Olympus Corp

TSE:7733

Earnings Call Transcript 2021-Q1

[Chikashi Takeda, executive]

[Interpreted] Greetings to you. I am Chikashi Takeda, Chief Financial Officer of Olympus Corporation. I would like to thank you, indeed, for your participation in this conference call. I appreciate that you listen to my presentation on the consolidated financial results for the first quarter fiscal 2021.

I will begin with the summary of financial results. Please turn to Slide 3. This slide highlights our consolidated financial results for the first quarter fiscal 2021. Revenue and operating profit were negatively impacted by COVID-19. Although our revenue decreased significantly in all divisions, year-on-year decline in revenue slowed from May to June.

In operating profit, we achieved profit even in a challenging environment driven by mainstay Endoscopic Solutions division, accompanied by controlling expenses as well. While full year forecast have yet to be determined, both revenue and operating profit were higher than our preliminary plans. Outlook remains uncertain due to the continued global spread of COVID-19, and therefore, it is difficult to make a reasonable estimate on our financial forecast.

Slide 4. I will now explain our consolidated financial results and business review for the first quarter.

Slide 5. Please turn to Slide 5. Consolidated revenue accounted to JPY 142.4 billion, down 19% excluding FX impact. Revenue was down in all divisions due to COVID-19. Gross profit, JPY 87.3 billion. The COGS ratio increased due mainly to a decline in factory operation owing to the COVID-19. SG&A expenses totaled JPY 84.6 billion.

Although T&E, sales promotion and other expenses decreased because of not being able to conduct normal activities owing to COVID-19, the SG&A ratio increased as revenue declined. Operating profit, JPY 1.2 billion positive, driven by mainstay Endoscopic Solutions division.

COVID-19 is estimated to impact revenue by JPY 34 billion and operating profit by JPY 11 billion. Each division was impacted around April and May. In particular, Therapeutic Solutions division, which focuses on single-use devices, posted a significant decline in revenue since its sales are dependent on the number of procedures. Our calculations on the impact are based on the assumption that we would have at least achieved the same level of performance as the previous year if not for the COVID-19 excluding FX impact and other income and expenses. Loss attributable to owners of parent, JPY 2.7 billion loss, as tax expenses exceeded due to the quarterly financial reporting, but this is expected to be averaged throughout the year.

Slide #6. Starting on this slide, I will go into details about the results of each segment. Let us begin with the Endoscopic Solutions division. Revenue amounted to JPY 79.2 billion, down 14% excluding FX impact. We conducted online-based sales activities and training and seminars to respond to the COVID-19. Performance was negatively affected by restrictions and sales promotions, such as business to customers and medical institutions and by delayed or canceled business negotiations as well as a decline in number of procedures. Although we faced difficult conditions in all regions, in China, the revenue was up 3% excluding FX impact. In Europe, performance continued to be solid in Russia, where a government-led cancer project is being implemented, resulting in a mere 3% decline in revenue excluding FX impact. This decline was smaller than in other regions. Operating profit, JPY 14.6 billion by controlling SG&A expenses. The operating margin stood at 19.4% excluding FX impact.

Slide #7 is next. Slide 7 shows the results of the Therapeutic Solutions division. Revenue, JPY 38.1 billion, down 24% excluding FX impact. This decline was due to changes in operations at medical facilities aimed at preventing the spread of COVID-19 and a decline in the number of procedures as patients refrained from visiting hospitals as well as restrictions on sales promotion activities.

There were some regional differences in performance. In the United States, revenue declined a considerable 36%, excluding FX impact, while Japan down by 14%, China down a similar 11%. Operating profit was in the positive at JPY 1.4 billion, which was due in part to a reduction in expenses. The operating margin stood at 4.5% excluding FX impact.

Slide 8. Let us take a look at the Scientific Solutions division. Revenue amounted to JPY 17.8 billion, down 18% excluding FX impact. Revenue was down on the whole due to the COVID-19, but China showed revenue growth driven by industrial products, such as industrial microscopes and nondestructive testing equipments. Operating loss of JPY 1.6 billion regretfully was recorded due mainly to lower revenue.

