03 September 2015 Asia Pacific/Japan Equity Research Consumer Electronics (Electrical Equipment (Japan)) / MARKET WEIGHT
Seiko Holdings (8050 / 8050 JP) Rating OUTPERFORM* Price (02 Sep 15, ¥) 661 INITIATION
Target price (¥) 920¹ Chg to TP (%) 39.2 Market cap. (¥ bn) 134.43 (US$ 1.12) Initiating at OUTPERFORM; watch sales strong, Enterprise value (¥ bn) 221.67 Number of shares (mn) 203.37 valuations attractive Free float (%) 55.0 52-week price range 803 - 421 ■ Action: We initiate coverage of Seiko Holdings with an OUTPERFORM rating *Stock ratings are relative to the coverage universe in each and a TP of ¥920 (potential return 39.2%). First-quarter FY3/16 results indicated analyst's or each team's respective sector. ¹Target price is for 12 months. strong watch sales and improving earnings from unprofitable products. Valuations are low relative to the industry, so we see upside for the stock. Research Analysts Mika Nishimura ■ Investment case: We forecast OP of ¥16.6bn (+42% YoY) in FY3/16 and 81 3 4550 7369 ¥18.7bn (+12%) in FY3/17. Earnings are strong in the watch segment, driven by [email protected] domestic inbound demand, with sales centering on high-added-value products. Overseas, the company is currently working to strengthen its brand. Such efforts are starting to have positive impact in Europe and promise to start contributing to earnings in other regions, as well. The problem businesses are HDD components and digital camera shutters. However, having restructured, they seem likely to cease making losses in FY3/16. Our impression is that the company has sped up its reforms by, for example, spinning off semiconductor operations. We think ex-watch businesses are unlikely to hinder overall earnings. ■ Catalysts/risks: Potential catalysts include an increase in inbound demand and further yen depreciation. Risks include increased competition from the Apple Watch and worsening earnings from products other than watches. ■ Valuation: Our TP reflects our FY3/17 EPS forecast (adjusted to reflect a standardized tax rate) of ¥57 and a P/E of 16x. Our target P/E is the average for two overseas watch companies since the financial crisis precipitated by the collapse of Lehman Brothers. Valuations have historically been low because of Seiko’s inadequate governance and fragile balance sheet, but the company has improved in both areas, looking ahead, we believe investors will value Seiko as a watchmaker. We think the market’s evaluation will improve.
Share price performance Financial and valuation metrics
Year 3/15A 3/16E 3/17E 3/18E Price (LHS) Rebased Rel (RHS) Sales (¥ bn) 293.5 314.9 322.7 330.5 800 160 Operating profit (¥ bn) 11.7 16.6 18.7 20.3 600 140 Recurring profit (¥ bn) 12.4 16.8 18.7 20.3 120 Net income (¥ bn) 21.8 12.9 14.7 15.0 400 100 EPS (¥) 105.4 62.6 71.3 72.6 200 80 Sep-13 Jan-14 May-14 Sep-14 Jan-15 May-15 Change from previous EPS (%) n.a. IBES Consensus EPS (¥) n.a. 58.2 59.9 65.3 The price relative chart measures performance against the EPS growth (%) 193.4 -40.6 14.0 1.8 TOPIX which closed at 1465.99 on 02/09/15 P/E (x) 5.8 10.6 9.3 9.1 On 02/09/15 the spot exchange rate was ¥120./US$1 Dividend yield (%) 1.7 1.5 1.5 1.5 EV/EBITDA(x) 9.7 8.4 7.4 6.7 Performance over 1M 3M 12M P/B (x) 1.4 1.3 1.2 1.1 Absolute (%) 0.6 -1.8 41.8 ROE(%) 28.4 13.5 13.7 12.5 Relative (%) 12.3 10.6 28.8 Net debt/equity (%) 102.4 86.2 66.9 51.1
Source: Company data, Thomson Reuters, IFIS, Credit Suisse estimates. DISCLOSURE APPENDIX AT THE BACK OF THIS REPORT CONTAINS IMPORTANT DISCLOSURES, ANALYST CERTIFICATIONS, AND THE STATUS OF NON-US ANALYSTS. US Disclosure: Credit Suisse does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the Firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision.
