Earnings Call: Q1 2022

Jul 7, 2021

Thank you very much for attending this Q1 results briefing. Without further ado, I'd like to provide a summary of our financial results. It was more or less 12 months ago in the Q1 of last year that COVID-nineteen infections were surging, which led the government to declare the 1st state of emergency. Our business operations were heavily impacted mainly because we had to entirely suspend operations of specialty store zones at E. ON Malls. However, the businesses affected 1 year ago have recovered strongly this year. Also, we have steadily responded to demand for food products, which has grown compared to pre pandemic levels. And as a result, operating revenue outstripped the record high recorded in the Q1 of fiscal 2019. Operating profit recovered to a level second only to the record high 39 point 6,000,000,000 yen logged in fiscal 2018, while ordinary profit hit a new record high. Profit attributable to owners of the parent returned to the black after 2 consecutive years of 1st quarter losses. In addition to the profit growth down as far as the ordinary profit line, this mainly owed to the sharp decline in pandemic related losses, which came to nearly JPY 30,000,000,000 in the same quarter a year earlier. Although we have not disclosed our targets for each quarter, better than expected progress has been made towards our full year forecasts. Next, I'd like to talk about earnings compared to pre pandemic performance. These four graphs show 3 years of operating revenue and profit at each level. Please note the results for fiscal 2019 here exclude the lump sum booking of the negative impact associated with inappropriate accounting at a subsidiary in prior years. As you can see, all of these metrics have demonstrated a V shaped recovery to be above or roughly on par with pre pandemic levels. In this Q1, the government declared a state of emergency and announced a raft of key measures designed to halt the spread of infections, although they were not enforced nationwide and our malls and specialty stores temporarily closed or shortened their operating hours as per the requests of local governments, all of which had an impact on earnings. Currently, the 3rd declared state of emergency has already been lifted and the vaccination rollout is now progressing at a rapid rate. While there remains the risk of another wave of infections and an increase in new coronavirus variants, we expect the likelihood of restrictions on operations to generally subside up ahead, which we believe will further buoy earnings improvement. Next, let's take a look at earnings by segment. Segment results here are ordered by degree of operating profit improvement. Profitability improved sharply for the 5 businesses in the list starting with the general merchandise store business after being impacted last fiscal year by suspended operations and shorter operating hours during the state of emergency periods as well as the impact of people refraining from outings. The supermarket business at the bottom of the table was affected by the dropout of the surging demand for food seen last year. Nevertheless, and I will touch upon this later, we have responded to constant growth in dine in demand, which has pushed profit levels past those seen prior to the pandemic. I should also mention that due to a change in management structure this fiscal year, the supermarket business has been split into 2, the supermarket business and the discount store business. Even though we do not disclose earnings forecast by segment or quarterly segment targets, the Financial Services business is making much better than expected progress. The supermarket business, the discount store business, the health and wellness business and the international business are in line with our expectations, while the general merchandise store business, the shopping center development business and the services and specialty store business are performing below expectations because of the impact of the states of emergency. On the following pages, I will go into a little more detail about segment earnings. First, let's focus on the segment where profitability improved the most, the general merchandise store business. The left side of the screen shows profit in the general merchandise store business over the last 3 years. From a JPY 32,100,000,000 loss last year, segment profitability improved by some JPY 25,000,000,000 Approximately JPY 20,000,000,000 of this improvement came from E. ON Retail, the mainstay company in this segment. As you can see, the mainstay company in this segment. As you can see at the top right of the screen, there has been a 22,000,000,000 yen improvement at the gross operating profit line. Alongside a recovery in sales, the uptick mainly owes to the ongoing improvement in the gross profit margin in the Q1 as an extension of that trend from the second half of last year, as well as recovering tenant sales. While the improvement in the gross profit margin was aided by the splitting of the business that supplies merchandise to group companies, it has also improved in real terms and for the most part has recovered to the levels seen prior to the pandemic in the Q1 of fiscal 2019. Expenses have increased slightly as sales promotion expenses rebounded from last year when we refrained from sales promotions, but all other expenses were kept to prior year levels. At the bottom right of the screen, you can see sales by category. Food sales have come in higher than in the last 2 years, but apparel and household and