Ladies and gentlemen, we shall now begin the earnings announcement session for the third quarter of the fiscal year 2019. My name is Hayakawa, the IR, the general manager responsible for financial affairs. I'd like to introduce our speakers for the day. We have the Senior Executive Vice President, Chief Financial Officer, Hiroki Totoki. Then Senior Vice President, the Senior General Manager of the Finance Department and Corporate Planning and Control Department, Naomi Matsuoka. Then we have VP, Senior General Manager, Global Accounting Division, Hirotoshi Korenaga. Mr. Totoki will make the presentation today first, and then we'll follow that with the question and answers, and we plan to spend 40 minutes all together. With that, Mr. Totoki, would you please start?
Before I explain our results today, I would like to speak a little about the spread of infection from the new coronavirus. First, we extend our condolences to the families of the people who have passed away, and send our thoughts to those who have been infected. Sony is very concerned about the spread of infection. At this time, it is difficult to fully grasp what is going on, but we are exerting all efforts to gather information and assess the situation, and we are taking actions where possible. I will explain these two topics. Fiscal 2019 third quarter consolidated sales increased 3% year-on-year to JPY 2,463.2 billion, and operating income decreased JPY 76.9 billion year-on-year to JPY 300.1 billion. Net income attributable to Sony Corporation stockholders decreased JPY 199.4 billion year-on-year to JPY 229.5 billion.
As is shown on this slide, certain extraordinary items were recorded in both the current quarter and the same quarter of the previous fiscal year. Excluding these extraordinary items, operating incomes would have increased JPY 16.5 billion to JPY 276.5 billion. Excluding these extraordinary items, net income attributable to Sony Corporation stockholders would have increased JPY 58.3 billion from JPY 157.9 billion in the same quarter the previous fiscal year to JPY 216.2 billion. Next is the consolidated results forecast for fiscal 2019. Consolidated sales are expected to increase JPY 100 billion year-on-year to JPY 8.5 trillion, and operating income is expected to increase JPY 40 billion to JPY 880 billion. I will explain the breakdown of sales and operating income for each segment when I explain the segment results.
Income before income taxes was upwardly revised to JPY 860 billion, net income attributable to Sony Corporation stockholders were revised upward to JPY 590 billion. The forecast for operating cash flow, excluding the financial services segment, is JPY 760 billion, unchanged from the previous forecast. The assumed foreign exchange rates for the fourth quarter are 109 to the U.S. dollars and JPY 121 to the EUR. As for the dividends this fiscal year, we expect to issue year-end dividend of JPY 25 per share, when combined with interim dividend already paid, the annual dividend will be JPY 45 per share, JPY 10 more than last fiscal year. I would like to discuss the impact of the spread of coronavirus infection. I just explained the upward revision of our consolidated results, that impact of the spread of the virus is not included in that forecast.
At this time, it is difficult for us to assess the impact on our results, but depending on how the situation evolves, the impact could be large enough to eliminate operations, especially in the I&SS and EP&S segment. Going forward, we will continue to gather information, assess the impact, and take any necessary actions. With regard to that, if there is any material change to our forecast for the current fiscal year, we will disclose that change. I will explain the situation in each of the business segments. First, game and network services. Sales for the quarter decreased 20% to JPY 632.1 billion, primarily due to the decrease in PS4 hardware sales and software sales, as well as the negative impact of the PS5 next-generation console. Unit sales decreased year-on-year.
The yen-based average selling price of the hardware decreased due to the negative impact of exchange rates and an increase in the proportion of units sold during the selling season. We were able to secure a margin on hardware that was flat year-on-year because we kept the promotional price at the same level as the last fiscal year, and because promotional costs were offset by year-on-year reduction in component costs, excluding the significant decrease in the free-to-play titles, the impact of the exchange rates. Software sales were essentially flat year-on-year. Operating income decreased JPY 19.6 billion to JPY 53.5 billion, primarily due to the impact on the decrease of the third-party software sales, partly offset by the increase in the profit for the growth of the network services PS Plus.