Slide 9, the Imaging Division. Revenue amounted to JPY 6 billion, down 39% year-on-year excluding the foreign exchange impact. Operating loss was JPY 2.7 billion. COVID-19 had a significant impact on revenue, resulting in widening operating loss.

Slide 10, financial position as of June 30, 2020. With no end in sight to COVID-19 impact, we had additional funding and increased liquidity to ensure stable business operations. As a result, cash, corporate bonds and loans increased. The equity ratio was 32.8%, down 3.7 percentage points from the end of the previous fiscal year due to an increase in liabilities.

Slide 11, the status of cash flows. Cash flow from operating activities decreased by JPY 20 billion year-on-year to JPY 8.4 billion against the backdrop of a decline in operating profit owing to COVID-19. Cash flow from investing activities decreased JPY 3.2 billion year-on-year due primarily to the decrease of purchases of demo and loaner products in Medical. This led to free cash flow of minus JPY 3.9 billion, down by JPY 16.8 billion. Cash flow from financing activities amounted to JPY 111.8 billion, up JPY 123.1 billion due to increase in long-term borrowings and issuance of commercial paper. As a result, cash and cash equivalents at the end of the first quarter stood at JPY 270.7 billion.

Slide 12, the status of monthly revenue. This graph shows the revenue trend by division from January to June of this year in comparison with previous years as a baseline of 100%. Revenue was on a downward trend until the end of April due to COVID-19. But the rate of decline slowed in all divisions from May to June.

In addition, I would like to refer to the situation in July, which is not shown in the slide. As a reference, on preliminary reports, Endoscopic Solutions division is recovering slightly compared to June and Therapeutic Solutions division is recovering to the level of the previous year. However, the decline in Scientific Solutions division and Imaging Division is expanding again. There are signs of COVID-19 widespread again around the world and the situation differs depending on the region. As such, it is difficult to make a reasonable estimate on financial forecast, and our full year forecast have yet to be determined.

Slide 13. COVID-19 pandemic is changing the way we interact with health care professionals and customers. Let me share 2 examples of how Olympus has been responding to new normal. First, MedPresence, it is a newly developed service by utilizing technologies of Image Stream Medical that we acquired in 2017. MedPresence is an enterprise medical virtual presence solution, enabling surgical teams, specialists, application trainers or manufacturers' representatives to quickly bring needed expertise into a procedure space from across the hospital's network around the world, and at any time, virtually. The access to real-time endoscopy images and room context differentiates MedPresence from consumer meeting technologies as well as its security features and U.S. patent. EU and U.S. COVID-19 emergency response is to offer a 90-day free trial of the tele-collaboration service. Our aim is to help them preserve PPE and limit their clinical teams and patients' exposure to the virus.

The second example is online training demonstrations and seminars. Due to COVID-19, face-to-face interactions with customers have been kept under restrictions. In response, we have been providing many online demonstrations and seminars. While the spread of COVID-19 and the launch of EVIS X1 overlapped, the face-to-face events were canceled. We are planning new webinar-style doctor events as well as enriching the demonstration videos of EVIS X1 that are easy to use in online communication. We will continue to pursue new approaches centered on digitalization and accelerate our efforts toward new normal.

Slide 14. We are committed to steadily implementing corporate reforms in fiscal 2021. Key progress made to date can be summarized in the following 2 points. First, on June 24, we signed a memorandum of understanding regarding the transfer of the Imaging business with Japan Industrial Partners, JIP, which has a strong track record in business revitalization.

The new Co, as the successor to such brands as OM-D, PEN and ZUIKO will continuously provide better products and services to customers. Second, we launched EVIS X1, the next-generation GI endoscopy system. Sales started in some parts of Europe and Asia on April 23 and in Japan on July 3. We will create clinical value and establish the golden standard in endoscopic examination and treatment by providing new functions of EVIS X1 and a comprehensive product portfolio centered on the globally unified platform.