recreational products failed to reach pre pandemic levels. General merchandise stores have not been required to suspend operations under the states of emergency, but the fact that people have refrained from going out is affecting sales of apparel, cosmetics and other products related to outings. It has also impacted tenant sales. Based on in house calculations, we estimate that the downward trend in directly operated store sales and tenant revenue owing to the states of emergency has dented profits by around 3,000,000,000 yen Given that the gross profit margin is improving and cost structure reforms are progressing, we believe we can achieve an even bigger recovery in earnings up ahead when people start heading out and about again after the state of emergency is lifted. More people are vaccinated and synergy effects are generated from how we adapt to the new normal, coupled with the structural reform measures. Next, I will report on progress with specific initiatives. First, with regard to how we are adapting to the new normal, we have introduced the Regi Go! Customers self scanning and self checkout system at 37 stores. One of the advantages of the RegiGo system is how handy it is. Customers are not required to do anything beforehand. They simply pick up one of the dedicated smartphone like devices at the store entrance and start shopping. Owing to its convenience, the utilization rate of the system at stores where it is offered currently stands at around 20% on average. We have also responded to the needs of customers wanting to use their own smartphones. Customers can simply install the Regigo app on their device in order to use this system. Online supermarket sales grew a further 16% from the Q1 of last year when demand rose sharply and have even increased roughly 40% compared to the Q1 of 2019 prior to the onset of the pandemic. In targeting further growth, we have responded to the requests of many customers for extra morning delivery time slots and we are also working to extend the time frames during which we take orders mainly by improving operational efficiency. Also, we are taking steps to create new demand in the online supermarket business. For example, every month we inform customers about online only products that need to be ordered in advance, such as specialty products from selected regions. In terms of our structural reform measures, we have curbed store expenses by JPY 7,000,000,000 compared to the level before the pandemic. We are continuing to improve operational efficiency by rolling out the RegiGo system and semi automated self checkout registers, reducing inventory and keeping store backroom operations to a minimum. We are also endeavoring to keep a lid on facilities expenses. We managed to lower inventory by 7.5% year on year on a same store basis. We are continuing to dispose of dead stock and implement better purchasing controls. And as a measure aimed at reducing losses on price reductions for food, this month we plan to complete the rollout of AI KAKAKU to all stores. AI KAKAKU is a program that leverages artificial intelligence to propose the most appropriate price discounts. By harnessing the power of these digital technologies, we are adapting to the new normal and steadily pushing ahead with structural reforms. In doing so, we will continue to build a management platform that will enable us to generate more profits than ever before once the COVID-nineteen pandemic comes to an end. Profit in the Financial Services business largely surpassed the level seen prior to the pandemic. In this business, we worked on expanding demand in Japan with the use of loyalty point campaigns, online supermarket user campaigns and online only membership application campaigns. These efforts drove credit card shopping transaction volume to a level higher than in the last 2 years. For housing loans too, we endeavor to bolster our sales activities targeting home construction firms and improve our online consultation and application services, which greatly boosted transaction volume. In Malaysia, we ran a successful preferential low interest rate campaign by partnering with a motorcycle manufacturer. And as a result, we achieved a major turnaround in installment loan transactions. We also greatly reduced our bad debt expenses that significantly affected earnings last fiscal year. We have successfully continued to improve the quality of our receivables portfolio, mainly by enhancing credit screening with the use of AI and developing loan recovery systems. Cash advances are still recovering because consumption has yet to fully recover and we also see the possibility of rising COVID-nineteen infections in countries where we have a presence. The impact on earnings up ahead therefore remains unpredictable. But as I will later explain, we are actively promoting the integration of loyalty points and other group wide strategies to drive medium to long term growth. Next, I'd like to discuss the shopping center development business and the services and specialty store business. In these two business segments too, earnings have recovered strongly because of our thorough going measures aimed at preventing COVID-nineteen infections, thereby providing peace of mind to customers visiting our facilities. On the right side of the screen, you can see photos of E. ON Mall, Kawaguchi, which opened in June. We are committed to building safe and secure next generation malls by constantly evolving our infection control measures based on the scientific expertise of specialists in the field. We