

Sales in the Americas and Europe also remain strong, especially for global brands. On the other hand, in Travel Retail, Korea and Hainan Island, inventory adjustments and the distribution channel due to tightening regulations continued, resulting in shipment -- low shipment levels.

In addition, after release of treated water in late August, consumers were located -- were reluctant to buy Japanese products, which affected China, Travel Retail and Japan inbound. The E-commerce ratio was 32% and E-commerce sales turned negative in the third quarter due to the suspension of live streaming in China after the release of the treated water. Core operating income was JPY 36.8 billion.

Although profit declined in the third quarter due to marginal decrease in profit resulting from lower sales, a large increase in profit in the first half led to a JPY 0.6 billion increase in cumulative profit. In addition, the decision was made to integrate 2 plants in Osaka and an impairment loss of JPY 6 billion associated with this decision was recorded in the third quarter. We also issued a revised earnings forecast released today.

In particular, we have revised our forecast in light of the impact of refraining from buying Japanese products after the release treated -- of treated water in China and Travel Retail. I will explain the details at the end of my part. In the third quarter, so next Page 4 is a PL summary. Core operating income increased JPY 0.6 billion year-on-year to JPY 36.8 billion. Operating income was JPY 25.8 billion, a decrease of JPY 9.8 billion.

In addition to nonrecurring items related to the transfer of the cookie plant in the first half, an impairment loss associated with the decision to integrate the 2 Osaka plants and gain on sales on fixed assets such as offices were recorded in the third quarter. Profit attributable to owners of the parent declined JPY 8.5 billion year-on-year to JPY 20.6 billion (sic) [JPY 20.5 billion]. EBITDA increased to JPY 0.6 billion year-on-year to JPY 75.1 billion with an EBITDA margin of 10.4%.

Next, Page 5 are the results by brand. The slowdown in China and the Travel Retail in the third quarter impacted the overall performance, but we saw the significant increase in Clé de Peau Beauté, NARS, Drunk Elephant and Fragrance brand. Narciso Rodriguez grew strongly and contributed to overall performance. Clé de Peau Beauté maintained a high cumulative growth rate, mainly in Japan, China and Europe. Thanks to strong growth in the first half. The growth was driven by success of measures to strengthen the brands such as innovative new products and efficiency efficacy claims as well as the strong performance of the prestige market.

NARS continued to perform well, thanks to the addition of new products this year in addition to [ light ] reflecting foundation, which was continued to perform well since its launch last year. Drunk Elephant also continued its strong growth momentum. On the other hand, the Asia brand, ELIXIR posted negative growth due to the impact of treated water in China and Travel Retail while negative growth in Travel Retail, offsetting the growth of ANESSA in Japan. IPSA, which continues to negatively impacted -- continues to be negatively impacted in China and Travel Retail, and we are working to nurture new hero products. Fragrances continued to perform well, especially the new All Of Me product from Narciso Rodriguez, which drove growth.

Next, Page 6, are our sales trends. In the third quarter, overall global sales were down 2% in real terms year-over-year due to lower sales in China and Travel Retail. After the first release of treated water in late August, China and Travel Retail were impacted by reluctance to buy Japanese products. In addition, travel retailers continued to adjust distribution inventories due to tightening regulations in Hainan Island and South Korea. Next, Page 7 is our Japan business. The market is definitely improving. First, in the local market, the structure continues to be driven overall by growth in the low-price segment.

The mid-price segment was flat year-over-year through the second quarter, but slightly improved in the third quarter and it is on a recovery track. Under these circumstances, we will continue to concentrate marketing investment in our core brands in the mid- to high-end price ranges, which is our focus area to steadily expand the number of loyal customers, significantly increasing the market share in the third quarter. Local customer purchase are growing steadily every quarter, and we saw the high single-digit growth in cumulative Q3. By brand, Shiseido and Clé de Peau Beauté continue to double digit growth in the low 10% and mid-10%, respectively, significantly outperforming the market growth.

The effect of strengthening product appeals through innovation and the timing launch of the new products in response to the recovery and demand also contributed to these results. Despite the hurdles posted -- posed by last year's renewal of its lotion -- [indiscernible] lotion ELIXIR achieved a strong growth in the third quarter in the low 10% range and expanded its market share.