Slide 15. In Slide 10, I explained that we increased liquidity to ensure stable business operations. We issued JPY 50 billion of corporate bonds in July. We have also secured a commitment line of JPY 100 billion with Japanese banks. In addition, we have set our sights on investments for sustainable growth despite the ongoing impact of COVID-19. We continue to strengthen our business development functions. We are dedicated to reinforcing our core competency in early diagnosis and minimally invasive treatment and increasing corporate value by proactively utilizing M&A opportunities focused on priority areas defined in new corporate strategies, which was announced last November.

That concludes my presentation.

Now we are ready to have questions and answers session.

[Chikashi Takeda, executive]

[Interpreted] Let us begin with the first questioner.

[Unknown Analyst]

[Interpreted] Question number one refers to Page #12 of the presentation materials describing situations over the period between January through June. Mr. Takeda, thank you very much for sharing with us July preliminary reports as well. But first of all, through June, for TSD, see, I recognize that sales activity were much constrained. So it's been said that, it would probably take time to accomplish recovery, but rather swiftly, the company's TSD has been able to come back up. By the way, for July, what I heard is that from the previous month's 10% in decline situation, the situation apparently started to get even better. So I'm just wondering what sort of views or the estimations or the expectations that you may have by now to the end of September or the second half of this year and when to accomplish breakeven or to trend positive?

[Chikashi Takeda, executive]

[Interpreted] Thank you very much indeed for that question. As explained to you, at the outset here of this teleconference, our COO, Nacho Abia, is joining us. So of course, I would be prepared to respond to your questions. But something like this particular question raised, I would ask Mr. Abia to answer.

[Nacho Abia, executive]

Thank you very much, Takeda-san. Can you hear me well?

[Chikashi Takeda, executive]

Yes.

[Nacho Abia, executive]

Yes. So thank you for the question. I think that as we all know, this is really an unprecedented situation where it's not easy to forecast ahead of us. What -- especially in view of new outbreaks of the infection that we are seeing all over the world. What we can see at this point is that as Takeda-san has explained in his presentation is that the recovery in June, especially in TSD, but also in ESD, in our Medical business, has been significant and the good news continued in the month of July.

So my anticipation is that for the next months, in the absence of a big -- again, a big backdrop in terms of the number of infections, the number of procedures that are the main driver for TSD business should continue recovering. And in the ESD, mostly because of the launches -- the successful launch of EVIS X1 platform, we also expect some recovery. So the expectation is that over the course of the year, the recovery will continue. And at some point, we will hit the breakeven point and be above previous year. But obviously, this is in the absence of additional backdrops in terms of the COVID-19 situation.

[Unknown Analyst]

[Interpreted] My second question actually is to you, Mr. Abia. So now you are the Chief Operating Officer. So into new assignment, your view of the company's issues or the expectations or the overarching, the recognition that you have, therefore, the corporation. I wonder whether there are any changes, if so, in your new role, what sort of issues you would like to tackle and challenge? And also, I understand that your TSD headquarters is in the United States and business development activities for future growth as well and so the accomplishments to date if you please advise me and the rest of the audience, I would appreciate?

[Nacho Abia, executive]

Thank you very much for this question. Essentially, my view of Olympus have not changed much since my previous assignment, as -- you might not know, I've been in the company, in Olympus, for almost 20 years now. And I think I know our strengths and our weaknesses quite well, and this have not changed in my new assignment.

What I would say is that in our business, we have really impressive position in the ESD endoscopy market that has been built over many, many years of working very close with customers and gaining their trust, thanks to our continuous technology improvement. I will pause here for the interpreter.

So in terms of opportunity, and I think that we will, of course, continue nurturing the opportunity in the endoscopy business. And the launch of EVIS X1 new platform is definitely going to be very successful. At the same time, I personally think that in the TSD area, in the Therapeutic Solutions division, there is a large opportunity because we have accumulated a very strong know-how in order how to treat, not only to diagnose but also to treat, diseases that we can achieve through the TSD products. However, in that area, our competition is mostly coming from the United States. And that's the main reason why we transferred the management of the TSD units to the United States. I'll pause here for the interpreter.