are working on enhancing these measures on a daily basis to ensure that our customers view E. ON Malls and E. ON Specialty Stores as being safe. When comparing earnings to performance before the pandemic, there is still a visible gap because approximately 160,000 operating hours were lost in the shopping center development business and services and specialty store business combined as a result of suspended operations and shorter operating hours in regions where states of emergency applied. This is just an estimate, but we think the loss of these operating hours negatively impacted profit in these two segments by some 7,000,000,000 yen We could also hypothesize that earnings would have been mostly on par with expectations if there had been no suspensions of operations or shortened opening hours. We believe we can hasten the pace of the earnings recovery when the pandemic comes to an end by ensuring that our customers rate our safety measures and adaption to the new normal favorably. In fact, earnings in the shopping center development business are steadily recovering in China, where infections have been contained. In China, the coronavirus has been brought under control for the most part and mall specialty stores there are achieving double digit sales growth compared to pre pandemic levels. The EON Mall business in China has continued to achieve profit growth from before the pandemic. This outcome owes not just to the external environment of infections being stamped out. We think it is attributable to the development of attractive malls that are safe and secure. At Ian Mall Guangzhou Shintang, which opened in May, state of the art LED screens have been installed to create fun filled shopping spaces. In addition, a WeChat based membership system is being used for CRM purposes and an AI powered information service has been introduced. These features will be gradually rolled out to other malls in the future. In Japan too, we will look to introduce digital features like these, along with other initiatives that enable customers to have a fun time in our malls, which we believe will help to improve earnings in Japan in the same way they have in China. I should also note that there was a fresh outbreak of infections in mid May in Guangzhou, which forced some facilities to cease operations, but since then customer traffic has been recovering. We will continue to double down on infection prevention measures, focus on generating fresh appeal and expand the recovery trend throughout China, the ASEAN region and Japan. Next, I will discuss the Health and Wellness business. First quarter profit in the Health and Wellness business shown on the left of the screen was more or less in line with the pre pandemic level, but still down on last fiscal year when there was sudden growth in demand for sanitary goods, food and daily necessities. As shown in the graph at the top right of this slide, sales are steadily outpacing pre pandemic levels. Prescription drug sales in particular rose sharply at Wellcia drugstores, a high proportion of which are able to process prescriptions, thanks to growth in the number of prescriptions field as the number of people undergoing medical examinations returns to normal levels. Since last fiscal year, we were quick to start onboarding pharmacists with a view to future growth. And in this Q1, we increased the number of stores selling prescription drugs by 46, which is more than we had planned. So now 76.3 percent of our drug stores are able to process prescriptions. While we have booked expenses upfront, partly because we've aggressively opened stores at a faster pace than originally planned, from the Q2 onwards, we intend to further leverage the strengths of the Wellcia stores, namely the high proportion of stores able to process prescriptions and properly control labor productivity, streamline operations mainly by reducing work duties and pursue further growth and profitability enhancement. In the supermarket and discount store businesses, dine in demand rapidly expanded last year under the countrywide state of emergency before falling back this year, but segment profit has still sharply increased compared to pre pandemic levels. The graph at the top right of the screen shows sales data for fresh produce and delicatessen products at the group's 11 supermarket companies. In preparation for a revival in dining out up ahead, the Groupe Supermarkets are bolstering their offerings of delicious high quality products that are good enough to replace restaurant meals. They are catering to consumer demand for tasty and hassle free meals that can be enjoyed at home instead of at restaurants. Accordingly, 1st quarter sales in the delicatessen category topped sales in the same period last year and in the year before that. As a result, the sales weighting of the delicatessen category increased 1.3 percentage points year on year, which means this category is also contributing to gross profit. The supermarket and discount store business mergers that were pursued during the period covered by our previous medium term management plan have also been steadily carried out during this Q1 as outlined at the bottom right of the screen. These business integrations will allow us to streamline operations and advance community rooted management in order to stay ahead of the growing cross format competition in the food industry that is said to intensify further. Now I'd like to briefly touch on the initiatives we are implementing in line with the 5 growth strategies outlined in our medium term