Earnings Call: Q1 2024

Aug 9, 2023

Summary

Q1 sales and profit declined as lower volumes and weak chemicals demand outweighed pricing and FX benefits. FY2023 sales and operating profit forecasts stayed unchanged, with lower H1 expectations offset by stronger H2 forecasts.document-source0178

Good morning, everyone. Thank you for taking the time off your busy schedules to participate in today's financial results briefing. I would now like to start today's briefing on financial results for the first quarter of the fiscal year ending March 31, 2024 for the Adeka Corporation. First are the consolidated results for the first quarter of fiscal year 2023. Net sales decreased by JPY 7.1 billion Y-o-Y, down to JPY 94.5 billion. Operating profit decreased by JPY 1.6 billion, down to JPY 7.4 billion. Current profit decreased by JPY 2.2 billion, down to JPY 8.1 billion, and profit attributable to owners of parent decreased by JPY 1 billion, down to JPY 5.1 billion. Lastly, net profit per share decreased by JPY 9.6, down to JPY 50 per share. Next is an analysis of operating profit. While net pricing and the foreign exchange rate had a positive impact, sales volume significantly weighed down on results, and this ultimately translated into a Y-o-Y decrease in operating profit of JPY 1.6 billion. The trends in consolidated performance for net sales and operating profit are as shown here. Next are the consolidated results for the first quarter of fiscal year 2023 on a per-segment basis. All segments struggled in terms of sales, with food products being the exception in that it posted a Y-o-Y increase, as well as electronics and IT materials, which also posted a slight sales increase. In terms of operating profit as well, the food products segment was the only one to post a Y-o-Y increase. As such, we continued facing a challenging environment in the first quarter, especially in the chemicals segment. I would now like to go over the results for each segment, starting with polymer additives in the chemicals business. Sales of one-pack granule additives and antioxidants were weak due to intensified competition, mainly in Europe. Additionally, within products for construction materials, sales of PVC stabilizers stagnated due to lower demand for home appliances in North America and China. We registered a weak performance for all plastic products, home appliance frames, and building materials. On the other hand, items for automobiles saw a bit of a recovery and delivered a steady performance, as did items for food packaging and medical use. Lastly, a decrease in sales volume had a significant negative impact on operating profit. Next are the results for electronics and IT materials in the chemicals business. Worthy of note here is that while there was a decrease in sales of materials for use in displays and electronic appliances stemming from cuts in the production of smartphones and PCs, this was offset by strong sales of products for advanced semiconductors. Within materials for use in semiconductors, we registered strong sales of high-k materials for advanced DRAM. On the other hand, products for NAND and photoacid generators used for semiconductor lithography posted a weak performance. Within materials for use in displays, while photoinitiators for color filters and etching materials for LCD panels delivered a steady performance, photo-curing resins for optical films produced weak results. Lastly, in terms of the main factors for Y-o-Y change in operating profit, an increase in fixed costs had a negative impact of JPY 100 million. Next is functional chemicals in the chemicals business. Here, we registered an expansion of sales of lubricant additives for engine oils, mainly in the U.S. Additionally, demand for automobiles, consumer electronics, and smartphones and PCs remained lackluster, leading to weak sales of waterborne resins and epoxy resins. As shown here, we registered a weak performance from functional chemicals for use in automobiles, home appliances, smartphones, and PCs, as well as from chemicals for general industrial use and cosmetics. On the other hand, agents for use in automobiles are on a rising trend, with lubricant additives for engine oil delivering a strong performance, while epoxy resins for structural bonding and epoxy resin adhesives for automotive electronic components posted a steady performance. Lastly, in terms of operating profit, lower sales volume had a significant negative impact of JPY 900 million. Next is the food products business. Here, sales of the Marvelous Series of functional margarines, which contribute to keeping bread and other products fresher for longer and extending their shelf life, continued to hold firm. Additionally, demand picked up in China and sales remained strong in Southeast Asia, and this translated into a recovery in both sales and profits overseas. Sales of margarines and fillings for souvenir confections posted a strong performance, and our functional margarine series for use in bread and confectioneries posted steady results. Conversely, general-purpose fats and oils posted a weak performance. Lastly, our Deli-PLANTS series of plant-based foods saw greater adoption. Net pricing had a positive impact of JPY 700 million on operating profit. Higher sales volume contributed JPY 200 million, and so did lower manufacturing costs, which led to an improvement of JPY 200 million. Next is the life science business with Nihon Nohyaku