In addition, ANESSA captured the expansion of opportunities to go out and is firmly expanding its share in the sun care market, which is shifting towards lower-priced products. Inbound growth was in the upper 20% range, with high growth in July and August, but slowed in the second half of August after release of the treated water, especially in September, resulting in results significantly lower than our initial expectations. In the fourth quarter, we continue to see strong new product offerings, which will accelerate local sales growth.

Next, Page 8. I will explain our China business. In the third quarter, the market grew only slightly and slowed down partially due to the release of the treated water. Our customer purchases slowed down significantly to minus low teens in the third quarter and year-to-date, our growth was in the low single digit. Following the release of the treated water, we carved overall marketing activities and managed costs such as suspending live streaming by KOL and canceling promotions of new products. And E-commerce sales, especially in the third quarter, were down in the high 20% range, which was significantly lower than last year.

Under these circumstances, brand SHISEIDO struggled to post sales, a decline of low 20%, even with the launch of the new [indiscernible] , but the high-prestige Clé de Peau Beauté grew in low teens and now has also performed well, posting low single-digit sales growth. Now Slide 9. The market continued to adjust distribution inventories in response to tightening regulations as well as consumer pullback on buying Japanese products after the release of treated water. The company's third quarter customer purchases were minus low teen globally and minus high teen in Asia, excluding Japan.

The chart on the right shows a year-over-year comparison for Hainan Island and South Korea, respectively, using that solid line for customer purchases and the dotted line for external sales. As you see from the difference between the solid line and dotted line, external sales were lower than customer purchases, meaning inventory level continued to be optimized.

Slide 10, the Americas, Europe and Asia Pacific continue a strong double-digit growth. In both Europe and the Americas, market growth continued in all categories, while brands NARS and Drunk Elephant enjoyed continued momentum. In Europe, Shiseido and Narciso Rodriguez also showed robust growth. In Asia Pacific, markets continue to grow in all major regions and our company also continued to realize good results, expanding our overall market share.

Next, the cost ratio on Page 11. The year-to-date cost to sales ratio versus the same period last year steadily improved by about 2 percentage points due to productivity improvements resulting from the shift to in-house production and the alleviation of rising logistic costs. In the third quarter, we recorded an impairment loss of JPY 6 billion due to the integration of 2 factories in Osaka, but production efficiency gain of JPY 3 billion to JPY 4 billion per year is expected after the integration in 2026. Next, Page 12. Core operating profit by reportable segment.

In Japan, OP improved, thanks to higher gross profit driven by the sales growth. It returned to profitability in the third quarter, although the cumulative total was slightly short of breakeven. In China, sales growth in the first half was a factor in the improvement. And in the third quarter, flexible cost management contributed to the profit increase, albeit the decline in sales. In the Travel Retail profit declined sharply due to the lower gross profit caused by lower sales. Lastly, on Page 13, our outlook for the current fiscal year. Given the significant market environmental change, we will make a revision of the full year forecast this time. The impact of the consumer pullback on Japanese products after the release of treated water was not anticipated in our initial plan and resulted in a significant sales decline.

The impact on inventory reset in Travel Retail was largely factored in as of August, but we anticipate the impact would be even greater like a couple of billions. The recent Double 11 trends showed the changes in Chinese consumer purchasing behavior, showing a decline in bulk purchases due to uncertainty about the future. Hence, we have revised our focus for real growth rate from 11% to 2%. Although a decline of gross profit due to sales decline will be partially offset by flexible cost management and the positive impact of yen depreciation. Core operating profit is now estimated to be JPY 35 billion, down JPY 25 billion.

Net income attributable to owners of the parent is estimated to decrease by JPY 10 billion to JPY 18 billion. In addition to the impact of market environment change, this includes gain on sales of fixed assets such as offices and impairment losses due to integration of 2 factories in Osaka, which was not in the initial plan. EBITDA will be JPY 88 billion. EBITDA margin will be 9%. That is all for me. Thank you for listening.

[Unknown Executive]

Next, we would like to invite Mr. Kentaro Fujiwara, President and COO, to present on the important business agenda.

[Kentaro Fujiwara, executive]

Now I would like to talk about the important business agenda. So in midterm plan, management strategy plan, we aim to achieve stable growth by shifting to a highly profitable structure through proactive investment in structure reforms. To achieve this goal, the top priorities are to build earnings space by bringing back growth in Japan and to win in China. The outline of the reform in Japan was explained in the August earnings briefing. So today, I would like to share the progress to date.

