CFO Answers FAQs from Investors Interview with the CFO

CFO Answers FAQs from Investors
Yoshio Itaya
Director, Executive Vice President & CFO

Progress of IBI 18

Q.What were the results and issues in the first year of mid-term business plan IBI 18?

Our results in 2016 were generally as planned even with the significant changes in the external environment, including NHI drug price revisions, and we made smooth progress toward the next phase of our evolution.

In accordance with the priority agenda of IBI 18, development of products from Chugai research advanced steadily, and we took appropriate measures in various areas to prepare for upcoming changes in the business environment. Examples include our steady efforts to build new drug discovery technology infrastructure for middle molecules and other compounds, capital investments to strengthen our production function, and the establishment of a new organizational structure (effective April 2017) to provide new solutions that are adaptable to the diverse needs of each region rather than uniform nationwide.

Our highly efficient cost structure, which we are constantly evolving, enables us to maintain the ratio of operating expenses to revenues at around 35 percent, and remains a key feature of Chugai's earnings structure.

From the start of the alliance with Roche, we made structural improvements through more than 10 years of cost reductions. I believe that ongoing initiatives since then, such as the Productivity Improvement Project we have been implementing since 2013, have also been effective. To manage operating expenses, we will maintain our policy of keeping their growth at or below the growth rate of revenues as a general principle.

Q.What is your assessment of Chugai's ability to execute strategies?

In the first year of IBI 18, we were able to steadily implement initiatives for innovation. This tells me that our organizations have the ability to link actions to results.

The results of employee surveys confirmed significant improvement compared with the first year of the previous mid-term business plan in each of three categories: “understanding,” “action” and “realization” of the strategies. (See page 45 for details.)

I believe this will be critically important in creating value in the future. In particular, understanding strategies before moving to put them into action is key. We are therefore focusing on sharing information through various in-house media to deepen understanding of strategies and measures throughout the Company. In addition, workshop-style discussions are regularly conducted among managers and in each organization, and we will continue to strongly promote these initiatives.

I remember something very surprising in a group discussion at a meeting of managers one year. One of the several topics of the meeting was “What is a top-ranking company?” and everyone discussed it seriously. This may seem ineffective at first glance, but by returning to a discussion of the essentials and humbly looking for ways in which we might not be quite top-ranking yet, we can take on the challenge of attaining that standing.

While Chugai is engaged in cutting-edge research and production, I think we are fundamentally a company that sticks to the basics and is honest to a fault. This also shows in how all of our employees embrace our business philosophy, “Innovation all for the patients.” It is a characteristic of Chugai's culture, and I feel it is one of our strengths.

Future Growth and Innovation

Q.What are some of the issues in generating innovation?

Among the five objectives of the priority agenda in IBI 18, the fifth one is our talent management strategy for generating innovation. To deal with rapid changes in the external environment, including future technological innovations and changes in the industry structure, we are transforming the organization for constant innovation by promoting “autonomy.” Each department will become an autonomous organization, and the keyword for developing talent that will generate innovation is “leadership.”

I am confident that if we increase the number of leaders who can build affinity within their organizations while communicating clear objectives and goals, the corporate value of Chugai, which has many strengths, will increase further.

To evolve into this kind of company, it will be essential for productivity improvement, which is already firmly rooted in each department, to be linked organically with diversity and inclusion (D&I) and work-life synergy. By promoting D&I and work-life synergy, we will create an environment that enables all employees to achieve their maximum potential. This will raise organizational productivity and thus help to drive medium-to-long-term growth.

Q.Please explain Chugai's investment strategy.

Up to now, Chugai has made investments for medium-to-long-term growth and to position itself for the future based on its current strengths.

We are making capital investments for the purpose of expanding production capacity for antibody active pharmaceutical ingredients (APIs), which will enable us to handle simultaneous development of multiple compounds from the continuous generation of innovative projects. In addition to the business expansion of Chugai Pharmabody Research Pte. Ltd. in Singapore, in 2015 we decided to make a new investment in an antibody API plant at the Ukima Plant to enable high-mix, low-volume production for late stage development and early commercial production. Construction is moving forward on schedule.

However, with the external environment growing increasingly uncertain and innovation becoming even more critical, with an eye on the future, Chugai is making strategic investments that are not merely an extension of the status quo.

