Q&A at Interim Results Briefing (Nov. 9, 2018)

The reason why I mentioned the framework for change, including the target to be achieved quickly, is that, at the moment, we don’t have matter-of-course things done, so we will bring it about quickly rather than aiming for 2020. It is our commitment to do it quickly so that it will not be a target for the final fiscal year of the next Medium-Term Management Plan. The impetus for this change is that in the food products business, which is positioned as a growth sector, the Thai canned coffee business last fiscal year, and the Japan food products and North American frozen foods businesses this fiscal year, have faced challenging conditions, which was also apparent in these latest financial results.

The background to this is that the competitive environment of the past has disappeared, whether it be in developed or emerging countries, and the competition has become extremely tough. The advance of digitalization and local competition in emerging countries are factors in this. This environment is symbolized by the case of coffee in Japan in these financial results, which is marked by significant intensification in competition with the major global players. Consequently, we will not survive unless we concentrate our strategy on our strengths. In other words, this means we focus on the North American Asian foods category, which is an extremely strong sector, or Gyoza in Japan and the international seasonings business.

Up until now, we have mainly shrunk the business in the area of commoditized bulk products through the “Fit & Grow” strategy, reducing production or switching it to other products, and we have to do this solidly for food products as well. Naturally we are ready for the “pain” you pointed out, and we are committed to continuing with what needs to be done, including the hardship.

(Q: Can the change be accomplished by FY2020?)

We want to at least create the structure for us to start moving in that direction. Accordingly, I hope to share some concrete measures with you in six months’ time when I talk to you all about the prospects for FY2019.

(Q: Will those measures be quite challenging?)

At present, I can only say that will be some things that are challenging and some that are not.

First, I will give you an example for dispersion of assets. At the moment, there are factories for Ajinomoto Group frozen foods in 25 locations worldwide. We are aiming to be the world number one in the Asian food category. We also have an extremely unique dessert category, and it is world-class, including both the quality and productivity. Among the 25 factories, there are some that we built ourselves, and there are some that we purchased, like the former Windsor Quality Holdings, LP and factories in Europe. As there are differences with our basic technologies, it takes a certain amount of time to make adjustments and replacements, and to replace management systems so that Japanese kaizen activities become the norm in operations as well.

In the case of the North American frozen foods business, we built one of the nine factories ourselves, and two new ones after the acquisition, but management systems and operations in which Japanese kaizen activities are routinely implemented take time from the perspective of human resources education and management stability. If we do not make our strategy clearer and decide on the priority areas to concentrate on, what we do will be even more dispersed, creating a situation in which we will not be able to focus on doing quickly what we should be doing.

To accomplish this, it is best for management in America to be done by Americans, and we were well aware in the acquisition of the former Windsor Quality Holdings that we would have to actually commit to exerting concentrated efforts when installing Japanese and Ajinomoto Co. know-how.

There are nine factories, of these the original Portland factory and the frozen ramen factory in which Toyo Suisan Kaisha, Ltd. invested a 20% capital stake are becoming extremely good factories. At the Hayward factory, which the former Windsor Quality Holdings originally owned, we have introduced our know-how and managed to increase the Asian food category by 25%. There have been good examples like this at the former Windsor Quality Holdings, and we are hoping to strengthen this. The top management at the company also changed in October, getting off to a new start.

Coffee has become a red ocean market, so we are hoping to switch the assets and know-how possessed by Ajinomoto AGF, Inc. and Ajinomoto Co., (Thailand) Ltd. to functional foods and drinks. However, if we do it all at once, we will lose the assets and know-how we went to so much trouble to acquire, so we must use our assets and know-how well.

To be more specific, in the functional foods and drinks sector, we sell Knorr® soup, retort products such as okayu, and powdered drinks in Japan. The strongest of Ajinomoto AGF’s products is stick-type coffee, which is a beverage containing coffee, milk, and sugar. The strength at Knorr® is soup, so it is extremely similar. As there are similar technologies, we will direct them toward products with amino acid functions.

We also have products such as Amino Aile® and Glyna® which are growing significantly through our mail order business. However, unfortunately, as regulations are different in each country for amino acid products, they cannot easily jump across national boundaries. Nevertheless, I think that in foods, there are more possibilities.

I hope to be able to share new products with you that will make clear what area I’m thinking of, as soon as possible.

Regarding the business categories that North American frozen foods should have, this is actually a theme on which I will have to take the lead in thinking about, going forward. As the same can be said not only for North America, but also for Europe, and even for Japan, I would like to have some time. I hope to clarify the strategy decisively since that is my task.