Revised downward our fiscal 2019 sales forecast by JPY 50 billion to JPY 1,950 billion, and the operating income forecast by JPY 5 billion to JPY 235 billion. The revision in sales was due to a change in our forecast for third-party software sales, including the impact of postponement into next fiscal year of several title sales. Despite the benefit of operating cost reductions, operating income was revised downward, mainly due to the decrease in software sales. Our financial results this fiscal year are in a period of adjustment as we approach the transition to the PS5's new generation console, and because the contribution of free-to-play titles last fiscal year was quite large.
On the other hand, when you look at our results over the mid to long term, you can see that our game business is steadily growing, as evidenced by the growth of network services such as PS Plus, and we expect this growth to continue going forward. The proportion of network services revenue continues to increase, mainly due to the increase in the number of PS Plus subscribers for the next, unlike in the past when profitability deteriorated significantly due to development and marketing costs incurred. Next, the third quarter sales increased JPY 4% billion year-on-year to JPY 36.3 billion. This decrease was mainly due to the absence of remeasurement gains resulting from the consolidation of EMI Music Publishing recorded in the same quarter of the previous year, and a decline in sales of mobile games in Japan.
Excluding these items, our music business is steadily growing, mainly year-on-year and 20% year-on-year, excluding the impact of the conversion to the yen. There's no change to our full year forecast for sales and operating. Next is about Pictures segment. The third quarter sales declined 15% year-on-year to JPY 236.0 billion, and operating income decreased JPY 6.2 billion to JPY 5.4 billion. This decrease in profit was mainly due to the significant decline in motion picture revenues. Partially, though, offset by an improvement in profitability due to the benefit of a channel portfolio review in media and previous fiscal year. The major hit, "Venom," was released at the beginning of October, significantly contributing to profitability throughout that quarter.
This fiscal year, the hit, "Jumanji: The Next Level," was released only in mid-December, so that while there were other releases that did not meet our expectations, all in all, I believe that our motion pictures business has been performing well. The fiscal 2019 sales and operating income forecast is unchanged. Global box office revenue for calendar year 2019 increased, led by growth outside of the United States. Similar to last year, Sony Pictures had the fourth highest market share of box office revenue in the United States in calendar year 2019.
However, while all the major studios except Disney experienced a decline in box office revenue, Sony Pictures' share increased one percentage point compared to the previous year, mainly due to the contribution of the major hit, "Spider-Man: Far From Home." I think this success is due to our leveraging of IP, such as "Spider-Man" and "Jumanji," to build strong franchises. Next, let me discuss our EP&S segment. Sales for the quarter decreased 9% from last year to JPY 650.4 billion, mainly due to a decrease in sales of smartphones and TVs and the negative impact of exchange rate. Operating income increased JPY 14.1 billion year-on-year to JPY 80.3 billion. This increase is mainly due to the benefit of restructuring of mobile communications and reductions in operating expenses in the various businesses within the EP&S segment, partially offset by the impact of the decrease in sales.
In order to reflect the deterioration of market conditions, we have reduced our sales forecast for the fiscal year by JPY 40 billion to JPY 2,070 billion. The forecast for operating income remains unchanged, as the impact of the decrease in sales is expected to be offset by improvements in operating costs across the various businesses. The competitive environment during the 2019 year-end selling season was finally intense in the key product areas of TVs and mirrorless cameras, but overall, we were able to control pricing, supply, and inventory. Although competition in mirrorless cameras has increased as other companies have entered the market in earnest, we maintained our share in major markets and produced results for our overall digital cameras that are higher year- on- year.
The intensely competitive environment in the TVs market continued due to the deterioration in panel prices. We maintained a high average selling price year-on-year by focusing on high value-added and large screen models. We have maintained inventory at an appropriate level.
On the other hand, our broadcast and professional use products business has seen a significant slowdown in China, an important market for the business, due to U.S.-China trade friction and the negative impact that it is having on the economy. To respond to these circumstances, we are taking a variety of actions, including a review of our business structure. Due to the benefit of restructuring that is ongoing, the mobile communications business continued to record a profit in the third quarter. In the fourth quarter, we intend to implement yet another fixed cost reduction plan and take other action to integrate the operations of this business with the other businesses in EP&S. We expect to record significant one-time costs, primarily due to these actions in the fourth quarter, but the transformation of the business is progressing steadily towards break even next fiscal year.
