Japan Corporate Credit Spotlight

Makiko Yoshimura Japan Corporate Director Corporate Ratings

Credit Spotlight Katsuyuki Nakai Director October 22, 2020 Corporate Ratings Hiroki Shibata Senior Director Corporate Ratings

Consumer Products; Retail; Health Care; Oil Refining And Mining; General Trading And Investment Companies

This report does not constitute a rating action. Japan Corporate Credit Spotlight

Sector Comments

Pages 3 - 13

Consumer Products

Retail Appendix Health Care Pages 14 - 16

Oil Refining And Mining

General Trading And Investment Companies

All graphics show data for companies studied.

Sector Comments Pages 3 - 13

Consumer Products Outlook: Negative New Lifestyles To Test Companies' Agility

Trend And Changes

– The pandemic-induced blow to finances follows deterioration because of aggressive growth investments. – Demand for home-use consumer products has grown as lifestyles have changed. – Demand will likely diverge significantly unless COVID-19 recedes, with orders robust for household products and weak for commercial ones. – Credit quality in the sector will likely diverge, hinging on ability to respond to changing consumer behavior.

Key Assumptions – Private consumption will continue to slump in Japan, as it will globally, with a growing preference for low-priced goods. – Sales from existing businesses will decline 7% in fiscal 2020 and rise 5% in fiscal 2021. – The average EBITDA margin will be about 17%-18% in fiscals 2020 and 2021, 1-2 points below fiscal 2019 levels. – Investment burdens will remain relatively heavy as companies develop brands and products to cater to new lifestyles. – Debt-to-EBITDA ratios will rise steeply in fiscal 2020 following recent growth investments and declining performance, with financial discipline fueling gradual recovery thereafter.

4 Consumer Products

Risks And Key Credit Drivers:

– Constraints on marketing amid the pandemic, slumping private consumption, and changing consumer behavior. – Product development and marketing strategies in response to consumers' reduced activities. – Balance between growth investments and financial discipline as companies pursue overseas growth amid increasing uncertainty.

Free operating cash flow (left) Tril. ¥ Revenues (left) EBITDA margin (right) % Bil. ¥ x Debt/EBITDA (right) 10.0 25.0 1,200 3.0

1,000 2.5 8.0 20.0

800 2.0 6.0 15.0

600 1.5 4.0 10.0 400 1.0

2.0 5.0 200 0.5

0.0 0.0 0 0.0 2015 2016 2017 2018 2019 2015 2016 2017 2018 2019

Source: S&P Global Ratings. Source: S&P Global Ratings.

5 Retail Outlook: Negative COVID-19 Changes The Landscape Trend And Changes

– COVID-19 has further depressed domestic consumption following the October 2019 consumption tax hike. – Prospects for sustained improvement in consumer sentiment remain bleak until the pandemic subsides. – Global consumption has polarized, with goods such as food and home-use products booming and many others suffering. – Demand from inbound tourists has dried up. – Credit quality will diverge, depending on business format, main products, and e-commerce initiatives.

Key Assumptions

– Real private consumption in Japan will grow 4% in 2021 after dropping 7% in 2020. – Total EBITDA of companies studied will be 5% more in fiscal 2021 than before COVID-19 despite marked divergence between businesses. – Retailers will increase investments in stores to cater to new consumer and social needs plus in technology to strengthen e-commerce operations. – Aggregate debt to EBITDA will worsen further in fiscal 2021 as acquisitions and other growth investments outpace a rebound in EBITDA.

6 Retail

Risks And Key Credit Drivers:

– A resurgence of COVID-19 suppressing business activity and private consumption. – New lifestyles and evolving consumer behavior affecting retail markets. – Effective control of financial risks, such as by securing financial buffers in advance of further waves of the pandemic. – Shifting formats at department stores, which were converting own-sales floor space to leasing space before the pandemic. Free operating cash flow (left) Tril. ¥ Revenues (left) EBITDA margin (right) % Bil. ¥ x Debt/EBITDA (right) 20.0 12.0 1,000 4.0

18.0 900 3.5 10.0 16.0 800 3.0 14.0 700 8.0 2.5 12.0 600 2.0 10.0 6.0 500 1.5 8.0 400 4.0 1.0 6.0 300 4.0 0.5 2.0 200 2.0 100 0.0

0.0 0.0 0 -0.5 2015 2016 2017 2018 2019 2015 2016 2017 2018 2019 Figures are cumulative; exclude J. Front Retailing Co. Ltd. Source: S&P Global Figures are cumulative; exclude J. Front Retailing Co. Ltd. Source: S&P Global Ratings. Ratings.

