JAPAY - Japan Tobacco Inc. (JAPAF) Management on Q2 2022 Results - Earnings Call Transcript
Japan Tobacco Inc. (JAPAF)
Q2 2022 Earnings Conference Call
July 29, 2022 5:00 AM ET
Company Participants
Nobuya Kato - CFO
Koji Shimayoshi - Deputy Chief Executive Officer
Conference Call Participants
Nobuyoshi Miura - Citigroup Global Markets Japan
Hiroshi Saji - Mizuho Securities
Makoto Morita - Daiwa Securities
Haruka Miyake - Morgan Stanley MUFG Securities
Naomi Takagi - SMBC Nikko Securities
Presentation
Nobuya Kato
I am Nobuya Kato, Chief Financial Officer of JT Group. Thank you for joining us for the JT Group's 2022 First Half Financial Results Briefing. First of all, I like to take a moment to express my concerns about the current situation in Russia and Ukraine. I'm deeply concerned about the human tragedy and devastation unfolding in Ukraine and sincerely hope peace will return soon. The JT Group continues to place the highest priority on the safety of our employees and their families and is extending all possible support to affected people.
Let us begin with our six months consolidated results for the fiscal year 2022. The six months results and the forecast for the entire fiscal year that I will explain today include the impact of hyperinflationary accounting in the figures related to Turkey, as well as those of Iran and Sudan for which hyperinflationary accounting has already been applied. Please refer to our earnings report for details.
Turning to Slide 4, adjusted operating profit at constant currency, our primary performance indicator increased by 8.0% compared to the previous year, driven by our tobacco business. This solid performance resulted from positive pricing contributions in several markets. Revenues on a reported basis were up by 10.7% year-on-year due to top line growth in the tobacco, pharmaceutical and processed food businesses further enhanced by the weakening of the Japanese yen. Both adjusted operating profit and operating profit increased due also to the weakening of the Japanese yen on top of the revenue growth. Profit was up by 17.3% year-on-year, in line with operating profit growth and despite increased financing costs.
Let me explain the results on the tobacco business from Slide 5 and onward. I'll start with the volume performance. Industry volume decreased in several markets including France, the Philippines, Russia and the U.K. Industry volume for combustibles continue to decrease in Japan. Despite these headwinds, sales volume for combustibles and RRP combined was at the same level as the previous year due to the continued market share gains and the growth in the EMA cluster, mainly Iran and Poland, as well as the gradual recovery of global travel retail.
Looking at the categories more specifically, sales volume for combustible stood at the same level as the previous year. Our market share momentum continued with gains across the key markets of Italy, the Philippines, Romania, Spain, Taiwan, Turkey, as well as in many other markets. Industry volume in France and U.K. decreased more than anticipated in our initial forecast as travel restriction eased. This decline was partially offset by Spain where industry and the sales volume experienced a larger increase than our initial forecast due to the recovery of tourism.
While the recovery of the business environment in some markets accelerated versus our initial forecast, the overall trend is not yet back to pre-pandemic levels. As you would expect, fluctuation varies by market. So we will continue to monitor the trend carefully. In addition, as a collateral effect of Russia and Ukraine situation, we experienced volume declines in some export market due to inventory shortages. Combined with a resilient, combustible volume performance, our RRP sales volume is showing a significant year-on-year increase driven by Ploom X in Japan.
Slide 6 summarizes the financial results for our tobacco business. Despite the negative volume effect due to the unfavorable market mix caused by the lower sales volume in high-margin markets such as Japan and the U.K., our core revenue increased by 3.6% year-on-year at constant currency, driven by strong pricing contribution in our key markets, mainly Japan, the Philippines, Russia, Turkey and the U.K. In some markets, additional pricing was implemented in response to inflation.
Adjusted operating profit at constant currency grew by 6.5% year-on-year due to the price mix contribution despite higher cost due to energy price increases and inflation. The positive impact of a weaker Japanese yen worked in our favor, pushing core revenue and adjusted operating profit growth to 11.3% and 14.1% year-on-year respectively.
