IHI Corp

TSE:7013

Earnings Call Transcript 2020-Q1

[Seiji Maruyama, executive]

This is Maruyama speaking. I manage the Finance Department of IHI. I will explain IHI Group's financial results for the first quarter of fiscal year 2019 based on the PowerPoint presentation materials disclosed at 3 p.m. today.

Page 2 shows the content of the presentation today.

Please turn to Page 4. This page shows the consolidated results, including orders received and income statement. Orders received were JPY 220 billion, down JPY 21.6 billion year-on-year.

As shown on the top right, the average exchange rate for sales in this quarter was JPY 110.44 to the U.S. dollar. The rate for the same period last year was JPY 108.22, so the yen weakened by JPY 2.22.

Net sales decreased by JPY 55.9 billion to JPY 281.1 billion. Net sales declined by a bigger degree than what is accounted for by the effect of yen depreciation.

Operating profit decreased by JPY 11.7 billion to JPY 0.9 billion due to the profitability deterioration issue in specific projects, in addition to the effect of the decline in sales.

As for the status of the process plants project in North America, which had been a factor in deteriorating the profitability up until last fiscal year, we achieved 100% production of MMLS #1 in July. There is no change in the forecast as of this quarter.

Ordinary profit decreased by JPY 17.4 billion to a loss of JPY 0.6 billion due to the deterioration of share of profit of entities accounted for using equity method, worsened FX gain/loss numbers and others.

Profit attributable to owners of parent was a loss of JPY 2.7 billion, down JPY 8.9 billion.

As shown, the financial results of this quarter came in lower year-on-year. However, we believe we will catch up on a full year basis. So the full year forecast, which will be presented later, remain unchanged.

Please turn to Page 5 for orders received and order backlog by segment. In Resources, Energy & Environment, orders decreased due to the pullback from the same period last year where orders were received for domestic projects. In Social Infrastructure & Offshore Facility, orders were up, owing to the award of the new transit systems project in the domestic market this quarter. In Industrial System & General-Purpose Machinery, orders increased, owing to receiving orders for the coal unloading and transport facilities at Onahama East Port in the transport machines business this quarter despite the declining orders in the vehicular turbochargers business. In Aero Engine, Space and Defense, orders decreased in aero engines for Japan Ministry of Defense, the civil aero engines business and the rocket systems/space utilization systems business.

Overseas orders received were JPY 66.6 billion, accounting for 30% of the total orders received. This ratio declined due to decreased orders in vehicular turbochargers business, civil aero engines business and others. Order backlog amounted to JPY 1,413.4 trillion, down JPY 64.8 billion from the previous fiscal year-end.

Please turn to Page 6 for net sales and operating profit by segment. Net sales in Resources, Energy & Environment decreased due to a pullback from progress made in large-scale projects for the process plants business in the same period of last year, in addition to the impact of the delay in the progress in the projects in the boilers business. Operating profit decreased as the profitability deteriorated in specific projects in the boilers business and the power systems business.

In Social Infrastructure & Offshore Facility, net sales increased in the bridges/water gates system. Operating profit increased in the bridges/water gates business and in the transport systems business.

Net sales in Industrial Systems & General-Purpose Machinery decreased. This was due to the decrease in sales in the vehicular turbocharger business mainly in Europe and China as well as the impact from the transfer of the small power systems business in fiscal year 2018. Operating profit decreased in the vehicular turbochargers business, the rotating machineries business and the thermal and surface treatment business.

In Aero Engine, Space and Defense, net sales decreased in aero engines for Japan Ministry of Defense and in the civil aero engines business. Operating profit decreased due mainly to a temporary downturn of sales caused by making the inspection process stricter and to the additional program costs in the civil aero engines business.

Overseas sales were JPY 142.2 billion, representing 51% of the total sales.

Please turn to Page 7 showing the analysis of the JPY 11.7 billion year-on-year decrease in operating profit by segment. The impact of the change in net sales, which is shown at the furthest left, this reduced the operating profit by JPY 6.3 billion, owing mainly to the vehicular turbochargers business in Industrial System & General-Purpose Machinery and to the civil aero engines business in Aero Engine, Space and Defense. The change in construction profitability was a negative factor, reducing the operating profit by JPY 7.7 billion. In Resources, Energy & Environment, the deterioration of profitability for specific projects in the boilers business and the power systems business resulted in a decrease in operating profit. In Aero Engine, Space and Defense, operating profit decreased, owing to the additional program cost.

Change in foreign exchange rates had a positive impact of JPY 0.5 billion. Change in SG&A had a positive impact overall of JPY 1.8 billion, owing to the decrease in SG&A mainly coming from Resources, Energy & Environment and Industrial System & General-Purpose Machinery.

Please turn to Page 8 for nonoperating income and expenses. Share of profit in equity method affiliates decreased JPY 4.5 billion and was a loss of JPY 600 million. A significant profit decline year-on-year was recorded at Japan Marine United Corporation. Foreign exchange gains and losses deteriorated by JPY 2.7 billion. Others, which is a net of miscellaneous income and expenses, improved JPY 1.9 billion.