Regarding reforms in Japan, we are working to change the overall business structure of profitable businesses in order to achieve sustainable growth. Based on a core operating loss of JPY 13 billion in 2022, we aim to generate core operating profit of JPY 50 billion in 2025 by generating JPY 38 billion in gross profit increase, resulting from the sales growth and JPY 25 billion through profit boosting initiatives and efficiency plans. So the sales have made already progress until the third quarter of 2023, thanks to the recovery from the COVID pandemic, the launch of [indiscernible] making new products and successful marketing initiatives, investments.

Toward 2025, overall local sales are projected to grow in the low single digits compared to 2023. This will be achieved by concentrating on selecting brands while focusing on the global Asia brands, where we aim for a strong growth in the high single-digit growth rate, same as this year. On the other hand, we expect to decline sales of the exclusive brands in Japan as a result of optimization, including SKU reduction. As a result, sales in 2025 are expected to achieve the same level in [ 2020 ] as in 2019.

In the meantime, inbound sales recovery is expected to be minus mid-20% level in 2025 compared to 2019 due to a decrease in [ per capita ] purchase amount and the shift in purchase locations by Chinese tourists, despite the positive aspects in -- of steady recovery in the number of visitors to Japan.

Next, as measures to improve profitability by JPY 25 billion, COGS improvement of JPY 5 billion include SKU optimization, brand mix improvement, strategic price increases, reduction in product returns. Another JPY 10 billion will achieve marketing and other expenses, including streamlining of samples and promotional items, logistics operations and streamlining of IT systems.

And the also JPY 10 billion will be realized organizational productivity improvement and optimization of human resources locations. All of these profit boosting and cost efficiency initiatives will be implemented by the end of 2024, and the company aims to transform itself to a highly profitable structure from the beginning of 2025.

Next, I will explain our view on Chinese market environment. First, we assume that the impact of reluctance to buy Japanese products after the release of the treated water will normalize by first quarter 2024. We will continue to closely monitor changes in the market environment, take our prompt action. Next, regarding the purchase and behavior of Chinese consumers and the market slowdown, we believe that consumers' needs will become more essentialist with an emphasis on efficacy and that consumption will become more polarized. In terms of purchasing behavior, we believe that discounts will become the norm, bulk purchase will decline.

The ratio of sales at big events will decrease and the market will shift towards a more mature market. In the meantime, we expect to see growth opportunities in the regional cities below the Tier 3 level as the middle class expands and the trade up and domestic international trouble recovers. As for the tightening of the regulations and inventory adjustments in the Travel Retail sector, inventory levels in South Korea are expected to be appropriate by the end of 2023 as a result of the efforts made since the beginning of the year. In Hainan Island, inventory adjustment is progress and is expected to be appropriate by the end of first quarter 2024. Travel Retail business is expected to normalize to a traveler centered market in the future.

China and environment surrounding it will continue to change, but the Chinese market with its overwhelming size will remain strategically important. What is important is that in light of these market changes, we will strive to achieve stable growth by transforming our business structure to one that can generate higher profits than ever even in the midst of change. In addition, the travel retail channel has become a normalized channel of purchasing opportunities for Chinese consumers. We will further evolve our integrated approach to China and Travel Retail. The framework of the structural reform of the China business will include portfolio and marketing reforms to achieve growth in the face of change.

We will identify growth areas and promote selection and concentration. Specifically, we will select brands, products, channels and SKUs to achieve growth and efficiency. And we will continue to reduce the composition ratio of large-scale events, which we have been doing until now in order to strengthen sales during normal times due to changes in the market. In terms of growth opportunities, we will strengthen our investments in high prestige and high functionality and effectiveness and accelerate our expansion into third-tier and lower tier regional cities. At the same time, we will strategically raise prices, regularize and authorize sales and strengthen management in order to generate stable and high profits.

In the operation system, we will reduce the ratio of fixed cost to sales by optimizing the store front structure and the organization and strictly controlling personnel costs, while reducing cost by localizing samples and outsourcing operations in-house. By implementing these structural reforms, we will quickly transform our profit structure while continuing to invest in marketing that leverages consumer data, strengthen our brand power and implement locally driven innovations to realize sustainable business growth in this huge market. Thank you very much for your attention.