Now I'll move on to the performance in our key market within each cluster on Slide 7. First is Asia. Mainly due to combustible sales volume decline in Japan, total sales volume in this cluster showed a year-on-year dip for the first half of 2022. Core revenue and adjusted operating profit on the other hand increased due to favorable foreign exchange rates. In Japan, the RRP sales volume increase partially offset the decrease in combustible sales volume, this being our continuing trend.
In the combustibles category, competition remains intense in the various segment due to ongoing down-trading. Our combustibles market share for the second quarter was at the same level as the first quarter driven by the introduction of several new value segment products. We continue working to improve our market share of combustibles through the expansion of our portfolio, a wider range of brands and prices. An excise tax increase is scheduled in October for RRP products. We intend the price revision at the appropriate time, considering comprehensively the possible effects on industry volume, competitive trends and customer reactions to new prices.
Let me explain about our progress of Ploom X in the following slide. Next is Western Europe. Sales volume in this cluster has decreased year-on-year due to eased travel restrictions. Core revenue and adjusted operating profit both grew in this cluster due to positive effects of the foreign exchange. In the U.K., combustible sales volume was down substantially due to industry volume contraction following a price hike, since the second half of the fiscal 2021 on top of the effects of eased travel restrictions. To strengthen our portfolio and regain market share, we have introduced a new products offerings in the value segment.
Let's move on to EMA. Sales volume grew year-on-year in this cluster, driven by growth in Iran, Poland and the recovery of global travel retail, despite the industry volume contraction in Russia, following the tax-driven, price hike and the temporary inventory shortages in some export markets due to sourcing changes driven by the Russia-Ukraine situation. Due to positive pricing, volume contribution and foreign exchange, our core revenue and adjusted operating profit increased strongly year-on-year.
On the next slide, I'll explain our progress at Ploom X. In Japan, Ploom X share in the HTS category continued to grow driven by the improved consumer experience, a very priced device and proactive promotions in line with industry standards. Ploom X reached 7.6% share of the HTS segment in the second quarter, while growth continued in the HTS category, our share in the overall RRP category remained at the same level as in the first quarter, affected by a decline in the infused category.
Let me update you on the semiconductor situation and its impact on devices. We have secured the majority of the semiconductor supply for 2022. Having said this, uncertainty remains and availability is tight. We are currently working to secure the devices including for 2023. As a result, encountering active sales promotion by competitors, including discounts on devices, redesign and implement sales promotions while carefully rebalancing the devices supply and demand, while aiming to expand our share of market. In the second half of the year, we'll be leveraging learnings from Japan for international Ploom X launches.
Next, using Slide 9, I will explain the financial results for our Pharmaceutical and Processed Food businesses. First, pharmaceutical, revenue increased year-on-year on sales growth at our consolidated subsidiary, Torii Pharmaceutical. This growth was mainly driven by the success of CORECTIM, Ointment for atopic skin problem in CEDARCURE, sublingual allergen tablet and its MITICURE sublingual allergen tablet. Adjusted operating profit was up owing to Torii Pharmaceutical revenue growth.
Let's move on to the Processed Food businesses. Revenue showed year-on-year growth mainly due to price revisions and sales growth in the frozen and ambient food business. Adjusted operating profit remained stable at the level of the previous year due to the steep rise in cost for raw materials and utilities and negative exchange effects offsetting the favorable comparison of an impairment loss related to a plant fire at a subsidiary last year now left.
Let me guide you through our revised full year forecast for 2022. Let us begin with the situation in the Russian market and potential impact on our 2022 revised full year forecast. Please see Slide 11. As previously communicated during the first quarter, the JT Group continues to operate in Russia in full compliance with all the applicable sanctions. We also recognize that the operating environment is becoming increasingly complex. Under these circumstances, the JT Group continues to evaluate various options for its Russia business, including potentially transferring its ownership.
Next, let me explain the factors related to Russia, which could potentially affect the revised full year forecast. The Russian market accounts for around 9% of revenue and 17% of adjusted operating profit for the revised 2022 consolidated group financial forecast. Although, the estimated impact in the initial forecast stated in the first quarter was at approximately 8% and 15% respectively, the proportions increased slightly due to the revised foreign exchange rate assumptions.
