Q&A at Interim Results Briefing (Nov. 8, 2019)

Looking back over the business structure of the Company over almost two decades since the early 2000’s, at the beginning of 2000 we created three companies—for food products, pharmaceuticals, and amino acids—with the aim of becoming a global company from Japan that handles food and amino acids. The majority of our profits at that time came from consumer food products, which, of course, was Japan Food Products, and four other businesses: our animal nutrition, domestic pharmaceuticals, sweeteners, and international umami seasonings businesses.

In the 2010’s, we decided to exit the commoditized bulk product businesses, and under former president Ito, we shifted the focus of our MSG business to a ratio that favored internal sales over external sales and changed the structure of our domestic pharmaceuticals business to a joint venture in which we hold a minority stake. Regarding sweeteners, we sold one of our two factories in France. While this reduced the scale of the business, it is now more reliably profitable. Currently, only the animal nutrition business remains to be de-commoditized. While this could be seen as me being slow to tighten control, we are gradually reducing the in-house production ratio. This half, we recorded a significant impairment loss, but if we had continued production in Brazil and Thailand into FY2019, this loss would most likely have increased further. Thinking that we would be alright with a target of reducing the in-house production ratio to 50% or below by FY2020 was a little optimistic and we are seriously reflecting on this. Going forward we will be resolute in ensuring structural reform takes place.

Regarding my vision for the Company, I think our core competencies are our strength in R&D, which generates basic materials including bioscience and fine chemicals, and our technologies for utilizing these in foods and various solutions businesses. In a sense, I think our varied business portfolio is characteristic of the Company. Ajinomoto Co. is transforming from a company with businesses in three or four major areas into a company that possesses many small but highly profitable businesses. I would like us to achieve this in the 2020’s and transform into a specialty company that can maintain sustainable growth. In other words, while we might still retain our complex nature, I want to make it so that we are not heavily affected by volatility.

 I will explain the factors behind the distribution inventory in Vietnam that occurred in the first half of FY2019 and developments going forward separately. Regarding Vietnam, we have been continuously implementing traditional sales methods in our Asian Business, such as firmly reaching out to the small retailers who are our touchpoints with local consumers and creating displays that encourage consumers to buy. However, in recent years competition has fiercened and our competitors have been developing aggressive sales methods such as offering significant incentives to wholesalers. This has led to our retail store-focused approach seeing a temporary fall in sales. Ultimately, we have been unable to withstand this reduction in sales and we have ended up gradually putting more effort into working with larger retailers in a similar approach to our competitors, thereby becoming less able to follow up properly with small retailers. I think this is the root of the problem.

Going forward, although we will continue to follow up with wholesale stores, we will return to our original approach of reaching customers, which is a fundamental part of our International Food Products business strategy, and we want to alter our sales methods so that there is a focus on how we can showcase our products to consumers with the touchpoints we have.

Moving on to overall strategy going forward, it is crucial that the umami seasonings and flavor seasonings businesses, which record large sales, continue to see firm growth. We need to ensure that we are sufficiently reaching customers through our efforts to date to pursue quality and our follow-up with retailers, including our use distributors. In the umami seasonings business, sales for the first half of FY2019 show growth since FY2009 in Japan too. Factors behind this include coordination with the Kachimeshi® Project at stores and messaging about the salt reducing effects of umami. In some prefectures, we have also been implementing projects in which we work with the prefectural government to communicate the benefits of reduced salt. We are also considering extending activities that thoroughly communicate the fundamental appeal and salt-reducing effects of AJI-NO-MOTO® at stores to our overseas businesses.

In the flavor seasonings business, the first half of FY2019 saw an increase in sales due to growth in the volume of sales of HON-DASHI® in Japan. By showing the appeal of home-made miso soup, primarily through YouTube, we have raised the frequency at which Japanese families consume miso soup by 2%. Overseas, we also want to implement activities that reclaim sales growth, even if only a little, by constantly working to raise quality while thoroughly communicating through the media and stores so that consumers use our products at home.