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03 September 2015 Investment rating and valuation Initiating at OUTPERFORM with ¥920 TP TP based on tax-rate-adjusted FY3/17 EPS forecast of ¥57, P/E of 16x Our target P/E of 16x is the average for two overseas manufacturers of mass-market watches. Valuations have historically been low because of Seiko’s inadequate governance and fragile balance sheet, but the company has improved in both areas (governance is stronger, and interest-bearing debt has decreased, in part through the sale of assets). Given Seiko’s strong fundamentals, looking ahead, we believe investors will value Seiko as a watchmaker. We think the market’s evaluation will improve, leading to an increase in valuations. Note that our TP is based on an FY3/17 EPS estimate (¥57) that has been adjusted to reflect a 35% standardized tax rate. The actual tax rate will be low (20%) for some time because of retained losses so, in nominal terms, valuations appear even more attractive. We note that Fossil’s P/E has dropped sharply recently, but we attribute this to a company-specific factor (earnings stalling out as a result of the boom in the popularity of Fossil-brand watches coming to an end). The average P/E of the seven top luxury watchmakers and related companies (Swatch, Fossil, Financière Richemont, LVMH, Casio Computer, Citizen Holdings, and Seiko Holdings) is 16x.
Figure 1: Seiko Holdings (8050): P/E Figure 2: Two overseas watch manufacturers’ P/Es
30 30 x
25 25 x
20 20 x
15 x (X) 15
10 x 10 Swatch 5 x Fossil Group 5 AVERAGE 0 x
0
00 07 01 02 03 04 05 06 08 09 10 11 12 13
14E 15E 16E
9/2004 1/2010 9/2010 5/2005 1/2006 9/2006 5/2007 1/2008 9/2008 5/2009 5/2011 1/2012 9/2012 5/2013 1/2014 9/2014 5/2015 1/2004
Source: Thomson Reuters, Credit Suisse estimates Source: Thomson Reuters, Credit Suisse estimates Watches: Inbound demand strong, company beefing up sales promotion in overseas markets Watch sales strong, centering on high-added-value products; earnings from unprofitable mechatronic components improving Watch segment sales were strong in 1Q, rising 17% YoY, driven by increased inbound demand in the domestic market. Of the three watch companies, Seiko has the highest ratio of domestic watch sales, so it is well positioned to benefit from increased inbound demand. Overseas, Seiko is working to enhance its brand strength, including by increasing the number of Seiko specialty stores. We think these efforts will gradually have a positive effect. (In Europe, Seiko’s brand strength is evidently already improving.) Reform of non-watch operations is ongoing, and pace seems to have picked up The profitability of the business segments other than watches (electronic devices and systems solutions) is low. In particular, within the electronic devices segment, Seiko has
Seiko Holdings (8050 / 8050 JP) 2 03 September 2015 been incurring losses on mechatronics components (HDD components and digital camera shutters), in part because of the market environment. However, the company made progress in restructuring these businesses by FY3/15, and we expect them to return to breakeven or above in FY3/16. At the semiconductor business (which is part of the electronic devices segment and produces analog semiconductors), demand for smartphone-related semiconductors (e.g., for Li-ion battery controllers) was strong until FY3/15, but Seiko is now in the process of spinning off this business to lower its future capex burden. Seiko is in talks with the Development Bank of Japan on plans to form a joint venture. These and similar steps give us the impression that the pace of reform at businesses other than watches is picking up. At a minimum, we think these businesses are increasingly less likely to hinder overall earnings.
Figure 3: Seiko Holdings (8050): Earnings forecasts summary 02-Sep-15 Sales Operating profit Recurring profit Net profit EPS DPS P/E ¥661 ¥bn YoY (%) ¥bn YoY (%) ¥bn YoY (%) ¥bn YoY (%) ¥ YoY (%) ¥ (x) Consolidated FY Mar-14 A 308.3 8.6% 14.0 153.7% 10.2 213.4% 7.4 34.3% 35.9 34.3% 11.4 11.4 Mar-15 A 293.5 -4.8% 11.7 -16.7% 12.4 21.7% 21.8 193.4% 105.4 193.4% 5.8 5.8 Mar-16 CS E (new) 314.9 7.3% 16.6 42.2% 16.8 35.5% 12.9 -40.6% 62.6 -40.6% 10.6 10.6 CoE 320.0 9.0% 16.0 37.1% 16.0 29.3% 12.0 -44.9% 58.1 -44.9% 11.4 11.4 IBES E 315.1 7.4% 16.8 43.6% 16.1 30.3% 12.0 -44.8% 58.2 -44.8% 11.4 11.4 Mar-17 CS E (new) 322.7 2.5% 18.7 12.5% 18.7 11.3% 14.7 14.0% 71.3 14.0% 9.3 9.3 IBES E 324.9 3.1% 17.9 7.1% 16.9 5.0% 12.4 3.1% 59.9 3.1% 11.0 11.0 Mar-18 CS E (new) 330.5 2.4% 20.3 8.5% 20.3 8.5% 15.0 1.8% 72.6 1.8% 9.1 9.1 IBES E 343.8 5.8% 19.5 8.7% 19.5 15.2% 13.5 8.9% 65.3 9.0% 10.1 10.1 Consolidated HY Mar-15 1H A 138.0 -5.9% 7.5 -12.8% 7.7 14.1% 13.2 37.8% 64.1 37.9% 2.5 10.3 2H A 155.5 -3.8% 4.1 -23.1% 4.7 36.8% 8.5 NM 41.3 NM 7.5 16.0 Mar-16 CS E (new) 150.7 9.3% 9.7 28.9% 10.3 33.1% 7.8 -41.0% 37.8 -41.0% 5.0 17.5 CoE 150.0 8.7% 9.5 25.9% 9.5 23.3% 7.0 -47.2% 33.9 -47.1% 5.0 19.5 Mar-16 CS E (new) 164.2 5.6% 6.9 66.5% 6.5 39.5% 5.1 -40.1% 24.7 -40.1% 5.0 26.7 CoE 170.0 9.3% 6.5 57.8% 6.5 39.3% 5.0 -41.4% 24.2 -41.4% 5.0 27.3 Consolidated QY Mar-15 Q1 A 64.2 -8.8% 2.9 0.1% 2.4 -18.8% 0.9 -72.8% Q2 A 73.7 -3.2% 4.7 -19.2% 5.4 38.9% 12.3 100.0% Q3 A 79.4 0.5% 3.8 -19.6% 4.9 10.4% 10.7 354.0% Q4 A 76.1 -8.0% 0.3 -48.3% -0.3 NM -2.2 NM Mar-16 Q1 A 70.7 10.0% 4.5 56.9% 5.1 118.6% 3.7 297.3% Q2 CS E (new) 80.1 8.6% 5.3 12.0% 5.1 -4.6% 4.1 -66.8% Source: Company data, Credit Suisse estimates