Regarding the procurement, the risk of facing supply chain constraints related to the availability of raw material still exist. While the impact from sourcing changes cannot be ignored, we are also concerned that the cost increases will become apparent in the second half because of the steep rise in energy prices, commodity shortages and inflation, all accelerating since February and sourcing changes as well. The exchange rate for the Russian ruble has been appreciating, but our projections remain conservative due to the high uncertainties such as the possibility of stronger international sanctions against Russia. We estimate that if the Russian ruble moves 1% against Japanese yen, it will have approximately JPY 2 billion impact on our adjusted operating profit.
With Slide 12, I'll explain our revised forecast for fiscal 2022, which we are disclosing today. First, let's look at the figures at constant currency. We project an increase in core revenue at constant currency from our initial plan, as we reflect the stronger first half pricing contribution within the tobacco business. For adjusted operating profit at constant currency on the other hand, we are making a downward revision from the initial plan by 4.9% from the initial forecast and a negative 1.1% year-on-year. This is due to the cost increases caused by the higher energy prices and inflation, as well as sourcing changes dictated by the Russian-Ukraine situation.
Turning to the reported figures. We revised upward our initial forecast for reported basis revenue and adjusted operating profit because of the slight decline in yen value. We have revised our projected operating profit upward by JPY15 billion from the initial forecast following an upward revision of the adjusted operating profit. Along with that, we revised our profit forecast upward as well by JPY6 billion from our initial forecast, despite higher projected financial cost and tax obligations. We also made an upward revision for projected free cash flow due to the upward revision for adjusted operating profit and an improved working capital. We nevertheless project year-on-year decrease in free cash flow due to expenses related mainly to the implementation of initiatives to strengthen our tobacco business operating model in Japan.
Next, our revised forecast for the tobacco business. Please look at Slide 13. Our volume projection is unchanged from our initial figure, a decrease of approximately 3% year-on-year despite a good performance in the first half. We forecast a significant volume contraction in the second half due to the continued impact of related travel restrictions, notably in the U.K., the postponement of the Ploom X launch in Russia and influences from the Russia-Ukraine situation. Negative factors from the Russia-Ukraine conflict that could impact JT sales volume include finished goods supply constraint following sources changes related to former exports from Russia and Ukraine, low domestic inventory in Ukraine and the negative impact to our sales volume due to the industry volume contraction in Russia. All these are reflected in our revised forecast.
Financially, we projected a robust pricing contribution for the full year, mitigated by the impact of cost increases deriving from the Russia-Ukraine situation that will be more apparent in the second half. Cost increases related to higher energy prices and inflation in each market and the negative volume impact from finished goods supply constraints, following sourcing changes related to former exports from Russia and Ukraine will be the primary cause of our downward revision of the forecast for adjusted operating profit.
Subsequently, while we will raise our forecast for core revenue cost and currency by 0.9% from the initial figure, we expect adjusted operating profit will be lower by 4.5% from our initial forecast. The exchange rates we apply as preconditions will reflect the growing weakness of the yen as I mentioned. For that, we are revising upward our forecast for core revenue and adjusted operating profit on a reported basis.
With Slide 14, I'd like to explain our forecast for our Pharmaceutical business. Projected revenue will be revised upward by JPY1 billion to JPY82.5 billion as we expect an upward swing in royalty income due to the weakness of the yen and revenue growth at Torii Pharmaceutical. Although, we project a year-on-year increase in revenue, we are making no change in our adjusted operating profit forecast because of increases in cost for research and development and like.
Let's move on to the forecast of our Processed Food business. We have revised our revenue forecast upward by JPY1 billion from the initial figure to JPY154 billion, projecting additional price revision. Meanwhile, we are lowering our forecast for adjusted operating profit by JPY0.5 billion, projecting impact from further increases in prices for raw materials and other costs.
