Komatsu Ltd

TSE:6301

Earnings Call Transcript 2023-Q4

[Takeshi Horikoshi, executive]

I'm Horikoshi, CFO. I present the business results for FY 2022. Page 4 shows a highlight for FY 2022. Exchange rates were JPY 134.8 per dollar, JPY 140.3 per euro, JPY 92.5 per Australian Dollar. And yen depreciated against U.S. dollar, euro and Australian dollar year-on-year. Net sales were JPY 3,543.5 billion, up 26.4% year-on-year. Operating profit increased 54.8% year-on-year to JPY 490.7 billion.

Operating profit ratio increased 2.5 points to 13.8%. Both net sales and operating profit increased, mainly supported by positive impact of foreign exchange rate, increased volume of sales and improved selling prices. Net income attributable to Komatsu Limited expanded 45.1% to JPY 326.4 billion. All of net sales, operating profit and net income achieved the record highs.

ROE went up 2.8 points year-on-year to 13.7%. Cash dividend per share for FY 2022 were increased from JPY 128 announced in October to JPY 139. Consolidated payout ratio is 40.3%. Page 5 shows sales and profit by segment. Sales of Construction, Mining & Utility Equipment increased by 28.6% to JPY 3,296.6 billion. Segment profit increased by 60.9% to JPY 443.6 billion.

Revenues of Retail Finance increased by 19.2% to JPY 85.6 billion, and segment profit increased 58.5% to JPY 27.3 billion. Sales of Industrial Machinery & Others increased by 1.4% to JPY 190.9 billion, and segment profit remained flat year-on-year at JPY 22.6 billion. I'll explain the factors for variance by segment later. Page 6 shows the sales of Construction, Mining & Utility Equipment by region. Sales increased 28.4% year-on-year to JPY 3,286.7 billion.

Sales increased in all regions except for CIS and China. Sales expanded sharply in North America, Asia and Latin America, in particular. Sales in traditional market accounted for 46%, and those in strategic markets were 54% of the total sales. Page 7 shows causes of difference in sales and segment profit for Construction, Mining & Utility Equipment.

Sales increased by JPY 732.2 billion from the previous year, mainly supported by positive effects of foreign exchange rates, increased volume of sales and improved selling prices. Segment profit expanded by JPY 167.8 billion, reflecting positive effects of foreign exchange rates and improved selling prices. Segment profit ratio was 13.5%, up 2.7 percentage points year-on-year. Page 8 is the status of Retail Finance.

Assets increased by JPY 140.2 billion from the previous fiscal year-end, mainly affected by foreign exchange rates and an increase of new contracts. New contracts increased by JPY 223.8 billion year-on-year, supported by exchange rates and an increase of sales in the Construction, Mining & Utility Equipment business. Revenues increased by JPY 13.8 billion due to an increase in new contracts and positive effects of exchange rates, while there were no more gains on resale of post-lease equipment as used equipment recorded for the previous fiscal year.

Segment profit increased by JPY 10.1 billion from fiscal 2021, mainly due to a decreased allowance for doubtful accounts and positive effects of exchange rates. [ RA ] rose by 0.8 percentage points to 2.6%. Page 9 shows segment sales and profits for the Industrial Machinery & Other segments. Sales increased by 1.4% year-on-year to JPY 190.9 billion. Segment profit remained flat at JPY 32.6 billion. Segment profit ratio was down 0.2 percentage points to 11.8%.

In the business with the automobile manufacturing industry, sales decreased mainly due to reduced sales of large prices. Segment profit remained flat from fiscal year 2021. Sales for the semiconductor manufacturing industry increased, supported by excellent sales of the Excimer laser-related business. Segment profit remained flat from fiscal year 2021 due to increased costs.

Page 10 is the consolidated balance sheet. Total assets increased by JPY 528.3 billion from the previous fiscal year-end and to JPY 4,875.8 billion, mainly due to an increase of inventories and trade receivables and the impact of foreign exchange rate. Shareholders' equity ratio increased by 0.7 percentage points to 52.1%. The net debt-to-equity ratio was 0.30.

From Page 11, I will explain the progress of the midterm management plan. In the previous fiscal year, we launched our midterm management plan and its value together to the next for sustainable growth with 3 pillars of the growth strategy that is accelerate growth by means of innovation, maximize earnings power and enhance corporate resilience.

I'll explain the progress of some of key activities. In the area of accelerated growth by means of innovation, we have steadily introduced AHS, autonomous haulage system, for mines, bringing the total number of AHS in operation to 643 as of the end of March this year. In addition, we have worked on remote control of construction equipment and developed the remote control system medium-sized hydraulic excavators, which we have started to offer to customers in March 2023.

In the area of electrification or construction equipment to achieve carbon neutrality, we promoted joint development with our partners and worked for development and early market introduction of various models, including the PC05E-1 electric micro excavator. We also worked on research and development of new power sources such as fuel cells and hydrogen engines.

In maximize earnings power, the number of vehicles distributed in Asia increased due to expanded sales of the CE series, which is now being expanded to other regions as well. In addition to promote differentiation through the life cycle support business, we have made steady progress in and the extended warranty program with maintenance contract, leveraging our strength in in-house development and production of key components.

In enhanced corporate resilience, we sold Chinese underground coal soft rock mining business and have promoted structural reforms of construction equipment business in China, and we are steadily working to build a supply chain that is resilient to geopolitical risks and fluctuations in production volume. In addition, we are continuing our efforts to promote diversity and inclusion and to develop digital human resources.

Page 12 shows the progress to the midterm management targets. In FY '22, despite supply chain disruptions and material price hikes, we worked to improve selling prices and steadily implemented growth strategies and structural reforms. In addition, sales and operating profit reached record highs due to firm demand and weakening yen trend in foreign exchange rates.

Management targets for growth and financial position were achieved. For profitability, operating profit ratio improved by 2.5 percentage points from the previous fiscal year to 13.8%. We will further increase it by improving selling prices and implementing growth strategies. For efficiency, ROE was 13.7%, exceeding the target of 10%. Shareholder return maintained a consolidated payout ratio of 40% or higher.