Potential share price catalysts and risks Catalysts include acceleration of inbound demand, yen depreciation Because Seiko’s dependence on the domestic market is relatively high, increased inbound demand would be a positive development. Each ¥1 of yen depreciation boosts OP by ¥240mn against the dollar and by ¥70mn against the euro. The company’s forex assumptions for 2Q and thereafter are ¥110/$ and ¥130/€. Our assumptions are ¥123/$ and ¥138/€. Risks including slowdown in inbound demand, increased competition from Apple Watch Risks include: (1) a slowdown in inbound demand (owing to such factors as a decline in the number of visitors to Japan and a stronger yen), (2) increased competition from the Apple Watch (due to such factors as additional Apple Watch features and price reductions), and (3) deteriorating profits at the segments other than watches (electronic devices and systems solutions).
Seiko Holdings (8050 / 8050 JP) 3 03 September 2015 Forecasts and shareholder returns FY3/16: Reaping benefits from increased inbound demand First-quarter profits up sharply YoY, domestic watch sales strong Domestic watch sales drove earnings in 1Q. Demand was strong for high-added-value products such as Seiko Astron and Grand Seiko. We understand that both inbound demand and sales to Japanese citizens were robust. Overseas, watch demand was anemic in North America (other companies’ struggles resulted in secondary-market inventory adjustments) and in Asia, but strong in Europe where Seiko’s investment in product promotion (mainly for the Seiko Astron) is apparently starting to finally pay off. Among ex-watch businesses, earnings were stagnant in the systems solutions segment on the absence of major products, but in mechatronics components (the real problem business), losses contracted. In the “others” segment, the past 2–3 years of restructuring at Wako and at the system clock business has started to have a positive impact, resulting in notable earnings improvement. At Wako, inbound demand also contributed. Favorable trends in 1Q likely to continue in 2Q and beyond We forecast OP of ¥16.6bn for full-FY3/16 (+42% YoY). The segment breakdown of this projected ¥4.9bn YoY increase is as follows: watches up ¥2.2bn, electronic devices up ¥1.7bn, and systems solutions up ¥0.4bn. At the watches segment, we think that as in 1Q, demand will be strong (particularly in Japan) in 2Q and thereafter. At electronic devices, the transfer of the wide-format printer business (another problem business) to OKI Data is scheduled to close in 2H. We think this, along with restructuring benefits at the mechatronic components business, will contribute to earnings improvement. FY3/17: Continued growth, acceleration of overseas sales promotion promising Watch business to continue growing thanks to focus on high added-value products, positive impact of current promotion efforts likely to increase For FY3/17, we forecast OP of ¥18.7bn (+11% YoY) and for FY3/18, we forecast OP of ¥20.3bn (+9%). We think that in both Japan and overseas, the product mix will continue to improve thanks to the company’s focus on high added-value products like Seiko Astron and Grand Seiko. We believe that the positive impact of the promotion efforts the company has engaged in since FY3/15 will expand in overseas markets in particular. Long-term focus on possible reorganization of watch business We note that the manufacture of finished watches and movements is carried out by Seiko Instruments (a consolidated subsidiary) and Seiko Epson (a separate company) (Figure 4). Manufacturing is divided with Seiko Instruments responsible for mechanical watches and high-end watches, and Seiko Epson responsible for quartz watches (which have electronic functions). We think Seiko Holdings does not add significant value to the products that Seiko Epson manufactures (since the products Seiko Epson sells are assembled from suppliers’ components). The original rationale for having two manufacturing subsidiaries engage in separate development efforts was to stimulate internal competition and increase Seiko’s technological strengths. However, from the perspective of pursuing synergies between the
Seiko Holdings (8050 / 8050 JP) 4 03 September 2015 two subsidiaries and increasing Seiko Holding’s added value, we think it would be ideal if Seiko Holdings were to absorb Seiko Epson’s watch business. Although there are obstacles to doing so, we think that if Seiko takes steps aimed at a future integration, it would be a positive development.