management plan. Various initiatives are being rolled out at each of our group companies, although we have only just kicked things off as we are still in the Q1 of the 1st year covered by the medium term plan. In the digital domain, we are continuing to propose new ways of shopping without having to queue up at cash registers with United Supermarkets Holdings expanding its Scan and Go service to more than 500 stores. Moreover, E. ON Retail is analyzing image data captured with AI cameras to make customer service faster and more effective and to expand its lineup of top selling products. All of our group companies are utilizing digital technology to make our stores more appealing than ever before and implementing measures that lead to on-site operational improvements. In terms of products, we are pushing ahead with the construction of processing centers in each area with a view to generating unique value. The processing of delicatessen food and marine and livestock products has up till now been carried out mainly in the back rooms of stores. Our new processing centers will improve the freshness of our fresh foods and also play a part in reforming our supply chain because we can procure the raw materials ourselves before producing and selling our own products. We hope to strengthen our Fresh Foods product lineup and product development capabilities and constantly evolve our approach to products in an effort to boost earnings power. Next are initiatives for the evolution of health and wellness. At Wellcia Yakyoku, we are advancing initiatives that help enhance convenience. For example, we are installing dedicated collection lockers at our 24 hour stores for customers that request non contact pickup of prescription drugs or customers wishing to pick up their prescriptions at a time of their choosing. Furthermore, performance apparel brand Sellian products, which help people recover faster from fatigue, have been popular among many of our customers. So much so that sales volume increased 130% year on year in fiscal 20 20 on the back of heightened stay at home demand. This fiscal year, we are expanding our lineup of new genre products to help alleviate the tiredness our customers might experience in various life situations. We intend to incorporate health related aspects into other business domains and launch new products and services with a cross business approach. As part of our accelerated shift to Asian markets, on May 28, we opened EON Mall Guangzhou, Shintang, as I mentioned earlier. This mall embodies 5 concepts, including the use of digital technology and coexistence with local communities, while the mall's tenants that offer experiences and entertainment are among the most popular. In the Ansean region, Iyang Malaysia launched an online food delivery service, which also includes the offerings of tenants with the use of its own app and delivery network. Since COVID-nineteen cases are increasing rapidly in Malaysia again this year, the service aims to meet demand from people isolating at home and has been well received by food and beverage tenants as a means to boost sales at a time when their business activities are subject to lockdown restrictions. In this way, we will continue to simultaneously expand both our digital business and brick and mortar store network in Asia. And today, as part of one of our other growth strategies, that is the creation of the E. ON Living Zone, we announced that Tokimeki points awarded to E. ON Card users will be converted into Wa Own points. The details of this change have been outlined in our press release, but the amalgamation of the group's 2 existing point systems will provide our customers with a more simplified system. Also, the new point system will make it even easier for customers to save up points because even large sum automatic debiting for things like public utility charges and mobile phone bills will earn WaOWN points. I should also add that up until now customers could only redeem their tokimeki points when they reached 1,000 points. With Wa Lone points, however, customers will be able to use as little as one point for their day to day shopping. This system changes more than just a points transfer. It improves customer convenience, which we believe will make shopping at E. ON more fun than ever before. In the near term, beginning in the second half of this year, we plan to greatly boost awareness of the new point system by running a large scale campaign to coincide with the system changeover. We think this initiative will significantly contribute to earnings in the medium to long term because we expect the number of customers using E. ON stores and services on a daily basis to further increase. Even though the state of emergency has been lifted in Japan, some regions such as Tokyo are starting to see another wave of COVID-nineteen cases. And overseas, some countries are enforcing stricter lockdowns because of a resurgence in infections. While earnings this fiscal year are off to a better than expected start, thanks to our Q1 results, the situation still remains unpredictable. Our full year earnings forecasts announced at the beginning of the term remain unchanged. Lastly, I'd like to briefly mention our initiatives for assisting with the vaccination rollout. We are offering our cooperation to help increase opportunities for people to get vaccinated, so we can help make our communities safe and let people lead peaceful lives again. We have provided 30 venues to local government authorities around the country. And as of now, around 