[Operator]

Thank you very much. [Operator Instructions] And if those joining us in English, so the chat functions and -- please send your questions to the chat functions. [Operator Instructions].

First of all, JPMorgan, Kuwahara-san, please. [Operator Instructions].

[クワハラ, analyst]

Kuwahara speaking from JPMorgan. And I would like to limit my question only one, especially the Japanese business. So the current situation, overall, you reduced the OP guidance this fiscal year. But what was the situation in Japan against your original outlook? So whether the Japan business is now expected to grow or it is not so favorable as you expected originally. That is why you have to revise downward. And by the end of this fiscal year, are you able to recover the situation? And also the core OP, JPY 50 billion to achieve and you share the breakdown already. But in terms of the treated water impact exists and also the probability of the inbound business achievement. How likely is it achievable? And including the impact of the treated water, what is your viewpoint on that?

[Unknown Executive]

The first Japanese situation, the local CP, excluding inbound consumer purchase better than our original expectation, they're growing quite well. On the other hand, inbound, as you pointed out, the impact on the treated water was there compared to the third quarter? Yes, the current situation is slightly lower than our original expectation. Having said that, the growth of the Japanese market and our growth opportunity going forward. We are seeing that the Japanese business contribution is witnessed. So even the company is now shifting from a lot of marketing investment and then try to generate profit. It's not the case anymore. So overall, the structural reform that we are undertaking that will be implemented throughout next year.

And of course, we shouldn't be complacent and overall costs should be reduced and need to take some actions to that. Otherwise, the profit generated from the increase of the sales that will not be realized unless we have a cost reduction. That is why we have 20 versus the 33 -- JPY 33 billion. That was the number that we are showing this time. And then we have been preparing for that. And partially, there was some good results already. But for those new structure reform, -- but that construction reform will be ending by the end of 2024. And then after 2025, we would like to realize the profit generation. That is our plan.

[クワハラ, analyst]

In that case, so this year, the Japan business deficit or losses still be maintained in the third quarter, but the fourth quarter, that will be turnaround and put into profitability or breakeven. So this will be the baseline or starting point. Is that -- is my understanding right? And also, the profit boosting of JPY 25 billion will be realized around 2025 in my understanding, but how it will be realized? You say that partially, that structure reform is in yielding, like 1/3 or 1/4 at least that will be generated in 2024.

[Unknown Executive]

Well, for this year's landing point. Yes, we will be turn into breakeven. Yes. That will be the starting point for 2025, JPY 50 billion to be achieved.

[クワハラ, analyst]

So the JPY 25 billion of the cost reduction efforts, and how it will be realized?

[Unknown Executive]

Yes. Internally, we are making the [ simulations ]. Yes, partially, that will be realized in 2024 onwards. But of course, that means that we will generate better than this year's profits. But part of the structure reform we need some -- we need some investment to undertake such structure reform. So for China -- sorry, Japan business and partially China, we are trying to accelerating the structure reform. So that requires 20-plus -- to 20-plus billion or so, structure reform costs would be necessary.

[Operator]

Now then the next question will be taken from Ms. [indiscernible], Morgan Stanley Securities Firm.

[Unknown Analyst]

Now my name is [indiscernible]. So I would like to ask a question about the Travel Retail. And the Travel Retail. So this time, so the South Korea, I believe it is going as a macro economy. But the Hinan Island in the third quarter and -- the high 10%. So in comparison to global competitors, I believe that the assumption is smaller. And because it is small the tight situation or tough situation may continue, but -- well, other competitors dropped by about 30%. So although you are facing the tightness of the regulation, the reduction is around -- only around 10%. And even with the impact of the released water, the decline is only about 10%. So what is the secret?

And in the first quarter, so in addition to just regular travelers and as in the case of South Korea, the number of tourists are up by 40%. But in the Hainan Island, by summer next year, we -- the business may not turn positive. So how do you see that this negative trend will end by the first quarter next year? What is the difference between the -- yourself, Shiseido and the competitors. Are you talking about the sellout? Okay. So this is not a case of sell-in.

Okay. Okay. I see now. Well, so yes, it is quite a significant negative. How much was it? Minus 60%, high 60%, in fact, minus. So this is reflecting the macroeconomy then or macro assumption. Okay. I see that. So that will continue into the first quarter at around minus 60%. Am I correct?