In closing, please look at Slide 16. Summarizing the first half of fiscal 2022, JT was -- has delivered solid results, driven by strong pricing in the tobacco business. We have revised downward for our forecast for adjusted operating profit at constant currency, projecting a negative impact from higher cost driven by increasing energy prices and inflation in the second half.
Adjusted operating profit and profit on a reported basis on the other hand, we were revised upward, reflecting the weakening yen going forward. We continue to make progress in the area of RRP with Ploom X. Our primary focus are steadily building share in the Japanese HTS market. In the second half of the year, we will be leveraging learning from Japan for international Ploom X launches.
Lastly, let me discuss shareholder return. We have not altered our forecast for the annual dividend from our initial projection of JPY150 per share. Based on revised profit forecast, our payment ratio for fiscal 2022 will be about 73.5%, which I believe is on a level that beats our shareholder return policy, as I've shown previously. Our forecast for the full year includes Russian business. We have received many questions from shareholders about possible impact on the shareholder returns if non-recurring loss occurs in relation to JT's Russian operations.
Should a non-recurring transfer loss, impairment loss or any similar cost occur by the end of this fiscal year, we will examine its scale and nature and discuss how to deal with it, including adjusting its impact on the payout ratio defined in our shareholder return policy. We will make a comprehensive decision at the end of the fiscal year after closely examining business plan for the next fiscal year and onwards.
That's all for today. Thank you for your attention.
Question-and-Answer Session
Operator
Thank you very much. Now we'll move to Q&A session. Let me introduce you the speakers for answering your question today. Mr. Kato, CFO of the JT Group and Mr. Shimayoshi, JTI Deputy CEO. Next, I'll show you how to ask questions. You are afraid, we don't accept questions in this English line. [Operator Instructions] The first question comes from Mr. Miura of Citigroup Global Markets.
Nobuyoshi Miura
Hello. Do you hear me?
Nobuya Kato
Yes. Thank you.
Nobuyoshi Miura
Thank you very much for your very detailed presentation. I'd like to ask about Russia. What is the current status of your Russian business? Would you give us some insight? And I was informed that the business still continues, but for the procurement of the raw materials, what is the sustainability of the business, if that is secured for the future, I like to ask about that. Thank you.
Unidentified Company Representative
Thank you. That business condition in Russia, Mr. Shimayoshi, JTI Deputy CEO will take that question. And also for the business continuity, Mr. Kato, the CFO, will take that question.
Koji Shimayoshi
Shimayoshi speaking. Thank you very much, Mr. Miura. First of all, the Russian business, I'd like to answer your question. Talking about the overall market that total and also the industry volume, there was increase of the tax and also that we were concerned by the increase of the illicit trade, so that industry volume is weakening a bit. And was announced in March that the Ploom X launch was postponed and formal one Ploom S, as far as the -- our inventory continues, we'd like to continue to see that.
And talking about the sales volume, in January, there was a pricing with the tax increase and also that there is the additional pricing in the following months and also that our market in the cigarette that there is down-trading and also HTS, it has been rather sustained. And also that our share has been increasing slightly. That is the current condition of the Russian market and also our business condition in Russia. And talking about sustainability, I think Mr. Kato will respond.
Nobuya Kato
Kato speaking. For the business continuity, you asked the question about that, to be more specific, there was a question about the inventory level as well. And talking about the raw materials inventory level as of today, that the raw material inventory is from one to three months. There is some range. We do have the inventory level as such. And for the procurement of the raw materials, there is some risk for the supply chain constraint. However, taking various measures, I would like to continue the procurement and also that we'd like to increase the volume.
And for the finished goods, we do have the certain level of inventory as well. And with regard to the constraint of the supply chain risk, for example, as you may know already, the countries are taking the sanctions on Russia. And based on that specific raw materials or the chemical product have faced some constraint and also that air and marine and also the land transportation have been some constrained. And also for some businesses, although, they were not influenced the sanctions in the scope of the sanctions, but they stopped the supply to Russia. So that based on that, we are considering the resource changes and also that we have been building up the inventory level and also that we are taking measures to implement those.