Please turn to Page 9. This shows consolidated balance sheet. In the middle, the interest-bearing debt is shown. And at the end of the first quarter, it became JPY 382.6 billion, up JPY 27.5 billion from previous fiscal year-end.

At the bottom of the page, debt-to-EBITDA ratio is shown, and it became 1.04x. And equity ratio became 20.4%.

Please turn to Page 10 for consolidated cash flows. During the first quarter, cash inflows from the operating activities decreased JPY 23.2 billion year-on-year and recorded a JPY 29.9 billion outflow. The deterioration is due to the impact from increased inventories caused by the stricter inspection process in Aero Engine, Space and Defense. However, it is expected to resolve within this fiscal year.

From investing activities, cash outflow decreased by JPY 8 billion, recording a JPY 11.6 billion outflow. As a result, free cash flow, which is a net of operating and investing activities, amounted to a JPY 41.5 billion outflow. This is increase in outflow year-on-year, but is in line with the initial expectation. We will continue to enhance cash-generating capabilities through such activities as reducing cash conversion cycle.

Please turn to Page 11. At the top, R&D, CapEx, depreciation and amortization results are shown. There are no major year-on-year changes.

As for CapEx and depreciation, until FY 2018, amounts related to tangible fixed assets were disclosed. From this first quarter, we have changed our disclosure policies to also include amounts related to software. To reflect this policy change, fiscal year 2018 first quarter numbers are modified.

The bottom chart shows geographical breakdown of overseas sales, which was explained in Page 6. Sales in Asia, China and Europe declined.

Now I'd like to touch upon the forecast for FY 2019. Please turn to Page 13. Forecasts for orders received, net sales and operating profits are not changed. ForEx assumption from the second quarter is JPY 105 to the U.S. dollar and JPY 130 to the euro. ForEx sensitivity is calculated at JPY 800 million on JPY 1 movement to the U.S. dollar.

Page 14 and 15 shows the full year forecasts by segment. As you can see, there are no changes to orders received, net sales and operating profit forecasts.

From Page 16, our financial results by segments. I will give you some additional explanations on full year forecasts by segments.

Page 17 is about Resources, Energy & Environment. The first quarter operating profit decreased year-on-year due to the deterioration of profitability for specific projects, but full year forecasts are not changed since we expect increase in contract price and profits from regular inspections and maintenance works after the second quarter.

Page 19 is about Social Infrastructure & Offshore Facility. It is roughly in line with the previous forecast, and there's no changes to the full year forecast.

Page 21 is about the Industrial System & General-Purpose Machinery. Although vehicular turbocharger deliveries were weak mainly in Europe and in China, steady demand to comply with the exhaust gas and fuel efficiency regulations is maintained. As we expect deliveries to pick up from the second half, forecasts are not changed.

Page 23 is about Aero Engine, Space and Defense. In the first quarter, profits from civil aero engine business decreased year-on-year, but the spare parts sales at the moment is steady. Therefore, we maintain our full year forecast.

From Page 25 are for your later references. This concludes my explanation.

[Takeshi Yamada, executive]

This is Yamada speaking, in charge of finance. Good afternoon. In this first quarter of this fiscal year, I'd like to share with you how we view these results internally within the company.

Probably for this fiscal year, the budget expected increase in profits in the second half of the year, so we had anticipated that the actual results will be weaker. However, compared to the expectations that everyone had regarding the first quarter, you might think that this is a negative result. So I'd like to once again share with you how we view this internally.

In terms of the presentation material, this is mentioned on Page 6. And the net sales and operating profit for the first quarter by segment is shown here.

As for operating profit on Page 7, there's analysis of change in operating profit. So I'd like you to refer to this page as I talk about this.

First, regarding Resources, Energy & Environment segment. In terms of net sales on a year-on-year basis, there's a decline by JPY 19 billion. Of these, largely speaking in the boilers business, about JPY 10 billion or so is accounted for. And in plants business, about JPY 9 billion is accounted for in terms of decrease in net sales.

As for the JPY 10 billion decrease in net sales year-on-year in the boilers business, this is not due to the low levels of orders taken up until last fiscal year. This has to do with the decrease in net sales on a calculation basis because of the percentage of completion basis. To put it another way, by increasing the estimated total cost, the rate of progress appears to have slowed down. And because of that, the net sales came down on a year-on-year basis. Therefore, in association with this, we are not recognizing decrease in operating profit coming from a decline in net sales.

On the other hand, in the plants business, the net sales went down by JPY 9 billion. Of that, about JPY 5 billion it -- is about the process plants in North America. As for the project here, we have already gone past the peak. So compared to the previous fiscal year, in the last fiscal year, it has resulted in a decline in net sales by JPY 5 billion or so. So again, we are not seeing any impact in terms of decline in operating profit.

As for the remaining JPY 4 billion in plants, this has to do with the sluggish orders which were seen upon until last fiscal year. So that resulted in a decline in operating profit year-on-year. So the issue is the boilers business and the movement in profitability.

Overall, it's about JPY 6.2 billion negative factor in operating profit. Of that, about JPY 5 billion is accounted for by the boilers SBU. That's the analysis.