For ESG, an evaluation by external organizations, we were selected for Dow Jones Sustainability Indices, and we earned a score A and CDP evaluation for both climate change and water security. CO2 emission reduction and increase of renewable energy usage rate were steadily implemented to achieve the 2030 target. In the Retail Finance business, both ROA and net debt-to-equity ratio achieved the target. That's all from me. Next, Mr. Hishinuma will explain the projection of FY 2023 business results.

[Kiyoshi Hishinuma, executive]

I am Hishinuma, Business Coordination Department. I will explain the projection for FY 2023 and the major market conditions. Page 14 shows the outline of projection for FY 2023. Foreign exchange rates are assumed as JPY 125 to USD, JPY 133 to euro and JPY 83 to Australian Dollar in the FY 2023 projection. Net sales will decrease by 4.6% year-on-year to JPY 3,382 billion.

Due to demand decrease in construction equipment, volume is expected to decline, but with the improving selling prices, except the adverse impact by foreign exchange rates, net sales will increase year-on-year. Operating profit were increased by 0.1% to JPY 491 billion. Despite the volume decline and adverse impact by foreign exchange rates, supported by improving selling prices, OP will stay flat year-on-year.

Other expenses were increased due to the increased interest payment due to the interest hike by JPY 34.7 billion year-on-year. Net income attributable to Komatsu Limited will decrease by 8.4% to JPY 299 billion. ROE will be 11.7%. Net income were decreased, but cash dividend per share will remain unchanged year-on-year at JPY 139 and consolidated payout ratio will be 44%. Page 15 shows the sales and profit projection by segment.

Sales of Construction, Mining & Utility Equipment will decrease by 4.8% to JPY 3,138 billion. Segment profit will increase by 4.4% to JPY 463 billion, and the segment profit ratio will increase 1.3 points to 14.8%. Revenues of Retail Finance will decrease 2.5% year-on-year to JPY 83.5 billion, and segment profit will decrease by 37.7% to JPY 17 billion. Sales of Industrial Machinery & Others will increase by 5.3% to JPY 201 billion, and segment profit will increase by 1.8% to JPY 23 billion.

I'll explain the factors for variance by segment later. Page 16 shows the projection for sales of Construction, Mining & Utility Equipment by region. Sales rate decreased by 5.2% to JPY 3,116.8 billion. When the negative effects of JPY 234 billion in FX rates I excluded, sales will increase in all regions except for CIS. Sales in traditional market will account for 48% and those in strategic market will be 52% of the total sales.

Page 17 shows the causes of difference in projected sales and segment profit of Construction, Mining & Utility Equipment. Sales will decrease by JPY 158.6 billion year-on-year, affected by the negative impact of FX rate and the reduced sales volume despite the positive effects of selling prices. Segment profit will increase by JPY 19.4 billion as the positive effect of selling prices will absorb the negative impact of FX rate and the increased fixed costs.

Segment profit ratio will increase by 1.3 points year-on-year to 14.8%. Page 18 shows the projection highlights of Retail Finance. Assets will decline by JPY 104.6 billion from the previous year-end, mainly due to the FX rate differences as of the fiscal year-end. New contract will decrease by JPY 82.3 billion year-on-year, mainly due to the impact of FX. Revenues will decline by JPY 2.1 billion year-on-year, mainly due to the impact of FX rate. Segment profit will decline by JPY 10.3 billion, mainly due to the impact of FX rate and absence of gains on reversal of allowance of doubtful accounts and gains from the resales of the used equipment after the completion of leasing, which were recorded in the previous year.

ROA will be down 1.7 points year-on-year to 1.6%. Page 19 shows the projection highlights of Industrial Machinery & Others. Sales will increase by 5.3% year-on-year to JPY 201 billion, due to the increased sales of large prices for automobile manufacturing industry and the Excimer laser-related sales for semiconductor manufacturing industry. Segment profit will increase by 1.8% year-on-year to JPY 23 billion.

Please turn to Appendix, Page 42 for book-to-bill ratio for Industrial Machinery. Page 42 shows book-to-bill ratio as the orders to sales index. It shows the average orders for 6 months divided by average sales for 6 months. Komatsu Industries tariffs and provide services, a press and sheet metal machinery due to orders received in medium and small press and sheet metal machinery index has been above 100%.

Komatsu NTC is engaged in design, manufacturing and the sales of machine tools, including transfer machines, machining centers and crankshaft processing machines. Orders for machine tools for automotive industry have been robust. But with the progress in sales, index has been below 100%. Turning back to Page 20. Actual and projected demand for 7 major products in Construction, Mining & Utility Equipment.

This shows the actual demand for the 7 major products. The figures for the fourth quarter of fiscal 2022 are Komatsu estimates. Starting this time, Southeast Asia, which has previously been included in Others is being shown separately. Demand in fiscal year 2022 decreased by 4% year-on-year. When China is excluded, demand seems to have increased by 1%.

China showed a significant year-on-year decline. In regions, excluding China, demand increased in North America and Southeast Asia, resulting in a 1% year-on-year increase. In fiscal year 2023, demand should decrease between 0% and minus 5% due to declines in regions such as North America and Southeast Asia. When China is excluded, the demand should also decrease between 0% and minus 5%.

From the next page, I will explain the situation in major markets. Page 21 shows the actual and projected demand for the Japanese market. Demand in fiscal 2022 is estimated to have declined 3% year-on-year. Demand decreased as affected by supply delays resulting from supply chain disruptions. We expect demand to remain about flat in fiscal 2023 year-on-year. Public Works and private sector construction investment are strong, and we expect demand to remain firm.

Contracts average operating hours per month in March were down 6% year-on-year. Page 22 shows actual and projected demand for the North American market. Demand for fiscal 2022 appears to have increased by 3% year-on-year. While residential demand decreased due to rising interest rates, demand increased in the rental industry and infrastructure development as well as in the energy industry.

