May 15, 2013 / 2:35 AM / in 5 years

Fitch Street InterView: Better News for Japanese Tech Giants

(The following statement was released by the rating agency) SYDNEY, May 14 (Fitch) Fitch Ratings says that Sony Corporation (Sony, BB-/Negative) and Panasonic Corporation (Panasonic, BB/Negative) are slowly on their way to stabilising their credit profiles, but that Sharp Corporation's (Sharp, B-/Rating Watch Negative) liquidity is still a key credit risk. While the companies will generally benefit from depreciation in the yen, this by itself will be insufficient to return the companies to investment-grade. In this Fitch Street InterView, Steve Durose, Fitch's Head of Asia Pacific TMT ratings, answers some key questions about the latest financial results announcements for the Japanese technology sector for the year ended March 2013 (FYE13) and the companies' turnaround strategies. Q How is Sharp going to pay its obligations this year? How is it trying to turn its business around? Sharp's liquidity is precarious as it is currently well short of resources to meet its short-term obligations. As at 31 March 2013, Sharp had debt falling due within one year of JPY924bn, notably including JPY360bn bank debt falling due in June 2013 and a JPY200bn convertible bond due September 2013. The company only had JPY192bn of cash and other liquidity available on 31 March 2013. However, the company reports that its major creditor banks have informally agreed to extend the maturity of the JPY360bn syndicated loan for another two years and to provide an additional facility of JPY150bn. Finalisation of those agreements, which seems likely, will be a key step in improving the company's liquidity position. However, even assuming this bank support, Sharp still has an additional JPY414bn of debt falling due by March 2014. As we expect post-capex cash flow to remain weak, the company's liquidity profile will remain vulnerable. We believe that developing strategic relationships with major clients for its LCD panels will be a key element in Sharp's mid-term strategy revealed yesterday. Its recent agreement to supply panels to Samsung is a good example of securing stable demand which will improve plant utilisation. The company plans to gain four major accounts this fiscal year, which if achieved, will significantly help to curb losses in the LCD panel segment. Q Sony recorded its first annual profit in five years - is the company on its way back? Any improvement is good news but we believe Sony's glory days are well behind it. It is important to note that, excluding Sony Financial Holdings (SFH) and gains on asset sales, the company would have recorded an operating loss of JPY148bn in FYE13. Similarly, the electronics business would have reported an operating loss of JPY184bn, if exceptional items, such as insurance recoveries due to the Thailand floods in 2011 and the gain on the sale of the chemical products related business, were excluded. As the company acknowledges, returning the core electronics business to profitability is Sony's biggest issue. In FYE13, the electronics business comprised 72% of turnover (excluding SFH) but lost JPY135bn. To achieve its FYE14 profit target of JPY100m for the electronics business, Sony is relying on increased sales of high-value added smartphones, PCs and TVs. However, all these markets are tough at the moment with either weak/unproven demand or stronger competitors. We believe that the company will struggle to meet its goals. Reportedly Sony's TV business has not been profitable for nine years, and we are not convinced that the strategy for higher-end products will be a success amid strong competition from Korean brands. Nevertheless, we expect rationalisation will lower costs in this segment. Q Is Panasonic's strategy working? Yes, we believe Panasonic's restructuring strategy is slowly benefitting the business, having raised EBIT margins to 2.2% in FYE13 from only 0.6% in FYE12. This is largely due to losses in its TV/panel operation narrowing to JPY86bn in FYE13 from JPY210bn in FYE12 as the company scaled down its production and increased outsourcing to reduce fixed costs. The company will maintain this approach which should help cut losses further. However, we do not believe it will achieve profitability in this segment in FYE14 as demand will remain weak. Panasonic will spend JPY250bn over the next two financial years on its restructuring programme. The company hopes to turn around unprofitable businesses including TV/panel, mobile phones, and semiconductors by implementing an asset-light approach - consolidating production sites and increasing outsourcing. Restructuring to focus on businesses which can generate cash is certainly a correct strategy; however, without development of leading technology products, the company will struggle to return to investment-grade. We believe Panasonic is in a better position than Sharp and Sony as its other core businesses, such as appliances and eco solutions, have remained stable and fully covered the loss in the TV/panel operation. Therefore, although it will take some time, we expect the company's cash flow from operations to become more stable if the company can reduce its exposure to loss-making divisions over the medium term as planned. Q How do credit markets regard the relative risks of these three companies? The credit default swap market agrees with Fitch's view that Panasonic is the best credit of the three, marginally stronger than Sony, with Sharp being the weakest, by far. Sharp's 5-year JPY CDS have narrowed significantly to around 550bps from their all-time high of around 8,000bps in mid-October 2012. However, despite the improvement, Fitch's CDS implied rating is the same as the actual credit rating of 'B-', indicating that material default risk is present and a limited margin of safety remains. In common with their actual ratings, Panasonic's CDS implied rating is one notch above Sony's. However, for both companies, CDS implied ratings are two notches above Fitch's credit ratings. We believe this differential indicates either that our fundamentals-based analysis of these companies reflects a greater level of risk than the market is pricing at the moment or that supply/demand or other technical features of the CDS market are causing spreads to narrow greater than fundamental cash analysis warrants. Contacts: Steve Durose Senior Director Head of Asia Pacific Telecoms, Media & Technology Ratings +61 2 8256 0307 Matt Jamieson Head of APAC Research, Corporate Ratings Group +61 2 8256 0366 Media Relations: Wai Lun Wan, Hong Kong, Tel: +852 2263 9935, Email: Additional information is available at Related Research: "Fitch Street InterView: Japanese Tech Giants - Fallen Angels", dated 22 November 2012 ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: here. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEBSITE 'WWW.FITCHRATINGS.COM'. PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE 'CODE OF CONDUCT' SECTION OF THIS SITE. 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