Panasonic Corporation (OTCPK:PCRFY) Q2 2021 Earnings Conference Call October 29, 2020 2:30 AM ET

Conference Call Participants

Kota Ezawa – Citigroup

Unidentified Company Representative

Thank you very much for joining us today. Now, let me present Panasonic Fiscal 2021 Second Quarter Financial Results. This is a summary of the consolidated financial results of all Q2 sales decreased year-over-year similar to Q1. Although there was noticeable recovery from Q1 due to the improvement mainly in automotive and appliances.

Profits in Q2 significantly improved in Q1 by maintaining deliver or fixed costs, while sales recovered. Moreover, profits increased year-on-year. Free cash flow significantly improved to a solid positive in Q2 from the negative Q1 due to the COVID-19 impact. The full-year forecasts remain unchanged for both companywide and segment. We will accelerate the enhancement of management structure and promote capturing business opportunities arising from changes in society brought about by COVID-19.

This shows the consolidated financial results for the Q2 of the FY ’21 of all sales decreased to JPY1,667.3 trillion, due to the deep consolidation impact as far as COVID-19. Adjusted operating profit increased due to steady progress in reducing fixed costs despite the impact of lower sales operating profit and net profit increased due to higher adjusted operating profit, as well as improvements in other income endorsed. This shows ourselves analysis, overall sales decreased by JPY286 billion or 15% excluding the ForEx effect and the consequence utilization impact sales decreased by JPY152.8 billion, or 8%, of which the COVID-19 impact was JPY150 billion about half of this impact came from connected solutions including Avionics.

Next, I will explained the self-trends after the spread of COVID-19. The graph on the left shows the trend for company wide sales versus FY ’20. Companywide COVID-19 impact expanded from April of reversal recover to above 90% in June and also in Q2. The graph on the right shows the sales trend by segment. COVID-19 impact was seen mainly in automotive appliances, and connected solutions. In automotive sales passed from April to May, however sales sharply recovered due to the increased production of automobiles and [02:48] customers.

Also in appliances sales was heavily impacted until May due to restrictions of movement and impact of lock down after restrictions were lifted, the recovery trend is continuing. On the other hand in connected solutions Avionics has been impacted by sharply reduced flights and significantly decreased aircraft production. Overall sales in connected solutions continues to face a severe situation that below 80% of the safety of last year. This shows our operating profit analysis, adjusted operating profit increased by JPY0.9 billion, due mainly to efforts in managed instruction has been which offset the COVID-19 impact, which are management initiatives the of profitability improvement are showing steady progress following in Q1.

For example, management structure enhancement was an increased impact JPY15 billion and countermeasures for loss making structures pushed up profits by JPY4 billion. As the automotive business we achieved JPY20 billion profitability improvement. On the other hand COVID-19 negative impact was JPY25 billion connected solution accounted for a large portion of the impact.

Regarding the fixed cost reductions, we achieved about JPY70 billion companywide in Q2. We have been enhancing the explosive reduction efforts as countermeasures to lower sales costs by COVID-19. The breakdown of reduced fixed costs is shown on this chart in blue box. Overall operating profit increased by JPY8.9 billion due to the higher adjusted operating profit as well as improvement in other income and loss. This shows the results by segments are explained the details on the following slide.

This slide shows major increase and decrease factors by segment. Sales decreased in all segments for adjusted operating profit by solutions and connected solutions decrease. Appliances in automotive increased in Q2. Industrial solutions continue to increase fall in Q1. And appliances sales decreased due to COVID-19, despite recovery trends in regions such as Japan, profit increased due to increased sales of refrigerators and air conditioners in Europe along with the efforts to control cost such as reduction of sales promotion expenses of hitting the impact of lower sales caused by COVID-19.

In those solutions sales decreased due to the decline in new housing stocks. Despite the stable equity related businesses. Profit decreased due to the decrease sales despite our effort to reduce fixed costs.

In connected solutions sales decreased favorable multi machine sales in China was unable to offset the decrease sales in Avionics. Efforts to improve costs such as thorough fixed cost reduction were unable to offset the impact of decreased sales, profit decreased largely. It would emerge this overall sales were steadily very lower. Sales were up in that race but lower in automotive solutions due to lower sales of display audio and others. Despite steady progress in product portfolio replacements such as to sales growth as IBI where we focus our resources.