Figure 4: Watch segment: finished watch and movements sales channels
Flow of finished watches from manufacturing to sales Flow of movements from manufacturing to sales
Market (consumers) Market (consumers)
Sales Seiko Watch Seiko Nextage Watchmakers Traders/Trading companies
Manufacturing Sales Hong Kong Time Module Seiko Instruments Seiko Epson Converted to a wholly- owned subsidiary (66.7% Manufacturin Seiko Seiko Epson
Source: Company data, Credit Suisse
Figure 5: Segment sales Figure 6: Segment OP Adjustment Other Adjustment Other Systems Solutions Business Electronic Devices Business Systems Solutions Business Electronic Devices Business Watches Business YoY(%) Watches Business OPM(%) 400 10% 25 7%
350 8% 20 6% 300 6% 5% 250 15 4% 200 4%
2% 10 (¥bn) (¥bn) 150 3% 0% 100 5 2% -2% 50 0 1% 0 -4% FY13 FY14 FY15E FY16E FY17E FY13 FY14 FY15E FY16E FY17E -50 -6% -5 0%
Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates
Seiko Holdings (8050 / 8050 JP) 5 03 September 2015
Shareholder returns Expect moderate DPS growth with near-term priority being investment in growth Management has not set forth any clear plan for shareholder returns, but absolute dividend value is rising as profits improve. At present, the company is focusing resources on growing its watch business by expanding its own store network and increasing advertising. We therefore expect the emphasis over the near term to be on investment in growth.
Figure 7: Net debt trend Figure 8: Payout ratio
180 12.0 DPS Dividened payout ratio Net Debt 160 12 18% D/E ratio 10.0 140 16% 10 120 8.0 14% ) 100 8 12%
(¥ (¥ bn 6.0 (X) 10% 80 (¥) 6 60 4.0 8% 4 6% 40 2.0 4% 20 2 2% 0 0.0
0 0%
3/08 3/10 3/12 3/05 3/06 3/07 3/09 3/11 3/13 3/14 3/15 3/04 FY13 FY14 FY15E FY16E FY17E
Source: Company data, Credit Suisse Source: Company data, Credit Suisse estimates
Figure 9: Seiko Holdings (8050): Consolidated income statement (half- and full-yearly, ¥bn) Actual CS new E Company E FY13 FY14 FY15 FY16 FY17 FY15 1H 2H FY 1H 2H FY 1HE 2HE FYE FYE FYE FYE Sales 146.6 161.7 308.3 138.0 155.5 293.5 150.7 164.2 314.9 322.7 330.5 320.0 YoY 1% 16% 9% -6% -4% -5% 9% 6% 7% 2% 2% 9% Cost of sales 96.7 108.1 204.7 88.8 100.4 189.2 95.3 108.1 203.4 207.2 211.1 Gross profit 49.9 53.6 103.5 49.2 55.1 104.3 55.4 56.1 111.6 115.5 119.4 SG&A 41.3 48.3 89.5 41.6 51.0 92.6 45.7 49.3 95.0 96.8 99.1 Operating profit 8.7 5.4 14.0 7.5 4.1 11.7 9.7 6.9 16.6 18.7 20.3 16.0 YoY 43% - 154% -13% -23% -17% 29% 67% 42% 12% 9% 37% OPM 6% 3% 5% 5% 3% 4% 6% 4% 5% 6% 6% 5% Non operating income 1.3 1.9 3.2 2.4 2.4 4.8 2.2 1.4 3.6 3.2 3.2 Non operating expense 3.2 3.9 7.1 