Kawasaki Kisen Kaisha Ltd

TSE:9107

Earnings Call Transcript 2020-Q3

[Harusato Nihei, executive]

We would like to start the briefing on the consolidated results for the first 9 month of the fiscal year ending March 31, 2020. There are 3 key points to emphasize for our 9-month results. First, each of "K" LINE's 3 core business segments, namely: Dry Bulk; Product Logistics, Car Carriers, Logistics, Short Sea/Coastal; and Energy Resource Transport performed very well during the period.

Second, ONE posted profit for the period. And third, regarding the IMO SOx Regulations, we made a very smooth transition to the new regulation-compliant fuel oil. Additionally, the increased costs associated with the fuel switchover was generally within our expected range. Those are the 3 key points, and now we'd like to provide a summary of the results.

First, as of the end of the third quarter, there is no change to our full year forecast for ordinary income and net income attributable to owners of parent. Currently, new risks are emerging, such as the impact of the spread of the new type of coronavirus. Despite the challenges, everyone in "K" LINE will be striving together in the last 3 months of this fiscal year to ensure a successful start to the new medium-term management plan to be started from next fiscal year.

A-1, financial results for third quarter fiscal year 2019. For the third quarter of the fiscal year, consolidated operating revenues were JPY 194.8 billion, operating income was JPY 10.6 billion, ordinary income was JPY 11.2 billion and net income attributable to owners of parent was JPY 8.9 billion. For the first 9-month period, consolidated operating revenues were JPY 567.2 billion, operating income was JPY 21.6 billion, ordinary income was JPY 24.5 billion and net income attributable to owners of parent was JPY 25.2 billion. The average exchange rate for the 9 months was JPY 109.05 per U.S. dollar, and the average bunker price was USD 445 per metric ton.

Looking at the results by segment for the third quarter. Dry Bulk ordinary income were JPY 3.8 billion. Energy Resource Transport ordinary income was JPY 3.1 billion. And Product Logistics' ordinary income was JPY 5.2 billion, of which Containership Business posted income of JPY 2.0 billion. Product Logistics' remaining ordinary income of JPY 3.2 billion after subtracting Containership business income of JPY 2.0 billion was derived from Car Carrier, Logistics and Short Sea/Coastal businesses. Containership Business income of JPY 2.0 billion included equity in income of ONE of JPY 0.3 billion. Total ordinary income for the 3 months was JPY 11.2 billion.

For the 9-month period, Dry Bulk ordinary income was JPY 4.0 billion. Energy Resource Transport ordinary income was JPY 7.7 billion. And Product Logistics ordinary income was JPY 15.7 billion, of which Containership Business posted income of JPY 5.6 billion and equity in income of ONE was JPY 4.8 billion. Product Logistics' remaining ordinary income of JPY 10.1 billion after subtracting Containership Business income of JPY 5.6 billion was derived from Car Carrier, Logistics and Short Sea/Coastal businesses. Total ordinary income for the 9 months was JPY 24.5 billion.

Now we would like to explain the main business factors during the third quarter. In the Dry Bulk segment, market condition in the first half show upward momentum due to robust iron ore shipments from Brazil and grain shipment demand from South America. In the middle of the third quarter, however, shipments turned sluggish and market conditions softened. Under these conditions, we strove to raise the efficiency of vessel operation and allocation, with the result that the Dry Bulk segment posted JPY 4.0 billion in third quarter ordinary income, a JPY 0.4 billion year-on-year improvement.

Next, we would like to explain the Energy Resource Transport segment. Tanker market conditions recovered significantly at the start of the third quarter and have remained at high levels. The LNG Carrier and Thermal Coal Carrier businesses have also performed as planned, thanks to mid to long contracts. Offshore energy E&P support business, which has been in an extent downturn, narrowed its losses after the market conditions improved somewhat. Overall, therefore, the Energy Resource Transport segment posted ordinary income of JPY 7.7 billion, a year-on-year improvement of JPY 5.7 billion.

In the Product Logistics segment, ONE posted its third straight quarterly profit. In the third quarter, also cargo movement on Asia-North America route slumped. ONE suspended some services and continued to reduce service frequency and achieve a large reduction in vessel operating costs. Additionally, the supply-demand balance in Asia-South America and Asia-Europe routes improved. Finally, ONE improved its gross profit margin by reducing variable costs.

