Investor Relations

[1st Half of fiscal 2003 Performance Briefing]Q&A

Q1. Looking at quarterly sales trends, sales of electronic materials and electronic devices have been declining since peaking in the first quarter. Are prices a major cause? And, if possible, please comment on price discounts and the outlook for discounts for capacitors, ferrite cores, magnets, high-frequency components and other major products.
A1. In electronic components, high-frequency components are being most affected by price discounts. Although we cannot reveal discounting information by quarter, we can say that discounts were 20% greater in the first half of this year than in the first half of the previous fiscal year. In this year's second half, as was just explained, we are now conducting annual negotiations, so the outlook remains uncertain. However, we believe that there will be discounts of about 15%. This discount is in comparison with prices for the same period last year, a time when there were already significant discounts in place.

Turning to capacitors, price discounts were 12% to 15% compared with prices for the same period of the previous year. In this year's second half, we expect discounts to be about 10%, again relative to prices in the second half of the past fiscal year. Since we had already implemented significant discounts in last year's second half, discounting will probably be 5% to 6% relative to the first half of this fiscal year.

In HDD heads, discounting was 7.7% relative to last year's first half. In this year's second half, as General Manager Kamigama just explained, we will be shifting from 60GB/P to 80GB/P devices. As the technology involved is more difficult, and because demand is winding down for 40GB/P products, currently the mainstream of the market, we believe that discounting may not be significant.
Q2. Regarding HDD head shipment and sales volumes, how do this year's second, third and fourth quarters compare with the first quarter?
A2. If we index first-quarter results at 100, the second and third quarters would be 110. The fourth quarter will probably decline somewhat to about 102.
Q3. Based on your explanation of recording devices sales, it appears that you are expecting a considerable increase in sales from the second to third quarter. Does your outlook for flat volume mean that you are expecting a large increase in average prices?
A3. The average unit price will increase due to a changing product mix. This relates to high-value-added HSA products accounting for a greater share of shipments. So our outlook is not predicated on an increase in sales prices.
Q4. It appears that discounting pressure has been intense. How did this affect profitability of capacitors in the second quarter? And what is your outlook for the third and fourth quarters?
A4. The operating income margin for capacitors in the second quarter was several percentage points lower than in the first quarter. We expect that the margin will remain level in the third and fourth quarters.
Q5. Have you made significant progress toward stabilizing the formation of the barrier layer on the TMR head, which is now under development?
A5. As you stated, the barrier layer is a critical element of this head. We have done much work in this field and feel that technical issues have been solved.
Q6. Your outlook for annual structural reform expenses is the same as at the previous earnings release. How are these expenses divided between the third and fourth quarters? And how do you plan to divide these expenses between costs and restructuring costs?
A6. We plan to post ¥1.7 billion in structural reform expenses in the third quarter and ¥1.8 billion in the fourth quarter. We expect that about ¥0.2 billion of this amount will be included in the cost of sales in each of these two quarters.
Q7. You have announced your forecast for operating income in the third quarter and second half. Would you give us an idea of how this income is divided between the electronic materials and components and recording media & systems segments?
A7. We are forecasting ¥6.0 billion in total operating income in the third quarter, an estimate that is based on a return to profitability of the recording media & systems segment. However, almost all third-quarter operating income will probably come from electronic materials and components.
Q8. In your discussion of progress with selection and concentration on strategic products, you provided an explanation of products representing ¥61.0 billion in sales. Would you comment on the profitability of these products?
A8. Our plan at the beginning of this year was to at least reach a break-even level. This is because many of these products produced losses in the previous fiscal year. Because of this, we have established themes aimed at returning them to the black. Nevertheless, as was stated earlier, we need to discontinue products where we are unable to successfully implement these themes. These decisions have affected products generating sales of about ¥5 billion. We have not reached conclusions regarding the other products. However, we will need to stop production of some of these products by the end of the current fiscal year if we are unable to meet our targets.
Q9. Would you provide an idea of how you could categorize the ¥61 billion of products in the Critical Business Units? What are the major products?
A9. We have many problems involving profitability with regard to high-frequency components and components for optical products.
Q10. If demand for HDD heads remains flat next year, what are the chances that TDK's market share would rise? In such an environment, can we assume that TDK's profit margins would improve? Or would you have to work hard just to maintain your profit margin? What are your plans for HDD heads?
A10. Our strategy is to raise sales by further increasing our market share. However, I cannot reveal our specific plans for competitive reasons. Regarding profitability, we believe that we must achieve a double-digit operating income margin as a member of the high-tech industry. Our plans are focused on reaching this level.
Q11. What do you regard as a suitable operating income margin for ferrite cores within the electronic materials sector and high-frequency components and inductive devices within the electronic devices sector? Also, what are your plans for the next year or so to raise the margin to that level?
A11. Profit margins for ferrite cores were much higher in this year's first half than in the first half of last year. For EMC products, we believe that the profit margin should be at least 15%. For large ferrite cores, pressure from China is fierce, and we continue to shift our own production to China, a process that will be largely completed by the end of this year. We believe that the profit margin should be at least 10% for these cores.