Nobuyoshi Miura
Thank you, Mr. Kato. With regard to the business continuity, I'd like to have some confirmation. Looking at the competitors, they say that the profit has gone from April in Russia. But in your case, as far as you can for the sake of the Russian people by securing the inventory and until you have the specific next deck, you like to continue the business. Is that what you mean?
Nobuya Kato
Thank you for your additional question. Well, yes, that whatever continued Russian business as long as possible, I think that was your question. And how far are we going to continue the Russian business, not only in Russia, but globally, we do have the businesses. So across the globe that customers and employees I think that we have the great impact on those stakeholders and we do have the policy of the 4S model. So based on that, we'd like to come to the optimized conclusion.
Therefore, as far as mentioned before, for the contingency, if there is any material risk for the stable business and we are considering various options, including the transfer of the ownership. And based on that, we have been continuing our business. So let me reiterate that based on our policy of the 4S model, we like to come to the optimized conclusion and make a decision and implement the action.
Nobuyoshi Miura
Thank you very much. And one more question, in Russia, when you have the transfer of the ownership, there might be some sales of the business. And then that organic profit wise and adjusted operating profit, I think there will be the dip of about 17%. Then talking about the dividend, if the organic profit is down, how should we see the dividend level that should we -- should you still continue to have the payout ratio of 75%?
Koji Shimayoshi
Kato, continue to speak.
Nobuya Kato
For the concept for the dividend, as was explained before, how we have the transfer of ownership and that might be the transfer to the third-party, or we may have the other forms and they are not yet decided at this moment. And eventually, based on that form, we can conceive various scenarios. Then after implementing those scenarios, maybe that loss might be related to the business or that might be our one-off losses. And if that is non-recurring, as we explained before, that should be considered in the dividend calculation. That is our stance.
And talking about the organic part, whether that will be included reflected in our calculation of the dividend? Well, we need to look at the business -- so basically, that will be included in the calculation of the dividend. But ultimately, we will go through the various scenarios and also that the practicality of the implementation. And then at the end of the fiscal year, we decide and also looking at the next year station that we'll make a final decision.
Nobuyoshi Miura
Thank you very much for responding to tough question. Thank you very much.
Operator
Thank you very much, Mr. Miura. Now let's move on to the next question from Mizuho Securities, Mr. Saji.
Hiroshi Saji
Thank you very much. I have -- different to other companies for example, about acquisition or with regard to the RRP contribution, I think will take some more time. And in that situation, when you think of post-COVID, I would like to understand -- come from your understanding, I mean, what is the happening in this quarter with regards to plus and minus? Due to COVID-19, there's restrictions around the movement of people and with the relaxing of the service restriction the minus is probably causing the decline in the low pricing market in U.K. and France.
And I think there's some negative strong restrictions, but from the positive factor, you talked about the duty-free market and in places like Spain, where are regions where the restrictions were laxed -- so I think there's some positive size. So as a net in this situation, what is happening and whether that would continue? I mean, do you continue to see a net positive? This duty-free market is unclear to be honest. And so after revising your business, in order to determine the growth rate, what is the positive effect from the duty-free business? How big is that impact? I would like to receive your comment.
Unidentified Company Representative
So your question was related to COVID-19, the positive or the negative impact from the relaxing of the restriction on the movement and also the and that will be explained from JTI Deputy, Shimayoshi.
Koji Shimayoshi
My name is Shimayoshi, I would like to respond to your question. So for post-COVID, to be honest, before COVID-19, the consumers' behavior especially in the UK or France or the southern part of Europe, people will go on a trip and they will purchase tobacco and that demand was quite large. And because of COVID-19, there was a restriction on the movement of people and that demand has gone away and the internal demand has increased with the high-end products.
So volume-wise, I think your question is which one is higher in margin? But -- so I can't talk about the numbers, but for U.K. and France, U.K. is higher in margin, but the demand have moved to the low-margin country which is Spain. But actually in the U.K., in the second half of last year, they have relaxed the movement of travel. And in the first half, the internal domestic demand was stronger. But the first half of this year, the domestic demand has gone down and that demand moved to Spain.