[Unknown Executive]

So in regards to the percentage, of course, we have to look into more details. But this year from the very beginning. So as we've been saying since the beginning of this year. So last year due to the lockdown impact, the sell-in, happened in advance. And for this year, we already lowered the inventory, but the sell-in and sell-out gap was assumed to be around 30-some percent from the very beginning. But due to the tightened regulations this May, well, the sell-out decelerated quite significantly. Therefore, we had to reduce the sell-out as well so that the inventory level will be adjusted.

So with that, by Q1 the major negative inventory impact may be gone. However, one thing -- in regards to Hainan Island Travel Retail is now growing steadily. And one thing we have to be cautious about is the -- and we need to look into further detail about -- as Mr. Fujiwara also explained, the decelerated purchase behavior of the Chinese consumers, and this is something that we need to monitor closely going forward.

[Unknown Analyst]

Okay. So this time, so JPY 60 billion to JPY 35 billion. So I think this mostly comes from Travel Retail. How much of this reduction comes from travel retail impact?

[Unknown Executive]

So well, I kind of rounded up the numbers. So our original assumption of the released water impact is about JPY 20 billion. And also Chinese market slowdown and also purchase behavior shift impact cumulatively about JPY 10 billion and regulation tightening and the inventory adjustment, another JPY 10 billion. So altogether, about JPY 40 billion. But then there's a good business of other regions and also reduced marketing investment which is JPY 15 billion. So then we have JPY 35 billion.

And so the major impact comes from September after the treated water release and also the Q4 impact, and we will look at the Double 11 outcome and also the market in itself is cooling down. And also it is even further down in comparison to what's happening in Japan. So this is still an early lead, but we need -- we will continue our monitoring, in particular the Double 11.

[Unknown Analyst]

Okay. So at the time of the anti Japan demonstration, Shiseido recovered quickly. So I hope that we will see it again.

[Operator]

Next question Morgan Stanley [indiscernible]

[Unknown Analyst]

[indiscernible] speaking of Morgan Stanley. So I would like to talk about the China business. At the end of August at the earnings briefing. You said that the treated water, and that was affecting the early stage, you didn't -- you couldn't assume the impact on that in off-line, not really, but online?

[Unknown Executive]

No, the impact, no streamlining video of the KOL so that's our impact.

[Unknown Analyst]

But you say that off-line, they are still affected, right? So from September to November, what happened October? What happened? And also E-commerce impact. The commerce through KOL we suspended other than KOL impact, do we have any other elements that drives the decline of e-commerce? And also the marketing spending, you are trying to carve the marketing spending in China. Indeed, that because of the sales goes down dramatically. So you have to put a carve on the marketing spending, it's natural. But from your original expectation, you want to spend a certain amount of money in line with the competitors.

And handling of the KOL or video is now suspended and also the China clients -- China are the players trying to increase their market share? There's an opportunity from their perspective. But -- having said that, what is the change in China business in the past 2 months? And how are you going to address the situation? And what is your future plan as well?

[Unknown Executive]

Allow me to answer. Start September to October, what happened during those 2 months. So the treated water release began. And then retailers and KOLs find it difficult to promote our products. That's the first reaction. In parallel, the consumer mindset or sentiment, we have been monitoring carefully about their mindset as well. For that, it's now settled quite early in our situation -- in our monitoring and was really favorable for us, but that was not supported by the KOL and other retailers' behavior. So that was a result in September, October. And that's -- as a result, our marketing spending went down.

So that's the kind of impact overall. And we were not able to have a good promotion in the past 2 months, but the second release of the treated water, there was the not really big negative impact. And then all the people or consumers were very silent, I would say. And then that's the -- now we are running the Double 11 promotion. And then regardless of the treated water release, especially the overall Double 11 promotion and its trend is much lower than our original expectation. That is the reality. And then on top, our brands is, of course, a made in Japan brand or a Japanese brand, so that is affected negatively by the treated water as well.

In terms of this treated water release, this impact is temporary impact -- negative impact in our view, and of course, in the past several times, we had experienced Japan passing -- bashing type of approach happen in China. But I assume that around the first quarter, this negative impact this time will be alleviated. And next is the reduction of the purchasing behavior of the consumers in China. Well, we do not anticipate that we were also anticipating that there should be some stability in the consumer behavior to be settled, but that timing was a little faster than our original thinking.