Profit increased due mainly to fix cost reduction in automotive solutions along with rationalization at battery factory in North America. The segment achieved profitability overall and for the cylindrical battery business, we will further promote technological development as higher capacity batteries leveraging our maximum strengths to enhance competitiveness as this business.

In industrial solutions sales decreased due to lower sales for automotive use products despite favorable sales for information and communication infrastructure. Profit increase despite lower sales was due mainly to fixed cost reduction efforts.

As a result company wide sales in real terms excluding the exchange rate and deconsolidation impact decreased significantly by JPY153.8 billion, but adjusted operating profit increased JPY 5.9 billion and operating profit increased by JPY8.9 billion. Next I will explain the situation of free cash flow. Free cash flow in Q1 was negative JPY54.2 billion, however, in Q2 free cash flow turned positive and improve to a solid positive of JPY158.1 billion. This mainly came from operating cash flows turning significantly positive with net profit turning positive, along with solving such issues as a temporary increase in inventories due to COVID-19.

Free cash flow for the first half was JPY103.9 billion exceeding net profit of JPY48.9 billion.

And in the second half, we will continue to aim for free cash flow above the level of net profit.

From the next Slide, I will explain the impact of COVID 19 into FY’21 and the process in key initiatives in response to COVID-19. First, the impact of COVID-19. Mainly the changes from the initial assumptions as of the Q1 results announcement. As for sales, companywide Q2 results were broadly in line with the initial assumption of Q1, while there were some differences, depending on businesses. We expect the same for the second half. By segment and Appliances and Automotive, earlier than expected recoveries were seen in Q2. While in Connected Solution, the situation became severe in Q2, and is expected to continue in the second half, due to worse than expected deterioration of air passenger demand. As far as profit, a companywide Q2 results were better than the initial assumption. For the second half, the impact is expected to slightly worsening, but the four year assumption remained unchanged.

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This Slide shows of the progress and key initiatives for FY ’21 explained at Q1 results announcement. First, we make steady progress in management structure enhancement and improvement in profitability of Automotive business as per the midterm plan. We will accelerate your initiatives in the second half aiming to exceed this full year target. Regarding business portfolio reform, we are continuing to execute specific measures for investment for growth and have competitiveness, through co-creation and improved profitability as shown in the Slide.

With regard to counter measures to COVID-19, we are undertaking through fix cost reduction initiatives companywide, and reduced approximately JPY70 billion year-on-year in both Q1 and Q2. We executed structural reform, particularly in the businesses heavily affected by COVID 19. We’re also promoting capturing of business opportunities and that will be explained in the next Slide. These are examples of our initiatives to capture business opportunities, arising from changes in society brought about by COVID-19. Under COVID-19, we expect increase in demand related to public hygiene, air conditioning and indoor air quality, expansion and demand for investment in ICT infrastructure and expansion in demand supported by such policies as spring recovering Europe and increase in demand for manufacturing equipment for servers. We intend to certainly promote expanding and strengthening products with growing demand and expand production capacity as follows: for public hygiene, air conditioning and indoor air quality, expand the lineup and promote products with nano-EX as well as expanding production capacity for ICT infrastructure, increase the supply of conducted polymer, electrolytic capacitors and power storage systems. Regarding EV further enhanced the technological development of automotive, cylindrical batteries aiming for higher capacity for manufacturing equipment, respond to demand with full utilization at mounting machines.

Thank you for your attention.

Question-and-Answer Session

Q – Unidentified Analyst

Thank you very much. This is — from Morgan. Can you hear my voice?

Unidentified Company Representative

Yes.

Unidentified Analyst

Thank you. Two questions. First, Q2 business results, you do not announced the quarterly guidance in comparison to the expectations. I think it was better. So could you give us the situation of each segment? The second question is also related to the first question. We did not change the fiscal year forecast, but based on the first half results. Are there any segments that you expect a better resource in the second half? Or the segments that you expect some difficulty? So could you give us some information as to the differences of each segment?