And so this JPY 5 billion, if you had to take a close look of this, the biggest portion comes from -- I believe it's on Page 27 of the presentation slide. This has to do with Jimah East Power coal-fired power plant. In this project, there was additional cost that was factored in. So that accounts for about half of the deterioration in profit in the boilers business. As for this project, it's already 99% completed.

We are at a commissioning stage. However, at this stage, we found that in some of the boilers, there are parts that will be heated up more than what we expected at the time of designing. This will not cause any problems to the operation. But in the future, this may shorten the useful life of the boilers. So upon consultation with the customer, we decided to take permanent measures within 5 years. So we factored in the cost for modification.

Therefore, as for the handover itself, as shown here, boiler #1 is scheduled for this month, August. And boiler #2 is scheduled for December. So this is in line with the schedule. At any rate, this project is almost over.

And as for the remaining half of the boilers business accounting for the deterioration in profit, as we have explained on a number of occasions from the past, there are some projects with poor profitability that are still ongoing. And this time in particular, we wanted to accelerate the process. And because of that, there was an increase in construction costs. So to put it in one way, we factored in the increase in costs ahead of time. So that resulted in the decline in profit.

So how we view this profitability trend is that against the budget, the worsening profitability in the boilers business, honestly speaking, was outside of our expectations or plans. Of -- 70% to 80% of the deterioration, as I mentioned earlier, this is due to the factoring in ahead -- of costs ahead of time. So we believe we can recover by charging for the additional work and increasing the amount to be billed. As for the remaining 20% to 30%, we should be able to make up for it by reducing the fixed costs and by improving profitability in regular inspection and refresh and innovation work.

Next is the Industrial System & General-Purpose Machinery, which had a huge variance. As Maruyama mentioned earlier, of the JPY 18 billion decline in net sales on a year-on-year basis, JPY 13 billion has to do with turbochargers business.

If you look closely, the impact coming from the Chinese market is quite huge. The Chinese portion of the business, or the decline in net sales, accounted for -- by JPY 5 billion. And the decline in sales in the European market accounts for JPY 8 billion. As for the decline in sales in the European market, as we have been saying from before, over the several years starting now the European business operations would have a tough going. So this portion has weakened a bit, but it is still within the expectations.

The issue is the decline in net sales in China. The decline in profit associated with that is about JPY 1.5 billion for the Chinese market. This negatively affected the domestic business by JPY 1 billion as parts shipped to China declined. So altogether, about JPY 2.5 billion of negative impact was seen in operating profit.

As for the analysis of change in operating profit, change in net sales had a negative impact of JPY 4.1 billion. Of this, the turbocharger accounts for about JPY 4 billion. Of this amount, China accounts for JPY 2.5 billion; and Europe accounts for the rest, about JPY 1.5 billion.

And in terms of how we view this internally at the company, the European portion was more or less within the scope of expectations that we had. However, the downturn in the Chinese market unfortunately was outside of the budget or the plan, so the net sales decreased more than what we initially expected. And as for this point, in the second half of the fiscal year, there will be stimulus measures to be taken by the local governments in China. And therefore, we expect the increase in sales of the automobile sales. So at this point in time, we have not changed the forecasts.

However, within the company, we might have to anticipate the worst-case scenario, a further downturn in the Chinese market. So in light of that, we have planned for recovery measures. So we are engaged in specific activities mainly and also the reduction in fixed costs. But in the end, we believe that we will be able to maintain our forecasts.

Lastly, Aero Engine, Space and Defense. The net sales went down significantly with JPY 27.2 billion of decline in sales. Looking closely at this number, with the defense engine, it's about JPY 16 billion. And with civil engine overhaul related business, JPY 12 billion decline is seen in net sales. And the reduction in profit coming from the decline in net sales is about JPY 2 billion according to our analysis.

As for change in profitability, overall it's JPY 2.4 billion of negative impact for the segment as a whole. But mainly, as we have been saying from before, this has to do with RFP contracts and an additional increase in program costs. So it has gone up on a year-on-year comparison basis, so that's why the profit declined. But this part is already factored in our forecasts, so the impact will not have any impact on the forecasts for this fiscal year's forecasts.

On the other hand, in terms of comparison against the internal budget, there's shortfall of JPY 3 billion in operating profit. That's how we view this. And this underachievement has to do with spare parts or the sluggish growth in spare parts business. Initially -- compared to what we expected initially, it is not growing as much. On a year-on-year basis in terms of volumes, the level is more or less the same. It is not growing. So this is outside of the scope of the budget we had. The cause of this was that the maintenance business at Mizuho works was suspended. In addition, the maintenance business in Turkey was suspended due to some quality issues. So our maintenance business was suspended for some time.

Regarding these and going forward, we have the expectation that this will recover. And in fact, we are starting to see the normalization of the situation. So regarding the spare parts on a full year basis, we will go back to the initial state. Therefore, we have not changed the forecasts.

So that concludes my comments. As I mentioned at the outset, the first quarter results are quite unfavorable. At this point in time, the company's view is, as I mentioned earlier and for the reasons that I mentioned earlier, we will not change any full year forecast numbers. That's all.

That concludes the presentation from the company.