IHI Corp

TSE:7013

Earnings Call Transcript 2021-Q1

[Seiji Maruyama, executive]

This is Maruyama, in charge of finance and accounting of IHI Group. I will explain IHI Group's financial results for the first quarter of the fiscal year 2020 based on the PowerPoint presentation materials disclosed at 3:00 p.m. today.

Please turn to Page 4. This slide shows the consolidated results, including orders received in the income statement. The accounting standard for revenue recognition is applied from this fiscal year, and the effect of applying the standard is indicated at the top left corner for relevant items. Orders received were JPY 167.4 billion, down JPY 52.5 billion year-on-year. As shown at the top right, the average exchange rate for sales in the quarter was JPY 107.05 to the U.S. dollar. There was JPY 3.39 appreciation from JPY 110.44 of the previous corresponding period.

Net sales decreased by JPY 62.6 billion to JPY 218.5 billion. Net sales declined by 22.3% year-on-year, mainly due to the impact from the spread of COVID-19 and also as a result of the effect of applying the accounting standard for revenue recognition. Operating profit was minus JPY 9.2 billion, down JPY 10.1 billion year-on-year, mainly due to lower sales despite efforts to reduce fixed costs and others. Although the amount of loss narrowed due to improvement of share of profit and loss of equity and asset affiliates, ordinary profit was minus JPY 7.9 billion. Profit attributable to owners of parent was a loss of JPY 7.6 billion.

Please turn to Page 5 for orders received and the order backlog by segment. All the reportable segments reported year-on-year decline centered on Industrial Systems and General-Purpose Machinery. The decrease in Industrial Systems and General-Purpose Machinery was due to the reverse effect of large-scale projects of the transport machineries business and the logistics and industrial systems business recorded in the previous corresponding period as well as the impact from the spread of COVID-19 in the vehicular turbochargers business. Overseas orders received was JPY 51.2 billion, representing about the same ratio as last year at 31% of total orders. Order backlog totaled JPY 1,381.1 trillion.

Please turn to Page 6 for net sales and operating profit by segment. This slide also shows the effect of applying the accounting standard for revenue recognition at the top left corner for relevant items. In Resources, Energy and Environment, net sales were at the same level as the previous corresponding period due to the increase in the boilers business despite the decrease in the plants business as a large-scale construction project in the United States entered its final phase. Operating loss has been decreasing due to the reverse effect of the deterioration of profitability for some projects in the boilers business and the Power Systems business in the previous corresponding period.

In Social Infrastructure and Offshore Facility, sales were at the same level as the previous corresponding period due to the decrease in the bridges and water gates business despite the increase in the transport systems business and the urban development business. Operating profit decrease overall for the segment was an increase in operating profit on higher sales in the urban development business and a decrease in operating profit on lower sales in the bridges and water gates business, among others. Sales in Industrial Systems and General-Purpose Machinery decreased due to lower sales in the vehicular turbochargers business and the thermal and surface treatment business, which were affected by the spread of COVID-19. Operating profit decreased due to lower sales.

Sales in Aero Engine, Space and Defense decreased due to the effect of applying the accounting standard for revenue recognition in addition to the impact of the decline in demand for aero transportation, owing to the spread of COVID-19 in the civil aero engines business. Operating profit decreased due to lower sales in the civil aero engines business. Overseas sales were JPY 82.9 billion, representing 38% of total sales. The year-on-year decline in the overseas sales ratio is attributable to lower sales of civil aero engines, vehicular turbochargers, among others.

Please turn to Page 7. This is the breakdown by segment of the JPY 10.1 billion year-on-year decline in operating profit. Change in net sales had JPY 18.8 billion negative impact due to the substantial decline in Industrial Systems and General-Purpose Machinery as well as Aero Engine, Space and Defense, owing to the impact from the spread of COVID-19. The impact of the spread of COVID-19 on our businesses is explained on the following slides. Change in construction profitability brought about JPY 5.1 billion positive impact, which is attributable to the reverse effect of the deterioration and profitability recorded in the previous corresponding period while some projects in the boilers business and others in Resources, Energy and Environment. Progress in large-scale boiler project is described on Page 30.