Unidentified Company Representative

First, our Q2 guidance, it is not announced. But I think that results was a little bit better than what we expected. The COVID-19 impact was a smaller and that is J PY15 billion smaller than what was expected. But at the same time, aircraft related in the second half, we expect some difficulties. So second half of the COVID-19 impacts that are we expect to be higher in avionics. So those are the factors.

In addition to your second question, if I may answer your second question at the same time. The Q2 results in the first half results. For the stronger segments than expectation include appliances and automotive and IS, so industrial solutions. Those are a stronger those should stronger results than our expectations.

Now in terms of ourselves, I do talk about some numbers that the CNS or it’s tougher. And we expect some toughness in CNS. So it’s a bit weak. As for life solutions, COVID-19 impact will emerge in the second half rather than the first half, because of the new housing stock and non-residential business are declining in this industry. So I think some weaknesses are expected. So as a whole, the fixed cost reductions is getting better and we’re making progress to overall numbers. It’s too difficult to forecast for example, due to that presidential election in the U.S. and also the COVID-19 situation. And U.S., China trade friction due to those factors, the full year forecast continues to remain the same.

Operator

Next question, please. From Citigroup Global Markets Japan, Mr. Ezawa, please.

Kota Ezawa

First, the focal initiatives, key initiatives on Slide 11. You mainly talked about cost control 30 billion is the target for improving the profitability. For the enhancement of management structure, the enhancement of management structure and improvement of profitability of automotive business. The full year targets are JPY30 billion and JPY15 billion, respectively. I think there is a possibility that the actual at the end of the year would exceed this targets, what do you think? That’s my first question. My second question is on cylindrical automotive batteries. Tesla organize the Battery Day event and announced that they are going to secure the internal supply of batteries, and that they are thinking of collaborating with other battery suppliers.

And the way they presented it period that Panasonic was positioned on par with other suppliers, which resulted in your stock price declining now. You’re cynical automotive battery business, short-term and medium term? Is it going to expand? Or would the expansion end? If it’s going to expand, in what form do you expect your business to expand? If you can talk about that big picture? I would appreciate it. And [SEC] market? It is expected that your sales from the cylindrical automotive battery would decline? What would you say to that?

Unidentified Company Representative

Thank you for your question. First, on battery day. [Musk Elon] made various messages delivered various messages, including the internal supply of batteries. We are aware of that. But that’s something for the future, it’s not certain as to what timeframe he has in mind. We have a close communication with Tesla, regarding the new battery 4680 and Tesla invited us for cost cooperation on this, high capacity and safer battery that’s the strength of our technology, and 4680 really leverages our stress that we have already started the development efforts on 4680. Now you said some view that our sales will decline. Currently the capacity is around 32. If you go up and going forward with stable operation. For this year, as it was mentioned earlier, we are going to modernize the line so as to start supplying the higher capacity batteries. And 35 gigawatts is to be achieved next year, maybe and also as has been announced, we are going to add one more line.

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In fiscal 2022, the operation of that new line is to start so that in fiscal year 2023 or so 35 to 38 gigawatts capacity would it be achieved. So with that in mind, whether sales would increase or decrease as far as we are concerned with we are implementing measures to ensure increase in sales.

Now cylindrical business battery business of Panasonic, will this business grow or not? Well, this is very important a strategic business for us. That remains unchanged. And what referred to the 3 terawatts in 2030? Well, I once we achieve 38 gigawatts, we’re talking about 80 times that capacity, 3 terawatt to be achieved in 2030. I don’t think that can be accommodated by just one supplier. So, Chinese markets, we consider it’s not fit for our high capacity battery. So we’re not going to go into that market. But for the U.S. market by looking at the profitability prospects, we will make necessary investment and therefore, 3 terawatt that will be divided amongst multiple suppliers. But with the steady development of 40-60, 46-80 we will pursue expansion.

Unidentified Analyst

Can you comment on fixed cost?

Unidentified Company Representative

Fixed cost, as shown here, we are getting close to the target. Since last year, and has mento management structure is something that we have been working on. And with COVID-19 our employees. Seriously considers what they can do. And so there is a very solid awareness of cost awareness amongst the workforce. Now, this full year targets in the fixed cost reduction internally we are aiming at going beyond the target and in the structurally loss making businesses. We are the best, the solar business and so we now have a good visibility in achieving the target.