Next is the I&SS segment. Third quarter results increased 29% year-on-year to JPY 298 billion, primarily due to an improvement in the product mix and an increase in unit sales of image sensors for mobile devices. Operating income increased JPY 28.7 billion year-on-year to JPY 75.2 billion, mainly due to the impact of the increase in sales, partially offset by an increase in research and development costs and depreciation expense. We revised upward fiscal year 2019 sales forecast by JPY 50 billion to JPY 1,090 billion, and our operating income forecast by JPY 30 billion to JPY 230 billion. Demand for image sensors in the fourth quarter continues to be strong. Although production capacity is expanding according to plan, and we continue to operate at full production capacity utilization, sales are increasing due to a strong near-term demand, and that is preventing us from stockpiling strategic inventory as originally planned.
In addition, partly due to the introduction of a highly competitive new product this fiscal year, we have been able to maintain our overall margin, all of which has been enabling us to operate this business extremely well. There is no change to our view that demand would continue to increase over the mid to long term from next fiscal year. In regards to next fiscal year in particular, we cannot be too optimistic due to the impact of the spread of infection from the new coronavirus that I mentioned earlier, as well as competitive environment and various geopolitical risks. We will continue to closely monitor demand trends and the external environment as we manage this business going forward. I would like to talk about the action we are taking over the mid to long term.
ToF sensors, which we expect will be the next growth driver after image sensors, have begun to sell well, although their size within the overall business is still small. We expect the adoption, primarily in mobile devices, to increase further from next fiscal year. Taking a longer-term view, as we made a point of showcasing at CES last month, we are taking steps to expand the adoption of Sony's imaging and sensing technology in the mobility space and in the diverse industrial and factory automation space. We plan to proactively invest even more in technology development to grow this business in the future, such as hiring of personnel, including algorithm and software engineers, and the building of an office in Osaka to serve as design and development center for image sensors. Lastly, I would like to explain the financial services segment.
The third quarter financial service revenue increased significantly by JPY 243.6 billion year-on-year to JPY 407.2 billion. This increase was primarily due to a significant increase in the investment performance of variable life insurance products in the separate account at Sony Life, resulting from the rise in the domestic and foreign stock markets during the quarter. Because a significant portion of the investment performance of the separate account is attributable to the owners of insurance policies, the contribution to operating income is minimal. Operating income decreased JPY 5.3 billion year-on-year to JPY 32.6 billion. This decrease was primarily due to the deterioration of net gains and losses as a result of a decrease in the provision of policy reserves and appraisal losses from its hedging activity, both pertaining to minimum guarantees for variable life insurance resulting from strong stock market conditions.
We have revised upward our forecast for financial services revenue to JPY 1,460 billion to reflect the current market environment. We have revised downward JPY 10 billion, our forecast for operating income to JPY 160 billion. This is primarily due to the third quarter results and the fact that increase in policy amount in force is slightly below our expectations. I would like to show the forecast for each of our segments. This concludes my remarks. Thank you .
The floor is open to your questions. Those of you with questions, please wait for the microphone, please identify yourself by stating your name and affiliation before asking your questions. When questions are asked in English, there will be consecutive interpretation into Japanese and answers will be given in Japanese. In view of time constraint, please confine the number of questions to two per person. Any questions?
Ono of Morgan Stanley. Thank you. Concerning I&SS segment, two questions. The operating income, JPY 230 billion, upward revision. Concerning top line, what about the volume upside and the improvement of product mix in view of those aspects? Roughly speaking, what do you think had a greater impact on the outcome? Second question, the increase in fixed asset, you've reduced it slightly. Is it because of the high efficiency investment or are there any factors related to this?
First, on I&SS, the upward revision for annual forecast, what are the factors, volume increase or product mix improvement? On this matter. We explained this during the second quarter. The balance between unit increase and product mix improvement, the contribution is about more or less the same. The increase in the fixed asset, a decrease in the fixed asset increase of I&SS. Well, with the improvement of efficiency , we could secure the assumed capacity without increasing capital expenditure. That was a factor behind.
Next question, please.
Nishimura, Credit Suisse. Thank you. The first question is about I&SS. Earlier, talking about next year, talking about competitive environment, you're not optimistic about the competitive situation. Looking at the supply and demand, the industry as a whole is enjoying a good situation. What is your take on the risk? The second question is about the game business. The free-to-play business is declining. In the third quarter, compared to the first and second quarter, the third quarter, what were the signs of the decline? Also, for the next year, the decline in free-to-play revenue, is this just a temporary situation for this year and not be repeated next year?