accounting for the bulk of the results here. Prolonged colder weather resulting in fewer pests than usual translated into a decrease in demand for insecticides in North America. Additionally, unfavorable weather conditions in India, such as the late arrival of the rainy season, led to a decrease in opportunities to apply agricultural chemicals, and this translated into weak sales. Agrochemicals posted a weak performance in the regions of North America, India, and Japan, while on the other hand, we registered strong results in Brazil. In pharmaceuticals, our topical antifungal agent used to treat nail athlete's foot posted a weak performance. Lower sales volumes negatively impacted operating profit by JPY 1.4 billion, as did fixed costs by JPY 200 million, leading to an overall decrease. Next, I would like to discuss the revision to the consolidated financial forecasts for the first half of fiscal year 2023. As announced in May, the company expected to be able to deliver JPY 202 billion in sales in the first half, JPY 224 billion in the second half, and JPY 426 billion for the full year. However, in light of realized results in the first quarter, we have revised the forecasts and now expect to deliver JPY 191 billion in sales in the first half. We expect to be able to offset the slump we registered in the first half and deliver JPY 235 billion in the second half. Lastly, we expect to deliver JPY 426 billion for the full year. The same applies to operating profit, as we forecast JPY 13.3 billion in the first half, JPY 22.7 billion in the second half, and JPY 36 billion for the full year. In terms of current profit, we forecast JPY 13.7 billion in the first half, JPY 21.8 billion in the second half, and JPY 35.5 billion for the full year. The forecast for profit attributable to owners of parent is JPY 8.2 billion in the first half, JPY 12.8 billion in the second half, and JPY 21 billion for the full year. We have therefore lowered the forecasts for the first half while raising those for the second half with the full-year forecast remaining unchanged at the present moment. Next is the breakdown of the revisions on a per-segment basis. As I mentioned just now, we lowered the forecast for the first half while raising the forecast for the second half, and this applies to both net sales and operating profit. The food product segment stands out as an exception in that we raised the forecasts slightly for both the first and second halves for a full fiscal year increase of JPY 600 million in operating profit. I would now like to discuss a number of topics. In fiscal year 2023, Adeka was selected for the first time as a constituent component of the JPX-Nikkei Index 400. Additionally, our products have received commendations from outside organizations. More specifically, Adeka's efforts to develop SPAN, a metal-free sulfur polymer cathode material, and demonstrating the world's lightest secondary cell, received the Minister of Economy, Trade, and Industry Prize at the 36th Sankei Shimbun Advanced Technology Award held in June 2023. Additionally, the company also received the Encouragement Prize at the Japan Association for Chemical Innovations 22nd GSC Awards. Furthermore, in June 2023, our laser curing adhesion system, developed by Adeka and Denso Corporation, received the 45th Technological Development Award from the Adhesion Society of Japan for this technology's contribution to carbon neutrality. For reference, shown here is the overseas sales ratio, which has trended around 54%. The initial target was to raise the overseas sales ratio to at least 50% during the period comprising the midterm management plan. Having achieved this, we will continue executing a number of initiatives so that we can further grow this percentage. Next is a discussion of the progress made within the scope of the ADX 2023 Midterm Management Plan. For fiscal year 2023, we are forecasting JPY 36 billion in operating profit, an ROE of 8.0%, JPY 15.5 billion in capital investment, and an annual dividend payout of JPY 80 per share, corresponding to a dividend payout ratio of 39.1%. While this represents an underperformance versus the initial ADX 2023 targets for fiscal year 2023 when it comes to operating profit and ROE, we would like to raise the dividend payout ratio to exceed the ADX 2023 target. This concludes today's briefing on financial results. I would now like to move on to a discussion of the Adeka Corporation's various businesses, this time focusing on the life science business, which consists primarily of the operations of Nihon Nohyaku. I will be discussing three aspects of the Adeka Group's life science business. First, starting with the consolidated financial results for Nihon Nohyaku, which is the primary business in this segment. We have marked this section with the number 01. Nihon Nohyaku registered JPY 102 billion in sales in fiscal year 2022, for a Y-o-Y increase of 27.4%, and JPY 7.7 billion in operating profit contribution to the Adeka Group, for a Y-o-Y increase of 62.3%. This represents a very strong performance. In terms of the breakdown, agrochemicals account for almost the entirety of net sales. Next is the topic marked 02, corresponding to Adeka's Life Sciences. We are currently focusing on medical materials within the domains of regenerative and preventive medicine, as well as healthcare materials within the scope of Adeka's standalone existing businesses of functional chemicals and food