Competition has become severe, and since the market has gotten quite large, I do not think there is the momentum for growth of 13% or 15% like there was four or five years ago. However, from the perspective of aiming for double-digit growth, I think there is still a possibility for achieving it through the addition of menu-specific seasonings and high functional products. Growth in the first half on the local currency base was 5%, and we think this can rise to 7% for the full year. The price increases have been a considerable factor in this, but there is no doubt that growth in functional AJI-NO-MOTO® PLUS and menu-specific seasonings is coming on top of the 4% growth for flavor seasonings that are the base supporting this growth. If we can get things right here, I believe that we will be able to achieve double-digit growth in the seasonings area.

As additional information, in the Five Stars, sales in Thailand have returned to being in line with plans. Sales in Indonesia and Vietnam are a bit slow, but sales in the Philippines, which had been a concern, went up. You may feel that the growth rate in Brazil is a bit low at 5%. However, as Brazil also commenced operations under IFRS standards in FY2018, we deducted sales discounts from net sales. Sales in Brazil effectively grew 10%.

The impact of the price increases is quite strong, so we no longer feel that growth will recover quickly, a few months after increasing prices, like it did before. This is partly because the market itself is no longer a major growth area as it was in the past. The price increases were implemented for AJI-NO-MOTO® and for flavor seasonings Masako® and Aji-ngon®, and there is no doubt that the price increases will sink in, even if it takes some time. Once that happens, I think we can return to growth in the high single digits rather than the low single digits. However, there are some products where further price increases are required.

In terms of the reforms, if we concentrate on brands such as Knorr® Cup Soup and CookDo®, which are our core, and produce growth with value-added products, we will still be able to expand market share even in Japan. This will be most important as the top brand strategy.

The market growth rate for the frozen foods business in Japan went back to 4% in FY2017 for the first time in a while. Seizing on this as a major opportunity, we launched ONIGIRIMARU®, Yoru Kuji no Hitori Nomi, and other products to expand our product area. I think that in itself, this was the correct strategy, but our support was a little late for a sector where competition had intensified to that extent. The good points about our new products for 2018 are that we have taken on the challenge of Shoga Gyoza and family-size products, expanding our product lineup in the Gyoza sector. Until now, we were number one in Gyoza as a single item, but we managed very well to expand this as a Gyoza category.

While not saying that we must not venture into completely new areas, I do think that we must not make errors with the positioning of mainstay products. We have to repeatedly consider what Gyoza is taking market share from out of the meal menu, and how we can get segments that are yet to purchase Gyoza, to buy them.

In addition, while Gyoza is the overwhelming number one, the situation is different for karaage and fried rice. Fried rice is number two, and karaage is a sector which is intimately related to restaurant and industrial-use and differentiation is difficult, so we have to put together a strategy for each category. In that sense, I think there are still things we can do in the Gyoza, fried rice, and karaage categories.

We are increasing prices on 335 out of 850 restaurant and industrial-use products. Prices for restaurant and industrial-use products have been gradually increasing in an invisible form, and other companies have been increasing the price of cooked rice since the beginning of 2018 and so on. The prices we are increasing this time are only for desserts, where we are strong, and products for which we will fully account for the increases, and we have excluded cooked rice and processed chicken products, where there is intense competition, from the scope of price increases. Therefore, we have few concerns about the competitive environment.

Frozen foods have been impacted by sharp price increases for ingredients, but at the moment, we haven’t yet reached an environment in terms of both exchange rates and ingredient prices for increasing prices on home-use seasonings and processed foods. I think that we will be forced to respond if circumstances change, but we have no plans to do so for the time being.

It is difficult to give a figure for the concrete percentage, but we think that the price increases should have an annual positive impact just short of about \1.0 billion. The price revisions will apply to shipments from March 2019, and extra demand is forecasted in February, so the impact of March, which comes in the FY2018 financial results, should not be large.

(Q: Is it correct to think that the impact of extra demand prior to the price increases has been factored into plans for the second half?)

With regards to the timing of the price increases, we believed that March – April is the optimum timing for price revisions given that price revisions are not acceptable to customers in December and that it is also before the increase in the consumption tax. It seems that extra demand will certainly arise in February, and sales in March are forecasted to decrease by the amount of the extra demand. We feel that if we add the February and March sales, there will be no change from before the price increase.

We spent two years creating the communication strategy. I am unable to comment on the economic effects in your question.

I cannot disclose everything, but it is an attempt to use an asset-light model as the central idea of management within the Group’s full value chain, and I think that the magnitude will be significant. Today, I only touched on examples already shared with management members, which are the efforts in the frozen foods business, corporate functions, and the functional drinks sector at Ajinomoto AGF, Inc.

(Q: I’d like some hints. For example, outsourcing is being used for production in the animal nutrition business, so could production be outsourced to lighten assets in the food products business in the future?)