Demand for fiscal 2023 is expected to be in the range of 0% to minus 5% year-on-year. We expect demand for infrastructure and energy to remain strong and for rental industry demand also to increase, but due to weakness in residential and nonresidential demand, overall demand is expected to decline. Contracts monthly average operating hours in March were on par with the same months last year.

Page 23 shows actual and projected demand for the European market. Demand for fiscal year 2022 seems to have decreased 3% year-on-year. Demand was down due in part to the impact of the sharp rise in energy prices and supply chain disruptions. In fiscal 2023, we expect demand to remain flat year-on-year. Infrastructure investments are expected in various countries, and we expect the environment to be similar in this year to fiscal 2022, but the impact of soaring energy prices and inflation are expected to continue, and there are uncertainties about the future.

We will continue to monitor demand trends closely. Contracts monthly average operating hours were down 6% in March year-on-year. Next, on Page 24 is the actual and projected demand for the Chinese market. This page shows demand trends for hydraulic excavators, excluding minishovels. Demand trends that include Chinese manufacturers are also shown for reference. The growth rate of demand represents the figures for foreign makers.

Demand in fiscal 2022 seems to have decreased by 47% from the previous year. Total demand, including Chinese manufacturers, is expected to have decreased 43% year-on-year. Demand decreased significantly due to [indiscernible] economic activities caused by 0 COVID policy. The outlook for demand in fiscal 2023 is minus 10% to minus 20% year-on-year. And total demand, including Chinese makers, is expected to be minus 5% to 15% year-on-year.

The demand environment is expected to remain sluggish with no significant change in sight. Contracts monthly average operating hours were plus 4% in March year-on-year. Page 25 shows actual and projected demand for the Southeast Asia market. Demand in fiscal 2022 seems to have increased by 6% year-on-year. Demand increased in Indonesia, the largest market as well as in the Philippines and Malaysia.

Indonesia saw a 14% year-on-year increase. Demand for construction equipment was sluggish from the second half of the year due to customers' reduced willingness to invest affected by soaring material and fuel costs and rising interest rates, but demand for mining equipment for coal and nickel remained strong. We expect demand in fiscal 2023 to be in the range of 0% to minus 5% year-on-year.

In Indonesia, the largest market of mining equipment, demand is expected to remain strong, but demand for construction equipment is expected to decline due to the impact of rising interest rates and the upcoming presidential election. Contracts monthly average operating hours in Indonesia were up 7% in March year-on-year. Operating hours in the construction, agriculture and forestry sectors all remained at high levels.

Page 26 shows actual and projected demand for mining equipment. Demand in fiscal 2022 seems to have increased by 20% year-on-year. Demand decreased in CIS, but due in part to coal prices trending at a high level, demand increased significantly in Indonesia and other Asian countries as well as in North America. Demand in fiscal 2023 is expected to be in the range of 0% to 10% compared to the previous year.

While demand in CIS is expected to continue to decline, demand in other regions is generally expected to remain strong. I will now explain the status of orders and sales of mining equipment in the reference materials on Pages 40 and 41. Page 40 shows the index of orders and sales for mining equipment. The graph show the change in the index of new equipment orders for the last 6 months divided by sales for the same 6-month period.

Komatsu American manufactures and sells super large dump trucks with large orders for North America and Latin America. The current index is well above 100%. Komatsu Germany manufactures and sells super large hydraulic excavators with orders for North America and Latin America, et cetera. The index is above 100%. Komatsu Limited is receiving firm orders from Asia as well as Latin America and the Middle East, but the index is still below 100% due to progress in sales.

Page 41 shows the index of orders and sales of mining equipment made by KMC. Orders for both surface mining and underground mining are strong. And index remains above 100%. Going back to Page 27 for sales of mining equipment. In FY '22, sales increased by 32% year-on-year to JPY 1,424.6 billion. Excluding the impact of foreign exchange rates, it is up 12%. Sales for CIS declined, but sales increased in Asia and North America.

For FY '20, we forecast a 4% year-on-year decrease to JPY 1,370.8 billion. Excluding the impact of foreign exchange rates, we expect increase in sales. Page 28 is about sales of parts. In FY '22, sales increased by 35% year-on-year to JPY 881 billion. Excluding the impact of foreign exchange rates, it is up 16%. Sales increased, except for CIS and China. In FY '23, we estimate that sales will be JPY 806.9 billion, down 8% year-on-year.

Excluding the impact of foreign exchange rates, sales will remain flat to the previous fiscal year. Now I will explain the sales and segment profit of the Construction, Mining & Utility Equipment with the reference material on Page 39. Page 39 shows sales and segment profit of the Construction, Mining & Utility Equipment. The bottom graph shows the breakdown of sales in percentage.

While the construction equipment for strategic markets has decreased, parts, et cetera, and the construction equipment for traditional markets have increased. The percentage of mining equipment has been above 10% since FY '17 due to the acquisition of KMC. The profit structure is becoming less susceptible to demand fluctuations with the increase of percentage of mining equipment and parts in the sales breakdown.

Going back to Page 29 for the projection of capital expenditures and other items. Capital expenditures, excluding investment in rental assets on the left, are expected to increase year-on-year, mainly due to the impact of investment in production and sales basis. On -- the expenses in the middle are expected to increase year-on-year due to forecast investments in priority areas such as electrification and automation.

Fixed costs on the right are expected to increase year-on-year due to the impact of inflation on labor costs and expenses as well as investments in projects of the midterm management plan, which will offset the incorporated benefits of structural reforms. Now let me skip to Page 43. And from this page onward, I will explain major topics.

Komatsu participated in CONEXPO held in Las Vegas USA for 5 days from March 14 to 18. At the exhibition, we introduced our latest automation technologies and solutions as well as electrification technologies that contribute to carbon neutrality. Please click on the QR code on the bottom right to watch the video of the booth tour. Please turn to Page 44. Komatsu has decided to switch factory field fuel of construction and mining equipment produced in Europe from diesel oil to hydro-treated vegetable oil or HVO fuel.

