Nippon Yusen KK

TSE:9101

Earnings Call Transcript 2020-Q1

[Hitoshi Nagasawa, executive]

Hello, I am NYK President, Hitoshi Nagasawa. I will start today's discussion with an explanation of the overall results. And then Senior Managing Corporate Officer, Hiroki Harada, will provide an explanation of ONE. I will give a detailed explanation based on the PowerPoint slides later. But first, the results for the first quarter have already been announced. And as you know, revenue exceeded JPY 400 billion, recurring profit was JPY 6.4 billion and net income attributable to the owners of the parent company was JPY 9.1 billion.

I feel the first quarter progressed fairly well compared to our initial plans. However, segment was -- although some segments exceeded expectations, there were other segments that failed to achieve the expectations. Card carriers and energy transportation were strong and the Liner Trade also performed well. However, the situation is still highly unpredictable and we are monitoring the trends.

On the other hand, NCA and YLK, Yusen Logistics faced difficulties. And in these businesses, the markets or, in other words, the cargo movement situations were extremely challenging. I will discuss the specific figures later, but due to the impact of these challenges, the figures are very weak.

In the Dry Bulk segment, we were somewhat affected by the market volatility resulting from the accident involving Vale in Brazil, supply trouble in West Australia and hurricanes. Relatively speaking, I feel the segment achieved a fairly satisfactory start to fiscal 2019.

Separately, the second point I would like to mention concerns the liquidation of assets, which is one of the policies set forth in the current medium-term management plan. This year, we continued to liquidate assets in the first quarter. Also in the Dry Bulk division, we proceeded with the disposal of unprofitable ships as planned in the first quarter.

The third point I will discuss is the start of the SOx regulations from January 1, 2020. We are currently in the process of assessing the impact. But based on the policy of keeping the ships operating in order to fulfill our obligation to safely transport our customers' cargo, initially, we are working to procure regulatory-compliant fuel. The oil companies have yet to indicate specific prices and price differences compared to existing fuel, so we do not yet know what impact this will have on the results for the year.

Despite this, we are proceeding with the procurement of regulatory compliant fuel in order to comply with the IMO 2020 regulations. Please turn to Page 3 for an overview of the first quarter results.

Shown here is basically what I touched on earlier, so I would like to ask you to glance over it briefly. Please turn to Page 4. Shown here is a comparison of the results with the first quarter last year. Concerning the results at each income level, revenue declined by about JPY 60 billion. But this is due primarily to the sale of the terminal business last year. Concerning the operating income, recurring profit and net income attributable to owners of the parent company, each improved by over JPY 13 billion.

Please turn to the next page. Shown here are the first quarter figures for each segment. And compared to the first quarter last year, the Liner Trade segment at the very top achieved a remarkable profit improvement of JPY 18.5 billion.

Concerning the other segments. The Air Cargo Transportation, Logistics and Bulk Shipping segments require special mention as the results in these segments deteriorated by about JPY 3 billion, JPY 1.3 billion and JPY 1.2 billion, respectively. The lower figures in the Bulk Shipping segment are primarily due to the deterioration in dry bulk. Please turn to Page 6.

Shown here is a waterfall graph of the figures I just mentioned. So I will not give any particular explanation of this graph.

Moving on to the next page. Shown here is the forecast for the full year. The first quarter has just ended, and there will be many events that will likely occur during the remaining months. However, the results in the Liner Trade have been revised up. The profitability of the contracts improved in the first quarter. And although the listings are currently very difficult to predict or rather to calculate, the results have been revised up based on consideration of the current situation compared to the initial forecast.

Concerning the Air Cargo Transportation segment. Unfortunately, the situation is expected to remain challenging. I will discuss the specific figures later, but cargo volumes have fallen about 20% below the initial forecast. And although a slight improvement is expected in the second half, the situation will likely remain challenging.

In the Logistics segment too, handling volumes in the forwarding business have declined due in part to the impact of the trade friction between China and the U.S., and this has necessitated a downward revision to the forecast. On the other hand, the forecast for bulk shipping has been revised up. The first quarter was a difficult period for dry bulk, but the situation will likely improve from the second quarter. Energy transportation and car carriers are both strong. In car carriers, loadings will likely grow more than initially forecast. Along with this, progress has been made in the unprofitable trades and rationalization of vessel allocation and the situation is firming.