So the global travel retailers, what's happening with the passenger count there? We are seeing gradual recovery. but compared to before COVID it's roughly 50%. So that's how far it has recovered. To be honest, the other high-end market is Taiwan and consumers in Taiwan, their behavior against travel and consumption I think will be the next focus. So to give you more detail, in Taiwan, the general consumers or general customers, starting from March of this year, there was a gradual relaxing of the travel to overseas market. But recently, they would go overseas and they need to be quarantine for three days. So the overseas travel from the Taiwanese has not fully recovered yet.
To give you more details, the total demand in Taiwan looking at the trend of the total demand in Taiwan, in 2020 versus the previous year, the domestic demand grew by 6% in '21 and '22, the growth of 6% has not been taken. So gradually, if the relaxing of the travel takes place, the domestic demand that had increased through COVID will start to come down and that might start to be apparent in the second half. I apologize for the qualitative explanation. But so if I were to -- so I was just explaining the current situation in Europe and in East Asia.
Hiroshi Saji
So thank you very much, so if that's the case in a process of going back to the pre-COVID situation, the high-end market will shrink a little and because it's high margin, there's going to be a negative impact. And what would be the positive factor to offset that? Would that be the duty-free market? I think possibly, what does that mean that the duty free market will not fully offset it?
Koji Shimayoshi
Yes, that's right, it would be one person, whether they would buy in the U.K. or is this pay. It's just a matter where they buy. And that would be the difference in margin and that would hit our P&L. So in that context, U.K. and margin are a high-margin market. So therefore, the P&L cannot be fully be off-setted. So the growth strategy with those new strategies that you would show in the future or will be the driver for offsetting that, yes. Going back to the situation before 2019, meaning that '20 and '21 was a special situation. So you're going to pick out from the two good situation, yes.
Hiroshi Saji
I understand, thank you very much.
Koji Shimayoshi
Thank you very much.
Operator
And let us move to the next question. Mr. Morita of Daiwa Securities. Morita of Daiwa Securities.
Makoto Morita
Do you hear me well?
Koji Shimayoshi
Yes.
Makoto Morita
So I'd like to ask about the mid to long-term strategy as far as you can comment. And the current external environment is changing rapidly that Russia and the inflation and also inbound the part of that. And looking them again, thinking about the future growth scenario, how are you going to change that? Or that you continue to be on the extension of the previous ones? I like to have your thought process for the mid to long-term strategy and I'd like to know about the direction as well?
Unidentified Company Representative
Thank you for your question. For the mid to long-term strategy for the corporate, that CFO, Mr. Kato will respond.
Nobuya Kato
Thank you, Mr. Morita for the question. Kato speaking. For the entire corporate, I'd like to make some comment. For the overall company, but as you know, of course, the tobacco business is a key factor. And as has been introduced before, that geographical portfolio and rebalancing or the optimizing the geographical portfolio and also the product portfolio, including the combustibles that -- especially for the combustibles that we are going to focus more on the return.
And also for the RRP, we are going to increase that. And for the overall direction, whether there will be any change or not, I think it was part of your question. And for the overall strategy and of course, that there was issue of Russia. But despite that, I don't think we need to change that materially. But rather that by the steady implementation of those strategy will be more important for us for the mid to long-term profit growth.
Unidentified Company Representative
And talking about the tobacco business, I'd like to share with you some of the more detailed thought process. Excuse me, that Mr. Shimayoshi will make a more detailed comment.
Koji Shimayoshi
Shimayoshi speaking. Do you hear me well?
Makoto Morita
Yes.
Koji Shimayoshi
And I think that Kato has covered mostly, but let me share with you my own view that after the cold war, that war that you are also seeing the globalization and in that trend that we have been expanding our geographical portfolio and also in the midst that we have achieved some growth. And further down the road, how the award will be developing in the globalization, how we can enjoy the growth. And you began to see some question for that because world is more into the blocks and also that we need to look at the country risk or the geopolitical risk we need to be aware of.
