Nippon Paint : FY2021 1Q Financial Results Conference Call Q&A Summary 282KB

FY2021 1Q Financial Results Conference Call Q&A Summary

(May 14, 2021)

• Questions by Takashi Enomoto, BofA Securities Japan Co., Ltd.

Q1 Please tell us your stance on price hikes to respond to raw material price increases. Your competitors have announced that they can expect to absorb the impact of raw material price increases through price hikes for products and cost reductions. How are you coping with the raw material price increases? Please also tell us which business segments or regions could be affected by the raw material price increases or where you would not be able to easily pass on the higher cost of raw materials.

A1 All paint manufacturers use the same raw materials, so we are basically under the same conditions. We are not planning on price hikes to pass on raw material price increases in order to absorb the impact of these increases. Rather, we will use different strategies from region to region by taking into consideration our positioning based on the competitive landscape. The ease of raising prices of our products to pass on the higher cost of raw materials differs depending on market share. Therefore, it would be misleading to give you strategies for individual regions and segments.

However, as I have stated on many occasions, we can achieve our KPI only by increasing our net profit through price hikes and cost reductions, in addition to increasing revenue. So, we are working on absorbing the impact of raw material price increases.

One more point is that the severe cold wave in North America has made it difficult to procure some raw materials. We are coping with shortages of raw materials by taking actions such as using substitutes and allocating raw materials among our operating regions in the best possible manner. We expect that our competitors are taking similar actions. We are committed to achieve the FY2021 guidance and the goals of the new Medium-Term Plan. We are determined to deal with raw material price increases while retaining our commitment to achieving our goals.

Q2 I believe the Chinese decorative paints business is your focus for market share improvements. Please tell us your price increase strategies for the DIY and Project segments.

A2 I would like to refrain from providing this information. As I have been stating on various occasions, the competitive environment is different in the DIY and Project

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segments. Our strength is our capability to adapt to various situations very quickly and deliver results. Our approach is not to use cut-and-dried strategies for the DIY and Project segments. There is more than one way to deliver results based on our perception of market conditions that is about the same as the views of others. Consequently, we will use various actions to achieve Maximization of Shareholder Value.

• Questions by Tomotaro Sano, JP Morgan Securities Co., Ltd.

Q1 A simple comparison of operating performance between the 1Q of FY2020 and FY2021 may not be appropriate considering the severe impact of COVID last year. While the DIY segment and the Project segment in your Chinese decorative paints business achieved solid revenue growth of 57% and 110%, respectively, year on year, the operating profit margin of the overall Chinese decorative paints business improved by 1.2 percentage points. Could you tell me how much the operating profit margin improved in the DIY and Project segments? Also, you explained earlier in the conference call presentation that the Chinese business was affected slightly by the raw material price increases and that you raised prices of some products in the DIY segment to mitigate the impact. Can we assume that higher raw material prices had a negative impact on the operating profit margin in both the DIY and Project segments?

A1 As you have pointed out, revenue and the operating profit margin in the 1Q of FY2021 were higher than in the 1Q of FY2020, when sales were weak due to the impact of COVID. In China, raw material prices change relatively quickly in response to market price fluctuations. Consequently, we are under profit margin pressure. However, we are managing to absorb the impact of raw material price increases by raising prices with a small time lag and holding down costs.

I cannot disclose information about price sensitivity of the DIY and Project segments, but I can tell you that margin pressure is higher in the Project segment. It is not easy to raise selling prices when we deal directly with our customers. In addition, we have competitors. Therefore, the situation is close to your assumptions to some extent.

• Questions by Atsushi Ikeda, Goldman Sachs Japan Co., Ltd.

Q1 You said that the DIY and Project segments in the Chinese decorative paints

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business achieved significant revenue growth, which resulted in market share gains. Weren't there any special factors, such as front-loaded demand? I think you were able to maintain a very high capacity utilization in the industrial coatings business in the 1Q of this year without any particular impact of the Chinese New Year holiday. How about the situation in the decorative paints business? In China, where COVID infections are under control, do you have some confidence that the strong market trends in both the DIY and Project segments in this year's 1Q will continue in April and afterward? Please explain the market environment and actions you are taking to increase market share in China.

A1 Our Chinese business was severely impacted by COVID in the 1Q of FY2020. However, our revenue in the Chinese business increased significantly compared with the prior-year period because the market has recovered. As you can see in the heat map on page 18 of the presentation, the Chinese decorative paints market is red, showing that the market grew by 10% or more year on year. We expect that some competitors achieved a higher growth, but we believe we surpassed many of our competitors in terms of revenue growth. Market conditions were very strong because March is a peak demand period, not because of any special factors.