The competitive environment, we explained that we're not optimistic about the situation next year. It's difficult to explain that quantitatively. The image that I have in my mind is this. Next year, I think I said this at the previous, last meeting, initially, our forecast was that the first half would be very strong. Thinking about the balance against the production capacity, if we're going to build a strategic inventory in the fourth quarter, as things stand currently, most of the strategic inventory that we are going to deliver next year, it would have to be delivered this year. Whether we can meet the demand next year is still a problem. At 0.8 micron sensors, that's contribution to our profitability.
We are in the second year of production, there's a catch-up made by the competitors, the price competition will become more severe in the second year of the production. This is the situation that we're forecasting.
Needless for me to say, this concern about the coronavirus, we have not incorporated any impact of that in our numbers. As we learn more about the data, we'll have to reflect that in our results forecast. Next, about the game business, the decline in free-to-play business, what was the situation in the third quarter? How much decline did we experience? Also, has that decline completed this year, or is it going to be repeated next year? Well, the so-called third-party software, the significant decline that we experienced, much of that is really to decline in free-to-play titles. For other software titles, the new titles, and also the library of existing titles, the business is basically flat. The free-to-play titles, it has been very difficult to forecast the business, and that was the experience this quarter as well, the difficulty for forecasting the business.
For all other businesses, there's been no significant change. We'll have to advise methods of forecasting, particularly looking at the free-to-play titles.
Next question, please.
Hirakawa from Merrill Lynch. My two questions are on the game business. The first is as follows. You discuss about PlayStation Plus. In your previous statements, if there are major titles, that would trigger the increase of the membership or subscribers. In that context, I saw that you struggled during the October-December period. Nevertheless, you were able to increase the subscription or the members base. What did you do to achieve this growth? As you move on to the next generation, what would happen to your subscriber or the customer base?
We have to steadily increase the membership for PS Plus. How to increase efficiency of retention, there are a number of plans and ideas. Of course, in August, there was a revision of the price. If you subscribe for the entire year, you enjoy a certain discount. This has led to the increase of steady, stable users. In providing as such, the users would enjoy the online multi-play and free play, and also 100 giga PlayStation 4 is also combined, and also they enjoy the promotions for discounts. By combining different ideas, the users favored ours, and we were able to increase the membership. There is a trend of increasing the membership during the third quarter, but by improving the services and providing a variety of services, we would like to continue this trend and have a robust increase of the customer base. Now, about the future generation.
Of course, we would definitely like to increase the base to prepare for the next generation of the product. There's very little that I can discuss about the future generation of the console today. When the time is right, we will disclose the new product.
The PS5 is to be launched in the selling season towards the end of the year. What will be the future guidance for March 2021? You have not disclosed the price for PS5, what would happen to the guidance that you'll be releasing in April for the next fiscal year?
It's very difficult to really discuss this timing-wise. As of today, we will provide the guidance at a time period which is comparable to the past. We will not change the time schedule.
Next question, please.
It's Ezawa, Citigroup. Two questions. First one, concerning EP&S. I heard about the guidance of operating income for the fourth quarter. I understand that there will be a major loss. You talked about the recording of a one-time expense. In the way of breakdown, what is the trend for each product, and what sort of factors you foresee, or what about the amount of one-time expense to be recorded? For the coming fiscal year, to what extent the profit of EP&S business be improved, including the impact of one-time expense?
During the fourth quarter, EP&S operating income would be in a deficit. In my presentation, I made a mention that structural reform of the mobile business and recorded a one-time expense. The impact of this is considerably large. To what extent we can control this amount is something we are scrutinizing at the moment.
We'd like to minimize the amount as much as possible. Other categories of products, we do not think any expense would go beyond the normal seasonality. The level of inventory is as I mentioned, and during the third quarter, we could successfully control the level of inventory. Concerning TV, for the time being, as I mentioned during the last time earnings announcement, we are thinking of launching some products during the fourth quarter. That plan remains unchanged. However, the current supply chain concern in China may surface. There may be some delay in ramp-ups.