We are also developing menu-specific seasonings similar to Cook Do® overseas, which are currently seeing growth in the high double digits. Going forward, we want to engage in activities that will thoroughly showcase the appeal of these products and expand the business further.

Our core businesses make up about 60% of sales, and within these, the international seasonings business is one of the strongest performers. In order to realize sustainable growth for the Company, we want to achieve sales growth of 4% or more overall. This means our core businesses need to record growth of over 5%. The sales volumes in the international seasonings business are exceptionally large and sales of flavor seasonings and AJI-NO-MOTO® alone account for around 250 billion yen. Therefore, while it may be difficult to realize double-digit growth, we want to achieve sales growth of over 5%.

Growth based on local currency sales in the international seasonings business in the first half of FY2019 was +2%, so we need to find a way to increase this by another 3%, but I think that salt reduction is a major topic that is shared worldwide. I think it is becoming an important issue in areas where our seasonings business performs strongly, particularly Southeast Asia and Brazil, so we will engage this with a strategy in which we think globally and act locally.

This half has seen the manifestation of several extraordinary expenses, such as the impairment loss, but basically, most of these will not affect cash flow. In regard to the cost of several structural reforms planned for the second half of FY2019, some will involve cash, but factors such as provisions will basically ensure that there is no significant change in cash flow. Therefore, we do not think our figures of 120 billion yen for FY2019 and 350 billion yen cumulatively for FY2017-2019 will change very much. Based on this, we decided on a policy of not altering our total annual dividend.

Regarding the FY2020–2022 MTP, 350 billion yen is certainly not the most satisfying level, but seeing as sales growth may slow as we implement a process of reducing assets, our message at the current time is that 350 billion yen is the minimum level that we want to secure. Going forward we will bring together the plans for each of our businesses and more clearly outline our overall plan when we announce out MTP in February 2020. In addition to generating cash from business activities, the entire company is working on fundamental areas such as reducing inventories by streamlining the cash conversion cycle (CCC) and we hope to focus even more on these efforts. 

(Comment: If you streamline the CCC and raise cash generation capabilities then I think putting the operating cash flow forecast for the next MTP at the same level as the current MTP would deviate a little from your corporate message. I would like you to go into more depth on this when you announce the new MTP in February.)

From April 1, 2020, the food products business will not be handled as a domestic business and overseas business as it has been up to now and will instead be reorganized into a Savories Dept. and the Quick Nourishment Dept.

This change will include not just having the Japanese business collecting information about Japan and the overseas business collecting information about overseas. We will consolidate information from Japan and overseas to add greater unity to our strategies. We will also ensure we properly share information going forward.

However, as product development and marketing styles differ significantly between countries, we will still practice thorough local adaption.

In addition to being one of the Company’s core competencies, the animal nutrition business is also positioned pretty far upstream in terms of the Ajinomoto Group Creating Shared Value (ASV), or in other words, providing food and health-related solutions. We think that the protein supply side of the business has huge potential, so we have continued it up to now.

Currently, we are looking to discuss possible alliances, including ones involving more specialty products. Our vision regarding specialty is to transform from a business that handles products that are still close to basic materials into one that provides solutions for customers’ farming and livestock businesses. Therefore, we will shrink the upstream portion of the value chain and convert it into a business that includes service functions. Within this, we can incorporate the intellectual property and wide-ranging expertise of the Company into R&D. This is the kind of business we are ultimately aiming to shift to and we are currently working toward it. 

Over the last ten years, we have struggled due to our possession of fixed asset-heavy commodities which has meant few suitable partners emerged. Now we are able to get this load off, forming an alliance is becoming more realistic.

It’s true that our stake in PH is 33.33%. Also, as Ajinomoto Co. has no base in Algeria, most of our market information and the like is obtained through business partners. Of course our directors make site visits and regularly catch up with what is going on, but we have to admit that our methods for obtaining information are a little weak compared to businesses where we operate sites directly. While we are thoroughly exchanging information between parent companies through management meetings, Africa covers a wide area and there is a risk we will not be able to grasp the situation entirely.