products. We are therefore carrying out efforts to create synergies between these two through the joint R&D initiatives. Allow me to briefly go over the history of both companies. The Adeka Corporation started out under the name of Asahi Denka Co., Ltd. back in 1917. Then three years later, in 1920, Asahi Denka Co., Ltd. was entrusted with carrying out research and development of agrochemicals leveraging the use of copper refining by-products. This request came from Furukawa Electric Company Limited, a fellow member of the Furukawa Group, and marked the beginning of development and commercialization of agrochemicals by what came to be known as the Adeka Group. A period of fierce competition followed, so eight years later, in 1928, we decided to spin off the agrochemicals department and merge it with Fujii Seiyaku Co., Ltd., which was a very large player in the Kansai area at the time. This marked the birth of Nihon Nohyaku Co., Ltd., the first manufacturer specializing in agrochemicals in Japan. 90 years later, the Adeka Group once again welcomed Nihon Nohyaku as a consolidated subsidiary, entering into a capital and business alliance agreement between the two companies to maximize synergies. I would now like to discuss the growth strategy for the life science segment in Nihon Nohyaku. First, the two graphs shown here illustrate how agrochemicals benefit us. The vertical bar graph on the left represents harvest yields without the use of agrochemicals. As you can see, across a wide range of types of produce, high harvest yields require the use of agrochemicals. This is especially the case for fruits like apples and peaches, with the harvest yield dropping to zero without the use of agrochemicals. The line graph on the right shows labor hours spent on weeding in rice fields, assuming the use of herbicides. Agrochemicals therefore offer benefits in that they help maintain harvest quality and yields, shortening labor time and reducing farmer workloads. In other words, agrochemicals offer very significant benefits in that they help protect crops and improve production efficiency. This graph shows the trend in global population and rising demand for agrochemicals. Extrapolating from current trends, the global population is expected to reach just shy of 10 billion by the year 2050, with population growth expected in the continents of Asia and Africa. In light of this, a very pressing challenge is therefore that of securing food supplies to feed this growing population. A key point here is therefore efficient production on limited farmland. Additionally, emerging countries are aware of the benefits of agrochemicals but often can't use adequate amounts. As these countries continue on the path of economic development, they are expected to use the necessary amount of agrochemicals, and this is another key point in solving this issue of securing a sufficient food supply for the world's growing population. We therefore expect demand for agrochemicals to continue to increase going forward. Next is Nihon Nohyaku's mission and vision. In terms of Nihon Nohyaku's plans for the future, we intend for it to be recognized as a leading company in the life science field and to make major contributions to solving social issues and sustainable development. Within this scope, and as a KPI representing the scale of this business, we have formulated a target of 15% or more in operating margin and over JPY 200 billion in sales, 70% of which being overseas sales. We then performed a backcast from this future vision and formulated targets for 2030, consisting of an operating margin of 10% or more with over JPY 125 billion in sales. With that being said, we were already able to exceed JPY 100 billion in sales in fiscal year 2022, so we are likely to achieve our goals ahead of schedule. As such, we will be accelerating Nihon Nohyaku's growth strategy so that it can achieve its ideal net sales target of over JPY 200 billion and operating margin of 15% or more as soon as possible. Next is the business of Nihon Nohyaku and its strengths. Nihon Nohyaku's core business consists of the manufacture and sale of agrochemicals, and it has also expanded its business domains to include chemical products, pharmaceuticals, and animal healthcare products, providing safe and high-quality products. We offer chemical products in the form of termiticides and others, and are expanding our business to pharmaceuticals in the form of pharmaceuticals, animal healthcare products, and agents to combat athlete's foot. Additionally, one of Nihon Nohyaku's strengths is its solid base for creating new drugs, organically integrating the processes of invention, discovery, and assurance to ensure the smooth creation of new drugs. Nihon Nohyaku therefore places importance on in-house development of active ingredients and has discovered 24 active ingredients for agrochemicals and six for pharmaceuticals, animal healthcare products, and chemical products. Next is a discussion of the global agrochemical market and Nihon Nohyaku's growth strategy. The market for agrochemicals in Japan is expected to undergo a gradual decrease over the long term. This is the result of an aging population leading to fewer people engaging in business involving agrochemicals and pressure for the reduction of agricultural material expenses. Nihon Nohyaku's growth strategy in this market is therefore to maintain profit levels and its influence while working to