Do you have the factors for increased profit next fiscal year?
About the new fiscal year, we have not finalized our plan yet. Our plan and intention are that in the course of next fiscal year, we like to make a good start so that we will not be drawn by the negative legacy and make a solid plan.
One point of confirmation. The fourth quarter with subcontracting, that is minus JPY 35.8 billion, and the restructuring budget for the fiscal year was increased by JPY 20 billion. Subtracting that, what remains would be around JPY 113 billion, and that will go to mobile. Would there be other deficits in other sectors than mobile, which would add up to JPY 38 billion?
Well, as you analyzed, that may be an appropriate line of understanding. We do not show the details in terms of individual breakdown.
Another point concerning the game business, my second question. Third-party software performance was not very good. What about the first-party titles' performance? To the extent possible, was it higher than or lower than the expected first-party title performance? Were there any major titles?
Basically, we cannot answer in terms of the amount compared to how we expected. I'd like to give you the impression observation. About the third-party full game, our assumption of the order titles were lower, and we could not reach it. The first-party full game, our expectation was higher, and we did not quite reach that level. Concerning PS Plus and so forth, along the line of our original expectation and assumption.
Please raise your hand if you have questions.
Thank you, Okazaki, Nomura Securities. Firstly, about I&SS. You always disclose the actual product capacity in December. Can you give us the figure again?
Mr. Korenaga, can you answer that question?
Yes, the image has a production capacity at the end of the third quarter. Our capacity was 115,000. Our expectation before was 7,000, and there was some decline, but this is due to the change in process mix. The established capacity itself, there's no delay in setting up the capacity. The end of fourth quarter, it's going to be 124,000. It's going to be 124,000. About input, the third quarter situation, there's full operation, and for the fourth quarter, we expect to operate the capacity fully as well.
The second question is about Pictures. Enhancing the franchise business, you mentioned. Can you talk about the investment you made in October and December? Particularly the Game Show Network. The nature of the investment is different. I think you are working on non-profitable franchises in particular. What are you doing in terms of investment? For the acquisition plans?
Well the Game Show Network, we fully subsidize this operation. Originally, it was held by AT&T. We acquired 42% stake in that and then made a full subsidiary. Sorry, we acquired AT&T's 42%. Originally, we had 58%. They have the original game shows distributed in U.S. cable TVs. That's the nature of the business. GSN and online games are also provided. This business unit for us, from this point of view, we believe is profitable going forward.
Therefore, in order for us to be able to make strategic decisions in a flexible manner, we felt that making this 100% full subsidiary was a good idea, and therefore we did that. Another point is about the Silvergate, I think. This is for anime development and production for the children, and also original licensing. Sprout and cable TV, we've prepared seven titles for them, original titles. Our purpose in this business is to get external talent. This business as a category is very attractive. That's been our view consistently. We've conducted dialogues. Now that we found this opportunity for acquisition, we moved rather quickly to make the decision for acquisition.
We are going to take the next question, so please raise your hand.
Thank you. JP Morgan, Ayada is my name. My question first is on I&SS. To reflect back the third quarter, there has been a product mix and increase of volume. In the fourth quarter, what is the momentum for sales of increase per wafer? I think the second quarter, there was a better momentum. Was it true for the third quarter?
Now, also during the third quarter, I think the inventory fluctuated, and that resulted in a negative impact on P&L. Now, I&SS third quarter, you're right in saying that both the mix and the volume increased. The momentum per wafer? Now, I think you're referring to the unit cost of wafer, which we are not disclosing. I would like to refrain from making any quantitative statement. As the wafer size enlarges, the yield would come down per wafer. Therefore, we have to make the average selling cost, which would offset, and which would surpass that drop. That's the logic.
The sales per wafer and the sales cost, or unit cost momentum, should be maintained. We are working on that. In the meantime, we are working on the betterment of yield. For new products, we would like to make sure that the ramp-up would be very smooth, which would consequently improve our profitability. We will be focusing on those measures.
The third quarter, the inventory fluctuation, what impact did it have on the P&L?
The second quarter and the third quarter, if you compare the two quarters, the inventory declined by JPY 7.8 billion, approximately. This is true that it has pushed down the earnings, the profit. On a year-on-year basis, the difference is more than JPY 10 billion.