2.2 1.9 4.1 1.7 1.7 3.4 3.2 3.2 Recurring profit 6.8 3.4 10.2 7.7 4.7 12.4 10.3 6.5 16.8 18.7 20.3 16.0 YoY 80% - 213% 14% 37% 22% 33% 40% 36% 11% 9% 29% Extraordinary profit 5.6 4.9 10.5 8.4 8.6 17.0 0.0 0.0 0.0 0.0 0.0 Extraordinary loss 0.6 11.3 11.9 0.6 4.1 4.7 0.0 0.0 0.0 0.0 0.0 Net income before tax 11.7 -3.0 8.8 15.6 9.1 24.7 10.3 6.5 16.8 18.7 20.3 Tax 1.9 -1.0 0.9 2.2 0.6 2.8 2.3 1.3 3.6 3.7 5.1 Minority interests 0.2 0.2 0.4 0.2 0.0 0.1 0.1 0.1 0.2 0.2 0.2 Net income 9.6 -2.2 7.4 13.2 8.5 21.8 7.8 5.1 12.9 14.7 15.0 12.0 YoY - - 34% 38% - 193% -41% -40% -41% 14% 2% -45% EPS (¥) 35.9 105.4 37.8 24.7 62.6 71.3 72.6 58.1 BPS (¥) 304.2 437.5 490.1 551.4 613.9 DPS (¥) 0.0 5.0 5.0 2.5 7.5 10.0 5.0 5.0 10.0 10.0 10.0 10.0 Capex 12.0 5.6 0.0 0.0 10.0 10.0 10.0 Depreciation 12.2 10.9 5.0 5.0 10.0 10.0 10.0 R&D 3.8 4.1 2.0 2.0 4.0 4.0 4.0 ¥/US$ 98.8 97.4 100.2 103.0 116.6 109.8 122.2 123.0 122.6 123.0 123.0 ¥/EUR 129.9 125.5 134.3 138.9 138.3 138.6 136.2 138.0 137.1 138.0 138.0 Source: Company data, Credit Suisse estimates
Seiko Holdings (8050 / 8050 JP) 6 03 September 2015
Figure 10: Seiko Holdings (8050): Consolidated income statement (quarterly, ¥bn) FY13 FY14 FY15 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2E Sales 70.4 76.2 79.0 82.7 64.2 73.7 79.4 76.1 70.7 80.1 YoY 0% 3% 9% 24% -9% -3% 0% -8% 10% 9% Cost of sales 47.1 49.5 51.2 56.9 41.6 47.2 50.1 50.4 44.5 50.8 Gross profit 23.3 26.7 27.9 25.8 22.7 26.5 29.4 25.7 26.2 29.3 SG&A 20.4 20.8 23.1 25.1 19.8 21.8 25.6 25.4 21.7 24.0 Operating profit 2.8 5.8 4.7 0.6 2.9 4.7 3.8 0.3 4.5 5.3 YoY 0% 80% 67% - 0% -19% -20% -48% 57% 12% OPM 4% 8% 6% 1% 4% 6% 5% 0% 6% 7% Non operating income 1.3 0.0 1.7 0.2 0.9 1.5 2.1 0.3 1.5 0.8 Non operating expense 1.2 2.0 2.0 1.9 1.4 0.9 1.0 0.9 0.8 0.9 Recurring profit 2.9 3.9 4.5 -1.0 2.4 5.4 4.9 -0.3 5.1 5.1 YoY 102% 66% 42% - -19% 39% 10% - 119% -5% Extraordinary profit 0.9 4.8 0.0 4.9 0.0 8.4 7.9 0.7 0.0 0.0 Extraordinary loss 0.6 0.0 0.7 10.6 0.0 0.6 0.0 4.1 0.0 0.0 Net income before tax 3.1 8.6 3.8 -6.8 2.4 13.2 12.8 -3.6 5.1 5.1 Tax -0.5 2.4 1.3 -2.3 1.3 0.9 2.1 -1.4 1.3 1.0 Minority interests 0.2 0.0 0.1 0.1 0.1 0.0 0.0 0.0 0.1 0.0 Net income 3.5 6.2 2.4 -4.6 0.9 12.3 10.7 -2.2 3.7 4.1 YoY 267% - -72% - -73% 100% 354% - 297% -67% Source: Company data, Credit Suisse estimates