So we need to take that into our account in taking on our structure reform initiatives next year. And then this 1.4 billion people there will not be gone, but there are some growth area and the negative area, and there are some ups and downs. And then overall, we see some impact. And in terms of the growth potential, should be identified clearly from that differences. And what we are seeing is that high prestige brands are growing. And in terms of the products, efficacy or real authenticity, those products are well received. Specifically speaking, cream, high-price creams are well received.

So that is a product that is well received by the market still and also the consumers. Young generation consumers were affected by this economic situation, but the 35 years or older, those are the customers who are not affected by such economic changes and also the Tier 3 and lower, those are not the affected. So where do we have the growth opportunities, we need to identify that clearly. And then we need to allocate our efforts and resources in the brand allocations of our portfolio.

[Unknown Analyst]

Thank you very much. In that case, the investment was not at all reduced, but you are trying to concentrate in some of the spending in investment. And then -- this time, the marketing spending was now reduced eventually that would bring down all the market share reduction and then you have to spend more money to recover the situation that happened in the past. But this time, it's not a case. And then you are not having -- you are making the focus type of investment.

[Unknown Executive]

Yes, temporarily, if we spend less marketing spending or sometimes if we spend on the marketing spending, we were not able to have a good result, that was the situation in September. So we suspend marketing activities. But this time, we now understand that this impact was temporary and then it's not the real the Japan [indiscernible] type of approach.

[Unknown Analyst]

So -- okay. So the China business profit that you were thinking at the midterm plan, there were some risks that sales may go down. That is why you wanted to implement that structure reform in China. Is that the right -- is that the right understanding?

[Unknown Executive]

Yes. that your understanding is correct.

[Operator]

Next question is from SMBC, Nikko Securities, Mr. Yamanaka.

[山中 志真, analyst]

Yamanaka from Nikko Securities. Earlier in the first question, there was a mention of the JPY 25 billion profit improvement for Japan and JPY 20 billion of the reform cost is to be budgeted. And so can you give us more breakdown? And in terms of the timing of this cost is -- will be the fiscal year 2024. And this will be a reform associated with the cash out. So optimization of human resources is of a large quantity or am I correct to see that? Or was there -- will there be the optimization of the production side or the brand reorganization? How will the cost will be spent for the [indiscernible] structural reform? As much as you can share with us.

[Unknown Executive]

So this number, JPY 20 billion is our current assumption of the reform cost. And going forward, we need to look into a further breakdown, and attain more accuracy. But then if 2024 will be the year in which we will -- we shall strive to complete the structure reform. So the necessary cost will be incurred. And therefore, in regards to this structure reform, by the end of FY 2024, we will end it so that from 2025, we'll have a more sound robust management structure. So I will not be able to share with you the specific breakdown today.

[Operator]

Next, UBS Securities, Kawamoto-san.

[Hisae Kawamoto, analyst]

Kawamoto speaking from UBS. So in this revision, the third quarter the downwards revision until the third quarter and also the uplook for the fourth quarter. How much have you incorporated this JPY 25 billion breakdown of the third quarter and also the fourth quarter outlook? And then the -- why the profit reduction is quite large compared to the reduction of the sales? Are there any other elements? So recently, 9% and 12%, that was your original old margin target, but what is your perspective? And in the structure reform, you said that personnel control organizational productivity improvement and so forth. I think you would like to implement all those structure reforms by the end of 2024. So can you please elaborate on that?

[Unknown Executive]

Okay. So your first question, is that the first half versus the second half, right? First half, JPY 10 billion. That was our profit and the core [ RP ] was improved in minus JPY 35 billion in the second half. So as a result, full year, JPY 25 billion minus. That is a full year basis. So in terms of the midterm plan targets, what we are seeing now is that there are some impact on a temporary impact and also the structural impact.

So there are some differences -- so we need to identify temporary impact and also the structure impact and especially the China business, for the structural element. We need -- we take actions at the earliest so that 2024, we would like to undertake such a structure reform in 2025 will be the year that we will have a further growth. In terms of the organizational productivity things, allow me not to answer to your question.

[Hisae Kawamoto, analyst]

Well, for the second half, you said that that's minus JPY 35 billion. So what was the breakdown of the third quarter and the fourth quarter?

[Unknown Executive]

Well, for that, there were some phasing of the expenses. It's too complicated. I appreciate you have take not a quarter basis, but a 6-month basis.

