Q&A from Small Meeting with President (Jun. 6-7, 2016 )

We expect sales prices for our animal nutrition products to continue rising in the second half of fiscal 2016. Our forecasts therefore assume an average price over the full year that is higher than current prices. April results were negatively affected by the adverse impact of yen appreciation on the yen-based results of international seasonings and processed foods business, putting us somewhat behind the pace needed to achieve our full-year targets. However, on a local-currency basis, we saw solid growth for our umami seasoning AJI-NO-MOTO® and flavor seasonings. Solid sales growth was also seen for menu-specific seasonings, sales of which are about 20% those of flavor seasonings.

I believe we must give greater thought to what specific goals we want to achieve, including in the ESG domain, as we strive to become one of the Global Top 10 food makers. Looking at the current top 10, I think the companies ranked from third to tenth are all very unique companies. Ajinomoto also has many unique characteristics. Through cooking foods and enjoying food services, eating well balanced meals all contribute to people’s healthy nutrition. I think there is an approach appropriate for a food maker with its roots in Japan, and I think we still have much to do in that area. It is not enough just to provide good products at affordable prices. It is also important for us to make a greater contribution to society in the area of nutrition in particular. I think Ajinomoto can achieve further growth by contributing to healthy nutrition in the countries and regions of the world where we operate and by delivering value goes beyond the provision of products that introduce Japan’s food culture to the world. Toward that goal, we must build stronger ties not just with our customers but with governments and other institutions.

We have been expanding our B2B2C business in an effort to turn our restaurant and institutional-use business into a business that can achieve high sales and profit growth. Our particular strengths lie in the ingredients for preparing rice and meat. The ingredients for preparing rice used in convenience store bentos (meals in a box) and rice balls that preserve the freshness and softness of the rice for several hours. Our ingredients for preparing meat for use with meat not only tenderize the meat but do so while preserving the meat’s fibrous quality and locking in its juiciness. I think these products will help broaden the market.

Following its merger with Windsor Quality Holdings in fiscal 2015, AWI began distributing Ajinomoto products. Its sales have increased as a result. AWI reduced its SKUs by about 150 by eliminating low-margin products, but its strong fiscal 2015 results were supported by sales of products of the former Ajinomoto Frozen Foods USA, which fully covered the loss of sales of discontinued products. In fiscal 2016, we forecast flat sales at Windsor because the company will make further drastic reductions in SKUs. That effort began this April and May, and we have positioned fiscal 2016 as a year of structural reforms at AWI. In June, Ajinomoto Toyo Frozen Noodles Inc. began operating a frozen noodles factory in Portland, in a tie-up with Toyo Suisan. In September, AWI will start production of frozen rice products at a new plant in the eastern part of the United States. While these new plants will have a major positive impact on sales, the structural reforms are expected to reduce sales by about the same amount.

Only a few other countries are putting up results that can be compared with the Five Stars. That group includes Peru, Nigeria, and Malaysia. Excluding extraordinary factors of Nigeria, they are putting up double-digit growth that rivals the growth rates at the Five Stars. Growth prospects in Peru and Malaysia, however, are hampered by their relatively small populations. In Malaysia, we are selling Halal-certified products in Islamic communities. Sales are also being boosted by exports of locally produced products. We plan to open offices in Muslim countries such as Egypt and Turkey and will establish a joint venture in Pakistan in July 2016. We also have started up a new company in Myanmar, to which we have been supplying products via exports from Thailand. We expect each of these countries to eventually generate about \10 billion. Pakistan, meanwhile, will cease its reliance on MSG and continue to grow its business by tying up with local companies that have strong sales channels.

We are aiming to enter the top 10 of global food makers by around 2020 and will be carrying out selective and concentrated investments to realize that goal. At present, we see the International Food Products business as a key driver for achieving that goal. Looking beyond 2020, we are investing in cell culture media in the Healthcare segment and the Contract Development and Manufacturing Organization (CDMO) business in the biopharmaceutical domain. Basically, we will stay with this direction and make every effort to reach our goals. In emerging countries, we plan to expand the product portfolio from our food products business while these markets are in their growth phase. At present, our seasonings lineups are strong and we have launched some processed foods, but we still have many business opportunities to pursue. For example, we just started up a frozen bread operation in Indonesia in March 2016. Going forward, we want to expand the local markets for quick meal products. We plan to do so by utilizing technologies developed in Japan and, where necessary, supplementing our capabilities by tying up with local companies. We think now is the opportune time to use these two methods to expand our product portfolio in overseas markets.

We will make forward-looking investments. We recently acquired the US bio venture company Althea, but we do not expect that investment to generate an immediate return. Unlike foods, the healthcare business is not a slow and steady growth business. Rather, sales tend to expand sharply upon the market launch of new drugs. We therefore acquired a company with the expertise and technologies.