30,000 local residents have received their shots at these locations. We are also in the process of organizing workplace vaccinations with 156,000 people scheduled to receive shots by October. Furthermore, we donated a total of JPY 350,000,000 to the governments of ASEAN Nations where we have a business presence. The retail industry is a peaceful one. E. ON will continue to pursue peace through its business activities and through collaboration with authorities in other countries and regions. This concludes my presentation. Thank you for your attention. Results were favorable in the Q1, but I get the impression that while the Financial Services business posted much stronger than expected results, the results in the retail businesses and the shopping center development business have fallen short of targets. Can the shortfall be put down to the impact from the state of emergency and other COVID-nineteen impacts? Or are there other factors involved? Also, was it explained that cost reductions were made in the general merchandise store business? But how would you evaluate cost controls on a group wide consolidated basis? As you pointed out, shortfalls in the general merchandise store business and the shopping center development business can largely be explained as being due to the impact of the state of emergency. Regarding group wide cost controls, some areas where extraordinary loss was recorded last year have recovered. And generally speaking, we were able to reduce fixed costs. We therefore consider that we've been successful in controlling costs. You say you're making progress with your response to the new normal, but what kinds of changes in consumer behavior have you noticed? Sales of non food products have not rebounded to the same level seen 2 years ago and that observation is not limited to E. ON. Aren't there conversely some new opportunities resulting from this? When I go to E. ON stores, I get the impression that there are now more products tailored to new normal related demand, such as camping equipment. What kind of opportunities do you see emerging in the future? How is the consumption behavior of your customers changing? The pandemic is bringing changes to people's lifestyles. Demand is increasing for food products requiring less preparation time. I feel that after staying home for so long, people are getting tired of cooking. Food products that require little time and effort such as ready to eat, ready to cook and ready to heat items are performing strongly and we are strengthening our offerings of these types of food products with a focus on top value products. Of these products, frozen foods in particular are performing strongly. One product that has been well received is fish that has not only been frozen, but also cut into easy to eat cubes. We are not simply turning fresh foods into instant foods. Products that allow consumers to experience the joy of cooking with just a little effort are also performing strongly and we are expanding our offerings of these types of products. In non food product areas, EON Retail's apparel division is enjoying strong sales of its Sellian brand of functional clothing that helps alleviate fatigue as having to stay home for long stretches of time makes it easier for people to become increasingly tired. This type of product is performing extremely well and our new apparel items are successfully meeting growing stay at home demand. Our outdoor activity products are also doing well. Megasports is performing extremely well with the release of private brand tents and other products. We regard conglomerate management to be one of The Young Group's strengths and our diverse retail businesses and store formats enable us to respond to the various changes in our customers' lifestyles. E. ON is currently endeavoring to develop new consumption styles. Could you please tell us your view of the operating environment and current conditions overseas in countries such as China, Malaysia and Thailand? Performance was generally strong in each country. However, overseas subsidiaries have differing fiscal periods and it's mainly their January through March results that are included in our Q1 consolidated results. One reason for the improved figures was the COVID-nineteen infection rates in each country were lower in the January through March period than they are now. Malaysia, Thailand, Indonesia and other countries are now seeing a new wave of infections. We therefore do not expect our results for April through June to improve as much they did in the January through March quarter. That said, our outlook for the Q2 and beyond is not so bleak as we are bolstering our infection prevention frameworks, while also leveraging our experiences over the past year to implement measures to improve profits. Would it be correct to say that Chinese subsidiaries are no longer impacted by the pandemic and are now performing favorably? Some subsidiaries in Guangzhou were impacted by a lockdown, but overall operations in China are proceeding without any problems. You posted a gain on investments in partnership as non operating income. Is this a one off gain or will you continue to generate a considerable amount of income from this source? Also, can you provide more details about this gain? The gain is from our investment in the venture capital firm Sozo Ventures, which is aimed at acquiring know how relating to new businesses. We posted an investment gain in the Q1, but it is unclear if we will be able to post similar gains in future periods. Did this gain result