Profitability is extremely poor for high-frequency components. Since we were not among the first to enter the communications market, we initially began offering a broad range of products. Now, we are focusing only on components that fully reflect TDK's unique strengths. Here, the minimum level of profitability is the cost of capital, which is 8%. We are currently formulating initiatives aimed at achieving returns above this level. But our competitors in high-frequency components are formidable and pricing is difficult. Despite these challenges, our target remains a margin of at least 8%.
Q12. I know it's difficult to talk about the next fiscal year now, but if we assume that sales are flat, where should we look for improvements in earnings?
A12. Our target is a double-digit operating income margin, a level we regard as essential for a member of the high-tech industry. We are now preparing a plan for next year in which we will aim to achieve this level.

One contributor to an upturn in earnings will be the absence of structural reform expenses. Also, we will either make improvements in poorly performing products or stop making them. This will improve our variable expense ratio. Furthermore, we are consolidating our far-flung overseas bases and taking other steps to cut fixed expenses.

Our fundamental view of next year is that it will be a time when we resume our growth. Consequently, we plan to increase sales while placing emphasis on the three strategic fields that were discussed earlier, and expect to see improvements in earnings from products in these fields. Although I cannot give you a specific profit margin at this time, our goal is to generate a margin that would position us as a highly profitable company.
Q13. On page 7 of the materials you provided, there is a breakdown of the change in operating income relative to last year's first half. You state that rationalization actions had a positive impact of ¥34 billion. Could you provide more details about this figure? Also, do you have estimates for the breakdown of operating income changes for the full fiscal year?
A13. The ¥34 billion figure represents ¥12 billion from discounts on materials we procure, ¥8 billion from cost reductions, ¥6 billion from labor costs, and ¥8 billion in savings from streamlining actions such as raising production yields.

For the full fiscal year, we do not have a precise breakdown of factors affecting operating income, but I can give you a general idea. In both the first half and full year, discounts on sales prices will have a severe impact on operating income. The ¥29.4 billion negative impact of discounts in the first half therefore leads us to estimate a full-year impact of about ¥60 billion. Structural reform expenses will fall from last year's ¥36.1 billion to ¥8.5 billion, an improvement of about ¥27.6 billion. Regarding fixed costs, we plan to achieve a reduction in personnel and other items of about ¥37.5 billion. Streamlining and cost containment initiatives will probably contribute about ¥60 billion.
Q14. At the first-quarter earnings release on August 1, you stated that 40GB/P products accounted for 90% of HDD head sales in the first quarter and estimated that this figure would fall to 65% in the second quarter. Would you provide us with results through October 31 and figures for the second, third and fourth quarters?
A14. The share of 40GB/P heads in the second quarter was 73%, somewhat higher than our 65% forecast. We have revised our third-quarter estimate from 30% to 43% and our fourth-quarter estimate from 20% to 16%. 60GB/P and 80GB/P heads will account for the remainder.
Q15. Would you comment on how you are approaching captive makers, buyers of HDD heads who also produce heads in-house?
A15. I am unable to talk about relationships with individual companies. I can say, though, that we are proceeding as planned.
Q16. You have stated in your development plans that you intend to have both GMR and TMR 120GB/P heads. Is this merely to hedge your risks because the technological outlook isn't clear yet? Or are there other technological reasons for the need for two heads, such as compatibility with disks? Finally, please provide us with a roadmap for post-120GB/P technology.
A16. We are developing GMR and TMR versions of 120GB/P heads because customers of ours who can use TMR technology asked us to develop this head. Since we believe that some manufacturers will be unable to use TMR technology, we are also working on a GMR version. Manufacturers unable to use TMR will ultimately be asked to downgrade to 80GB/P and 60GB/P heads to prevent a decline in their HDD production yields. We believe this will lead to a reduction in the relative share of 120GB/P heads shipped.