Americans are keen to adopt new foods into their diet. However, Japanese food in America is not exactly the same as in Japan. They are eating Japanese foods that suit their tastes. We plan to expand our frozen noodle business by providing ramen noodle with flavors that Americans like. Americans tend to spend freely on foods that suit their taste, so we see plenty of opportunities to increase sales of Japanese and Asian foods. Our current sales of around \100 billion represent a rather small chunk of the overall US frozen foods market. We hope to double that figure by shifting our product lineup to premium products.

The best way to increase gross profit margin is to increase the unit price per serving. Coffee beans are the most expensive ingredient in our coffee products, followed by milk and sugar. Stick-packaged products carry higher margins than other instant coffees. Expanding sales of our 3-in-1 (stick) coffee products and other personal regular coffee will most likely raise the operating profit margin of our coffee business.

Yes, coffee products’ operating margin fluctuates from quarter to quarter. This is due to the strength of AGF’s gift products and the resulting strong sales seen during the summer and year-end gift-giving seasons. In particular, the second quarter, which includes the summer gift season, is a high demand period, which increases both sales and expenses. As for the third and fourth quarters, it should be noted that the December high-demand season sharply boosts third-quarter sales but that related expenses are booked in January, which is in the fourth quarter. As a result, operating margin is less in the fourth quarter than in the third quarter. In October 2015 we launched our new brand, Sen. After Sen had penetrated retail distribution channels, we promoted a marketing campaign in the fourth quarter, with that investment being the main reason for lower profits in that quarter.

I would say that our biggest accomplishment is achievement of the FY2014–2016 Medium-Term Management Plan’s operating income goal a year early. While that result was accomplished with some help from forex trends and lower raw material prices, it also represents the steady strengthening of the earnings capabilities in our core businesses.
However, more recent forex and raw material price trends represent a headwind that we expect will keep fiscal 2016 operating income at around the previous year’s level. In addition, because our profits are easily affected by the external environment, I see some issues with our ability to sustain growth. Another structural issue is the weak growth of ROE and EPS, which I think indicates we still need to improve our ability to grow earnings at the net income level.

The evolution of our business always creates new challenges for management, so the need for further structural reforms remains. For example, the current Medium-Term Plan designated pharmaceuticals as a business with structural issues. We are still working to resolve those issues. Reform does not mean simply cutting off a business. Rather we seek to improve the business’ growth potential by making appropriate use of our assets. In the case of the pharmaceuticals business, this means moving from a commodity business to a specialty business. Our pharmaceuticals business has designated gastrointestinal diseases as a priority area. At the same time, it is expanding its sales network overseas and strengthening its product pipeline with the goal of increasing its market influence in the specialty pharma area, where we are partnering with Eisai Co.Ltd.

We have yet to complete the accounting treatment of this business transfer (purchase price allocation). I cannot provide you with details at this time because the amounts for amortization of goodwill and other intangible assets has not yet been determined. Our current forecasts assume such income will be included on a net income basis under the Others business segment. We expect any equity-method income to be offset by losses at the remaining part of our pharmaceuticals business.

I do not see any particular problems in our transition to specialty products. However, I must admit we are behind schedule in our effort to increase specialty products' share of operating income to 50%.We fell short of our \6.5 billion operating income goal for fiscal 2015, and also did not reach our target for the share of operating income generated by specialty products. We have mentioned AjiPro®-L as the poster-child for our shift to specialty products. However, this is a new product and it is taking us longer than planned to reach our goal. That said, we are making steady progress in market penetration, ratio of repeat users is very high. In fiscal 2016, we have disclosed for the first time a target for volume sales of AjiPro®-L (6,500t), we will be making every effort to achieve that goal.

The MAXIM® and Blendy® brands are already firmly established. Blendy® in particular also comes in stick version. MAXIM® is a leading instant coffee brand but its market is shrinking. While MAXIM® sales are contracting, Blendy® sales continue to expand. Our focus now is on nurturing our in-house brand Sen. Our expectations for AGF is that it will introduce its technologies into countries where we have already established our coffee and powdered drink businesses while also supporting our market entry into countries we have yet to enter. We are already selling our in-house brands overseas and do not need to rely on MAXIM® and Blendy®.

At our Japan food products business, we plan to strengthen our capabilities as a total deliciousness coordinator. We develop proprietary kokumi substance, and we do not sell these ingredients to the outside market. We are also engaged in the joint development of natural flavors with T.HASEGAWA CO., LTD. in order to expand our deliciousness domains. With the domestic market undoubtedly shrinking, we must rapidly expand our market share. We will not limit our efforts to B2C sales channels but also pursue opportunities in the B2B2C channel. Moreover, we are not limiting our business to final products but instead are also engaged in joint development with convenience stores and others. Related sales are small in scale but very profitable. Moreover, once a partner adopts our ingredient it is very rare for it to seek an alternative. B2C products and products targeted at food services are both characterized by a large number of product categories and low margins. We therefore are seeking to raise production efficiency by speeding up production processes and using more automation.