HVO fuel is a fuel produced from renewable materials such as waste of animal oil and fat and vegetable oil and can reduce CO2 emissions from construction and mining equipment by up to 90%. In April, we began switching to HVO fuel at our plant in Germany and plan to extend this program to other European plants steadily. Please turn to Page 45. Komatsu and its subsidiary, EarthBrain, have jointly developed the remote control system for construction equipment and began offering it to customers in March 2023.

We plan to complete on-site verification for commercial production in the first half of FY '23 and introduce a system to the market in phases. The remote control cockpit developed by EarthBrain enables remote operation with a sense of presence just as in the actual operator seat while checking the front back left, right and work equipment with high-definition images sent from the construction equipment. That's all for my presentation.

[Yoshinao Ibara, analyst]

I'm Ibara, Morgan Stanley. First question is about the projection on Page 17. First, as for numbers, this time, your projection is based on the trend of appreciation of yen. So would you give us the FX sensitivity? And as for the selling price impact, last year, your initial projection was JPY 75.3 billion. And the result was JPY 121.2 billion, achieving the considerable upside.

Of course, increased volume and additional price increase also contributed. This time as 4-year projection of JPY 116.8 billion, is it rather a conservative projection in terms of potential additional price hikes and the level of penetration? Because last year, compared with the initial projection, actual pricing impact was remarkably larger, though cost also went up. So how should we see the FX sensitivity and selling price impact in the profit variance? This is my first question.

[Takeshi Horikoshi, executive]

This is CFO, Horikoshi. First, as for FX sensitivity, for U.S. dollar with JPY 1 move impact on sales is JPY 14 billion. And OP impact is JPY 4.1 billion. For euro, sales impact is JPY 2.9 billion and OP impact is JPY 0.7 billion. For Australian dollar, sales impact is JPY 3.2 billion and OP impact is JPY 0.3 billion.

As for selling prices, I have been telling to raise prices throughout the last year. And compared to the initial forecast, we had a considerable upside in the actual price hike impact. For this year, the numbers shown here is neither high nor low. But based on the selling prices presented by local companies, initially, we told them to aim ambitious number.

And they examined what they can and they cannot do and presented rather ambitious projection. Then that said, we finalized the projection so that it would be that -- realistically achievable one. So we do not see this number too strong, nor too weak, but just right and on the reasonable level.

[Yoshinao Ibara, analyst]

I'm not sure how relevant this calculation is. But when I divide the price increase by the total sales of Construction, Mining & Utility Equipment last year, it was 4.7%. And this year, it is 3.5%. As it includes other than the new equipment, I know it is not extremely meaningful. But in the previous results meetings, I think the management expressed strong intention to raise prices next year -- more than this year to catch up with competitors.

Given this, the percentage lower than the previous year, and I expected the stronger intention might be expressed. I know the percentage per se doesn't have much relevance. But do you ultimately aim to achieve more than the previous year as the management intent?

[Takeshi Horikoshi, executive]

This is Horikoshi. You need to confirm the basis of calculation for the selling price increase. When you compare the FY '22 and '23, the price increase vis-a-vis the previous price before price hike, then for the year of FY 2022, it was 3.8%. And based on the same format, the price increase for this year is 3.9%, almost alike. Then we can say the price increase rate for FY '22 and '23 is almost the same or it edged up a bit.

[Yoshinao Ibara, analyst]

The second question is about the mining equipment. The demand forecast for this time was slightly positive in the new equipment -- excluding the FX impact, is positive. And I think your forecast for part sales in local currency is slightly tough. So would you comment on the background? And as for KMC, you show the graph of recovering demand before, and you are taking various initiatives shown in the progress of the midterm plan.

As for profitability, when the proportion of parts increased the profitability would naturally improve. And you have been saying that the margin improvement in KMC would increase the overall margin. Your margin has come back very close to the previous peak. So do you think you have potential to aim to reach the record high in profitability by increasing the proportion of parts in mining and the improving profitability of KMC, though, of course, you'll be somewhat affected by FX?

[Unknown Executive]

As you correctly pointed out, in FY 2022, excluding the FX impact, the mining sales increase was 10%. Its breakdown is the new equipment was 2% and the parts sales growth was much higher as 19% year-on-year in FY 2022. As for the next year, excluding the FX impact, mining sales growth will be 5%. The new equipment growth will be 16%. In the parts, sales will be almost flat year-on-year.

This year, the parts demand was strong, particularly in Indonesia. And the fuel rate of large dump truck were substantially high with large orders. That is why we project the sales for new equipment will be strong. As for mining equipment, we assume the demand in Russia will fall and those in North America will rise. So structurally, the mix of large and ultra large equipment will increase.

[Hiroyuki Ogawa, executive]

This is Ogawa. As for the part in FY 2023, the impact by Russia will be considerable. As you know, since the Russian invasion in Ukraine, Komatsu suspended the export of new equipment voluntary. As for parts, the export restriction has been tightened. But as we have been saying, to ensure the safety of customers' operation, we continue the minimum supply of parts. But the ordinance was amended on April 7, and Komatsu decided to completely stop the part shipment from Japan. So that's affected us to some extent.

[Operator]

Next question is from Mr. Motowaki of [indiscernible].

[Unknown Analyst]

I'm Motowaki of Nikkei. Do you hear me?

[Operator]

Yes, please go ahead.

[Unknown Analyst]

I have one question. In this fiscal year FY '22, where did you find the price hike broadly penetrated and where were the difficult regions to raise prices? And what were the reasons behind them? This is my first question.

[Takeshi Horikoshi, executive]

This is CFO, Horikoshi. As for the price hike, as before, it was easier to raise prices in North and Latin America. While in Southeast Asia, partly due to the Chinese players, it was difficult to raise prices. In Japan, prices have been kept flat over years. But we increased the prices last fiscal year firmly without any share loss or a demand decline. So we performed well there.