Figure 11: Seiko Holdings (8050): Consolidated segment sales and OP (half- and full-yearly, ¥bn) Actual CS new E Company E FY13 FY14 FY15 FY16 FY17 FY15 1H 2H FY 1H 2H FY 1HE 2HE FYE FYE FYE FYE Sales by segment Watches Business 70.4 80.3 150.7 74.0 85.0 159.1 84.3 90.8 175.1 181.6 188.3 175.0 YoY - - - 5% 6% 6% 14% 7% 10% 4% 4% 10% Electronic Devices Business 46.9 46.1 93.0 47.5 48.6 96.1 49.2 51.6 100.9 100.9 100.9 100.0 YoY - - - 1% 5% 3% 4% 6% 5% 0% 0% 4% Systems Solutions Business 10.4 12.4 22.9 10.2 11.0 21.1 8.6 10.5 19.1 19.4 19.6 24.0 YoY - - - -3% -12% -8% -16% -4% -10% 2% 1% 14% Others 24.2 27.2 51.3 11.3 15.2 26.5 13.6 16.3 29.9 30.8 31.7 30.0 YoY - - - -53% -44% -48% 21% 7% 13% 3% 3% 13% Adjustment -5.3 -4.3 -9.7 -5.0 -4.3 -9.3 -5.0 -5.0 -10.0 -10.0 -10.0 -9.0 Total sales 146.6 161.7 308.3 138.0 155.5 293.5 150.7 164.2 314.9 322.7 330.5 320.0 YoY - - - -6% -4% -5% 9% 6% 7% 2% 2% 0% OP by segment Watches Business 7.7 4.5 12.3 8.0 4.3 12.3 9.5 5.1 14.5 15.7 17.3 13.5 YoY 43% 82% 56% 4% -5% 1% 18% 18% 18% 8% 10% 9% OPM 11% 6% 8% 11% 5% 8% 11% 6% 8% 9% 9% 8% Electronic Devices Business 1.5 -0.1 1.4 1.0 0.8 1.9 1.6 1.9 3.6 3.8 3.8 4.0 YoY - - - -31% - 38% 62% 129% 92% 6% 0% 114% OPM 3% 0% 1% 2% 2% 2% 3% 4% 4% 4% 4% 4% Systems Solutions Business 0.1 0.3 0.3 -0.1 0.4 0.3 0.0 0.7 0.7 0.8 0.9 1.0 YoY - - - - 46% -6% - 77% 127% 10% 5% 206% OPM 1% 2% 2% -1% 4% 2% 1% 7% 4% 4% 4% 4% Others -0.1 0.9 0.8 -0.4 1.0 0.6 0.1 1.2 1.2 1.3 1.3 1.0 YoY - - - - 15% -17% - 11% 96% 5% 0% 58% OPM -1% 3% 1% -4% 7% 2% 1% 7% 4% 4% 4% 3% Adjustment -0.5 -0.3 -0.7 -1.0 -2.5 -3.5 -1.5 -2.0 -3.5 -3.0 -3.5 -3.5 Total sales 8.7 5.4 14.0 7.5 4.1 11.7 9.7 6.9 16.6 18.7 19.8 16.0 YoY - - - -13% -23% -17% 29% 67% 42% 13% 6% 37% OPM 6% 3% 5% 5% 3% 4% 6% 4% 5% 6% 6% 5% Source: Company data, Credit Suisse estimates
Seiko Holdings (8050 / 8050 JP) 7 03 September 2015
Figure 12: Seiko Holdings (8050): Consolidated segment sales and OP (quarterly, ¥bn) FY13 FY14 FY15 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2E Sales by segment Watches Business 32.3 38.2 41.0 39.3 33.1 41.0 45.3 39.8 38.7 45.6 YoY 23% 21% 22% 33% 3% 7% 10% 1% 17% 11% Electronic Devices Business 23.9 23.0 22.8 23.3 23.4 24.1 24.1 24.5 24.2 25.1 YoY 0% 0% 0% 0% -2% 5% 6% 5% 3% 4% Systems Solutions Business 5.0 5.4 4.5 7.9 4.5 5.6 4.9 6.1 3.5 5.1 YoY 0% 0% 0% 0% -10% 5% 8% -23% -23% -10% Others 11.5 12.7 12.8 14.3 5.4 5.9 7.3 7.9 6.8 6.8 YoY 0% 0% 0% 0% -53% -53% -43% -45% 27% 15% Adjustment -2.3 -3.0 -2.2 -2.1 -2.2 -2.8 -2.1 -2.2 -2.5 -2.5 Total sales 70.4 76.2 79.0 82.7 64.2 73.7 79.4 76.1 70.7 80.1 YoY 0% 0% 0% 0% -9% -3% 0% -8% 10% 9% OP by segment Watches Business 2.4 5.3 3.9 0.6 3.1 4.9 4.2 0.1 4.0 5.5 YoY 19% 58% 21% - 31% -8% 7% -85% 28% 11% OPM 7% 14% 10% 2% 9% 12% 9% 0% 10% 12% Electronic Devices Business 0.8 0.6 0.7 -0.9 0.8 0.2 0.6 0.2 1.1 0.6 YoY - - - - -8% -61% -16% - 36% 147% OPM 4% 3% 3% -4% 3% 1% 3% 1% 