Looking ahead to the market conditions in the April-June quarter, we expect that demand momentum will basically remain relatively strong. In addition, we do not expect any incidents that would hold down demand at this time. In the heat map for the 2Q of FY2021 on page 28 of the presentation, the Chinese decorative market is yellow. Based on these assumptions, we are aiming for growth that outpace the market, and we don't see any factors at this time that would prevent us from achieving this goal.

Q2 In addition to the DIY segment, in which you have maintained a very strong market position, what actions have been extremely successful in the Project segment? Please also tell us about market share trends and your outlook for the Project segment.

A2 As I have explained before, the Project market includes new housing as well as a relatively large repainting sector. There are also major renovation and upgrading projects. As a result, our sales channels are expanding. In the Project market, we can take advantage of our comprehensive strengths. As the leader in this market, we have drawn attention to our scale and reliability of operations, which we are sure have helped us to capture new project orders.

As stated on page 21 of the presentation, overall paint demand is robust,

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including for public facilities and security housing, so we see no signs of a slowdown in the growth of the Chinese decorative paint market. Under these market conditions, I believe we have an excellent reputation among our customers for our ability to deliver one-stop solutions and to supply paint and coatings as well as paint-related services.

Q3 Regarding the cost structure of your Chinese business, I think the workforce increase and expansion of sales channels are the reasons for the profit margin decrease in the 1Q of FY2021. Please tell us your outlook for the operating profit margin as the cost of raw materials rises. Can we use the operating profit margin in the 1Q as a benchmark for comparisons with your profitability in the future?

A3 Regarding the 1Q operating profit margin, I have mentioned that the procurement cost of raw materials has increased a little. We expect that we can achieve a slightly higher operating profit margin in the 2Q.

• Questions by Tomomi Fujita, Morgan Stanley MUFG Securities Co., Ltd.

Q1 You did not revise your earnings forecast for FY2021. Based on the 1Q results, I expect that you will be able to achieve your initial guidance easily. Please tell me if you see any downside risks such as a slowdown of growth in China and increases in the cost of raw materials, credit risk, and fixed costs.

A1 Nothing can be achieved easily because earnings are the outcome of our best efforts. Solid sales are a positive factor as overall paint demand is definitely recovering. Although automobile production is failing to keep up with the growth of final demand, we expect that final demand will be relatively high. However, just as with the current semiconductor shortage, we believe that we are constantly vulnerable to supply chain risk factors involving raw materials and that this risk is greater for high-end market sectors like automobiles.

Regarding our costs and operating profit margin in our Chinese business, the existence of competitors in the Project segment does not allow us to easily pass on raw material price increases. Consequently, we are taking various actions to achieve sales and profit growth without depending solely on passing on raw material price increases. Therefore, the risk of a sudden drop in our earnings is not high.

The paint industry is less vulnerable to geopolitical risk involving imports and exports and U.S. relations with China. However, we need to pay close attention to

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these risk factors. We are not seeing any major downside risk that needs to be factored into the current assumptions. Our focus is on how we are going to boost sales under these circumstances.

Q2 According to your explanation in A1, are you saying that you are expecting to achieve your guidance by controlling expenses such as sales promotion expenses because demand is growing? Does that mean you are not worried about the possibility of the need to cut prices and take other actions if demand decreases?

A2 Prices are always a concern. To answer your question in terms of a matter of degree, we do not see a significant risk involving prices.

• Questions by Yoshihiro Azuma, Jeffries (Japan) Limited

Q1 Revenue in your Chinese business looks too high, and I wonder if the final demand really increased that much. How much of a difference is there between final demand and intermediate demand? For instance, the auto industry has a very long supply chain, and each manufacturer in the supply chain accumulates safety inventory. As a result, intermediate demand is higher than final demand in the auto industry. How about the situation in the paint industry?

A1 While I cannot give you a quantitative figure, paint is product that cannot be stored for a long time because it stays good only for a relatively short time. Therefore, I think intermediate demand for paint is largely the same as the final demand.

Nevertheless, as I have mentioned earlier, revenue in the Chinese business in the 1Q of FY2020 fell by about 30% compared with the 1Q of FY2019. So, please remember that the revenue growth in the 1Q of FY2021 is the recovery from the downturn in the 1Q of FY2020.

China's housing floor-area sales and real estate development investments were strong, which I believe is due to the strength of the Chinese market. Thanks to the hard work of our people in China, our Chinese business performed very well, achieving growth that outpaced the strong market growth.

Q2 While I see that you outperformed the market growth in both the DIY and Project segments in China by leveraging your capabilities, please tell me what actions you are taking to win market share in the Project market. According to your earlier explanation, you need brand power to some extent to boost sales in the Project

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