Overall, bulk shipping should basically be strong. Conversely, NCA in the Air Cargo Transportation segment and use in logistics in the Logistics segment will face a slightly challenging situation. Also, if the current cargo volumes continue in the Liner Trade, it should be possible to revise the forecast up. This is my overall view of the businesses.

Concerning the extraordinary income and losses. As I mentioned in my opening remarks, we intend to continue with the liquidation of assets and the early redelivery of high-cost chartered ships as structural reforms in the dry bulk business. Concerning the early redelivery of the high-cost chartered ships, I believe the figure of about 20 ships was stated last year. But last year's 7 ships were returned and 2 more ships were returned during the first quarter. The process involves negotiations with the shipowner, so we will proceed with the early redelivery of additional ships once an agreement has been reached.

Regarding the dividend. Based on the current outlook, there is no change to the initial forecast of an interim dividend of JPY 20 and year-end dividend of JPY 20 for a full year dividend of JPY 40. Please turn to Page 8.

Shown here is a summary of the profits and losses at each income level as I just discussed. And as you can see, operating income is slightly lower than the initial forecast. This is due to the impact of the weak results at NCA. We expect to recover this amount at the recurring profit level, so we have not changed the recurring profit forecast. The net income attributable to the owners of the parent company has also been left unchanged. Please turn to the next page.

Here is the full year forecast for each segment. This page shows the figures for the explanation I just gave. The Liner Trade is forecast to earn a recurring profit of about JPY 9 billion, while Air Cargo Transportation will be a recurring loss of JPY 13 billion. The Logistics segment, which includes YLK and other coastal shipping businesses, is forecast to earn a recurring profit of JPY 6 billion. Bulk shipping has been revised up to JPY 40 billion. However, overall, recurring profit has been left unchanged at JPY 37 billion. Please turn to the next page.

Shown here is the demand situation. Container shipping and terminals have been revised up while ocean freight forwarding, logistics demand and air freight forwarding has been revised down.

Dry Bulk suffered a weak first quarter. However, this weakness should be covered by stronger results in the second and third quarters. So the outlook for the full year has been left unchanged. Energy transportation and car carriers will improve.

Please turn to Page 11. I will not give any detailed explanation of this graph. Please turn to the next page. One thing I would like to mention here is that as you can see in our announced results, NCA is facing an extremely difficult situation. Currently, NCA is working to take a number of actions in response. But ultimately, it will be a very challenging year.

As shown in these figures here, chargeable weight will be 14,000 tonnes below the initial forecast. Similarly, volume. RTK is expected to be 332 million ton kilos lower. Compared to the initial forecast, there will be a huge drop in demand. NCA will be directly affected by this, and unfortunately, it was necessary to make a large downward revision to the forecast.

Currently, a number of responses are being taken, but fundamental problems also exist. Regardless, this situation has caused us to recognize again that NCA is the largest management issue for the company. Please turn to Page 13.

This page shows what I stated in figures. First, regarding flight operations. 8 aircraft are being operated as planned. Concerning the code share space from Atlas. The first aircraft has entered operation, with the second and third aircraft to follow shortly. In the first half, RTK, which refers to the demand, as I just mentioned, has been revised down from 1,429 million ton kilos in the initial forecast to 1,188 million ton kilos. This is due to a decline in electronics and manufacturing equipment shipments from China and Japan. It is related to the trade problem between China and the U.S. and definitely, demand has greatly fallen.

The second half includes the peak season. So the figures are expected to recover to a certain extent. Based on past experience, the figures will improve to a certain extent during the peak season. Despite this demand -- despite this, demand is expected to fall 7%, but the situation will likely not be as we guess the first half. Regardless, it will be difficult to improve profitability until the cargo volumes return. On the other hand, thought has been given to reducing the number of flights. And similar to vessel allocation in ocean shipping, the fleet allocation is being revised.

Including these actions, NCA is currently considering various measures to improve the bottom line.

Please turn to the next page. This page concerns another one of the current issues, which is used in logistics in the Logistics segment. Very similar to the NCA, cargo movement has been below the initial forecast in both air and ocean freight forwarding. The trade friction between China and the U.S. is again a factor here, particularly for ocean freight forwarding. In air freight forwarding, similar to the situation being faced by NCA, the market for shipments from Japan has completely slumped. Regardless, the cargo volumes have declined. So unfortunately, the bottom line has been revised down. Hereto use in logistics is considering a number of responses.