[Unknown Analyst]

In North Latin America, Caterpillar also increased price considerably. And that made it easier for you to raise prices. Is that right?

[Unknown Executive]

Yes, Cat and John Deere raised prices over 10%. So including the competitors' moves, we were in the benign environment for price hike.

[Unknown Analyst]

In this fiscal year, you plan to have the similar price hike impact in Construction & Utility equipment. But the demand will be flat or slightly down in your projection. Amid the mounting concern for economic slowdown, how do you think about the risk price hike being less accepted? And would you comment on the pricing strategy as of today?

[Takeshi Horikoshi, executive]

This is CFO, Horikoshi. In FY 2022, supply was tight. And the customers tend to accept price hike more easily. As for FY '23, supply eased compared to the previous year. However, the dealers' inventory has not been built up to the optimal level. And there exists the imbalance between demand and our sales. We think that the dealers inventory will be built up further. It means that we still have room for further price increase.

Actually, as our competitors already announced their price hike in FY '23, we think it would be possible for us to increase price as well.

[Operator]

Mr. Maekawa, please.

[Kentaro Maekawa, analyst]

I'm Maekawa of Nomura Securities. I have 2 questions. I have a question about the demand and the volume in North America and Europe. In North America, you said that the risk of declining demand in construction of residential and nonresidential in private sector. On the other hand, supported by the demand for infrastructure, your demand projection is from 0% to minus 5%.

Last year -- about half a year ago, you said that North America continued to be firm, but Europe demand shows some sign of slowdown. And currently, I observed the risk of weakening trend in North America. So how do you think about the downside risk of demand? This is my first question.

[Kiyoshi Hishinuma, executive]

This is Hishinuma, Business Coordination Department. As for North America, as you said, the demand level has been considerably high to begin with. So even with a slight decline, still demand level stays high. We incorporated a slight weakening trend in residential and nonresidential in our projection.

If the residential construction demand will be down by over 10% and if the nonresidential demand, which is a part of the private sector investment, will be also down, we need to see the demand increase in public sector by over 10% to offset.

[Kentaro Maekawa, analyst]

So do you mean that the demand in infrastructure and energy is strong enough to offset the decline?

[Unknown Executive]

Yes, infrastructure demand will be strong as well as the demand for the rental. So we project a slight decline year-on-year.

[Hiroyuki Ogawa, executive]

This is Ogawa. In North America, employment has been robust. And in the mid- to long range, residential demand is considerably strong. lately, as you indicated, housing starts has been weakening to around 1.4 million. On the other hand, the budget has been rather bullish with America First policy and infrastructure-related bills. And the bills related to the strength in the foundation in manufacturing industries, modernization of transportation infrastructure and the bills for chip industries and carbon neutrality have passed.

So demand related to them will be relatively strong. When we refer to the demand up to the fourth quarter, residential demand went down by about 2% for the full year, but infrastructure was up by 5% year-on-year, and energy demand was up by 7%.

Looking at the results of the fourth quarter, infrastructure and energy demand was not bad. And the drop in the residential will be fully offset by the infrastructure and energy demand.

As for Europe, we talked about the slowdown of orders before. And we continue to see the uncertainty in terms of energy cost surge inflation and interest hike. But according to the input from local companies, infrastructure and road-related constructions, especially in Germany, have been very robust. And the orders for construction and order backlog are on the high level.

As it is reported that the business environment is not bad, we incorporated that in the plan. And the projection in the Europe is almost flat year-on-year, but we need to continue to monitor the situation in Ukraine, inflation, energy prices and the interest rate closely.

[Kentaro Maekawa, analyst]

In that sense, excluding selling price and exchange rate impact, you are projecting roughly a 1% decrease in sales of construction, mining and utility equipment. Now you mentioned earlier that there will still be some inventory buildup left. Does that mean that your current sales funds is relatively conservative with some fluctuation in the outlook for demand expected? It seems that there is not much of an increase in inventory. So this is a question about sales.

[Unknown Executive]

The increase in demand is -- which page is it? Yes it is minus 2%. Excluding ForEx impact, I would say, the increase in demand is 0% to minus 5%, but for sales, it is minus 2%. Excluding ForEx impact, it is a 6% increase. This increase is composed of 6% for the price increase and 1% for the increase in distributors' inventories, which explains the discrepancy between demand and our sales forecast.

[Kentaro Maekawa, analyst]

Yes, I understand. The second question is about the profit ratio. As you have just shown on the long historical chart, the profit ratio for the fiscal year's plan is 14.5% -- or 14.8% according to Page 39. So I think the plan is to surpass the historical high that was achieved in fiscal 2018. This time, the assumption for the exchange rate is for the yen to be stronger.

But compared to that time, the yen is still weaker. Now the improvement in profit ratio for mining equipment has been pursued from last year's level. So talking about plans and projections, concerning this improvement in profit ratio. I'd like to know what kind of measures have been effective that led to these numbers to the plan. I would appreciate a little more detail. This is the second part.

[Takeshi Horikoshi, executive]

This is Horikoshi. The product mix has changed considerably since those days. And in terms of the geographical composition, China with high profit ratio has fallen significantly. So there have been changes in the mix, but the fact that the sales of parts, as shown here, have been rising consistently has helped to raise operating profit ratio significantly.

Also, the ratio of mining equipment to construction equipment has been increasing. And I think this has also had the effect of raising the overall operating profit ratio. Furthermore, if you look at the historical data, you can see that the variation of our operating profit ratio is very small compared to that of other companies.

The increase in sales of aftermarket parts has been instrumental to this end, and I believe that we have established a management structure that enables us to maintain a consistent operating profit ratio.

[Operator]

Next question. Mr. Sano, JP Morgan Securities.

[Tomohiko Sano, analyst]

This is Sano from JPMorgan. Do you hear my voice all right?

[Operator]

Yes, we can hear you.

[Tomohiko Sano, analyst]

First, I'd like to ask about the gap between the outlook from the third quarter of fiscal 2022 and the actual outcome. Please first explain about the supply chain situation, how it has changed over the past 3 months compared to your projections? And how you see the procurement involvement this fiscal year? Also, what is your view about cash flow?

