Katsuyuki Nakai Japan Corporate Director Corporate Ratings Credit Spotlight Makiko Yoshimura Director October 22, 2020 Corporate Ratings Hiroki Shibata Senior Director Corporate Ratings Capital Goods And Heavy Industries; Automobiles And Components; Shipping; Airlines This report does not constitute a rating action. Japan Corporate Credit Spotlight Sector Comments Pages 3 - 11 Capital Goods And Heavy Industries Automobiles And Components Appendix Shipping Pages 12 - 14 Airlines All graphics show data for companies studied. Sector Comments Pages 3 - 11 Capital Goods And Heavy Industries Outlook: Stable Pressure Mounts Despite COVID-19 Resilience Trend And Changes – Diversification and core stability, strong product competitiveness, and ability to lower costs have tempered deteriorating performance. – Pressure is growing on performance of companies with high shares of sales from economically sensitive products and services. – Heavy investment burdens will likely hurt financial standings for a long time amid current conditions. – Companies studied face less pressure on creditworthiness than rated U.S. and European peers, of which almost half have negative outlooks. Key Assumptions – Many sector subcategories correlate strongly with GDP, except for electric power and agriculture. – New vehicle sales and aircraft production will not recover to 2019 levels even in 2022. – Companies more dependent on autos and aircraft will suffer EBITDA losses of up to 80% in fiscal 2020 and will take longer to recover. – Median debt/EBITDA will worsen to about 2x in fiscal 2020 from about 1x a year earlier, likely improving only to about 1.5x in fiscal 2021. 4 Capital Goods And Heavy Industries Risks And Key Credit Drivers: – Delayed recovery in major markets including autos, aircraft, electronics/semiconductors, and factory automation. – Business management policies and reorganization of portfolios with high economic sensitivity and environmental risk. – Ability to maintain competitiveness and profitability following reorganization and associated costs. – Burden of working capital, investment policies, and measures to reduce financial burdens if orders keep declining. Free operating cash flow (left) Tril. ¥ Revenues (left) EBITDA margin (right) % Bil. ¥ x Debt/EBITDA (right) 35.0 14.0 1,200 3.0 30.0 12.0 1,000 2.5 25.0 10.0 800 2.0 20.0 8.0 600 1.5 15.0 6.0 400 1.0 10.0 4.0 200 0.5 5.0 2.0 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. 5 Automobiles And Components Outlook: Negative Unit Sales To Remain Low Through 2022 Trend And Changes – COVID-19 has exacerbated problems caused by low demand, fueling a global plunge in unit sales. – Restrictions on movement globally will likely keep capacity utilization at very low levels. – Automakers and suppliers continue to spend heavily on developing next-generation technologies, despite challenging conditions. – We have downgraded many companies, including major Japanese automakers; many outlooks are now negative. Key Assumptions – New unit sales in 2020 will fall at least 20% in both the U.S. and Europe and about 6%-9% in China. – Demand will not recover quickly, with global auto sales in 2022 still below 2019 levels by around 6%. – The average EBITDA margin will fall to about 6% in fiscal 2020 from 9.4% the previous year and remain below pre- pandemic levels in the coming two to three years. – The companies studied will continue to maintain healthier financials than most overseas peers. 6 Automobiles And Components Risks And Key Credit Drivers: – A resurgence of the COVID-19 pandemic further delaying recovery in global auto sales. – A slow return to normal production hindering growth in unit sales and launch of new models. – More aggressive investment and shareholder return policies or a deterioration in captive finance businesses further hurting financial soundness. Free operating cash flow (left) Revenues (left) EBITDA margin (right) Tril. ¥ % Bil. ¥ x Debt/EBITDA (right) 80.0 16.0 5,000 0.5 70.0 14.0 4,000 0.4 60.0 12.0 50.0 10.0 3,000 0.3 40.0 8.0 2,000 0.2 30.0 6.0 20.0 4.0 1,000 0.1 10.0 2.0 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. 