And based on the previous thought process, that geographical portfolio and also the product mix having combined to achieve the growth. But as Mr. Kato mentioned before that the country risk for the low country risk for the more matured market that Europe and Japan and HTS and RRP, that the growth of these product will be more important than before. And Russia and Ukraine situation starting from February, looking at those stations, in future, I think that importance of the RRP will be more highlighted. That is my view.
So including some numbers, we need to confirm in the second quarter -- second half whether our assumption was correct or not. And we'd like to revisit the numbers and I would like to make some decisions. May I make one confirmation that the geographical expansion and also that our combustibles and also the RRP, there are three factors. And in Russia, I think that is a part of the pillar for the geographical optimization, but that is getting more sensitive. And also in the emerging countries, I think that the country risk will be rising. So previously that there are three factors have been well balanced. But I think that RRP's expansion needs to have more focus in future. Is that your comment? The key point of your comment?
Well, so far that especially the HTS within the RRP, we have been prioritizing the investment. And we have reconfirmed our stance. That expansion of the geographical portfolio and also the combustible, of course, we have not given them up better. We may have the recession in some part and also that are, whether we have the good environment for the major M&A, we need to reconsider so that the HTS key market and also the low country risk areas will be the areas for us to have for the more focused investment. So rather that we like to phrase that our policy has been reconfirmed and also that I fully understand that the HTS is more important.
Makoto Morita
And with that, is there going to be any change in the strategy or are you going to be on the extension of the current policy? Or in order to accelerate, do you need to have any additional measures? So with regard to the business management, are you going to have any changes?
Koji Shimayoshi
For the HTS for the time being, I would say HTS within the RRP for the five to 10 years that -- we need to look at the nicotine business, our major growth and that will be generated in this sector. And then that the pie is expanding and we need to take more shares in that growing pie. So that is a reason why we're going to have the prioritized investment in this business. And looking at the environment for the competition, iQOS 2015 launched and also that we had some catch-up after that and also some other competitors are following.
But the product itself has been incremental in terms of the improvement and also the pricing have been taken so far. And there is a previous track record. So looking at the combustible and HTS, what will be the next? You may have that question. And so by having the accelerated investment, we need to ensure our capability. And also after the HTS, what comes next? We need to consider that. And also that we'd like to accelerate the speed in finding the next item.
Makoto Morita
I'm looking forward to having your next explanation. Thank you.
Operator
Thank you very much, Morita-san. Let me move on to the next question. From Morgan Stanley MUFG Securities, Mr. Miyake.
Haruka Miyake
My name is Miyake from Morgan Stanley. For this time, on a currency -- constant currency basis, you have made upward revision of -- and that was driven by the cost increase and also the export volume coming down from Ukraine and the Russia and there might be from different factors. But depending on -- I'd like to understand the breakdown between different factors.
Unidentified Company Representative
So your question was on a constant currency basis, you have -- what are the factors behind the ALP revisions and that will be addressed by Shimayoshi, the Deputy CEO, CFO.
Koji Shimayoshi
Thank you very much for your question, Miyake-san. I would like to refrain from commenting about the breakdown. But to give you more color around this JPY30 billion reduction and in February of this year, we have announced the plan for 2022. And at that point, the economic recovery due to COVID, the raw material costs and the logistics cost increase was already confirmed. And at that time, we expect that, that could be absorbed. And with that expectation, we had started the business operation for this year. But on February 24, the war has started between Russia and Ukraine and that caused increase in resource costs, as well as raw material cost further. And in addition to that, there was the global inflation and those situations arose at that time. And these are not one-time in the second half of this year, we expect this to be more apparent and it might take like until 2023 or 2024 for them to get settle down.
And from Russia and the Ukraine and the neighboring countries the Middle East and QACA (ph) countries we are exporting to those countries. And there is difficulty in logistics or physically the trucks cannot go through or there's cost increase -- raw material cost increase. And we are addressing counter actions against that and we're looking for alternative locations and building that into raw materials and we're preparing for those alternatives. And by the end of this fiscal year, we expect that to completely resolve. So in the context this JPY30 billion, I cannot talk about the breakdown, but inflation and raw material cost increase will continue for the next two to three years and the war-related out of stock can be resolved by the end of the year. That is all for me. Thank you.