Please turn to Page 15. This page shows the market outlook for dry bulk and tankers. The profit forecast for dry bulk and energy transportation is created using these figures. Based on the recent market trends in FFA, none of the figures shown here are extreme and it feels as though charter rates should be around these figures as the year progresses.

The next page covers car carriers. As I mentioned earlier, car carriers posted strong results in the first quarter. Shipping volumes increased by about 100,000 cars compared to the previous forecast, mainly in Europe and America. And this, along with the rationalization of vessel allocation, has enabled the bottom line to be strong compared to last year. This ends my overview of the results. I would like to state, once again, that the first quarter is just the start of the year, so it is not the right time to be too optimistic. However, looking back, only on the first quarter, the results have been satisfactory so far. At the same time, I feel NCA has been left with a very major problem.

Regarding the other businesses, logistics ended the quarter with slightly disappointing cargo volumes. But although there is a problem with falling volumes, no fundamental problems exist in the business structure. Given this, we will continue to monitor the trends of the other businesses, going forward. My intent is to achieve the figures announced in the initial forecast. Following me will be Senior Managing Corporate Officer, Hiroki Harada, who will provide an explanation of ONE and the Liner Trade.

[Hiroki Harada, executive]

I will talk primarily about ONE. And to begin, I will briefly explain the waterfall graph on Page 11 that was skipped over earlier. Shown here are the previous and current forecasts for the Liner Traded NYK, which specifically is ONE, the container ships themselves and the terminal business.

The graph shows the difference between the previous and current forecasts. The previous forecast for the year ending March 2020 was a profit of JPY 6 billion, but the current forecast has been revised up by JPY 3 billion to JPY 9 billion. The breakdown of this increase is as shown in the graph. The profit and loss at ONE, which I will touch on later, is now forecast to be a profit of $90 million compared to the previous forecast of $85 million.

It is still not a major improvement at this point. And of this amount, only 38% will be attributable to NYK. Given this, the improvement will not provide a major boost to the results, but the figures for the containership division and terminal business within NYK itself will also improve by JPY 1.6 billion and JPY 1.2 billion, respectively.

Specifically, NYK continues to lease containers to ONE at the market rates, and the profit per container is the difference between the market rate and NYK's acquisition costs. These profits will be higher than initially forecast and this has been slightly reflected in the figures.

Also, in relation to ship chartering. Given the existence of onerous contracts at the end of the last fiscal year, the future losses from chartering at market rates to ONE, that will definitely result in a loss, were converted into current value and recorded as an extraordinary loss. This value will slowly return each year. And when it does, it is affected by the exchange rate.

When the exchange rate has a slightly positive effect, it shows up in the results in this way. Also, in regard to the affiliated companies, when NYK withdrew from the Liner Trade, some of the local overseas companies owned by NYK continued to operate while others closed. There is a time lag involved here, so a liquidation loss is not always immediately incurred or it is pushed back to the following year. This factor is slightly pushing the recurring profit higher.

In regard to the terminal business, there has been no major increase in the throughput volume by ONE in Japan and overseas. But in Japan, I believe, the synergies with Mitsubishi Logistics are appearing. The calories are improving, which is resulting in higher profit margins for each container. And overseas, although it is not directly related to ONE, the throughput at the terminal in Halifax, Canada and the terminal in New York, New Jersey in the U.S. has increased, resulting in higher profits.

Based on these factors, profits in the Liner Trade are currently expected to improve by JPY 3 billion.

Next, I would like to move on to the slides concerning ONE, and I will briefly discuss the slides starting from Page 18.

Page 18 shows the first quarter results and a simple analysis of the changes. The revenue and post-tax profit, which are the consolidated figures for all shareholders, have been announced. Compared to the $120 million loss in the first quarter last year, the company achieved a profit of $5 million in the first quarter of this year. Although just slightly, the company is now above water.

In these figures, the large growth in revenue deserves special mention. Also, I will touch on the liftings later, but revenue increased 39.1%, which proves that the teething problems have been resolved and the cargo is returning. One slightly misleading point I will mention again is that all of the businesses were not suddenly transferred to ONE on April 1 of last year, and the individual shareholders continue to operate some of the businesses.

For example, there are 91 days in the first quarter. But last year, all 91 of those days were not necessarily counted as part of the liner business of ONE. The business transition was conducted successively over time. So to explain in a different way, the cargo for 2 to 3 weeks remained with the original 3 lines. The figures look great because in addition to the resolution of the teething problems, the first quarter in the last fiscal year did not contain the full 91 days.