Therefore, I would say that the purpose of continuing our 33.33% stake is to keep an eye out for potential opportunities.

While we have recorded an impairment loss on dairy products in these interim results, half of the business involves flavor seasonings, in which we occupy top or second spot depending on country. I think PH will be an important platform for expanding our seasonings business in Africa in the future.

On the topic of hedging against risk to remaining book value, the amount of impairment loss concerning trademarks recorded in the previous fiscal year and this interim period remains at around the same size. Regarding these trademarks, we have begun discussions with an audit firm as to whether we can amortize them over a set period of time amid the uncertain environment in Africa. While we have not yet reached a conclusion, we hope to realize one in the next MTP. I am very sorry for the unease we have caused you all with this impairment loss.

(Q: The Company has not provided much information about the value of goodwill remaining. Does this mean we need to get a firm understanding of the market environment by ourselves?)

The business mainly operates in three countries (Algeria, Nigeria, and Ghana). We will properly provide you with this information in the future.

The shrinking of business assets accompanying the implementation of structural reforms aiming to reduce assets will amount to about 40 billion yen. Fifty-four percent of this will be achieved during FY2019. In regard to the animal nutrition business, 75% of planned shrinkage was booked as impairment losses and the remaining 25% will be processed as structural reform costs. Also, no structural reform costs will be accrued in the global frozen foods business in FY2019 and we will reduce fixed assets by 4.5 billion yen in FY2020 or thereafter. There are no other large assets covered by this 40-billion-yen reduction. Regarding goodwill however, there is goodwill remaining for PH in Africa and Ajinomoto AGF, Inc., and we have to always consider the risk of this. Although we forecast that Ajinomoto AGF will record a decrease in sales and profits in FY2019, we do not expect its corporate value to increase or decrease significantly compared to an impairment test carried out in February 2019. 

(Q: If you include the impairment risk concerning Ajinomoto AGF, does this mean that you have an impairment risk of more than 30 billion yen?)

While risk concerning Ajinomoto AGF remains, we think we can minimize it through our next MTP. We also think we can use accounting treatments to hedge against the amount of risk remaining at PH once we have realized the impairment loss concerning trademarks. However, there will still be risk regarding goodwill. We recognize that as a minority investor, there are some areas that are beyond our control. I do not think there are any other major issues to be covered.

There are losses impacting business profit that are occurring in FY2019 that will not occur in FY2020, namely a 3.8-billion-yen impairment loss on trademarks at PH and a 2-billion-yen loss due to the cost of structural reforms planned in the second half of this fiscal year. Furthermore, we expect that FY2020 will see a gain of around 2 billion yen created by the streamlining of expenses through these reforms, a reversal on depreciation costs concerning impairment losses recorded in FY2018, and contributions of several billion yen from cost reductions due to resource-saving fermentation technologies and the introduction of new technology to further enhance these technologies.

(Q: Do you mean the effects of cost reductions will be worth several billion yen over the year?)

Yes. Therefore, I hope you understand there will be a certain amount of improvement.

(Q: Adding these all together, does this mean there will be profit growth of about 10 billion yen in FY2020?) The umami seasonings for processed food manufacturers business has seen a huge boost in FY2019, so please subtract this amount in your calculations. 

(Q: Do we need to subtract the risk of further deterioration in the business environment around the animal nutrition business?) Basically, there is a possibility that the animal nutrition business will continue to record losses on a similar scale to FY2019. Please factor this into your considerations.

(Q: Does “losses on a similar scale” mean that losses will not increase?) We recorded a loss in the first half of FY2019 and we expect this loss to grow in the second half. We will provide you with an update if the situation changes going forward.

(Q: Based on this, are we to understand that it is important for existing businesses to continue seeing a certain amount of growth?) Yes.

I think our asset-light management approach will not end in FY2022. However, we plan to include shrinking business assets by about 40 billion yen and allocating resources of around 80 billion yen up to FY2020 as concrete themes. We have not yet reached a stage where we can share with you our plans for after this.