7 Health Care Outlook: Negative COVID-19 Hits Equipment Earnings; Drugmakers Stay In Heated Race Trend And Changes

– Pressure on global drug prices and increasingly difficult development are likely to spur industry realignment. – COVID-19 has had a limited effect on drug companies but hurt hospital revenues, weighing on the performance of medical equipment companies. – Acquisitions and investments are likely to continue to burden finances and weigh on credit quality. – Capability to generate earnings may continue to lag that of overseas peers unless companies strengthen through acquisitions.

Key Assumptions

– U.S. patient volumes will fall 10%-25% in 2020 and recover slightly in 2021; in Japan they will be largely flat. – The global pharmaceuticals market will grow slightly in the coming one to two years amid pressure on prices. – EBITDA margins will remain steady, averaging at about 25% in fiscal 2020, despite challenging conditions. – Companies in this study that have recently made large acquisitions will reduce debt by selling assets.

8 Health Care

Risks And Key Credit Drivers:

– Integration at companies that have recently made acquisitions, which may be key to stable growth. – Pressure on drug prices and medical costs in the U.S. amid the economic downturn and rising unemployment. – Prospects for improved finances, which have worsened following acquisitions, and companies' approach to future acquisitions.

Free operating cash flow (left) Revenues (left) EBITDA margin (right) Tril. ¥ % Bil. ¥ x Debt/EBITDA (right) 6.0 30.0 800 5.0

25.0 4.0 600 4.0 20.0 3.0

15.0 400 2.0 2.0 10.0 200 1.0 5.0

0.0 0.0 0 0.0 2015 2016 2017 2018 2019 2015 2016 2017 2018 2019

Source: S&P Global Ratings. Source: S&P Global Ratings.

9 Oil Refining And Mining Outlook: Slightly Negative Fall In Petroleum Product Demand To Accelerate Trend And Changes

– Brent crude oil prices of $20-$30 per barrel earlier this year, down from $60-$70 a year earlier, caused a steep drop in earnings at upstream exploration and production businesses. – Reduced refining capacity and consolidations in refining and marketing have stabilized competition in Japan. – The financial standings of the companies in this study are weaker than those of overseas peers, resulting in a continued creditworthiness gap. – Amid continued challenging business conditions, financial management will determine the pressure felt by companies.

Key Assumptions

– Brent crude oil prices recovering to $50 per barrel in 2021-2022. – Domestic petroleum product margins remain favorable amid steady competition, having improved to ¥10 per liter in recent years. – Better energy efficiency and the pandemic will cut Japanese petroleum product demand by nearly 10% year-on-year in fiscal 2020. – Growth investments and shareholder returns will be roughly within operating cash flows.

10 Oil Refining And Mining

Risks And Key Credit Drivers:

– Movement restrictions amid a resurgence of COVID-19 further dampening domestic demand for petroleum products. – Failure of oil prices to recover in 2021-2022 to our assumed levels, setting back financial improvement. – Priorities for cash flow uses, such as growth investments, shareholder returns, and debt reduction.

Free operating cash flow (left) Tril. ¥ Revenues (left) EBITDA margin (right) % Bil. ¥ x Debt/EBITDA (right) 18.0 18.0 600 7.0

16.0 16.0 500 6.0 14.0 14.0 400 5.0 12.0 12.0

10.0 10.0 300 4.0

8.0 8.0 200 3.0 6.0 6.0 100 2.0 4.0 4.0 0 1.0 2.0 2.0

0.0 0.0 -100 0.0 2015 2016 2017 2018 2019 2015 2016 2017 2018 2019

Source: S&P Global Ratings. Source: S&P Global Ratings.

11 General Trading And Investment Companies Outlook: Stable Tighter Squeeze On Finances If Conditions Stay Sour

Trend And Changes

– Conditions are rapidly worsening across the automotive, retail, and various other sectors because of the economic downturn and restrictions on movement. – We expect heavy pressure on income from resource businesses because of weak prices for crude oil and other resources and idled mines and rigs. – Financial buffers of the seven rated general trading and investment companies (GTICs) in this study have shrunk as aggressive growth investments, generous shareholder returns, and lower asset values have hurt their finances. – We have taken negative rating actions on four GTICs so far this year (two downgrades, two outlook revisions) as evolving business conditions have caused weakness amid increasing pressure on credit quality.