7 Shipping Outlook: Slightly Negative Stabilizing Measures Not Enough Trend And Changes – Sea cargo volume has shrunk substantially amid the COVID-19 pandemic. – Earnings from car carrier operations have plunged, while tanker and container operations are relatively steady. – Companies have sought to stabilize earnings by enhancing liquefied natural gas and offshore businesses, and decommissioning old vessels. – Declining earnings continue to weigh on already high debt-to-EBITDA ratios of about 8x. – More diversified businesses and higher proportions of long-term contracts ease pressure on Japanese companies compared with overseas peers. Key Assumptions – Demand for car carrier and tanker operations will remain sluggish. – Container transport volume will decrease about 10%-15% in 2020, but freight rates will fall little thanks to lower transport capacity. – Dry bulk shipping will perform relatively well thanks to China's imports of iron ore and coal. – The average EBITDA margin will slip to about 9% in fiscal 2020 from 11% the previous year, returning to 10% in fiscal 2021 as marine transport volume recovers. – Asset sales and reduced capital expenditure will limit the risk of further deterioration in financials. 8 Shipping Risks And Key Credit Drivers: – A prolonged slump in demand for container, dry bulk, and car carrier operations increasing pressure on earnings. – A heavier cost burden stemming from environmental regulations and safety enhancements. – Pressure on credit quality from potential changes to financial discipline or relationships with banks. Free operating cash flow (left) Tril. ¥ Revenues (left) EBITDA margin (right) % Bil. ¥ x Debt/EBITDA (right) 6.0 12.0 300 10.0 250 9.0 5.0 10.0 200 8.0 150 7.0 4.0 8.0 100 6.0 3.0 6.0 50 5.0 0 4.0 2.0 4.0 -50 3.0 -100 2.0 1.0 2.0 -150 1.0 0.0 0.0 -200 0.0 2015 2016 2017 2018 2019 2015 2016 2017 2018 2019 Source: S&P Global Ratings. Source: S&P Global Ratings. 9 Airlines Outlook: Negative Huge Headwinds In The Next Two Years Trend And Changes – Restrictions on movement will likely cause a 60%-70% annual drop in global passenger numbers in 2020. – Many Japan-based airlines are deep in the red. – Major carriers have maintained liquidity via creditor banks, even as their financial health declines. – Creditworthiness of Japan's airlines is under tremendous pressure, as seen in multi-notch downgrades of many overseas peers. Key Assumptions – Travel demand will not recover much in 2021, and passenger numbers will not revisit 2019 levels until at least 2024. – Average revenue per passenger will decline as long-haul and business travel are hit hardest. – Negative free cash flow will continue for a year or two despite lower operating expenses and capital spending. – Total debt at companies studied will grow to about ¥2 trillion in 2021-2022 from about ¥1.2 trillion in 2019. – The companies will maintain moderate interest coverage despite heavy pressure on financial ratios. 10 Airlines Risks And Key Credit Drivers: – A resurgence in COVID-19 or persistent economic decline further hampering a recovery in passenger traffic. – More remote work prolonging weak demand for profitable business travel. – Delays to cost and fleet reductions exacerbating earnings losses. – Material deterioration in financial ratios or increased pressure on liquidity further straining creditworthiness. Free operating cash flow (left) Revenues (left) EBITDA margin (right) Tril. ¥ % Bil. ¥ x Debt/EBITDA (right) 4.0 22.0 400 2.4 300 2.2 3.0 20.0 200 2.0 100 1.8 2.0 18.0 0 1.6 -100 1.4 1.0 16.0 -200 1.2 -300 1.0 0.0 14.0 -400 0.8 2015 2016 2017 2018 2019 2015 2016 2017 2018 2019 Source: S&P Global Ratings. Source: S&P Global Ratings. 11 Appendix Pages 12 - 14 Business Risk Profile And Financial Risk Profile Capital goods and heavy industries Rated Business risk profile Financial risk profile Anchor Modifiers or group/govt. Long-term issuer credit rating Mitsubishi Heavy Industries Ltd. O Satisfactory Modest bbb+ - BBB+ Komatsu Ltd. O Strong Modest a - A Hitachi Ltd. O Strong Modest a - A Kubota Corp. X Strong Modest - - - Toshiba Corp. O Fair Intermediate bb+ -1 BB Daikin Industries Ltd. X Strong Modest - - - IHI Corp. X Satisfactory Intermediate - - - Kawasaki Heavy Industries Ltd. X Satisfactory Significant - - - Mitsubishi Electric Corp. O Strong Modest a +1 A+ Automobiles and components Rated Business risk profile Financial risk profile Anchor Modifiers or group/govt. Long-term issuer credit rating Bridgestone Corp. O Strong Modest a - A Denso Corp. O Strong Minimal aa- -1 A+ Nissan Motor Co. Ltd. O Fair Modest bbb- - BBB- Toyota Motor Corp. O Strong Minimal aa- -1 A+ Mitsubishi Motors Corp. O Weak Modest bb+ -1 BB Aisin Seiki Co. Ltd. O Satisfactory Minimal a - A Mazda Motor Corp. X Fair Intermediate - - - Honda Motor Co. Ltd. O Satisfactory Minimal a -1 A- Suzuki Motor Corp. X Satisfactory Modest - - - Subaru Corp. X Fair Modest - - - As of Sept. 30, 2020. 13 Business Risk Profile And Financial Risk Profile Shipping Rated Business risk profile Financial risk profile Anchor Modifiers or group/govt. Long-term issuer credit rating Mitsui O.S.K. Lines Ltd. X Fair Aggressive - - - Nippon Yusen Kabushiki Kaisha X Fair Aggressive - - - Airlines Rated Business risk profile Financial risk profile Anchor Modifiers or group/govt. Long-term issuer credit rating ANA Holdings Inc.