I think we will be focusing more on our growth rate. Excluding the expense of amortizing goodwill from the Windsor and AGF, operating income is near \100 billion, indicating the increased ability of our core businesses to generate profits. Meanwhile, while Windsor is in the midst of structural reforms, AGF is implementing measures targeting growth more than structural reform, as it strengthens its ability to generate profits. Our operating income target of \150 billion in 2020 or later is not an ultimate goal. Our cell culture media business has invested in a Korean bio venture, and we acquired Althea, Inc. in anticipation of an expansion of the antibody drug business. We see these as growth businesses. While we are just barely into the development phase, we think they will become large businesses in the 2020s. More than simply achieving operating income of \150 billion, we plan to invest to create businesses capable of contributing to stable growth even after we reach that milestone. Operating income of \150 billion would get us into the Global Top 10. Considering earnings volatility caused by the existence of fermentation material, we need to achieve operating income of \180–200 billion if we expect to get a position in the Top 10. We are therefore making plans to achieve that goal as part of our FY2017–2019 Medium-Term Plan.

Yes, the buy-side and sell-side seem to have different perspectives. The sell-side is more interested in near-term earnings, the price of feed-use amino acids, and our progress in attaining KPIs and other metrics. Both sides are showing a greater awareness of Environment, Social and Corporate Governance (ESG). While ESG is not something that can be evaluated numerically on a quarterly basis, I believe that the relationship between ESG and earnings can be evaluated by reviewing the progress toward corporate goals as indicated in interim and full-year results. The content of our talks with market participants may change after we announce our FY2017–2019 Medium-Term Plan.

Yes. In particular, we do not expect antibody drugs to contribute to earnings until after 2020. Even after entering Phase 3 clinical trials, it will be quite a while before we reach the commercialization stage. On the other hand, we expect cell cultures to contribute to earnings during the tenure of the FY2017–2019 Medium-Term Plan. However, that contribution is expected to come from cell culture media used in biopharmaceuticals. It will be a bit longer until we see a contribution from the iPS cell culture medium. As we hope to gain the market’s understanding of related upfront investments, we have for the first time provided a breakdown of the composition of sales accounted for by pharmaceutical-use amino acids and food-use amino acids.

Our basic seasoning sales and market share have been rising in both Thailand and Brazil. Competition is intense in the markets for coffee and powdered juice drinks, which have relatively low positions in those markets. Competitive conditions vary from country to country or region to region, but we are sustaining growth in sales of our core seasoning products in all countries. That said, we cannot depend solely on our seasonings forever. We must increase our market shares for other processed foods.
When considering exactly how we should go about doing that, I see many opportunities for us to leverage AGF’s technologies in our drinks and powdered drinks business. We must not only provide consumers with superior tasting product but also with easier-to-use products. This is an area where I feel we have a distinct competitive advantage. For example, Japanese Blendy® dissolves quickly even in cold water. This feature comes from a unique AGF technology that is used in our stick coffee and powdered tea products. The technology’s overwhelmingly fast dissolution capability is a key source of product differentiation.

We have been promoting a three linked areas of reform. We realize that exceptional people working in an outdated corporate environment will not be able to perform to their full potential. We must also speed up the decision-making process in every country where we have operations in order to accelerate the growth process. We therefore have been revising rules as well as organizational structures and our human resource.

The FY2017–2019 Medium-Term Plan must include an extremely sound financial strategy. The FY2014–2016 plan targeted a total shareholder’s return of over 50%, and I would like to maintain that guideline.

The promotion of globalization must be accompanied by the promotion of diversity in our ranks. We recognize the need to create an organizational structure that promotes not only gender equality but also recognizes and appreciates a wide range skills and talents. A global workforce is meaningless if employees are not able to fully utilize their skills. Each region has its own cash-cow group company, and the growth of the Ajinomoto Group as a whole depends on the growth of each of these companies. For that reason, we have been delegating greater authority to these Group companies, which has resulted in speedier decision-making at the local level. We will continue to promote globalization through our three-pronged reform of rules, our human resource, and our organizational structure. We are also strengthening our management and enforcement structures. In April 2016 we put into place a new Global Governance Policy that clearly stipulates all corporate rules and provides local subsidiaries with an easy-to-understand outline of report content and methods for filing reports with Group headquarters. To strengthen our corporate organization’s ability to support growth on a global basis, we established a Global HR management Department capable of managing talent around the world and a Global Communication Department responsible for our corporate public relations. In preparation for our FY2017–2019 Medium-Term Plan, we must gain recognition in every region we have operations of the value we provide to the wider society. Toward that end, we are making preparations to strengthen the PR function of the entire Ajinomoto Group. From fiscal 2017, corporate departments other than those just mentioned will also be expected to strengthen functions that support global growth. No matter what kind of people we hire, it will be easy to promote diversity if we have a clearly stated set of rules.