I do not rule out any possibilities. However, I think that the positions of the B2B business and the B2C business are different. The bulk product business is as you observed, but there is the problem of quality management directly connected to brand in the B2C business, so I believe that we need to consider them separately.

It does not amount to a concern. The electronic materials business is a development services-type business, and assets of our own factories are not an issue. It could be described as a very exemplary business within the asset-light business model.

The majority of the revision is North American frozen foods. The breakdown of the \3.1 billion is divided into production factors and logistics cost factors. I would like you to see them as roughly half and half. With regards to production, there have been recent successes, and I hope we will manage to produce business profit based on the projected financial plan in the fourth quarter of FY2018. While it may not be from the beginning of the fourth quarter, we are working toward a structure that will gradually approach the financial plan over January, February and March. We implemented a second round of price increases to absorb the rise in logistics costs. This second round was positioned as a boost. I haven’t made an image of how we will rationalize the logistics system. At present, we are in the midst of a professional diagnosis, so I hope to have other opportunities to explain.

It is seasonings and the Asian food category in frozen foods, in which we have the top market share, and these will lift growth in International Food Products. We will work on these areas as a top priority. I think that the nutrition area will be a challenge. With regards to investment, since we planned and managed a total of \230.0 billion under the current Medium-Term Management Plan, the next Medium-Term Management Plan will probably be a bit more challenging. At present, approximately 60% is investment in increasing production and growth sectors, and approximately 40% is related to maintenance. If you consider that our operating cash flow is around \120.0 billion a year, we will probably need to increase the percentage of growth investment to around 70%. On the other hand, as new investment will arise due to the restructuring of the Kawasaki and Tokai factories here in Japan, we hope to rethink the balance of investment and will share information with you later.

The company-wide weight accounted for by the animal nutrition business has decreased. Business profit in the first half of FY2018 was \1.0 billion, and we forecast the same level in the second half as well. However, the business structure will be different from that in the first half. With regards to OEM, we consider Europe and South America as the main markets, but it is taking time to improve quality to match Ajinomoto Co.’s quality from the perspective of DNA inactivation, and we are planning to commence full-scale sales from the third quarter. Therefore, there was barely any contribution from OEM in the first half. In addition, sales declined due to the impact of the closure of our own lysine factory in May 2018. On the other hand, business profit increased with a significant contribution from tryptophan and steady contribution from Specialty. In the second half, the extent of the decline in sales should gradually contract as OEM sales will be commenced. On the business profit front, OEM will start and the commodities that were eating up profit from tryptophan will shrink from the third quarter through to the next fiscal year. This should lead to a structure that can cut losses by absorbing the decline in sales unit prices for tryptophan and generate profit steadily. Specialty has been growing steadily.

It was just yesterday that we shared the changes in management strategy internally. In my exchanges with you today, I have told you the issues I perceive with some businesses, but this does not signify that we have made a start in terms of concrete tasks. Consequently, from now on we will be calculating when the changes will hit profits and how much of an impact there will be.

I have absolutely no intention of changing the vision I want to achieve, which is a global top 10 class food company with sustainable growth. I believe that arranging the timing and framework for achieving it is my management responsibility. My resolve is strong.

(Q: Such changes are likely to be a weighty effort at the Company. In many cases at other companies, they appoint human resources for reform and also move internal human resources quite flexibly. Can you explain the direction of the strategy on acquisition and replacement of key management?)

At present, there is no particular plan, but I do not rule out any possibility. However, to list some examples of management, there is the sale of the European aspartame factory, making the pharmaceutical business a joint venture company, the shrinking of operations in Brazil in the animal nutrition business, and so forth. Our current senior management worked on all of these examples. I think we are a group with a strong corporate culture so we can share such basic concepts. Other than that, what’s needed is leadership. If we can sustain that, I think reform is possible.

We are already the top brand in the Asian food category. With the North American frozen foods market saturated overall, the 25% growth in the Asian food category is regarded as a great success. The business is in the process of establishing the kaizen culture so that production can be stabilized permanently. This requires leadership that differs from the CEOs of the past. Therefore, we made human resource appointments like this one. In addition, members of Ajinomoto Co., Inc. and Ajinomoto Frozen Foods Co., Inc. have strong know-how on production stabilization. We are also promoting appointment of these human resources. Therefore, we do not expect that the steady growth of sales will collapse.

(Q: I heard that you started increasing prices from April 2018. What effect did this have in the first half of FY2018?)

We increased prices 2 – 3%, mainly in the Asian food category, but the sharp rise in logistics costs exceeded the price increase. This made for a situation where profitability deteriorated even further.