The negative impact from the change in foreign exchange rate was JPY 0.3 billion. A change in SG&A had a positive impact of JPY 5.4 billion in total due to ongoing reductions in R&D expenses and the fixed costs as countermeasures against the spread of COVID-19. The negative impact from applying the accounting standard for revenue recognition was JPY 1.5 billion due to deducting compensation for damage and others from sales, which used to be recorded as nonoperating expenses.

Please turn to Page 8. The impact of the spread of COVID-19, which has been the reason for the decrease in our net sales and operating profit. Starting from the civil aero engine business. Sales of engines and spare parts has decreased significantly, owing to the drastic decline in demand for aero, transportation and the deterioration of business conditions for airlines. Although demands for aero transportation on domestic routes are expected to lead the recovery, the recovery speed will vary by region.

As for international routes. Due to various restrictions on immigration, speed of recovery has been lower than domestic routes, and it is expected to take several years to make a full recovery. Although that is the assumption we have for the time being, we also believe that once the passenger demand starts to pick up in the industry, our aftermarket business should achieve a rapid recovery since IHI engines are mounted on relatively new type aircraft with lower operating costs and higher fuel efficiency. Airline companies are likely to prioritize the aircraft with IHI engines when they reincrease the number of flights.

Next is the vehicular turbocharger business. Although the total number of deliveries has decreased following the decline in global auto sales and the suspension of auto manufacturers operation, the number of deliveries in China has already started to increase as their economy has become active. We are also starting to see a sign of recovery in the U.S. and Europe since auto manufacturers resumed their operation from mid-May. To respond to the situation, IHI Group has been taking countermeasures by temporarily freezing or controlling the expenditure on capital investments and research and development, by reducing total costs, fixed costs and inventories and by reallocating human resources to the growth areas and life cycle business. Depending on the future business environment and demand recovery situation, we will further strengthen the effort we are making.

As for the financial conditions. We have secured enough financial liquidity by securing diversified financial instruments, including commitment line contract and overdraft facility arrangement with our major banks, commercial paper, et cetera, in addition to cash and cash equivalents, although the detail is not available on this page.

Please take a look at Page 9. This is an additional info we are providing to you, which is net sales generated by civil aero engine business by quarter. Net sales generated by civil aero engine business in Q1 fiscal 2020 was JPY 20.4 billion, you see on the right-hand side. But if we exclude the impact of adopting revenue recognition and accounting standard, net sales was JPY 34.9 billion, a decrease of 46.4% from Q1 2019.

Please turn to Page 10. Vehicular turbocharger business, number of delivery and net sales by region by quarter. If we look at the total number of deliveries, Q1 2020 has hit the lowest level among the past 5 quarters. But if we look at the breakdown of net sales by region, we can tell that China, which is the red portion of the bars on the page, has already been on a recovery trend. And although we do not have a monthly breakdown on this page, we are also starting to see a sign of recovery in the U.S. and Europe in May and in June.

Please turn to Page 11. You will see the countermeasures IHI has been taking following the COVID-19 situation. We are surely executing the countermeasures as planned on a timely manner. We will continuously promote taking countermeasures, depending on the business environment in a flexible manner and revisit the countermeasures to take when needed.

Please turn to Page 12. Nonoperating income and expenses. Share of profit and loss and equity method affiliate was JPY 2.2 billion, up JPY 2.9 billion from the same period in the previous year. Japan Marine United, which incurred a loss in Q1 2019, has recognized positive profit in Q1 2020.

Please turn to Page 13. Consolidated balance sheet. At the end of Q1 2020, interest-bearing liabilities was JPY 487.2 billion, as you see in the middle of this page, which is approximately the same as the end of fiscal 2019. Debt-to-equity ratio was 1.31x. Debt equity ratio was 1.31x. Equity ratio was 20.6%, up 1.8 points from the end of fiscal 2019. Major factor was the retained earnings at the beginning of fiscal '20 increased by JPY 27.4 billion by adopting revenue recognition accounting standard.