Regardless, the results have steadily improved. Bunker prices have risen slightly compared to the same period last year. But as you can see in the waterfall graph, while there are both positive and negative factors, overall, the results greatly improved year-on-year.

A brief explanation of the details is shown here in this box. Freight rates improved compared to the plan in nearly every trade. The only difficulty has been the Asia-Europe trade, and it is becoming a problem for the industry. The problem with the Asia-Europe trade is not a lack of demand growth, but rather increased supply.

Currently, the shipping lines have started to stop the ships and reorganize the services, and these efforts are expected to lead to a slight improvement in the spot rates. In addition to this, we are analyzing the variable cost per TEU unit, including the terminal costs and inland transportation costs using KPI. And this has led to contracts with new vendors and contracts utilizing increased scale.

Also, the cargo portfolio was changed such as changing the composition of the North America service contracts, and this has led to considerable cost reductions. These reductions in variable cost have improved quarterly profits by $80 million on a quarterly basis as shown here.

Regarding the liftings. As I mentioned earlier, the teething problems have been resolved and there is sufficient cargo to utilize all of the slots. This has led to a major improvement in the profits.

On the other hand, regarding the operating costs, all the costs appear to have increased compared to last year due to the difference in the number of days and quarter, as I explained earlier, it is not an apple-to-apple comparison. There were more operating days this year. And because the business involves the actual operation of ships, more operating days leads to increased operating costs.

However, in reality, costs are being reduced through various projects, such as lower actual fuel consumption in the same service. Bunker prices have risen slightly.

In addition, overhead costs have been reduced and the givens in IFRS have also had an impact. On the whole, I feel these factors have significantly improved compared to the same period last year.

Moving on to Page 19. Shown here is a comparison of the main Asia-North America and Asia-Europe trades using KPI. I would like to direct your attention first to slot utilization on-board the ships. In the Eastbound voyages from Asia to North America and Westbound voyages from Asia to Europe, compared to the first quarter in fiscal 2018, slot utilization improved from 73% to 86% in the Asia-North America trade and from 73% to 87% in the Asia-Europe trade. These are both large improvements and evidence of increased liftings.

On the return voyages as well. In addition to, of course, being better than the first quarter of last year, slot utilization during the first quarter of fiscal 2019 in both the Asia-North America trade and the Asia-Europe trades was much higher compared to all of the quarters last year. Improving slot utilization on the return voyages leads to lower empty positioning costs, and I feel this is making excellent contributions.

On the other hand, regarding freight rates. The index was set at 100 at the start of business last year. In the Asia-North America trade, a certain increase was obtained when renewing the service contracts, and the index has risen from 100 to 103. However, in the Asia-Europe trade, although the freight rates in the annual service contracts are higher, the decline in spot rates was greater, resulting unfortunately in no change compared to the first quarter last year on the whole.

Regarding freight rates themselves. While rates have risen slightly in the Asia-North America trade, there has been no major increase compared to the same period last year. However, as I mentioned earlier, following the projects to improve the bottom line, including the synergistic effects originally envisioned by ONE. Although there has been no major improvement in the freight rates and liftings are still slightly low, the results are in the process of recovering.

On the other hand, one extremely characteristic factor this year is that, as indicated in the box below, during the peak season, normally, sailings are not reduced. Usually, an entire sailing to Europe or North America is not eliminated because there is not enough cargo. Reduced sailings has not occurred within -- has not occurred much within the industry in the past. But this year, although it was not planned at the beginning of the year, the alliance decided to void 12 sailings to North America and 5 sailings to Europe in this period. I feel it has helped stop the decline in spot freight rates to a certain extent.

Given this, looking at the freight rates in both trades, the low spot freight rates to Europe is a problem. But overall, I feel the company is making up for this and is doing well.

Next, please turn to Page 20. Shown here is the full year forecast. And as I mentioned earlier, decent results were achieved in the first quarter and the company earned a profit. Regarding the outlook, going forward, the figures from the first quarter can be seen here.

For the full year, as I mentioned earlier, the forecast profit of $85 million has been revised up slightly to $90 million. It is not a major change.

Overall, there are positive factors and negative factors, but it is anticipated that results slightly exceeding the initial forecast can be achieved. The bunker price assumptions and other figures are shown in the table, and looking at the details, including the forecast. First, regarding freight rates, as I mentioned earlier, the spot rates in the Asia-Europe trade are much lower than the initial forecast, which I feel is an issue. Along with reflecting a certain deterioration, the average freight rates in the other trades are above the initial forecast. So this will offset the lower freight rates in the Europe trade.