(Q: Regarding further asset reduction initiatives to be incorporated into the MTP that will be announced in February 2020, are we to understand that specific figures have not yet been set?) Not yet, but we are considering them.

I think the current situation could be summed up as we are midway through solving some of the issues faced by our coffee products and frozen foods businesses in Japan. I think the point shared by both businesses is that we were thorough about using a strategy of concentrating our efforts in highly profitable areas where we have a good market share. In frozen foods, we are focusing marketing efforts and product enhancements on Gyoza® and fried rice products. Similarly, in coffee products, by halting sales of individual-sized liquid coffee and enhancing the variety of stick-type coffee flavors we offer, we have been able to capture a decent market share through product variety, despite the ongoing fierce price competition from our competitors. As a result, our stick-type coffee and instant coffee lines are performing strongly. Therefore, it is not that the accrual period of marketing expenses was carried forward, just that we arranged things properly so that we did not need to use money promoting liquid coffee. The frozen foods business uses exactly the same structure. Unfortunately, we have stopped selling products to Starbucks Corporation. While these products have contributed a certain amount of profit, the contributions will disappear in the second half. This will result in profits for the second half falling compared to the first. The unfortunate news in the frozen foods business is that we sold too many fried rice products in the first half of the year. As a result of this and the effects of production halts due to typhoons, we have sadly had to suspend sale of The★Chahan® for the third quarter. Although we expect to resume sales in January, the fall in profits forecast for the second half is due to this. While these two areas have certainly experienced a significant turnaround, and even though we enter business categories in new areas, it is not so simple to make a profit. If we cannot reclaim the money we are expending on marketing costs, we will end up in the same position as were in last year. This is the lesson that influences our approach.

Regarding the step to raise the ratio of MSG used in-house from 70-some % to around 80%, look back over recent results and you will see that growth of overseas consumer foods is slowing in terms of volume. In other words, while growth in volume of AJI-NO-MOTO® remains about level, we have moved into a structure where we raise sales by increasing prices. Specifically, the growth of umami seasonings as components of flavor seasonings is supporting the increase in the volume of MSG used in-house. Looking at the overseas flavor seasonings business as a whole, umami seasonings and flavor seasonings both occupy about 45% each. The remaining 10% is menu-specific seasonings. The amount of MSG used in frozen food products is extremely low. Therefore, supposing we try to raise the ratio of MSG used in-house from 70% to 80% using only flavor seasonings, if flavor seasonings were to grow about 4% each year it would take around 10 years. In the first half of FY2019, the growth ratio for local currency sales of flavor seasonings was +4% including price rises. Therefore, it looks like raising volumes from 70% to 80% using only consumer foods would take a fair amount of time, so we have revised our strategy. This is the reason we incorporated the shrinking of external sales into the strategy.

We recognize that the efforts being made by our competitors to expand their frozen food products businesses in the U.S. are formidable. In my previous explanation, I only touched on the international frozen foods business by mentioning how we will reduce assets by 4.5 billion yen, but we will also shift some shrunken assets into the Asian foods category. In other words, there is significant room for growth regarding products like Gyoza, fried rice, and ramen noodles, so we will reduce net assets by 4.5 billion yen, including transferring factories where production has been suspended and factories in the Mexican and Italian foods categories into the Asian foods category. We will take care to make sure we do not lose anything in terms of quality and taste.

The reason every company is entering into the Asian foods category is because within the U.S. frozen foods market, this is the category that offers the best price per unit. As it is completely different from the Italian and Mexican foods categories, our competitors are entering the market. Therefore, we have to assume that unit prices will drop. However, naturally we can realize superior productivity and improve quality, and if we do this properly as we have in Japan, there is still room for further growth. Currently Asian cuisine frozen food products in North America are selling at around 2.5 US dollars per pound. While this is a high level within the U.S., it is still inexpensive compared to Japan. In Japan we have improved quality and taste, increased productivity, and raised unit prices thereby raising GP ratios, and by doing this we are creating our current profit structure, so I think there is still room for further improvement in the U.S. as well.