The Tanker business, which is "K" LINE's remaining directory-operated Containership business performed as expected. Overall, therefore, Containership business posted ordinary income of JPY 5.6 billion, a year-on-year improvement of JPY 37.0 billion, resulting from temporary cost to transfer business to ONE in the previous fiscal year.

Other businesses within the Product Logistics segment posted ordinary income of JPY 10.1 billion, a year-on-year increase of JPY 8.4 billion. Most of the improvement came from Car Carrier business, which has continued to implement route rationalization and freight rate restoration measures since the second half of the previous fiscal year. Overall, therefore, the Product Logistics segment posted ordinary income of JPY 15.7 billion, a year-on-year improvement of JPY 45.4 billion.

Regarding key financial indicators. Our equity capital, interest-bearing liability, DER, net DER and equity ratio all improved from the end of fiscal 2018. As of the end of the third quarter, our equity ratio stood at 14%. And in the case of taking subordinated loans with 50% equity credit from a rating agency into account, it was 18%.

A-2, forecasts for fiscal year 2019. For the full year ending March 31, 2020, we forecast operating income of JPY 5.0 billion, ordinary income of JPY 5.0 billion and net income attributable to owners of parent of JPY 11.0 billion. Regarding net income attributable to owners of parent, specifically the difference between the ordinary income of JPY 5.0 billion and net income of JPY 11.0 billion, we continue to make progress and sale of overseas terminal business. On the other hand, we also continue to review our business portfolio and the earnings forecast takes into consideration all of these factors. Therefore, there is no change to the full year earnings forecast. Our assumptions are average exchange rate is JPY 109 to the U.S. dollar and an average bunker fuel price of USD 470 per metric ton.

Regarding the impact of exchange rates on bunker price volatility in the fourth quarter, a change of JPY 1 in yen-U.S. dollar exchange rates will impact operating income by plus or minus JPY 0.08 million (sic) [ JPY 0.08 billion ] , and the change of USD 10 in bunker fuel prices will impact operating income by plus or minus JPY 0.01 billion.

Regarding dividend payments, we recognize resume dividend payment at an early stage as an important management task in our mid-term management plan. Our priority is also to stabilize our financial strength and keep improving our financial results. No decision has yet been made regarding payment of a year-end dividend at this point.

A-3, forecasts for fiscal year 2019 by segment. Next, we would like to explain the full year forecast for each segment. Please turn to Page 5 of the materials. This page shows the major changes in market conditions for each segment. In the Dry Bulk segment, market conditions surged during the second quarter, which is peak season. The market is currently in the low season, and we revised downward our assumptions for all vessel types due in part to these seasonal factors. Additionally, some vessels are undergoing extended period of SOx scrubber installation to comply with SOx Regulations, and this is also having an impact. For the entire segment, we forecast full year ordinary income of JPY 3.5 billion, which will be a deterioration of JPY 0.9 billion over the previous fiscal year and a deterioration of JPY 1.5 billion compared to the previous forecast.

In the Energy Resource Transport segment, we forecast robust market conditions for the Tanker business as demand spikes during in-demand. And the supply of vessel shrinks due to vessels off-hire to meet SOx Regulations. Thermal Coal carrier, LNG carrier and Offshore Energy E&P Support Businesses are expected to perform as planned, thanks to mid to long contracts. For the full year, we forecast ordinary income of JPY 9.5 billion for the segment, which will be an improvement of JPY 7.0 billion year-on-year and JPY 0.5 billion higher than the previous forecast.

Regarding the Product Logistics segment results, ONE has strong results from the end of 2019 to the end of January, which is the traditional peak season before the Chinese New Year mainly on Asia-North America and Intra-Asia route. Entering the low season after the Chinese New Year, the alliance plans to reduce service frequency further. Our forecast factors in the risk of a slump in short-term freight rate market conditions in the latter half of the fourth quarter as well as the better-than-expected results of the third quarter. We forecast equity in ONE income of JPY 3.1 billion, a year-on-year improvement of JPY 23.2 billion and JPY 0.8 billion higher than the previous forecast.

Regarding "K" LINE's Containership business, we have factored into the forecast provision for loss related to Containership chartering contract to ONE in the fourth quarter. In other businesses in the segment, some areas of the air forwarding business are slumping. Excluding Containership business, the Product Logistics segment is forecast to post JPY 8.0 billion in ordinary income, an improvement of JPY 8.4 billion year-on-year and consistent with the previous forecast. The Product Logistics segment on the whole, therefore, is forecast to post an ordinary loss of JPY 4.0 billion, a year-on-year improvement of JPY 45.2 billion and JPY 1.5 billion higher than the previous forecast.