Thank you. The second question is on the Game & Network Services. Please answer if you can, to the best you can. Mr. Totoki said that you intend to have a smooth transition to the new generation. As you do so, what are the factors that you can control, such as the marketing or development cost? There could be factors which are not visible, could be volume or price. The best you can you discuss on what you can discuss and what is already visible?
First, we must absolutely control the labor cost, the personnel cost. It must be controlled. These two, what should be recognized as a cost. We will definitely control that. The initial ramp-up, how much can we prepare initially? We will work on the production and the sales, and we will have to prepare the right volume as we launch this. What is not very clear or visible is because we're competing in the space. It's very difficult to discuss anything about the price at this point of time. Depending upon the price level, we may have to determine the promotion that we are going to deploy and how much cost we are prepared to pay. It's a question of balance. Because it's a balancing act, it's very difficult to say anything concrete at this point of time.
When I said smooth transition, we mean that we will definitely choose the optimal approach, and that we would try to have the best balance so that we'll be profitable during the life of this product.
Next question?
Thank you. Katsura, SMBC Nikko Securities. Concerning I&SS, one point. In the slide, you refer to the products other than image sensors. What do you think of the contribution of these products from next fiscal year onward? On the investment side, in your explanation, you mentioned that probably you do not have to do as much investment as you expected because of higher efficiency of the operation, including the use of outside capacity. Probably you are thinking of the various ways. You have the overall framework of JPY 700 billion in three years in MRP, and what are the other factors?
The contribution other than mobile image sensors, the sensing sensor is one. For FA and automotive applications are the ones. Other than mobile application, by 2025, we would like to increase the contribution percentage up to 30%. That's what we have been talking about. This target remains unchanged, and we are doing what is necessary to achieve that target right now. The short-term products, or maybe the ToF sensors for mobile with a shorter lead time. By and by, we will be able to show the possible percentage from next fiscal year onward about ToF sensors. It's not that we need a capital investment only dedicated for ToF sensors, so it has a high potentiality for business contribution. We should be able to secure the appropriate margin on ToF sensors.
About the investment efficiency, about the decline investment by JPY 15 billion, thanks to higher efficiency. Over the medium term, JPY 700 billion, this number, we do not foresee any major change. Next fiscal year. We will be looking at the next MRP from 2021 to 2023. At that timing, we will look at the way of investment over the coming three years for the next MRP. We should be able to show our view on such investment.
Time is limited, so this next one will have to be last question.
Yasui, UBS Securities. About I&SS, I have a question, a short-term question. Into the fourth quarter, what will be the inventory fluctuation? Is it going to be less or greater amount of inventory? Of course, it depends on the market demand, but what is your target? It'll be more or less the inventory for the fourth quarter? The second part of the question is, October, December, your business was very good.
Your largest customer in the U.S., it was understand the change in the mix, the rest of the company, it was affected negatively because of this mix. There was difference in results between the two and the three sensors, cameras. There's some adjustment in your business in China starting in December. The consequence, January to March and also April to June, can we expect demand sufficient to fill all your capacities and supply?
Well, initially, for the fourth quarter, we had a plan to increase the strategic inventory to prepare for the next year. What happened was a strong demand from the customers for the fourth quarter. Therefore, it was difficult for us to actually build up the strategic inventory for the future. We had to deliver whatever we had. There's impact of this coronavirus.
It may not mean much for me to explain the issue and excluding that potential possibility, but there's a likelihood that demand will slow down because of that. Considering all this altogether, the inventory will only slightly increase compared to the third quarter, so will not change significantly in the fourth quarter. That's our current expectation. Nothing is definite now. I cannot say that for definite, but that's generally our view.
Well, if I may add this, output basis, what is your plan for January- March period?
The output or the shipment?
I think you gave us data output based on production capacity, 100,000 for the first quarter. That's you're talking about capacity?
Well, it's still base an input and output, there are three elements. Capacity is already installed. Input is what you are inputting. Output is the result of that input. The shipment is not included in this. The point of your question is, again, January, March, wafer shipment, the production, what will be the amount? We do not disclose output numbers. Lead time is between five and six months, so use that as a basis of calculation.
Thank you. Our time is up. With this, I'd like to conclude this earnings announcement. Thank you for your attendance.