I think you projected free cash flow to be around JPY 130 billion 3 months ago. And I assume that would be cut by around 70 -- or maybe JPY 60 billion to JPY 70 billion for inventory, but it has fallen further. Would you update us on that situation and give us a projection for this fiscal year, please?

[Takeshi Horikoshi, executive]

This is Horikoshi. Sales for the second half of the fiscal year were JPY 86.6 billion higher than the October projection. Profits were up JPY 41.6 billion. Regarding profits, the exchange rate for the second half was set at JPY 140 per dollar, and it turned out that the exchange rate difference was almost 0. The impact of the exchange rate difference was only JPY 0.8 billion.

Impact of volume was JPY 87.4 billion for sales and JPY 31.7 billion for profit, both significantly increased from the October projection. Also, I did not explain because no one asked the question. But in this year's projection, we included restructuring expenses and appraisal losses for streamlining our Russia-related operations. These losses are included: Impact of selling price was about JPY 5.8 billion higher than we had initially expected and fixed costs were about JPY 5 billion lower. So as I mentioned earlier, profit was boosted by the increase in volume, a decrease in costs and higher-than-expected increase in sales prices.

And then for cash flow, as you said, and I am embarrassed to admit this, but in April, I said there would be a free cash flow of over JPY 200 billion. But since inventories have risen considerably, free cash flow for this year ended up being positive JPY 37 billion. As for the next fiscal year, we expect inventories to decrease by about JPY 80 billion.

And also considering that there was a huge increase in accounts receivable, especially at the end of the fiscal year, which was a contributor to this year's cash outflow, we expect free cash flow to be about JPY 350 billion for the next fiscal year.

[Hiroyuki Ogawa, executive]

Regarding your question about the supply chain, there has been a shortage of production capacity over the past few years due to the disruption caused by the COVID pandemic and the shortage of domestic labor force. Komatsu has been increasing procurement from China and other Asian countries we have been securing multiple suppliers, which we call multi-sourcing, allowing us to enhance our cross-sourcing further.

And now the delay has been resolved for the most part. In terms of logistics, the container shortage has been completely resolved, and the transportation lead time has been more or less normalized since the beginning of the fourth quarter. So shipment has progressed and the supply chain as well. However, there is still a shortage of RoRo ships for finished vehicles.

So we are working to further promote exports of finished vehicles by using conventional vessels and other means. Also, we feel that the supply situation has eased just a little bit for semiconductors as well. So in this sense, I think the supply of parts and products has improved considerably in the fourth quarter.

[Tomohiko Sano, analyst]

Second, how do you see the sales of mining equipment for the fiscal year ending March 2024? First, for orders, you told us when you discussed the BB ratio that there was a spike for Komatsu America, how has that evolved? And what impact would it have? Also, are you starting to see the impact of GHH and if you have any targets or expectations for AHS for this fiscal year? That is all.

[Kiyoshi Hishinuma, executive]

This is Hishinuma. First, Komatsu America numbers were indeed very high in March, but it was rather a coincidence that the deals we have been working on happened to materialize in orders at the same time. And in April, they are back to the previous level. Does it answer your question?

[Tomohiko Sano, analyst]

Yes.

[Kiyoshi Hishinuma, executive]

What was the other question?

[Tomohiko Sano, analyst]

AHS and whether there is an impact of GHH?

[Kiyoshi Hishinuma, executive]

As I mentioned earlier, the actual AHS volume for fiscal 2022 was 643 units. In the midterm management plan, we have set the KPI of 570 units. So we completely exceeded the plan. In last year's Komatsu report, our integrated report, we had a plan of 650 units in 2023 and 740 units in 2024. But in this year's Komatsu report, we plan to revise that upward and aim to achieve 790 units in operation by 2024. I also believe that there may be additional opportunities on top of that.

[Tomohiko Sano, analyst]

Is GHH in Germany, not included in your projections for this fiscal year?

[Kiyoshi Hishinuma, executive]

GHH is still in the process of antitrust clearance. So we have not included it in our business broadcast.

[Operator]

Now Mr. Isayama, please ask your question.

[Yuichiro Isayama, analyst]

Isayama from Goldman Sachs Securities. First, sorry, it is the confirmation of numbers that I always ask for. On Pages 7 and 17, could you break down in a little more detail about the volume, product mix and production cost? I am particularly interested in what is in the plan.

And as the President mentioned earlier, there have been a number of things that are being relaxed. So I was expecting many items to turn positive in the current term, but they are all negative. How much do you expect the impact to return? Or do they stay negative? I'd like to see a comparison item by item. For the results on Page 7 and plan on Page 17, give us a breakdown of the volume and production mix and the production cost, please.

[Unknown Executive]

On Page 7, there is a total of JPY 63 billion for volume and product mix difference, of which, JPY 62.4 billion is for the pure volume difference. The geographical composition and the product mix is plus JPY 3.9 billion. This is due to an increase in [indiscernible] where profit margins are higher. And as I mentioned earlier, an increase in the composition of parts, which resulted in a gain of JPY 3.9 billion.

On the other hand, we recorded a loss of JPY 8.4 billion related to Russia this fiscal year. With the streamlining of our Russian operations, such things as restructuring costs and the valuation loss on inventory have amounted to JPY 8.4 billion, which is included in the volume and product mix, et cetera, for fiscal 2022.

As I mentioned in the third quarter call, inventory has increased, and there is roughly JPY 5.5 billion in inventory allocation gains. So those are the breakdowns. This inventory allocation gain has decreased slightly compared to the third quarter, but this is because of the decrease in inventory.

[Yuichiro Isayama, analyst]

In addition to the increase in parts and other cost-related items, the container and rollout vessels impact, which the President mentioned was, I think, negative for fiscal 2022. But tell us how much was included where?