from the venture capital firm exiting an investment perhaps through an IPO? That is correct. I understand that EON Retail's gross profit improved due to a decrease in merchandise supply sales since the Q4 of last year, but how much did the Q1 gross profit margin improve on a real term basis excluding the impact from the transfer of the merchandise supply business and the spin off of the Tohoku business. It improved by about 2.7 percentage points. While the pandemic has hindered a full recovery in apparel sales, would it be right to assume that due to gross profit mix improvements and apparel inventory reductions, there has been a considerable improvement in gross profit even in real terms? We also improved the gross margin on Food Products. So yes, I think you'd be right in thinking that we achieved some real improvements. The Financial Services business posted a large increase in overseas reserves in the Q1 of last year. But looking at the entire year, it appears that reserves were not increased much from the Q2 on. In the Q1 this year, the decrease in bad debt expense made a rather large profit contribution of JPY 22,600,000,000 However, COVID-nineteen infections have been increasing in ASEAN countries and elsewhere during the Q2. What is your outlook for reserve related issues over the rest of the year? Our application of IFRS provides us with a predictive model. However, regarding our overseas business, in particular, in addition to our own measures, we must consider that many uncertainties related to the COVID-nineteen pandemic and each government's various countermeasures and support policies. We will therefore appropriately develop calculation models for each quarter. I hope you will understand that this approach reflects our efforts to make timely and appropriate decisions that reflect the situation at the time. If the Q1 improvement over the same period of the previous year does not largely reflect disruptions from COVID-nineteen, can we assume the Q1 improvement will account for a considerable amount of the annual improvement? E. ON Financial Services guidance doesn't indicate a significant increase in its annual profit either. Yes, that's correct. Can the general merchandise store business continue to lower its costs and improve its gross profit margin? Regarding gross profit margins, E. ON Retail's low gross margin on apparel in the Q1 of the previous fiscal year reflected the posting of a valuation loss on apparel inventories. Compared with that result, this year's Q1 saw a large improvement in the apparel gross margin, which contributed to the improvement in the overall margin for the general merchandise store business. From the Q2, we will continue efforts to improve gross margins and expect margins on food and on household and recreational products to improve. On the cost front, we've been reducing fixed costs since last year. We continued that effort in the Q1 and posted lower costs. We will continue to reduce costs and believe those efforts will produce some effects from the Q2 onwards. Regarding the Points integration, can we assume that from the second half, you will use sales promotion expenses to raise customer awareness of this integration? In addition, how do you expect this integration to enhance overall group earnings? And what upside do you see for performance? As announced in today's news release, we will shift Tokimeki points into the Waon point system. We plan to launch a campaign to raise customer awareness about this change in a focused way. Considering the progress being made with vaccinations, we expect that people will be able to enjoy greater mobility from early autumn and hope the integration of the 2 point systems will be useful for customers when shopping. Until now, the group has had a number of point systems and we recognize the close nature of those individual systems. We believe that integrating them under the Waon point system will encourage customers to engage in more diverse shopping activities at our shopping centers. For example, they will be able to use points earned when shopping at general merchandise stores and shopping centers to play games at E. ON Fantasy Amusement Centers or watch movies at E. ON Cinemas. In addition, users will be able to earn Huao on points when making payments using EON cards and the Huao on eMoney service. Credit cards are often used to pay for high priced items, so Huao on points will be earned when purchasing expensive items. Meanwhile, Waon e money is often used for smaller payments and users will again earn Waon points. From the customer's viewpoint, the unified point system will enable them to accumulate and use the same points for all purchases at E. ON Stores, whether paying with E. ON Cards or Wa Own E Money. Another benefit will be the ability to earn Wa Own Points when making transactions outside the E. ON Group. For example, E. ON Credit Service has launched a campaign promoting the use of E. ON cards to pay utility bills. If these bills are paid using an E. ON card, the cardholder will accumulate Wa Own points, which can then be used to shop at E. ON shopping centers. WaOWN points will also be earned by E. ON cardholders who use their cards to pay other regular bills such as their mobile phone bills. Customers will be able to receive Waon points for all these transactions. From EON's perspective, creating many environments where customers can shop and accumulate or use Waon points will help boost our earnings. We believe this will be an attractive service for both our customers and for us.