In terms of the achievements of TSD, since the division was created back in 2019, what we have been working is 2 fundamental areas: one, we have been working with a strong focus on the United States markets, which accounts for almost 50% of the TSD business. And in order to do that, we have been working very close with customers and we have developed a new pipeline of products that will come to the market over next years and will feed better the customer needs in the United States.

The second front is obviously something, which is very much needed in the medical device arena, which is business development and M&A. We have been creating and nurturing a very solid business development team that is very actively looking in the market for opportunities that hopefully in the future, we will be able to solidify in compare to real business for Olympus.

[Chikashi Takeda, executive]

[Interpreted] Now we are ready to take questions from the next questioner.

[Unknown Analyst]

[Interpreted] My first question. So I understand that -- the overall tone of recovery, but at the same time, there seems to be variability among regions. For instance, in Japan and Americas, this showed a more significant decline. And by the way, Olympus is not unique because listening to other companies, such as Pentax, they say that the trend was the same. But at the same time, China is back. I understand that. But between Europe and Americas, why so much difference after all? Because for the European region, I understand the country Russia with the government-led project and also the new product appeal. So maybe the hospital situations, the management of hospital is getting very, very severe and the particular region, such as in Japan, as I see. But I'd say that even if the situation, directly coming from COVID in May 19, is stabilizing better that the replacement in demand at hospitals and medical institutions may not come back that quickly, not happening before the end of the fiscal year. Isn't that correct?

[Chikashi Takeda, executive]

[Interpreted] Thank you very much for that question. So I will respond to that question first. To be followed up, I'm sure, by Mr. Abia. So from myself, I would start by saying that through the end of June, ESD business operation in Japan, for instance, struggled more eminently in comparison with other regions, for instance.

For Japan, I'd say the products that we have in the Japanese market are already in the latter stage of the product life cycle. And on top of that, the Japanese medical institutions and hospitals, they are very much constrained for the use of the budget money or to secure the budget. So there's a high hurdle. However, into the month of July, they were on the preliminary or the management -- the basis. What we take note of is that, that magnitude of decline already started to get smaller, and the same change in the tone coming from the United States as well. That's on one hand. On the other hand, Europe and China, for the month of July, under the month-on-month in comparison with the prior months of June, the situation, if anything, it seems to show a further decrease, not by much but a little bit down further from June. So the point that I would like to make is that it's very difficult to state the uniformal direction for all of the markets. If anything come to Japan and North America, it took more time than in other regions to start showing signs of recovery, but now those regions are starting to show the signs of recovery. So maybe I will keep it at that for now and asking Nacho to follow up.

[Nacho Abia, executive]

Thank you, Takeda-san. I agree with your views. I would just complement the fact that in -- essentially, the situation in Europe was less negative than in other regions because the diversity in Europe and not all countries were impacted by COVID-19 in the same manner. So over the COVID-19 crisis, we have seen a better behavior of the European business than in other areas due to this diversity of the countries.

In the Americas, essentially, the COVID-19 crisis became very sudden and unexpected. And most of the health care systems in the America kind of really focus all their efforts in order to treat COVID-19 patients. And for several weeks, what we call elective procedures, the general surgeon of the United States recommended to postpone all these elective procedures. All this business is now coming back, and we can see this in the nice recovery in the TSD business as well. I will pause here for the interpreter.

[Unknown Analyst]

[Interpreted] But you know what I wanted to know in particular has to do with your expectation or the view on Japanese market or the North American market. The constrained budget conditions at medical institutions and hospitals, particularly in regions like Japan and U.S. isn't that the real worry? I have been hearing from you the proportion [indiscernible] by the public, the hospitals and institutions relying on the public money is very, very large. The situation wouldn't be different in the private sector hospitals, and therefore, some segment of the market, such as in Japan that may be so, but what about the public institutions?

[Chikashi Takeda, executive]

[Interpreted] Thank you very much for that question, and it's the same comment that I tend to hear from the market.

[Operator]

[Interpreted] At this juncture, Mr. Nacho Abia said that he's ready to take up the question. But Mr. Takeda, the CFO, will first answer and will pass it on to Nacho.