Key Assumptions

– Performance will gradually improve as the COVID-19 pandemic recedes. – GTICs will continue to manage their finances conservatively, keeping growth investments and shareholder returns within operating cash flow amid challenging business conditions. – The average return on risk-weighted assets of the GTICs studied will drop below 10% in fiscal 2020 and recover in fiscal 2021 to near fiscal 2019 levels of 13%. – Financial buffers of the seven GTICs will remain limited because of a muted recovery from fiscal 2019 in their average capital adequacy, which will remain above the level required under our 'BBB' stress scenario.

12 General Trading And Investment Companies

Risks And Key Credit Drivers:

– A resurgence of COVID-19 setting back a recovery in performance that we expect in 2021, heavily weighing on credit quality. – Sluggish demand and prices for crude oil and other resources resulting in impairment losses or weaker profit. – Efforts to improve finances, including investments and reshuffling of assets, shareholder return policies, and issuance or replacement of hybrid securities.

Free cash flow, adjusted (left) Bil. ¥ Net income (left) RORA (right) % Bil. ¥ % Capital adequacy: Stress 'BBB' (right) 2,500 25.0 1,800 180

1,600 160

2,000 20.0 1,400 140

1,200 120 1,500 15.0 1,000 100

800 80 1,000 10.0 600 60

40 500 5.0 400 200 20

0 0.0 0 0 2015 2016 2017 2018 2019 2015 2016 2017 2018 2019

RORA--Return on risk assets. Source: S&P Global Ratings. Source: S&P Global Ratings.

13 Appendix Pages 14 - 16

Business Risk Profile And Financial Risk Profile

Consumer products Rated Business risk profile Financial risk profile Anchor Modifiers or group/govt. Long-term issuer credit rating

Ajinomoto Co. Inc. O Strong Modest a +1 A+

Kirin Holdings Co. Ltd. X Strong Intermediate - - -

Asahi Group Holdings Ltd. X Strong Aggressive - - -

Japan Tobacco Inc. O Strong Minimal aa- - AA-

Suntory Holdings Ltd. O Strong Significant bbb - BBB

Retail Rated Business risk profile Financial risk profile Anchor Modifiers or group/govt. Long-term issuer credit rating

J. Front Retailing Co. Ltd. X Satisfactory Significant - - -

Seven & i Holdings Co. Ltd. O Excellent Modest aa -1 AA-

Pan Pacific International Holdings Corp. X Satisfactory Significant - - -

Aeon Co. Ltd. O Strong Significant bbb - BBB Nitori Holdings Co. Ltd. X Satisfactory Minimal - - -

Fast Retailing Co. Ltd. O Satisfactory Minimal a - A

Health care Rated Business risk profile Financial risk profile Anchor Modifiers or group/govt. Long-term issuer credit rating

Takeda Pharmaceutical Co. Ltd. O Strong Significant bbb +1 BBB+

Astellas Pharma Inc. X Satisfactory Minimal - - -

Olympus Corp. O Satisfactory Minimal a- -1 BBB+

As of Sept. 30, 2020.

15 Business Risk Profile And Financial Risk Profile

Oil refining and mining Rated Business risk profile Financial risk profile Anchor Modifiers or group/govt. Long-term issuer credit rating

Idemitsu Kosan Co. Ltd. X - - - - -

Inpex Corp. O Satisfactory Intermediate bbb +2 A-

ENEOS Holdings Inc. X - - - - -

General trading and investment companies Rated Business risk profile Financial risk profile Anchor Modifiers or group/govt. Long-term issuer credit rating

Sojitz Corp. O Satisfactory Significant bbb- - BBB-

Itochu Corp. O Strong Intermediate a- +1 A Marubeni Corp. O Strong Significant bbb - BBB

Mitsui & Co. Ltd. O Strong Intermediate a- +1 A

Sumitomo Corp. O Strong Intermediate bbb+ - BBB+

Mitsubishi Corp. O Strong Modest a - A

Toyota Tsusho Corp. O Satisfactory Modest bbb+ +2 A

As of Sept. 30, 2020.