4% 2% Systems Solutions Business -0.2 0.3 -0.1 0.4 -0.3 0.3 0.0 0.4 -0.3 0.3 YoY ------3% - -5% - 35% OPM -4% 5% -3% 5% -7% 4% 0% 6% -8% 7% Others -0.1 0.0 0.5 0.4 -0.3 -0.1 0.5 0.5 0.1 -0.1 YoY ------0% 0% - - OPM -1% 0% 4% 3% -5% -2% 7% 7% 2% -1% Adjustment -0.1 -0.4 -0.3 0.1 -0.5 -0.6 -1.6 -0.9 -0.4 -1.1 Total sales 2.8 5.8 4.7 0.6 2.9 4.7 3.8 0.3 4.5 5.3 YoY - - - - 0% -19% 0% 0% 57% 12% OPM 4% 8% 6% 1% 4% 6% 5% 0% 6% 7% Source: Company data, Credit Suisse estimates
Seiko Holdings (8050 / 8050 JP) 8 03 September 2015
Figure 13: Seiko Holdings (8050): Balance sheet, cash flow statement (¥bn) (JPY bn) FY13 FY14 FY15E FY16E FY17E
Total Fixed Assets 208.4 168.8 168.8 168.8 168.8 Tangible Fixed Asset Total 138.5 96.6 96.6 96.6 96.6 Intangible Fixed Asset Total 15.6 15.4 15.4 15.4 15.4 Total Asset of Investment & Other 54.3 56.8 56.8 56.8 56.8 Total Assets 366.8 333.7 311.2 324.8 338.6
Total Current Liability 166.3 145.1 111.8 112.7 113.6 Note Payable & Accounts Payable 31.9 33.4 35.8 36.7 37.6 Short-Term Borrowings 56.8 43.6 43.6 43.6 43.6 Long-Term Debt and Maturities Within One Year 46.2 35.8 0.0 0.0 0.0 Corporate Bonds & Convertible Bonds 0.0 0.0 0.0 0.0 0.0 Accounts Pay able & Expense Pay able & Consumption Tax Pay able 13.9 14.6 14.6 14.6 14.6 Corporation Tax Payable etc. 1.7 1.6 1.6 1.6 1.6 Other Current Liability 15.8 16.2 16.2 16.2 16.2
Total Fixed Liability 135.7 96.0 96.0 96.0 96.0 Corporate Bonds & Convertible Bonds 0.0 0.0 0.0 0.0 0.0 Long-Term Loan 93.0 54.5 54.5 54.5 54.5 Reserve for retirement allowance 18.6 11.1 11.1 11.1 11.1 Other Fixed Liability 24.0 30.4 30.4 30.4 30.4 Total Liability 302.0 241.1 207.8 208.7 209.5 Minority Interest Equity 1.9 2.2 2.2 2.2 2.2 Total Capital 64.8 92.6 103.4 116.1 129.0 Shareholders' Equity 62.9 90.4 101.3 113.9 126.9 Total of Liability & Minority Interest Equity & Capital 366.8 333.7 311.2 324.8 338.6
Seiko Holdings (8050 / 8050 JP) 9 03 September 2015 Company overview Business structure Watches are core business; holding company structure leaves business operations to individual group companies Seiko Holdings is a holding company with several individual businesses run by several different operating companies. The Seiko Group has undergone repeated restructurings since its founding, as it strives for greater synergies and greater operating efficiency. To strengthen the watch business, Seiko Instruments was converted from an independent company to a wholly owned subsidiary in 2009. While growing its watch business, Seiko also applied its precision processing technologies to expand into camera shutters and systems equipment.