[Hisae Kawamoto, analyst]

Okay, understood. But the fourth quarter -- if I take a look at your slides, Travel Retail or China business would go down. So I think that will be the bottom. Is it the right understanding? Because the figure in the fourth quarter is very low.

[Unknown Executive]

Well, it's not the minimizing -- reaching the bottom, but we are seeing the very possible outlook. Based on the possible outlook, we show this figure.

[Operator]

And now I would like to invite Hirozumi-san from Daiwa Securities to ask questions.

[Katsuro Hirozumi, analyst]

Well, just one question. Page 16, 17, 18, so about the likelihood of this evolution and so is this highly likely, the so JPY 10 billion marketing and other expenses and other organization productivity, JPY 10 billion. Basically, Page 16 is something that I'm concerned about. So there's a JPY 38 billion gross profit increase. How likely is it to happen? And also, how much is the revenue arriving at this gross profit increase of JPY 38 billion. And also in 2025, target of JPY 50 billion. How confident are you to achieve this target?

[Unknown Executive]

First of all, about the JPY 25 billion, let me start with the cost. So yes, this is the buildup of all the elements -- relevant elements. So this is just a rough breakdown. But in regards to this JPY 25 billion, this is something that's manageable with our own will. And when it comes to cost, as you can see here, it is not simply about the product mix and SKU reduction and -- which gives us the more accurate picture of this amount. And next about the revenue or the sales. As you can see, we will divide into the local and inbound. As you can see in the upper box, the local sales we will see the double-digit growth this year. However, from 2023 and after the local market, the sales growth would be the high 10%.

The reason is -- there are some powerful brands, and we will keep on our focus on the powerful brands. But other than that, we will optimize the -- some Japanese brands, and we are envisaging some reduction in profit. So net, this is going to be the low single digit and for local. But inbound, in comparison to 2019, it is going to recover to mid-20%. So that's what is reflected in this assumption. This is a wish for -- it is not wishful thinking of a high top line, but -- and this is -- so there are the -- some reduction in the revenue being incorporated for the ones that will go through some reform.

[Katsuro Hirozumi, analyst]

So I may sound tough, but if -- what can -- do you think can drive the revenue down in addition to your assumption?

[Unknown Executive]

Well, it is difficult to answer for the unforeseeable factors. Now 2023 is coming to an end and the new product launches forecast for 2024 and 2025 already exist. So we will -- we are confident with these new products in 2024 and '25. The -- well, only factor may be our assumption on the inbound. And the other thing is the structure reform incorporating the reduction in the revenue, but the reduction in revenue may happen more widely or more significantly than we currently assume. So of course, we need to keep a close eye on the transition. And the decline when you compare the decline in the revenue at this point and also the future growth of the business we must go through the structure reform. So with some sacrifice with the structure reform, that is a priority for us to have a better future.

[Operator]

[indiscernible] Mitsubishi UFJ Trust, [indiscernible].

[Unknown Analyst]

[indiscernible] speaking from Mitsubishi UFJ Trust. I am Fund Manager. So my question is about earlier, you explained Japanese market. So I understand the structure now, but the current issue you are facing is not from Japan, but it's occurring globally. And then you have to cope with such challenges. And on a consolidated basis, you have to manage your company. And the current macroeconomic outlook was deviated from your expectation, then you have to undertake some structure reform at the early stage, especially for the global arena.

If you have any kind of thinking, can you please share because the top line cannot be achieved in the cost reduction impact will be realized in 2025. That means that 2024 would be very, very hard year, in my view. So what is -- the sense of urgency to see such very poor aspects on the 2024? What is your perspective on that?

[Unknown Executive]

Well, the global business, I think the same principle will be applied because the Japanese structure reform. What is the issue? Is that the sales will not be generating good enough profits. And in the top line, is increase, but still, we cannot achieve good enough margin because of the big cost structure. So that is the issue. And globally, and we are also undertaking the structure reform in China. Certain level of the profit is generated under the current structure because we already undertook the structure reform. But going forward, we need to have more flexibility and secure our profitability under the -- under Chinese structure. So that is the -- what we need to do. Therefore, we would like to implement another round of the structure reform.

And we are also taking the AMEA region like Europe and U.S., we would like to concentrate in the more focused brands. And as a result, we are seeing very good results in some of the very strong brands. So -- and that would reinforce and then also accelerate the company profitability. So that is a really good cycle and that will lead to the structure sustainable growth of a business. That is my understanding. And the structure reform, of course, we are focusing on the domestic business. But this time, consolidated basis, you have to recognize the downward revision.