Operator

Next question from JPMorgan we have [indiscernible]

Unidentified Analyst

Thank you. This is [indiscernible] from JPMorgan, can you hear me?

Unidentified Company Representative

Yes.

Unidentified Analyst

Thank you very much. I also have two questions. First is on Slide 5. You have a step diagram and cost reduction of our JPY70 billion and breakdown is shown. On the right hand side you have about JPY45 billion that is below COVID-19 impact. So for three years, JPY100 billion cost reduction is what you have been talking about, but is it separate from that? Now the impact from this in Q1 or for the full year, what would be the impact that you consider? Because of the urgent situations, is it possible that you have a negative impact from this? So could you explain the meaning of this JPY45 billion fixed cost reduction?

Now second question is about the automotive the cylindrical factory is now profitable, but automotive solutions in the second quarter in comparison to Q1, how was it? Was it profitable or not? Also, the demand is recovering and automotive, I think recovering, so for the automotive solutions in the second half, do you think that profitability to improve. But at the same time though, it would be a lot of expenses, so maybe to not that easy. So could you talk about those?

Unidentified Company Representative

Yes. Thank you for your questions. First about the Page 5, that is the fixed cost reduction. In Q2, that is JPY45 billion. The margin of profit is down but accordingly the production and fixed cost was reduced about JPY45 billion. So, I have signs, understanding is correct. That is $15 billion that is the management structuring enhancement is separate from that. So in this JPY45 billion, for example, due to the restriction of the movement, we could not exhibit in the European exhibition or in the United States or other events were counseled, those factors were included. So, because of these the cost reduction was achieved.

So, JPY45 billion we’d have to make sure we are memorized the content, and so that, we tend to move, or we can make sure that, we would avoid the cost increase of the management structure enhancement and others. So, they are separate from each other, but after the COVID-19 impact, it does mean that we will lose this factor and depending on the content of it could be a sustainable or continuous cost reduction. As for Q1, this number was the negative impact of the COVID-19. So, this JPY45 billion in Q1, actually, the COVID-19 impact towards higher in Q1. So we are trying to make this kind of a continuous cost reduction.

As for the Automotive solutions in Q2, JPY22 billion improvement was realized and out of that one-third is the cylindrical battery business, higher profit or improved profit. And because of this two-thirds is the factory solutions improved profit. So both of them profitable in the business results in Q2. And monthly sales chart was included, now with the automotive, it seemed the highest recovery of sales. Auto industry was suspended in Q1 and there is a quick recovery from that. So, very rapid startup is what we are seeing. So because of that, the margin of profit is increased, and also we have been working on fixed costs reductions, and due to that I think that the profits were higher.

Now, on the automotive our solutions in 2020, that was at the peak as we said and ’21, I think that development expenses has normalized and that to the highest sales. So, when we have a higher top-line, the profitability should stabilize. So, if you look into this, for Europe, the recharger business for Europe. In 2021, there are some development costs. But it is included in the actual business results. And also there will be some full year fixed costs. So, we do not expect the lower impact on the automotive solutions to recharge your business for Europe.

Again, we’ll have some remaining development expenses.

Operator

Next question from Credit Suisse [indiscernible] please.

Unidentified Analyst

I have two questions. First on AP appliances. In the second quarter, the profit has improved in home appliances and smart networks. That was a big factor, you said? Could you elaborate on what you mean by that? And what about the sustainability of that? And my second question automotive profit rate improvement prospects for next year onward, what would you do think would be the seed of that to ensure profitability. And so I think the speed of improvement is better than you have been indicating earlier. Some say is that 5% operating profit in two, three years. And automotive 5% could be achieved is what you said in relation to the mid-term plan. So what do you think would be the profit ratio for next year onwards for the automotive battery?

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Unidentified Company Representative

AP appliances, second quarter results basically. For the air conditioning and others suffered a bit but for the rest of the segment, it was the refrigeration in air conditioning suffered, but others were good. Leveraging the demand in relation to the stay at home circumstances. Last year, in October, the consumption tax rate was raised. And there was a big difference in demand in relation to that. And so we believe that those factors contributed to the increase in profit.