deliver some growth even amidst this shrinking market. Conversely, we expect the overseas market to continue expanding amid rising demand for foodstuffs. Nihon Nohyaku will continue to carry out a proactive expansion into the overseas market amidst an outlook of mergers between major agrochemical companies and item purchases, an expansion of generics and market growth in emerging nations, and an expansion into the areas of biopesticides and crop protection materials. The overseas sales ratio currently stands at above 70%, with the Americas representing close to 40%. We want to further accelerate initiatives in this area, supplying agrochemicals suited to the markets of Asia, including India and Europe, such as Nihon Nohyaku's growth strategy. Next is one of Nihon Nohyaku's strengths in the form of its group network. This diagram shows the current snapshot of our group network, which we are currently in the process of enhancing further. First, we have Nihon Nohyaku headquarters in Japan, which carries out manufacturing, retail sales, and wholesale. Outside of Japan, we have manufacturing bases in India and Brazil. Additionally, we have large sales bases in China, Europe, and North America. Next is an overview of the global rollout of major agrochemical ingredients, first on a per-region basis. We develop a number of agrochemicals in the form of insecticides, acaricides, bactericides, and herbicides. Up until now, we would develop these primarily in Japan, where we would register these agrochemicals, then carry out a horizontal market expansion to the Asia-Pacific region, the Americas, and Europe. We are shifting to a new way of doing things toward a system of global simultaneous development and rollout of new active ingredients. Next, I will be discussing the global rollout of major agrochemical ingredients by crop. Highlighted here are paddy rice and fruits and vegetables, with the section in the middle corresponding to large-scale, low-priced markets. As it stands, Nihon Nohyaku's agrochemicals are geared more heavily toward produce corresponding to small-scale, high-priced markets and to paddy rice. Flubendiamide is known to work on soybeans, corn, and cotton, and this insecticide agent is widely used in Brazil. Our agents are geared primarily towards small-scale, high-priced markets and for use on paddy rice. We want to carry out the global simultaneous development and rollout of agents so that we can cover all bases and expand our business, as is the case with flubendiamide, which can also be used on crops in the large-scale, low-priced market. Next is our sales strategies by region, starting with North America. Soybeans, corn, and cotton are the major crops. In this region, we deeply cultivate the market for fruits and vegetables, mainly with self-developed products. Additionally, we seek to add more items and further expand our business by dealing in items from other Japan-affiliated companies. Next is the region of Europe, and here the main crops are wheat, barley, potatoes, fruits, and vegetables. This is a difficult market when it comes to the approval of synthetic agrochemicals. Against this backdrop, we are strengthening our efforts in non-chemical agents in order to address tighter regulations on agrochemicals. We therefore acquired Interagro Ltd in fiscal year 2022 and within this scope, are currently carrying out pioneering initiatives in the fields of adjuvants and non-chemical agrochemicals. Next is Central and South America, with Brazil being our main market in the region. The major crops are soybeans, corn, and vegetables. We offer package sales to farmers and wholesalers by crop, since producers use more than one agrochemical product in the process of growing their crops according to the various stages of growth. Additionally, we are also in the process of increasing product items with a focus on generics from our joint venture partner of Sipcam Nichino Brasil S.A. Furthermore, we are also working to increase sales to large farms, wholesalers, and agricultural cooperatives. This is the market we currently view as having the greatest growth potential for Nihon Nohyaku. Next is the market of India within the region of Asia. Major crops in India are paddy rice, fruits, and vegetables. We are working to secure an extensive product lineup that also includes generics. Additionally, we are working to increase profitability by introducing self-developed products and encouraging people to switch from generics. Lastly, through capital investment, we have developed the ability to manufacture ingredients in-house. Next are the sales targets for new insecticides for paddy rice in India. In terms of the sales target for 2030 and beyond, we expect this business to reach JPY 6 billion or more in India alone. To this end, we developed and commercialized benzpyrimoxan as a new insecticide for paddy rice under the trade name of Orchestra. Orchestra is used to control planthoppers, which are one of the most critical pests for rice farmers, and in doing so, helps Indian farmers and contributes to food production in India. Next is the topic of strengthening production capability for active ingredients in India. As I mentioned earlier, we now have the ability to manufacture ingredients in-house in India, and this slide deals with the establishment and operation of a plant allowing us to do so. More specifically, the fourth multipurpose plant in India. In addition to benzpyrimoxan, this