Please turn to Page 14. Consolidated cash flow. Cash flows from operating activities was negative JPY 29.1 billion. Cash flows from investing activities was negative JPY 26.2 billion, JPY 14 billion additional cash-out compared to the same period of the previous year. Although we are temporarily freezing and controlling the capital expenditure and other investment for the current fiscal year, major factor for the increase was the newly built plant in Tsurugashima. This construction was completed in 2019. Free cash flow, combining the cash flows generated by operating and investing activities was negative JPY 55.4 billion.

Please turn to Page 15. Upper half of this page are the actual results of R&D, CapEx and depreciation and amortization. R&D and CapEx have decreased on a year-on-year basis following the temporarily freeze and control on the investments. Over half of this page shows the overseas sales by region, which is the breakdown of the overseas sales figure we had on Page 6. Sales in North America decreased significantly as a result of sales decline, mainly in civil aero engine business.

Next is the forecast for the consolidated results for fiscal 2020. Please turn to Page 17. The consolidated forecast for the year ending March 2021 are undetermined since it is difficult to estimate the reasonable size of the impact on our business under the current circumstances where we still do not have a clear view on when the spread of COVID-19 will come to an end. Once the situation improves and enables us to have more clear view on the potential size of the impact, we will develop the forecast and announce them promptly.

Page 18 onward are the financial results by segment, which I have already covered in my presentation, so let me skip. Page 27 onward are appendices. Please take a look later.

Talking about the consolidated forecast, I just touched upon it briefly. But as of now, let me share how IHI is thinking on this forecast. First of all, the COVID-19 situation, as you know, has been changing day after day. And still, the environment surrounding our business is unclear. And since we do not know when this infection is going to end, it is difficult to come up with a reasonable forecast. So as we did in May, we are saying that we are not determining the forecast as of today for fiscal 2020.

For the time being, it's difficult to tell the numbers. Having that said, when we are closing the first half, we are likely to have more visibility on the potential impact on a full year basis and the size of the effect we can enjoy by taking countermeasures. So at the latest, when we announce the Q2 results, we'd like to share the full year forecast.

Based on the demand forecast coming from third parties, we are estimating that the businesses going to be impacted by COVID-19 are the civil aero engine business and the vehicular turbocharger business, especially the civil aero engine business, which is one of the pillars of our businesses. It is unfortunately inevitable that we are -- the business is going to be affected. We are going to continuously pay close attention to the situation.

Talking about the civil aero engine business. Since COVID-19 has been spreading out across the world, it is negatively affecting the travel demand significantly. And accordingly, airline companies' business conditions have been deteriorating, which is likely to have negative impact on our sales. According to IATA transportation demand forecast, the situation has been further deteriorating compared to the time when we announced the Q4 result in May. The recovery speed is now taking longer than we were expecting. And now we are expecting that we will see a recovery by 2024, no longer by 2023.

And now we are expecting that it will take until 2024 to see a full recovery. Because of the rapid decrease in transportation demand and deteriorating airline company business conditions, we are expecting the demand for our high profitable spare parts business and aftermarket business demand is likely to decrease. And because of this less demand in the market, we're also seeing a trend where aftermarket is seeing increasing discounts, which is likely to have negative impact on our earnings.

Currently, we are conducting hearings with OEMs who are our business partners to understand the situation by model and to understand the current trend in the aftermarket business to scrutinize how the situation is likely to impact our business.

As for the vehicular turbocharger business, as I mentioned earlier, sales to China has been already recovering to the level prior to COVID-19. Compared to last year when our sales were not necessarily good, Q1 results was better than the previous year. On the other hand, in Japan, Europe, U.S. and in Thailand, we've been able to resume the production from June in general. But the sales have been decreasing still on a year-on-year basis. The question is whether the sales growth for China is going to be strong enough to offset the performance in other markets, which is something we are currently scrutinizing.

This concludes my presentation. Thank you very much.

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