A-4, latest forecasts for fiscal year 2019 versus financial results for fiscal year 2018. Reviewing the waterfall chart, the major factors in improving profitability from a full year ordinary loss of JPY 48.9 billion for the last fiscal year to an estimated ordinary income of JPY 5.0 billion for the current fiscal year, the improvement of JPY 23.2 billion from equity and income of ONE. JPY 9.4 billion from effect of structural reforms in Containership business, JPY 6.5 billion from expansion of mid-long contracts and the Dry Bulk and Energy Resource Transport segments, and JPY 5.0 billion from effect of route rationalization and freight rate restoration in Car Carrier business.

A-6, compliance with IMO SOx Regulations. Regarding measures to comply with SOx Regulations, we have completed the switchover to regulation-compliant fuel oil as planned, even while maintaining our core policy of keeping vessels in service to minimize the economic impact. Furthermore, we keep the cost increase within the estimated range. Some of higher vessels have taken slightly longer than expected to complete installation of SOx scrubbers, but these cost increase is already factored into the earnings forecast.

B, division trends. Our market exposure rate versus the fleet size improved compared with the end of the second quarter. Regarding Car Carrier business explained on Page 13, the total unit carried for the third quarter are shown along with the estimated shipments for the fourth quarter. Globally, , automobile sales are declining, and therefore, unit carried is also declining.

C, Ocean Network Express, financial results for fiscal year 2019 third quarter and forecast for fiscal year 2019. Regarding ONE's results, as previously explained, the company posted a profit of USD 5 million for the third quarter, while the forecast for the fourth quarter is a loss of USD 49 million. The full year forecast is a profit of USD 81 million, representing an upward revision of USD 21 million over the previous forecast of USD 60 million. The company has now posted a profit for 3 consecutive quarters.

Looking at ONE's cargo movement trends, volume was in line with forecast for East-West, North-South and Intra-Asia routes until the Chinese New Year in late January. After the end of the Chinese New Year, however, cargo movement is expected to slump, partly because of the impact of the spread of the coronavirus. In response to the demand decline, ONE plans to reduce service frequency further, mainly under the alliance for East-West routes in order to reduce operating costs, variable costs, such as empty containers positioning optimization having reduced even beyond forecast significantly, boosting profitability. These and other internal programs are raising the company's contribution margin.

In the third quarter, the price of previously used HFO, heavy fuel oil was lower than forecast, boosting profitability. The price of regulation-compliant fuel oil from January is in line with the previous forecast. In compliance with IMO SOx MARPOL 2020 regulations, ONE procured the regulation-compliant fuel oil in advance and implemented micromanagement for each vessel operation. The transition was completed smoothly in December. Additional bunker cost incurred by compliance is being recovered as planned through bunker strategies such as OBS, ONE Bunker Surcharge.

Page 17 has a waterfall chart showing the factors behind the USD 21 million upward revision to profit. While the declines in freight rates and liftings are negatively affecting profit, the reductions in variable and operation costs, along with the drop in bunker prices, outweigh these factors, leading to the USD 21 million upward revision.

Page 18 shows a lifting, utilization and freight rate indices. Regarding the results for the third quarter, Asia-North America Eastbound liftings declined from 746,000 TEU in the third quarter of fiscal 2018 to 665,000 TEU in the third quarter of fiscal 2019. The main factor in the decline were the rush demand in the previous year due to U.S.-China trade friction and the comparative decline in the third quarter of the current fiscal year. Asia-Europe Westbound liftings in the third quarter declined slightly from 442,000 TEU a year earlier to 440,000 TEU. Utilization on Asia-North America declined from 95% in the third quarter of fiscal 2018 to 93% in the third quarter of fiscal 2019. Utilization on Asia-Europe was unchanged at 92%.

Regarding freight rates, the Asia-North America index declined from 108 in the third quarter of fiscal 2018 to 104 in the third quarter of fiscal 2019, while the Asia-Europe index declined from 100 to 98 year-on-year. Although none of these indices improved year-on-year, ONE ensured profitability by taking cost-cutting measures in, as stated in the materials, reducing service frequency on major routes.

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