In terms of sales in Japan as [indiscernible]. In September, it was 60% to 70% the previous year’s level, that’s for September. Or as for October, looking at the credit situation last year because of the consumption tax rate. The demand declined, so compared to last year, about 1.3 times the sales level for this October. That’s for the industry overall and that’s the thing for us as well. So, we believe that the sustainability will be kept. [TV expect the ABC] the improvement in the loss making business in the second quarter, what we showed as a result, actually the biggest improvements that came from the TV business. And so those are the factors for AP. As for automotive am next year in onwards, about the profit rate that’s kind of hard to touch upon, but challenge is the business in Europe. And that’s the same for recharger and the automotive solutions assist the development for solutions has been completed in 2019 all bugs and therefore, we believe that the profit rate would improve from two to 3% to 5%. As for recharger business development efforts will have to continue for some time. So, those profitable ones and non-profitable ones will have to be combined. So, profit increase this year would have been for certain under normal circumstances, but we need to take into consideration this special factors for this year.

Operator

Next question is [indiscernible] Nomura Securities.

Unidentified Analyst

About CMS, I have a question. Avionics, you’re faced with a difficulty, but excluding Avionics, what is the current status, especially after or in relation to COVID-19 a new business opportunities, there could be a decline, so excluding Avionics or what is the prospect of CMS?

Unidentified Company Representative

Well in Q2 Avionics was top product but another is the mobile solutions and media and entertainment. There is a property from the last minute demand and media event the events were canceled, projected, sales declined. So, there are some toughness there. But some recovery started to be seen in process automation from Q2, so higher sales and higher profit in the second half. We expect this to accelerate further. So because of this Avionics and media and entertainment, we see some toughness, but mobile solutions so we are trying to enhance the management structure so that we can catch-up. As for process automation, we like to capture the new demand. So, growth and profitability improvements are something that we are trying to realize, so there are negatives and positives. And for the full-year target or forecast at the actual target or the forecast probably is a little bit too conservative. I hope that answers your question. Thank you very much.

Unidentified Company Representative

We’re getting close to the end time. So we can only take questions from one more person. Before we close.

Operator

We are getting close to again time. So we can only take question for one more person before we close. From SMBC Nikko Securities, [indiscernible] I hope you can hear me. Yes.

Unidentified Analyst

I have two questions. First about inventories. I understand that you successfully reduced inventories. But can you talk about the supply chain situation by segment during Q1 that was stronger than others? So can you tell us the current situation, the way you see it? Where you feel that the inventory levels could have been higher, for better supply? Where on the other hand, you see the inventory level being heavy? And what’s your prospect going forward towards the year-end?

Secondly, with regards to free cash flow. Blue Yonder I think is already in place to Blue Yonder. And maybe we should wait until the next business management meeting. But in terms of the use of cash, is there anything that you can share with us?

Unidentified Company Representative

Thank you for your questions. Regarding inventory levels, in all segments, and that was it’s been reduced from the first quarter as for the turnover date, CNS it went up in terms of day, in relation to the lower sales and inventory level differences from segment to segment, AP, SP can be controlled those positively and negatively. Now the sales are being normalized, so we have a better visibility. But when it comes to TV set supplies or hoping that there’ll be better supplies and [indiscernible] air conditioning for example. In September, we were finally able to resume. So there was a gap between supply and production. So, we are expediting our efforts to expand our production capacity. So, that’s where we see some shortage.

In automotive with the recovery on the part of the OEMs, we are producing to supply sufficient amount and in industrial solutions while the inventory value and turn over base are being declined we are managing the situation. So, in terms of which products have greater inventories, I just explained. As for the free cash flow Blue Yonder investment has already been announced. And after that, what would be the purpose, one is in relation to Tesla the higher capacity batteries. We’ll make the adjustments for that, and for the capacity expansion. We will be adding to one line. So that would be incurred in the second half. So we will be making those investment. And within the operating cash flow, we will be replacing the portfolio for better management.

And for details, as you indicated on November 17, we will have another meeting on which we should be able to share maybe, well, I can’t say whether I can share the details or not, but there’s a meeting scheduled on November 17, as we indicated. Thank you.



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