Figure 14: Sales by products (FY3/15) Figure 15: Segment earnings breakdown (FY3/15) Seiko Clock (FY15/3 Sales JPY 293.5bn) (FY15/3 OP JPY 11.7bn) Wako Systems Seiko Time Systems Watches Business Electronic Devices Business Solutions Other Systems Solutions Business Other Business 9% Adjustment 7% 16 Seiko Solutions
12
8 Watches Electronic Business
Devices 52% 4 (¥bn) Business 32% 0 Watches Electronic Systems Other Adjustment Major business companies Business Devices Solutions Seiko Instruments -4 Business Business Seiko Precision Seiko Watches Seiko NPC Seiko Instruments -8
Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates
Figure 16: Segments and main products Segment Subsegments Core products Watches Watches - Movements - Retail Outlets in department stores, product sales, watch and clock repair Electronic Devices Analog semiconductors, inkjet print heads, quartz oscillators, micro batteries Devices Mechatronics HDD components, digital camera shutters, small thermal printers Others Digital printing, measuring instruments for radiation Systems Systems integration Energy management systems, ordering systems Solutions Payment solutions Credit card settlement services (for taxis and doorstep sales) Network solutions Time servers Mobile solutions Communication modules, PHS handsets, smart body composition scales, WiFi routers Others Clocks, Wako specialty store, system clocks, sports products Source: Company data, Credit Suisse
Seiko Holdings (8050 / 8050 JP) 10 03 September 2015
Pouring energies into expanding sales of high-added-value watches, including GPS radiowave-controlled and mechanical watches The Group’s has segregated sales of its various watch brands into two marketing companies, Seiko Watch and Seiko Nextage. Seiko Watch focuses on high-value-added brands (Grand Seiko, Credor, Galante, Astron, etc.) and its highly popular Japan-made mechanical watches. To further strengthen its brand reputation, Seiko Watch is expanding its Seiko Boutique network of retail outlets. Seiko Nextage, in addition to its original brands, is engaged in planning, manufacturing and sales of a number of famous international and Japanese watch brands under license. Its product lineup is focused on lower and midmarket price ranges. Manufacturing of finished watches and watch movements is the domain of consolidated subsidiary Seiko Instruments and the independent company Seiko Epson. Shareholder composition Founder’s family has a roughly 30% stake Members of the founding family were involved in management purges in 2006 and again in 2010, touched off by opaque business decisions and personnel moves. The 2010 realignment led to the appointment of Shinji Hattori (currently chairman and CEO) as president and prompting efforts to strengthen corporate governance. Today there are no significant concerns regarding management and the founding family, in our view. In 2012, Senior Managing Director Yoshinobu Nakamura was promoted to president. As group CEO, Mr. Hattori develops management strategies to nurture group synergies and foster longer-term growth, while President Nakamura handles more specific operational work. This division of responsibility is part of the company’s focus on improving governance and streamlining management.
Figure 17: Shareholder composition as of end-FY3/15
Position Percentage of Major Shareholder Name (mn shares) outstanding SANKO KIGYO KK 23.7 11.4% HATTORI ETSUKO 18.1 8.7% Japan Trustee Services Bank, Ltd. 12.2 5.9% (Trust Account) The Master Trust Bank of Japan, Ltd. 11.7 5.6% (Trust Account) HATTORI SHINJI 11.4 5.5% Source: Company data, Credit Suisse
Seiko Holdings (8050 / 8050 JP) 11 03 September 2015 HOLT analysis, CFROI® scenario simulation Our HOLT analysis (a DCF model that assumes a long-term mean reversion) indicates potential upside of 20% from Seiko’s current share price (based on analyst forecasts for FY15–17 and mean revision thereafter).
Figure 18: HOLT analysis Seiko HD (8050) Apparel, Accessories & Luxury Goods Price: 675.00 (Sep 1, 2015) Market Cap: 139.483 JPY Warranted Price: 812.90 JPY (+20%)
Source: Company data, Credit Suisse estimates
Seiko Holdings (8050 / 8050 JP) 12 03 September 2015
Companies Mentioned (Price as of 01-Sep-2015) Apple Inc (AAPL.OQ, $107.72) Casio (6952.T, ¥2,248) Citizen Holdings (7762.T, ¥876) Fossil Group (FOSL.OQ, $59.69) LVMH (LVMH.PA, €144.2) Seiko Holdings (8050.T, ¥675, OUTPERFORM, TP ¥920) Swatch Group (UHR.VX, SFr364.6)
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Seiko Holdings (8050 / 8050 JP) 13 03 September 2015
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Price Target: (12 months) for Seiko Holdings (8050.T)
Method: Our TP of ¥920 reflects our FY3/17 EPS forecast (adjusted to reflect a standardized tax rate) of ¥57 and a P/E of 16x. Our target P/E is the average for two overseas watch companies since the financial crisis precipitated by the collapse of Lehman Brothers. Valuations have historically been low because of Seiko’s inadequate governance and fragile balance sheet, but the company has improved in both areas, looking ahead, we believe investors will value Seiko as a watchmaker. We think the market’s evaluation will improve.
Risk: Risks to our ¥920 target price include: (1) a slowing of inbound demand owing to fewer visitors to Japan and yen appreciation, (2) increased competition from the Apple Watch connected with features or reduced pricing, and (3) worsening earnings from products other than watches.
Please refer to the firm's disclosure website at https://rave.credit-suisse.com/disclosures for the definitions of abbreviations typically used in the target price method and risk sections.
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Seiko Holdings (8050 / 8050 JP) 14 03 September 2015
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Seiko Holdings (8050 / 8050 JP) 15 03 September 2015
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8050_090315_Seiko_E.doc Seiko Holdings (8050 / 8050 JP) 16