Regarding our technology roadmap, we think that we will be able to develop a TMR 160GB/P HDD head for conventional longitudinal recording. However, longitudinal recording is impractical for next-generation 240GB/P heads and future models. We believe this will make it necessary to study perpendicular recording and other new types of recording methods.
Q17. I think there is currently one HDD head user that does not do business with TDK. With no prospects for growth in demand for HDD heads, will TDK need to start doing business with this company? What is your view?
A17. I'm sorry, but I am unable to comment on relationships with specific companies.
Q18. You stated that structural reform expenses, including restructuring costs, totaled ¥3.2 billion in the second quarter. Would you give us a breakdown of these expenses for the electronic materials and components and recording media & systems segments?
A18. Structural reform expenses were about ¥2.4 billion for electronic materials and components and about ¥0.8 billion for recording media & systems.
Q19. Although I can't be precise because I don't know first-quarter profit structure reform expenses, would it be correct to say that, if these expenses are excluded, electronic materials and components' operating income would have been the same in the first and second quarters?
A19. Yes, that's correct.
Q20. Looking at first- and second-quarter results in the electronic materials and components segment, second-quarter sales were down about ¥2 billion but, despite the yen's appreciation, operating income was effectively unchanged. Were HDD heads the main reason? And was operating income for other products flat or lower?
A20. Within the electronic materials and components segment, operating income of recording devices increased. Elsewhere, operating income was higher for some products and lower for others.
Q21. This improvement means that results in the recording media & systems segment were much worse. Can you tell us why? And will seasonable factors be responsible for the third quarter return to the black?
A21. Profit structure reform expenses in the recording media & systems segment were ¥200 million in the first quarter and ¥800 million in the second quarter for a total of ¥1 billion in the first half. These expenses were thus responsible for the loss in this segment. Recently, the impact of seasonal factors has become minimal. Even so, third-quarter sales tend to be the highest of the year, so we are projecting a profit.
Q22. After excluding structural reform expenses from recording media & systems results, second-quarter operating income was about ¥1 billion lower than in the first quarter. What caused this?
A22 Several factories, especially in Europe, did not operate in the month of August. The lower capacity utilization rates brought down profit margins. Orders rose in September, irrespective of the decline in seasonal factors affecting demand, and the capacity utilization rates are improving, indicating that profit margins will improve in the third quarter.
Q23. Looking at first-half results and full-year and second-half plans, there are no significant differences from figures that had already been announced. This time, TDK is making only minor adjustments to estimates. Does this mean that there have been no major changes in any product category?
A23. There have basically been no major changes. Looking at the first and second halves, HDD head sales will be strong, but sales of other electronic components will be slightly lower.
Q24. TDK has been conducting profit structure reforms continuously since the prior fiscal year. Are there benefits that go beyond a decline in headcount and other numerical changes, for example greater speed or better communication among divisions? Please provide us with a sense of what's happening?
A24. I am currently in the process of visiting many of our domestic and overseas operating bases. The biggest change I've seen is a sharp increase in the awareness of front-line personnel of the importance of reducing production lead times. In terms of numbers, this progress is evident in the form of lower inventories. I've also noticed that mid-level managers and supervisors are talking a lot more about cash flows. But much of TDK is still aligned with the business cycles of the analog age. We need to use dialogue and other means to alter this perception. Our people need to be able to compete in this age of digital technology and borderless markets. We are only part way along on this process. However, I feel that we have gained much more speed. For instance, people better understand the need to develop products faster. I'm seeing development themes addressed ahead of schedule, demonstrating that TDK is now moving much faster than before.
Q25. You noted that TDK is facing intense competitive forces. It's difficult in today's market to generate a profit unless you have a product with a significant market share. Other than HDD heads and capacitors, what TDK products have the potential of capturing the needed market share?
A25. Right now, competition is intense in all three growth fields we are targeting (IT Home Electronics Appliances; High-Speed, Large-Capacity Networks; and Car Electronics). We must have products that are cash cows. I think our ferrite products, inductive devices and DC-DC converters can all become such products. In fact, we have been recapturing market share by altering materials and through other means. Forward-looking themes are important, but we are working even harder at channeling more resources to strategic products in existing fields of business and technology. In this way, I hope to commercialize products quickly. We will provide information on specific themes, including numbers, in our next business plan.
Q26. Is the reason for the projected second-half decline in electronic component sales lower unit prices or lower volume?
A26. In our forecast for the second half, we foresee no significant downturn in volume compared with our previous projection. In general, demand for our electronic components tends to be lower in the second half of each fiscal year. In addition, we expect more pressure on unit prices. These two factors led to our forecast of lower sales.
Q27. If first-quarter capacitor shipments were 100, how would you characterize capacitor volume for the remaining three quarters?
A27. The second quarter was down slightly and the third and fourth quarters will probably be about 100.
Q28. You stated that, placing HDD head shipments at 100 in the first quarter, these shipments would be 110 in the second and third quarters and 102 in the fourth quarter. Why do you expect this fourth-quarter decline?
A28. We believe that our third-quarter HDD head shipment volume will be up about 50% because three 60GB/P heads are needed to produce one 80GB HDD. In the fourth quarter, we will begin full-scale production of 80GB/P heads, meaning that each HDD will need only two heads. This is expected to reduce shipment volumes. We also foresee inventory reductions by our customers.
Q29. You explained that capacitor unit prices fell by 12% to 15% in the first half. How did you obtain these figures?
A29. Unit price declines are based on year-on-year comparisons for each item. We then calculate a weighted average to obtain the final figure. Our capacitor strategy is to produce as few general-purpose capacitors as possible. We want to increase the average unit price by shifting more output to versions with high and very high capacities. The decrease is explained by a bigger fall in the unit prices of high and very high capacity capacitors. Looking at earnings, though, I think our strategy of shifting to higher-end versions is correct. Against this backdrop, there was a decline in capacitor unit prices of roughly 12% to 15%.