[Chikashi Takeda, executive]

So how quickly, how sooner than later? Well, that's everyone's worry. This -- I am going to make an observation, but would rely on Mr. Abia's view. So I'm going to hand it over to Nacho.

[Nacho Abia, executive]

Thank you, Takeda-san. There is essentially, we -- as Takeda-san said, we are very much aware about health care system budget constraints, especially for capital expenditure in the -- over the next months. But at the same time, we are seeing a very nice acceptance of EVIS X1, the new endoscopy platform, in markets like Europe and Japan, where it has been already launched. Especially Japan, I mean, we are seeing very active orders from customers even in budget -- in a strict budget situation. Still they are ordering the system because they were waiting for the new technologies that are coming across very strongly.

So while we are aware of these budgetary constraints, we also are very hopeful that our new platform -- endoscopy platform will be able to compensate those budget constraints. And still, we can find -- the health care system will find the budget to fund these new products. Thank you.

[Chikashi Takeda, executive]

[Interpreted] We'll now move to the next questioner.

[Unknown Analyst]

[Interpreted] I have 2 questions. First on SG&A expenses. The first quarter, April to June, the SG&A expenses was reduced by JPY 16.4 billion year-on-year, which I think would be the largest reduction on a quarterly basis under this long initiative to reduce the SG&A expenses. And I believe most was in relation to travel expenses, which were not incurred with restrictions on mobility. So I have a question on how sustainable this reduction is in the second quarter onward. Also, I'd like to ask whether there are any cost items that actually increased to implement the reform among those SG&A expenses.

[Chikashi Takeda, executive]

Thank you for your questions. Let me take the latter part of your question first. Whether there are any costs related for the reform implementation, the answer is no, there are no major items. And you also asked about the future sustainability. As it was explained earlier and as you have correctly indicated, the reduction in SG&A expenses during the first quarter was mostly in relation to the travel expenses by about 80%, partly the efforts made to reduce the cost and partly in relation to the lack of mobility. Also, the sales promotion expenses were reduced by about the same size.

Now should sales activities pick up in the future, we should see increase in related expenses. Having said that, with regard to travel expenses, under the new normal, we have realized that there are so many things that can be worked on remotely. So even when the activity level is to go back to the previous level, I don't think the expense level will go back to the previous level. In fact, taking this opportunity, we would like to work on suppressing the expenses where possible. And so this is one of such expenses to be reduced and suppressed.

I'm afraid I can only give you abstract response, but that is our thought on the matter you asked about.

[Unknown Analyst]

[Interpreted] I see. Now broadly speaking, of this reduction of JPY 16.4 billion, how much, percentage-wise, was onetime reduction?

[Chikashi Takeda, executive]

[Interpreted] By onetime reduction, do you mean the expenses that were not incurred as a result of the lack of activities?

[Unknown Analyst]

[Interpreted] Yes.

[Chikashi Takeda, executive]

[Interpreted] Hold on. I tried to calculate what the amount would be, but it was very difficult to clearly define different items. You're asking of the JPY 16.4 billion, how much is on time, right?

[Unknown Analyst]

[Interpreted] That is correct. In other words, I'm interested in what part of reduction is sustainable.

[Chikashi Takeda, executive]

[Interpreted] Well, I'm afraid this is not going to be a very accurate response, but 10%, 20%, maybe, at least, that's my current guess, looking at the travel expenses that were saved. So for the earnings briefing for the second quarter, I would expect similar questions to be raised. So I'll try to prepare for such questions.

[Unknown Analyst]

[Interpreted] I see. My second question is in relation to the headcount, and this was referred to partly in your presentation slides, and I am looking at Slide 14, and this is a slide that you presented in the middle of June as well. And the structural reform and fixed costs of the items listed there, you didn't talk about that and I'd like to get some clues.

Looking at the supplementary materials, Page 2. The headcount, employee headcount by segment, I understand that during this past 3 months, in Imaging, about 500 people being reduced; and in others and corporate, down 170 or so. In the meantime, for TSD, the headcount increased by a little less than 400. So on a net basis, a reduction of around 200 people. So for Imaging and others and corporate, this decline, was it attrition? Or is this a result of some strategic reduction efforts? And should we expect this to continue in the second quarter onward?