On the other hand, regarding the variable costs. As I mentioned earlier, it has been possible to make a considerable reduction to these costs by negotiating unit prices with vendors utilizing increased scale and restructuring that cargo portfolio in the service contracts, mainly in the Asia-North America trade. In other words, the net contribution per TEU has been increased for the same freight rate and continued efforts will be made to improve profitability.

Also, concerning the operating cost reductions. As I mentioned when discussing the first quarter figures, there is the problem of the number of days in the quarter. And although the cost reductions may not appear much in the figures, we will continue working to reduce operating costs such as improving fuel consumption.

Taking this into consideration, there are positive and negative factors in the waterfall graph, but freight rates, particularly in the Asia-Europe trade, are expected to be slightly lower compared to the initial forecast.

On the other hand, based on the variable cost reductions in the first quarter, cost reductions will continue to be made, and this will be a positive factor.

Regarding liftings. The cargo volumes have unfortunately fallen below the initial forecast to the extent that sailings have been reduced. However, although it will be difficult to achieve the initial forecast figures, efforts are being made to make up for this by reducing operating expenses and variable expenses.

In addition, through the reduction of overhead costs, profit has been increased to $90 million in the revised forecast from $85 million in the initial forecast. Lastly, please turn to Page 21.

Regarding the progress in the specific profit improvement initiatives, I will briefly explain the status as of the end of the first quarter. First, as I have touched on several times, the cargo portfolio has been greatly changed from the legacy contracts of the original 3 shipping lines to the best contracts for ONE. This has had a major effect. And as indicated in the initial forecast, the effect has been secured during the contract phase and is calculated to have a contribution of about $190 million for the year. However, it is important to note that although a large number of contracts have been concluded, it is still necessary to actually receive the bookings, issue the Bills of Lading and secure the freight charges. This is being micromanaged day to day to ensure cargo volumes in accordance with the initially forecast contracts are received.

Also, product rationalization is already complete. And assuming the contract framework is actually operated from 1 year -- for 1 year, it is expected to result in improvements of $120 million and $75 million for a total improvement of $195 million. A major change was combining the services from Japan to the North America West Coast and Japan to Europe, and transforming them into a pendulum service.

In addition, larger container ships have been introduced on some of the routes. Also, the services from Japan to Southeast Asia that existed in the previous era of the 3 original shipping lines has been rationalized. This is -- this has involved actions such as combining parallel routes and introducing slightly larger ships.

Also, the independent feeder networks are being expanded to the extent possible. For example, while using a large ship to a wayport by working to reduce costs, it should be possible to reduce cost by a little under $200 million. Hereto, product rationalization is almost complete, and I feel it is likely the current framework will continue for the year. Regarding the optimization of the organization, the organization within ONE itself and the outside personnel expenses from the business process outsourcing, initiated by ONE that have swelled as a result of the teething problems are currently being assessed. This is expected to result in annual profit improvements of about $50 million. And although the process is still underway, efforts are being made to reduce costs.

Overall, concerning the realization of synergistic effects, efforts are being made to achieve the 96% figure for the second year as initially forecast. And through this, I believe it should be possible to achieve the profit forecast of $90 million.

Lastly, for MARPOL2020, which refers to the response to the low sulfur regulatory compliant fuel. ONE has already secured about 80% of the necessary regulatory compliant fuel and is moving to secure the full amount during the first half.

On the other hand, the company is also aiming to achieve the industry standard scrubber installation ratio, and preparations are underway to install scrubbers in the new large containerships. Also, concerning the BAF centered on the OBS that is received from customers, a certain level of understanding has been obtained and the quarterly BAF acceptance ratio was 31% in January to March.

However, this ratio -- this rate rose to 45% in April to June, and efforts are being made to increase it from 60% to 80% in October to December before ultimately achieving 100% from January 1.

Finally, regarding the transfer of the overseas terminals to the parent company. There is still variation in the plans and discussions are diligently being held. The situation is becoming extremely complicated, such as the existence of minority shareholders. But discussions will continue with the aim of quickly executing the transfer during fiscal 2019.

The last page shows the fleet structure. And as you can see, the ships being chartered from the parent companies are steadily being reduced. This ends my explanation of the results at ONE.