plant can also be used for manufacturing other active ingredients. We invested approximately JPY 1 billion in this plant, which was completed in April 2023. This slide deals with the pursuit of synergy between Adeka and Nihon Nohyaku. We have determined four quadrants in which to pursue synergy, signing a capital and business alliance agreement between the two companies in 2018, with the purpose of complementing business areas and pursuing synergies through technological collaboration. The four quadrants are as follows: business management, consisting of strengthening finance and governance; business optimization, consisting of the mutual utilization of global networks; personnel exchange, consisting of the sharing of technology and know-how and to the promotion of mutual understanding; and lastly, R&D, consisting of joint research on new domains. We view the greatest synergy as the creation of new results by combining the two companies' technologies. A good showcase of synergy creation through human resources interaction is the Junior Colleagues Society, running collaboration between Adeka and Nihon Nohyaku. The purpose behind this initiative is the development of human resources through cross-industry exchange and facilitating the evolution of both companies' research technologies. Adeka's R&D places heavy focus on how to leverage existing chemicals. Nihon Nohyaku's basic philosophy when it comes to R&D, on the other hand, focuses on the creation of new compounds that previously didn't exist. In that sense, this is a gathering of young professionals at two companies with very distinct directions. The underlying theme is therefore the opportunity for these young professionals to broaden their horizons. As I mentioned just now, Adeka focuses on developing sozai, that is, products, technologies, and services, using basic technologies based on existing chemicals. Nihon Nohyaku uses many different forms of synthesis to create new compounds that didn't exist before. In the past, we have had success in leveraging synergies combining these seemingly diametrically opposed approaches, but we want to further accelerate efforts in this area. I would now like to briefly discuss expansion plans for the Adeka Group's life science business. The top part of the page illustrates the current state of Adeka's life science business. An area we are currently focusing on is that of regenerative medicine, more specifically, in the field of decellularized tissue. Within this, Adeka is in the process of developing safe and high-quality scaffold materials. Additionally, we are carrying out market research, looking for ways in other domains where we can leverage these materials. Other areas of focus are preventive medicine and quality of life, where we continue the development of cosmetics, fragrances, and environmental cleanup, as well as health aids. Nihon Nohyaku, we have continued focusing on agrochemicals and pharmaceuticals, but we also want to make inroads into animal health products, and we believe this is a market for joint research between Adeka and Nihon Nohyaku. This pertains to research and development of antiparasitic agents. This joint research consisted of the search for compounds with potential as antiparasitic agents, and it has translated into results, namely the international publication of four patent applications by the World Intellectual Property Organization. We believe the development of animal antiparasitic agents offers significant benefits in terms of social value, both for use on pets as well as livestock. We are therefore committed to offering reliable and safe veterinary products and are developing agents to this end. In terms of economic value as well, we expect the global market for animal antiparasitic agents to reach a scale of at least JPY 1 trillion. Against this backdrop, we view as business opportunities the growing resistance to existing products, as well as further growth for this market, and will therefore continue to work to create new products. Let us continue on the topic of research and development of antiparasitic agents. By combining Nihon Nohyaku's knowledge repertoire when it comes to research of agricultural insecticides with Adeka's organic synthesis capabilities, we seek to develop antiparasitic agents for pets and livestock. We want to develop against both endoparasites and ectoparasites and commercialize these as active pharmaceutical ingredients for animal health, or sell these to animal health companies, both domestic and global, as a formulation product. Next are the development scheme and schedule. Generally, the research and development phase takes 10 years or longer, culminating in a product launch. This process consists of a first stage of research, followed by a second stage, by development, and registration, and it generally takes 10 years before a product can reach the market. As such, it will be several years before the launch of products for which the patent was published only recently. However, rather than simply waiting to see if a product will make it all the way through to the commercialization stage, we want to continue working toward the development of new agents. Consequently, while it takes 10 years for the release of any given agent, by continuously working on new projects, we seek to reduce the time it takes us to develop new agents, bringing this down to five or even three years. This concludes today's presentation.