[Unknown Executive]

That is included in the production cost difference. I will show you the figures. Please wait a moment. As for container and [indiscernible] vessels, my recollection is that there was almost no change between fiscal year '21 and fiscal year '22. Well, I guess, it has gone down. If I may talk about 2023 -- give me a moment. First of all, let's look at the difference in volume and product mix, et cetera.

For the volume difference, construction machinery is negative, so the pure volume difference is minus JPY 14.1 billion. In terms of product mix and geographic composition of sales, there is a loss of JPY 5.1 billion. This is due to a decrease in the share of the parts and the decrease in the geographic composition of Indonesia. That led to a loss of JPY 5.1 billion.

Other than that, it is plus 7%. That is a breakdown. As for the production costs, there was a loss of JPY 13.8 billion. It is the cost of electronic equipment that uses semiconductors that has risen in terms of cost. Supply and shipping-related costs are expected to fall by about JPY 18 billion compared to the current term. Those things have been reflected here.

Then the electronic equipment is quite large, about JPY 30 billion. I also have to explain that the gain and loss from the inventory allocation I mentioned earlier has been judged to be a cost. So from 2023, it has been included in the production costs. That is about JPY 2 billion loss. In addition, we think we need to shoulder the increased electricity and labor costs of our suppliers. So we have factored in such cost increases.

[Yuichiro Isayama, analyst]

Now my second question. I was looking at the fourth quarter for construction equipment in Europe and United States. And I want to ask you about the current quarter. I see on Page 36, the quarterly sales by region. And on Page 27, even if we put aside the mining equipment in North America and Europe, I have the impression that sales are profitably growing very steadily.

I forgot whether it was Mr. Morishita, or Mr. Ogawa, who said this, but I think that the President was saying that sales would grow rapidly because of the restocking of customers. And I think that is beginning to show. I wonder if this restocking is something that will continue throughout this year. The reason I ask is because at CONEXPO, I heard suppliers saying that they are sold out this year because of the strong demand. You also talked about demand, but what about sales?

Do you think that sales of construction equipment in Europe and the United States will grow this year? Or are you factoring in some risks? I would appreciate your comment, not about demand, but more about the certainty of your company's sales outlook for Europe and the United States.

[Kiyoshi Hishinuma, executive]

I am Hishinuma. Sales are same as demand or a little more inventory stockpiling is still required at our distributors. In Europe, it is said that orders are slightly decreasing, but there are some items that are weighted for production, and they sell as we make. So in that sense, we can say demand remains firm. Did I answer your question? Excluding the impact of foreign exchange rates, I assume volume for Europe will decline, but we can cover this by raising prices.

So sales in Europe is expected to increase slightly after excluding the impact of foreign exchange rates. As for North America, I think we explained earlier that price hike is 6% and inventory increase is 1%. So we will build up the inventory further.

[Yuichiro Isayama, analyst]

Caterpillar has also announced that they are increasing inventories at their distributors, and we also do not have sufficient inventories at our distributors, especially for rental equipment.

Due to such shortage, there's still a slight discrepancy between the demand and the sales. In FY '23, can you say, for example, all the orders for construction equipment in North America have already been received and the probability is quite high for the sales forecast?

[Kiyoshi Hishinuma, executive]

As we watch the order status in this February and March, the order fulfillment rate has been very high in both North America and Europe. In that sense, we believe that our prospects for North America, especially for the first half is firm. We cannot tell clearly what is going to happen in the second half yet, but we expect the probability would be quite high based on the current fulfillment rate. Thank you for your question.

[Operator]

Next, Mr. Sasaki of Mitsubishi UFJ Morgan Stanley Securities.

[Tsubasa Sasaki, analyst]

Can you hear me? I'm Sasaki from Mitsubishi UFJ.

[Operator]

I can hear you.

[Tsubasa Sasaki, analyst]

I will ask my questions one by one. First, let me ask a follow-up question to Mr. Isayama's. You just told us about the sales assumptions for mining equipment and parts. But could you tell us the sales growth rate for construction equipment and the plan for the current fiscal year for equipment and parts, separately?

Also, I want to clarify another point. In the previous fiscal year, sales did not grow as expected due to the shortage of semiconductors and containers. In contrast this fiscal year, you will be able to produce products as you plan, so assume you will conduct recovery production, same as the automotive industry. But why do you expect decline in sales of construction equipment?

Could you elaborate more on the background about the forecast of sales decrease, even though recovery production is expected? I appreciate if you explain it by region and its inventory.

[Takeshi Horikoshi, executive]

This is Horikoshi. For the FY '23 forecast of construction equipment, we estimate a decrease of about 1% for the equipment and the same situation is expected for parts. So I would say the total increase and decrease in construction equipment and parts will be about the same. What I have just mentioned is in terms of real difference. And in this context, a slight increase is expected for Japan and North America and other regions are expected to decrease. And what was your question?

[Tsubasa Sasaki, analyst]

So am I correct in understanding that sales will increase for North America and Japan, but will decrease for other regions for the equipment?

[Takeshi Horikoshi, executive]

Yes. Yes.

[Tsubasa Sasaki, analyst]

I am asking about the equipment.

[Takeshi Horikoshi, executive]

You're right.

[Tsubasa Sasaki, analyst]

Could you tell me specifically in which regions you expect the construction equipment sales to drop?

[Takeshi Horikoshi, executive]

We expect the largest decline for CIS, followed by Europe and Latin America. We also expect a slight decrease in the equipment sales in Asia, mainly in Indonesia. And Oceania will also decrease. As I said, we expect increase for the equipment sales in North America and Japan and a slight increase in the Middle East, but other regions are not expected to perform so well.

[Tsubasa Sasaki, analyst]

I see. My second question is exactly about that point. I understand the situation is good for the U.S., Japan in mining equipment. But could you elaborate more on the background and reasons for the expected decline in sales of construction equipment in regions other than Japan, North America and the Middle East, such as in Latin America, Asia and Oceania, as you have just mentioned?