We made such investments in 2016. We concluded an agreement with Osaka University for comprehensive collaboration with Osaka University Frontier Research Center (IFReC), although that is somewhat different in character from an investment. We also acquired a business site of approximately 170,000 square meters in Yokohama, Kanagawa Prefecture.

This site acquisition was made because we believe that a facility with more advanced research and development functions is necessary for the stage of further business growth that we expect in the future, and we see this as our challenge and responsibility. We intend to build a future-oriented core facility that takes into consideration the emergence of disruptive technologies, and will announce a detailed plan after it is finalized.

Investments under ACCEL 15 and IBI 18
Investments under ACCEL 15 and IBI 18Investments under ACCEL 15 and IBI 18

Capital Strategy, Shareholder Returns and IR Policy

Q.What will be your capital strategy going forward?

Chugai has ample net cash (cash and cash equivalents plus marketable securities less interest-bearing debt) amounting to roughly half of annual revenues. At the same time, we will generate cash flow with steady earnings each year. Cash management will be a priority, and our policy in IBI 18 is to allocate those funds to invest proactively for the future and to provide appropriate returns to shareholders.

In making investments, we will continue to practice sound cash management while implementing the strategies I outlined above. For example, in the recent site acquisition and the subsequent facility construction, which are major investments, the handover of the site will be completed at the end of 2018 and construction will start in 2019. This means investment in the structures will begin, but we will maintain cash on hand at the current level to make further investments for the future, and we estimate that we can cover that investment with the current cash flow level.

Based on the idea that Core basis net income should be divided evenly between the Company and its shareholders, we set the target for the payout ratio at 50 percent of Core earnings per share (EPS) on average. This approach has been commended by shareholders and investors for its clarity, but at the same time, it sends a message that our common standard for establishing the Company’s targets and returns to shareholders is Core basis profit growth.

We also receive questions about capital cost and ROE. Naturally, we understand that ROE needs to be greater than the cost of capital. Internally, we calculate and analyze the contribution margin of each product based on the cost of capital, and the results are shared among management. However, what I would like investors to understand is that we place importance on aligning externally disclosed targets with internal Company-wide targets and on the clarity of target-setting, and for these and other reasons we use simple Core basis operating income for financial targets.

Core basis results are the results after adjusting non-Core items to IFRS basis results. Core basis results are used by Chugai as an internal performance indicator, for representing recurring profit trends both internally and externally, and as indices for establishing profit distributions such as returns to shareholders.
Dividends per Share and Core Payout Ratio
Dividends per Share and Core Payout Ratio
Q.What are your views on dialogue with investors?

I have sensed changes for the better among institutional investors in Japan since the announcement of Japan’s Stewardship Code. On the other hand, I feel that this could become a case of “once bitten, twice shy,” and it should not lead to a situation where dialogue is not encouraged.

Chugai's basic strategy is to continuously generate profits and increase its corporate value through innovation, and then return the results to shareholders through higher valuation in capital markets and stable dividends. Therefore, our IR policy is to share common goals with investors who believe that they and the Company are equal partners, to engage in discussions with them on an equal footing, and to grow the Company so that their investment is a success. That’s the kind of appropriate relationship I hope to build.

We have focused on making the content of Chugai's integrated report (annual report) easy for investors to understand in order to share our management direction and the events behind it. This year, we have designed the report to make it even more user-friendly and convenient. It is always evolving, and we want it to be a starting point for dialogue.

We will continue to do everything we can to communicate and provide disclosure from the standpoint of investors to facilitate a more effective dialogue and meet their expectations.

Annual Report 2016
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Annual Report 2016
Composition of Annual Report 2016 (Full Version)
  • Message from the CEO
  • Chugai Fundamentals
  • Message from the President (Commentary on Strategies)
  • Chugai's Management (Corporate Governance/Employee Talent)
  • Message from the Deputy Chairman
  • Feature: Innovation in Chugai's Out-Licensing Strategy
  • Interview with the CFO (The CFO Answers Frequently
    Asked Questions from Investors)
  • Chugai's Activities
  • Detailed Report
  • Financial Information
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: Excerpts featured in the Online Annual Report (16 pages out of the 136 pages of the full version)
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