[Chikashi Takeda, executive]

[Interpreted] For Imaging, in Vietnam, we have operations employing around 3,000 people, a production site. And as we figured out that the impact of COVID-19 is going to be extensive, we felt the need to implement production adjustment. And regrettably, we decided to implement 450 redundancies or thereabout. So that's a big item in relation to Imaging -- the reduction in headcount in Imaging.

[Unknown Analyst]

In other divisions?

[Chikashi Takeda, executive]

Medical, an increase in headcount. This reflects new graduate hires, I think, at production sites, I think. And to enhance the sales and marketing structure, in emerging countries, I think we are increasing the headcount. So on a net basis, a large reduction in Vietnam, and the net difference was a reduction by about 200 people compared to the end of March.

[Unknown Analyst]

[Interpreted] What about others and corporate, down 170-or-so? Was this a deliberate reduction?

[Chikashi Takeda, executive]

[Interpreted] Well, actually, to show the headcount, employee numbers, depending on the labor structure, we did not have standard classifications globally, and therefore, we reclassified, and I think that had an impact on the numbers that you see. So it's not that we implemented major initiatives, for example, terminating some business or reduce the headcount to improve efficiency. There was no such initiative.

[Unknown Analyst]

[Interpreted] I see. So on Page 14, you are showing the structural reform on fixed costs, but this item have yet to be realized. This was not done during the first quarter. Am I correct?

[Chikashi Takeda, executive]

[Interpreted] Yes, that is correct. Our internal analysis show that fixed costs account for around 80% of SG&A expenses, which is really large. So within the framework of corporate reforms, we want to address this on, starting from scratch basis, a 360-degree review. But this initiative is not closely refined that we can share with you. We're still in the stage of consideration study, but we are to address this from scratch.

We'll move to the next questioner.

[Unknown Analyst]

[Interpreted] In the interest of time, I'll be very brief. 2 questions. First, looking at the earnings briefing of the hospital systems in Europe and hospitals, I understand that the GI endoscopy examination would be the slowest in recovery. I think that's what UnitedHealth and HCA are indicating. But looking at your results, it looks like recovery is taking place in all regions. So my question is, what is the number of endoscopy examinations? And why is it that while the number is low, people are buying devices? Especially in North America, since there is no impact -- effect of new product, why are hospitals buying devices?

My second question is on TSD. In order to grow business, you definitely need to address device for ERCP procedure, the endoscopic retrograde cholangiopancreatography, and Boston Scientific is doing that. So I think you really need to address that. Do you agree?

[Nacho Abia, executive]

Regarding the business development question, I -- first of all, I fully agree that ERCP and overall GI procedures are indeed one of our areas of strong interest because we know -- first, we know the size of the market; second, this is performed through an endoscope, which is a market that we have a very high market share. So it's a space that we should have a good access to. So this is an area where we have to explore, but is not the only one. I think that during the development of the corporate strategy last year, it was identified not only for GI procedures, like ERCP, but also urology procedures, I think Olympus is very strong in all kind of PPH treatments, and we are trying to explore that area; and also in respiratory diseases, especially in lung cancer diagnosis and staging.

So I think that from a BD perspective, we are exploring different areas, not only GI. And as I said before, I mean, we are very actively looking for strategic opportunities in that area. So I hope this can answer your question, and thank you.

[Unknown Analyst]

[Interpreted] What about the number of endoscopic exams?

[Nacho Abia, executive]

The number of procedures for endoscopy examination, at this point, we are actively working with the endoscopy societies across the world to understand the impact of COVID-19 on those procedures. And as you can imagine, this endoscopy examination is one of the most elective procedure. So we were hitted very strongly at the beginning of COVID-19. But almost in all geographies, at this point -- and this is not accurate information. It's just the information we get from gastroenterology societies across the world. They are recovering at the level of 85% to 90% versus previous year, but steadily increasing day-by-day. Thank you.

[Chikashi Takeda, executive]

[Interpreted] And this concludes today's conference call.

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