[Unknown Analyst]

And if the company structure is not leading to the profit generation, then you need to undertake further structure reform. I'm sure you do have many initiatives that you can take going forward, if necessary.

[Unknown Executive]

Indeed, if there is any further reforms necessarily, yes, we need to do that. And what happened in China that negative impact was not really compensated by other businesses. That was a problem. And because of that, the huge market potential in Japan that has to be generating and lead the global business. And if that will be the overall company's structure reform and especially AMEA region will be writing good situation at the moment. So overall, we would like to take a good balance with the structure reform in Japan.

Yes, I expect the impact will be realized at the early stage. And my request is that as [indiscernible] said earlier, that your net sales goes down and then the profit would be also further down. So that kind of explanation or stories must be fully explained. Otherwise, marginal profit and then goes down and then the overall sales goes down, what you have, even though it is the consolidated earnings report. We -- if you don't have a proper explanation, we find some of the skepticism in the market. So I just want you to explain thoroughly about that.

[Operator]

Thank you. Now it is almost time to close the briefing. So next will be the last question. Ohana-san from Nomura Securities.

[Yuji Ohana, analyst]

My name's Ohana from Nomura. So how about the revision of the full year plan, I would like to make a confirmation. And so when we look at the fourth quarter, Japan will see the increase of the profit by 24%. In China, embedded is down by 20%, and Travel Retail is down in profit by about 50% in the fourth quarter. And in Japan, up to the third quarter, it is the growth of mid-10%, and so how will it recover to this level in the fourth quarter? And also for China, Travel Retail, there's been explanation. So what will be the right assumption for the fourth quarter in China and Travel Retail? And also in regards to the operating profit, so this -- so deducting the less profit reduction. So am I correct to understand that there is no one-off accounting booking?

[Unknown Executive]

So let me try to answer. So for Japan, growth -- high growth level into the fourth quarter. So the local revenue is, as explained earlier, is going quite well. So every quarter, we are seeing a growth in Japanese market. And also in the fourth quarter, there will be large-scale innovation being planned. So this will accelerate the growth further. And the local customer purchase is likely to grow. We will push it to grow to the high 10% level. And for inbound to a certain extent, from October onwards, there will be the Chinese Golden Week, bringing more travelers.

And yes, we did see a dip in September, but it's recovering into October. And if it continues into November and December, inbound is likely to grow into the fourth quarter as well. And so this is the background of our assumption of the growth in Japan market in the fourth quarter. And in regards to the Travel Retail, the fourth quarter is a significant negative.

And due to 2 elements: the South Korea PR and also Hainan Island and partially impact of the treated water release and also the regulation on the inventory causing the inventory adjustment is being prolonged. And for South Korea, the inventory level will be in the realm of 2 months. And for Hainan Island, as of end of this year, the inventory level -- the retail -- well, inventory would be around 4 months worth. And therefore, until Q1 next year, the Hainan Island inventory adjustment will continue. That's our assumption. Therefore, the heaviest negative aspect will be the Q4 Travel Retail as far as we see at the moment.

[Yuji Ohana, analyst]

And what about the operating profit? So there's the reduction of the profit and also the cost reduction being [indiscernible]. So there's no one-off impact then?

[Unknown Executive]

Yes. As I said, for the most part, with the treated water release, there's about JPY 20 billion and Chinese market declined and also the changes in the purchase behavior is JPY 10 billion, and tightened regulation causing the inventory adjustment, another JPY 10 billion, and also there's a top-up from other regions. And plus cost savings and marketing cost reduction, so there's a JPY 35 billion altogether.

And so the one-off -- major one-off costs such as the structure reform, it is not -- it will not be included in the core operating profit. So this is excluded from the core part. So the third quarter, we explained about the impairment for the integration of the 2 factories in Osaka. This is also booked separately and also JPY 10 billion operating income from the sale of the building is also outside of the core operating income.

[Unknown Executive]

Now with this, we would like to finish Q&A session. With this, we would like to finish the briefing for the third quarter results. Now the IR department will send you the questionnaire following this program, so please fill in the questions and send it back to us for future improvement of the briefing session. Thank you very much once again for joining us out of your very busy schedule. Thank you.