The so-called Five Stars account for nearly 90% of the operating income of our international seasoning and processed foods business. Thailand alone accounts for more than half. The other four Five Stars countries are posting growth rates in the mid-teens and some additional investment will be required. Our Indonesian business is expanding rapidly on a local-currency basis, so we are increasing local production of our flavor seasonings. We think Indonesia eventually will become the world’s largest market for flavor seasonings. We see potential for expanding our product portfolio and have particularly high expectations for frozen bread products. The situation is largely the same in Vietnam and Brazil. In Brazil, our search for new business opportunities includes some non-continuous growth projects. In Thailand, we are expanding our product portfolio from canned coffee to powdered drinks, health drinks, and instant noodles. The already large scale of our Thai business may make it difficult to post high growth rates, but Thailand presents opportunities that do not exist in other countries. We have established Ajinomoto SEA Regional Headquarters Co., Ltd. in Thailand to oversee our businesses in neighboring countries and promote further expansion of those businesses. For example, our reentry into Myanmar and formation of a joint venture in Pakistan were orchestrated by this company in Thailand. It is also overseeing our development of Halal products. These products are being made in Malaysia, but the thinking behind their development emanates from Thailand, which has assumed the leadership role in our expansion in Southeast Asia.

First, these measures are being undertaken only at the Ajinomoto parent company. Of course, I would also like to see their eventual introduction at AGF and Ajinomoto Frozen Foods, both of which are fully equipped with all functions needed to carry out their business. Other group companies are so-called function companies that perform a specific function required by Ajinomoto. Also, even if the Ajinomoto headquarters can introduce a seven-hour workday, it may be difficult to do so at some sales offices or production sites. In such cases, moving toward a seven-hour work day may have to be accomplished in stages for each function. From fiscal 2017 we will reduce the prescribed working day by 20 minutes on a trial basis and study the issues that arise at each function. At present, we expect the reduction in working hours will cause the most difficulties in production divisions. To revise the three-shift production system without greatly changing costs, we may have to make capital investments to improve efficiency. To increase the profitability of Group operations in Japan, we need to consider the best way to turn our many, widely distributed production facilities into a more compact production network. During the tenure of the FY2017–2019 Medium-Term Plan, we hope to draw even a little bit closer to our goal of a seven-hour work day in 2020.

Yes, emerging economies are being buffeted by currency fluctuations and the economic ups and downs of major economic powers, such as the US, China and Japan. The high growth enjoyed to date in many of these emerging nations was given a big boost by resources business. Our foods business, however, is a more firmly grounded business. For us, the biggest positive impact of the economic tailwind provided by resources business in emerging nations was the emergence of a growing middle class. However, the period of rapid economic growth in the BRICs countries did not give rise to a significant expansion in food sales. Inflationary conditions in these countries forced us to raise prices, which resulted in double-digit sales growth. However, the increase in real demand as indicated by volume sales is in the mid single-digit range. While this situation continues, we must promote expansion of our business portfolio as the next source of profits. Considering the current situation, the only regional market we see as a risk area is Nigeria. Terrorism is restricting our business activities in Nigeria, but we think the situation will change in about six months. In addition, low crude oil prices have depleted Nigeria’s foreign-currency reserves, raising concerns about its ability to pay for raw materials. We are therefore limiting our exports to Nigeria. We must keep a close eye on country risk and economic conditions in Nigeria. Meanwhile, we have decided to re-enter Myanmar, but this decision is not based on any particular unexpected changes in the country.

We made ratifications to our corporate governance code during fiscal 2015, but we are still considering ways to improve the effectiveness of our Board of Directors. I believe that effectiveness is currently in line with the standards seen at most listed companies in Japan. We have three outside directors on our 14-member Board of Directors. These outside directors now have more opportunities to speak at Board meetings and their opinions have produced some changes in our strategies. Still, I see further room for improving the nature of our Board of Directors.

Yes, I think it is possible to improve profitability, although it may depend on management accounting practices. At present, we are burdened by a widely dispersed network of inefficient, old production facilities which have been fully depreciated. I believe our profitability will improve if we reconfigure our production facilities into a more compact network with all facilities located in closer proximity to each other. Our direction going forward will therefore be to improve profitability by increasing efficiency.

This is a question of which countries are the breadwinners in Ajinomoto Group. Japan, with a population of over 100 million, is definitely a cash cow at this point in time. However, theoretically speaking, I think it would be more appropriate to have a country with a larger population as our main breadwinner. Looking solely at our seasonings business, our current operating profit margin places us among the global leaders. However, we must win the competition not on a global level but on a local level across many countries.