16 Related Research

– Japan Tobacco Finance Unit Proposed Subordinated Guaranteed Euro Notes To Be Rated 'A'; Have Intermediate Equity Content, Sept. 30, 2020

– Japan-Based Sumitomo Corp. Downgraded To 'BBB+' On Weak Earnings; Outlook Stable, Aug. 12, 2020

– Japan-Based Seven & I Holdings Placed On CreditWatch Negative On Plan To Buy U.S.-Based Speedway, Aug. 3, 2020

– Japan-Based Sumitomo Corp. Outlook Revised To Negative On Weakening Performance; 'A-/A-2' Ratings Affirmed, July 22, 2020

– Outlook On Japanese General Trading House Sojitz Revised Down To Stable; 'BBB-' Rating Affirmed, July 10, 2020

– Japan-Based Itochu's FamilyMart Bid Is Financially Inconvenient, July 9, 2020

– Japan-Based Takeda's Proposed U.S. Dollar-Denominated And Euro-Denominated Unsecured Notes Rated 'BBB+', June 25 2020

– Mitsubishi Corp.'s Proposed Subordinated Loan Rated 'BBB+', June 17, 2020

– Japan-Based Casio Downgraded To 'BBB' On Slow Earnings Recovery; Outlook Stable, June 11, 2020

– Toyota Tsusho And Reinsurance Unit Downgraded To 'A' After Similar Action On Toyota; Outlook Negative, May 28, 2020

– Pressure To Mount On Mitsubishi Corp. Ratings If Subordinated Notes Are Not Replaced, May 11, 2020

– Suntory Holdings' Subordinated Loans Assessed As Having Intermediate Equity Content, April 24, 2020

– Japan Retailer AEON And Subsidiary AEON Mall Outlooks Revised To Negative As COVID-19 Hits Prospects; Ratings

Affirmed, April 17, 2020

17 Related Research

– Japan-Based Oil And Gas Company Inpex Corp. 'A-/A-2' Ratings Affirmed; Outlook Remains Negative, April 16, 2020

– Outlook On Fast Retailing Revised Down To Stable As Pandemic Damages Profitability Prospects; 'A' Rating Affirmed, April 14, 2020

– Japan's GTICs' Financial Buffers Are Likely To Shrink Due To COVID-19, April 10, 2020

– Toyota Tsusho And Singapore Unit 'A+' Ratings Placed On CreditWatch Negative Following Similar Action On Toyota Motor, March 31, 2020

– Outlook On Marubeni Revised Downward To Stable On Sizeable Net Loss; 'BBB' Ratings Affirmed, March 27, 2020

– Sumitomo Can Weather Sherritt's Debt Renegotiations, Feb. 28, 2020

– Japan-Based Olympus Assigned 'BBB+' Rating; Outlook Stable, Feb. 19, 2020

– Japan Tobacco's Subordinated Loans Assessed As Having Intermediate Equity Content, Jan. 28, 2020

18 Japan Corporate Credit Spotlight 2020 Reports

– Japan Corporate Credit Spotlight: A Rough Road To Recovery: Overview, Oct. 22, 2020 – General Contractors; Real Estate; Electric Utilities And Gas; Railways; Airports, Oct. 22, 2020 – Pulp And Paper; Chemicals; Glass; Steel; Nonferrous Metals, Oct. 22, 2020 – Capital Goods And Heavy Industries; Automobiles And Components; Shipping; Airlines, Oct. 22, 2020 – Advertising; Electronics; IT Services; E-Commerce; Telecom And IHCs, Oct. 22, 2020

19 Contacts

Hiroki Shibata Makiko Yoshimura Katsuyuki Nakai

Senior Director, Analytical Director Director Manager

+ 81-03-4550-8437 + 81-03-4550-8368 + 81-03-4550-8748 [email protected] [email protected] [email protected]

Hiroyuki Nishikawa Ryohei Yoshida Taishi Yamazaki

Associate Director Associate Director Associate

+ 81-03-4550-8751 + 81-03-4550-8660 + 81-03-4550-8770 [email protected] [email protected] [email protected]

Kei Ishikawa Asa Watanabe Bumpei Kamishima

Associate Associate Research Assistant

+ 81-03-4550-8769 + 81-03-4550-8771 + 81-03-4550-8661 [email protected] [email protected] [email protected]

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