Haruka Miyake
Thank you very much. So if that's the case, I don't know about the scale, but the cost increase, for example, can be transfers onto the price increase, that is my impression. But actually, the core revenue, you are making an upward revision. So when you calculate on the cost, the volume might be at risk. And so you're saying that you're not fully able to transfer the cost increase on the price, that's my understanding.
Koji Shimayoshi
I guess you're right. For the cost increase of the products, because we're a manufacturer, we are putting efforts to reduce the cost, but still there are some areas we cannot address it, I mean tax increase is one thing. And basically, we want to transfer onto the pricing. However, of course, when we decide the price increasing, we have to consider the brand competitiveness, as well as the competitors movement, as well as consumers affordability, as well as social situations.
So there are different factors need to be taken into account comprehensively to make those judgment, especially in Japan, inflation takes place, but the salary increase will only come out maybe next April or spring onwards. So there's going to be a lag in the salary increase. So whether price increase is the right thing to do that timing is something that we need to consider and we need to do that for each country. In this period, the cost increase needs to be transferred on to the pricing, but there's going to be some time lag depending on the country. Thank you.
Operator
Thank you, Miyake-san. We are receiving many questions, but we are running out of time. So we'd like to take the last question. Mr. Takagi from SMBC Nikko Securities.
Naomi Takagi
Thank you. This is Takagi. Do you hear me?
Koji Shimayoshi
Yes.
Naomi Takagi
Thank you. I'd like to ask about the Russian business. Three months ago that you said that one of the option is transfer of the ownership, but do you continue that consideration? And it seems that you have not come to the conclusion yet. But what is debottleneck for you not to be able to come to the conclusion? And what things need to be cleared in order to make the final decision for the Russian business? So in the last three months that what happened and what did you think?
Unidentified Company Representative
So I'd like to ask about those process. Are you going to take more time for the Russian business and also what is the bottleneck for the final decision that Mr. Shimayoshi, Deputy CEO of JTI will answer your question that.
Koji Shimayoshi
I think it was a rather critical comment that what have been doing in the last three months? I do understand your comment. And as the other peers commented that some announced the exit, but actually, deal was not ready for many companies. And we have already prepared some basic plan. And also for the effectiveness for those implementation of the plan, that headquarter location in Japan and also that Europe, where the operational base is located, we need to look at regulation of these locations. And especially for the against Russia that how are we going to see that is one thing we need to consider.
And also that relevant countries including Japan that are the stars of the sanction is rather different, so that we need to have the confirmation of those different colors. And also that the number six and the number seven package, they were revised. So that we need to have the confirmation for those number six and the number sevens plan again and again. So that when we have the completion of that preparation. In this meeting, I cannot give you the definitive answer. And when those preparation is ready and as Mr. Kato mentioned that based on the 4S model, we will come to the best resolution.
Naomi Takagi
That's all for me. Thank you very much. I understood presumably before I think you're making some preparation, including the options for the transfer.
Koji Shimayoshi
Well, let me reiterate that even if we think we are ready that we need to have some update and also how that will play out in the future needs to be monitored closely as well.
Naomi Takagi
Understood. For Russia as a country, it was regarded as the high-risk, high-return country. But what is your view, higher risk and low return? How do you see that country?
Koji Shimayoshi
Now, Shimayoshi speaking, high risk, low return or not that we are having the very keen sense of crisis that we need to manage the crisis. Day-by-day, the situation is changing and uncertainty is very high. And as I said before that until we prepare -- complete the preparation that we'll continue to have the business. And also for the new investment, it has been suspended at this moment. Therefore, if the current condition continues in the long view, it might be difficult for us to anticipate the long-term growth.
Naomi Takagi
Thank you very much for your comment.
Unidentified Company Representative
Thank you, Mr. Takagi. With this, I'd like to conclude the session for the Investors Meeting for the second quarter 2022 result. Thank you very much for your participation today.
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Japan Tobacco Inc. (JAPAF) Management on Q2 2022 Results - Earnings Call Transcript