[Takeshi Horikoshi, executive]

That is a difficult question. But for instance, in Europe, as Mr. Ogawa said, we see the current supply situation and the demand for infrastructure to be strong overall. But in total, we estimate a decline in sales. As for CIS, the situation is obvious, and we expect a large sales decline, especially in Russia, but we estimate sales increase in its neighboring countries.

In Asia, mining equipment is performing well, especially in Indonesia. We expect a sales decline in construction equipment and equipment for civil engineering due to the rise in interest rates. In Australia, the situation is slightly different from countries like South Africa, where we expect both construction equipment and mining equipment to be on par with this fiscal year was slightly better.

In Australia, however, there is a difference between construction equipment and mining equipment. We expect construction equipment sales to decline, but mining equipment sales to grow due to rising interest rates. We estimate sales of construction equipment will be declining a little from the extremely high sales level we have now. In the Middle East, there are large-scale projects, so we expect increase in sales. Did I answer your question?

We expect sales will decline in Asia as well. In Indonesia, the largest market in Asia, mining equipment is performing extremely well, but the demand for construction equipment is expected to slow down due to rising interest rates and inflation. In Indonesia, the presidential election will be held at the beginning of next year.

And Ramadan and Lebaran will be in March next year. So as there will be Ramadan and Lebaran twice in the same fiscal year, we expect sales decline for construction equipment in Indonesia.

[Tsubasa Sasaki, analyst]

In summary, mining equipment is doing well. Sales in Japan, North America and the Middle East are strong. But there are risks in other regions as you've just mentioned. So with expectation of their sales decrease, the total volume and the product mix will decline. Is my understanding correct?

[Unknown Executive]

It is correct.

[Operator]

Next question will be from Mr. Tai of Daiwa Securities.

[Hirosuke Tai, analyst]

I am Tai. I have 2 questions. One is about your price hike strategy. As mentioned earlier, Caterpillar implements double-digit price hike. But I don't understand why your price hike is only a little over 3% for the previous and this fiscal year. Of course, I understand the differences in regions and business models, such as wholesale versus retail, but I have a feeling that with the current difference in price hikes, you will probably not be able to catch up in coming years. How should I understand this situation?

And you also announced a 10% price hike recently, but I'm not clear that why the price hike for the current fiscal year will be still at the 3% range? Could you please explain this again? This is my first question.

[Unknown Executive]

The biggest factor here is that Caterpillar is a wholesaler. For instance, when they decide and tell their distributors that the wholesale price will be raised by such and such a month and when, they can do so accordingly. On the other hand, in our case, we sell some products directly to customers.

So we cannot tell our distributors. We will raise the price today and apply it right away. So whether a company faces direct customers or not, create a significant difference here. Regarding the sales in North America and Latin America, you mentioned, if we take the period from April to March from Caterpillar's financial results announced yesterday, 60% of their sales were recognized in Latin America and North America.

And in our case, that was 43%. According to their financial results, they have raised their prices by 14% while we have raised ours by 4%, and there is 10 percentage point difference. I assume the regional difference is significant here. The economy in North America has been strong in the past few years, and this has contributed significantly to the Caterpillar's high operating profit margin.

We plan to raise prices for the list price basis by 8% or 10% in Japan. But when we actually put this in the practice, assume that the price hike would be slightly less than 4% if we compare the total sales from the previous fiscal year.

[Hirosuke Tai, analyst]

I understood. Another question is about a completely different topic. If free cash flow for this fiscal year is really going to exceed JPY 300 billion, I assume you have discussed capital allocation and the process of calculating this forecast. If possible, could you please share with us what kind of discussions have been held in the last 3 months, 6 months or in the second half of the previous fiscal year regarding shareholder return, including share buyback?

[Unknown Executive]

The Board of Directors meeting was held today, and of course, we discussed it at the meeting. We have set various conditions for share buyback. And for this fiscal year, the most significant point is that ROE is as high as 13.7%, which is well above the target for the next fiscal year. And the total dividend will be about JPY 131 billion, and this is an extremely large amount that Komatsu has never paid out before.

And although the PER is low, the stock price itself is at the very high level. Because of these factors, we do not intend to implement share buyback at least at the end of the current fiscal year. However, as I said earlier, we expect free cash flow to be very large. And as indicated in the balance sheet forecast, it is estimated that the shareholders' equity ratio to increase considerably in the end of March 2024. As we monitor the progress against the forecast, we will consider share buyback as one of the options we can take.

[Hirosuke Tai, analyst]

Excuse me, is the current stock price high?

[Unknown Executive]

In terms of PER, it is low. But the current share price is higher compared to the share prices at the time of the 3 share buybacks we have done so far. The past buyback was done at a share price of JPY 1,600 or so. The highest one was at the last share buyback in 2014, it was about JPY 2,600. The current share price is over JPY 3,000, so we consider it is high.

However, this is because our profits have grown so much. So this is as a result of an incidental reason. Anyway, the total dividend is so large and the dividend yield is very high. And DOE is about twice as high as the average of TSC prime companies. I suppose DOE is expected to be about 5.5%. Under such as circumstance, we have decided it would not be appropriate to perform share buyback now.

[Hirosuke Tai, analyst]

I see. You earlier said the profit margin is stable. But in this context, I think the profit margin should go up since sales have grown so much. What do you think?

[Unknown Executive]

Well, if you look at the period from FY 2017 to '21, for example, in fact, fixed costs were totally flat. They did not go up at all. In FY '20, they decreased, especially due to COVID. So for the last 5 years, we didn't raise fixed costs at all. But we have raised it by about JPY 30 billion in FY '22 and will raise the same amount for FY '23 as shown earlier.

And especially for this year and next year, inflation will have a strong impact on wage increases. We are affected by this factor and because of the need to spend money on the electrification project in the midterm management plan. These are the reasons behind this situation.

[Operator]

We have received other questions, but the scheduled time has run out. So this is the end of the Q&A session. This concludes the financial results briefing. Thank you very much for joining us today.

[Statements in English on this transcript were spoken by an interpreter present on the live call.]