Sony Group Corp Q2 FY2022 Earnings Call

We'd now like to begin Sony Group earnings announcement. I will be serving as the moderator. I am from Corporate Communications. My name is Okada. First, Executive Deputy President and CFO, Totoki, will present the FY 2022 second quarter earnings and FY 2022 forecast, followed by Q&A. In total, we are scheduling for 70 minutes. With no further ado, Mr. Totoki, please.

Today, I would like to start by talking about the business environment surrounding Sony. We recognize that the risk of the global economy slowing down is increasing further due to factors such as rising tensions between the U.S. and China, soaring energy prices, and expanding inflationary pressure as well as rapid interest rate hikes in various countries. We are taking steps to prepare for further deterioration of the business environment in each of our businesses, especially in Entertainment, Technology and Services, ET&S, and Imaging & Sensing Solutions, I&SS, which are relatively more sensitive to an economic recession. Now, I'd like to explain the following. The consolidated results for the second quarter ended September 30, FY '22, Q2 are as follows: Consolidated sales for the quarter increased 16% compared to the same quarter of the previous fiscal year to JPY 2,751.9 billion, and consolidated operating income increased JPY 25.6 billion to JPY 344.0 billion, both record highs for the second quarter and first half. Income before income taxes increased JPY 62.7 billion year-on-year to JPY 345.8 billion, and net income attributable to Sony Group Corporation shareholders increased JPY 50.9 billion to JPY 264.0 billion. This shows the results by segment for FY '22 Q2. Next, I'll explain the FY '22 consolidated earnings forecast. The forecast for consolidated sales is JPY 11.600 trillion, an increase of JPY 100 billion from the previous forecast. The forecast for operating income is upward revised to JPY 1.160 trillion, an increase of JPY 50 billion and the same amount that was forecasted at the beginning of the fiscal year. The forecast for consolidated operating cash flow excluding the Financial Services segment is unchanged. The assumed foreign exchange rates are approximately JPY 140 to the U.S. dollar and approximately JPY 138 to the euro. The forecast for each segment is as follows. I'll now explain the situation in each of our business segments. First, the Game & Network Services, G&NS, segment. Q2 sales increased 12% year-on-year to JPY 720.7 billion, primarily due to the impact of foreign exchange rates despite a decrease in sales of third-party software. Operating income decreased a significant JPY 40.5 billion year-on-year to JPY 42.1 billion, primarily due to the recording of expenses associated with acquisitions, including Bungie, Inc.; an increase in software development costs; and the negative impact of foreign exchange rates, partially offset by a decrease in losses on hardware. The '22 sales are expected to be JPY 3.630 trillion, an increase of JPY 10 billion from the previous forecast due to the impact of foreign exchange rates, partially offset by a reduction in the sales forecast for third-party software reflecting results of Q2. On the other hand, operating income is expected to be JPY 225 billion, a decrease of JPY 30 billion from the previous forecast. Regarding hardware profitability, we are expecting a slight improvement from the previous forecast due to price changes and cost reduction, partially offset by the negative impact of foreign exchange rates. Regarding software profitability, we have downwardly revised our forecast because we think it will take more time for engagement to recover from its current low level. In addition, our forecast for expenses associated with acquisition is expected to increase from the previous forecast by JPY 4 billion due to the impact of foreign exchange rates and amount to approximately JPY 61 billion. Operating income, excluding the amount, is estimated to be JPY 286 billion. Although the total gameplay time spent by PlayStation users during Q2 increased slightly versus the previous quarter, it decreased 10% year-on-year, primarily due to the impact of an increase in opportunities to go outside, resulting from a reduction in COVID-19 infections. When we compare software sales for this quarter with the same period of the previous fiscal year, we see sales of past library titles decline sharply, while sales of major new titles remain strong. Users appear to be playing a smaller number of titles out of a desire to spend less money. The number of PlayStation Plus subscribers and accounts at the end of September decreased 4% from the end of June to 45.4 million accounts. We see that this decrease results from a greater decline in user engagement amongst the PS4 users than expected. On the other hand, the ratio of PS Plus subscribers among PS5 users remains at a level significantly higher than that of PS4. We are putting even more effort into accelerating the penetration of PS5 hardware to recover this user engagement going forward. Regarding production of PS5 hardware, restrictions on the supply of materials and logistics have significantly eased. The number of units produced during the quarter exceeded 6.5 million, progressing faster than planned. We recognize that demand from customers for PS5 continues to be strong as the actual sales situation at retail stores in the U.S. is such that, in September, it took an average of 17.5 hours to sell out 100,000 units after their arrival. To meet this strong demand, we will do our utmost to bring forward supply into the year and holiday selling season and aim to exceed our FY '22 forecast of 18 million units. In terms of first-party software, we plan to release a new popular franchise title, God of War Ragnarök, on November 9. The previous God of War released in 2018 was one of the largest titles ever released exclusively for PlayStation, selling 23 million units cumulatively to date. We expect similar performance from the new title as well. Regarding Bungie, Destiny 2: The Witch Queen, Season of Plunder, which was released in August, is off to a good start. In addition, we have announced Destiny 2: Lightfall, which is an expansion pack scheduled for release in February of next year, and we are receiving great expectations from fans as a result. In addition, Bungie's collaboration with PlayStation Studios is progressing well. Regarding PS software, we released Marvel's Spider-Man in August and the popular IP that was also a hit movie, UNCHARTED: Legacy of Thieves Collection, in October. The titles have been rated highly, with Metacritic metascores of 87 and 88, respectively. And in the two months since the release, sales of Marvel's Spider-Man approached the highest level ever for a PC software title released by Sony. In this way, we are actively pursuing various measures to ensure increased user engagement and reaccelerating the growth of our game business from both the hardware and software perspectives. We expect to see the results of these efforts contribute to sales and profit in earnest from the second half of this fiscal year and next fiscal year. Our next segment is the Music segment. Q2 sales increased significantly by 32% year-on-year to JPY 359.3 billion, mainly due to the impact of foreign exchange rates and the increase in streaming sales. Operating income was JPY 78.7 billion, a significant increase of about JPY 28.1 billion year-on-year, mainly due to the positive impact of foreign exchange rates and the increase in sales. The contribution of operating income from Visual Media and Platforms accounted for a mid-teens percentage of the operating income of the segment for the quarter. In the mobile game application, thanks to the collaboration with Lasengle, which Aniplex acquired in February this year, our efforts to strengthen development and service are progressing smoothly. Our sales of Fate/Grand Order in the first half of this fiscal year, which is the eighth year since the launch of the title, exceeded the level of the first half of the previous fiscal year. Primarily due to the impact of foreign exchange rates and the results of the fiscal year so far, we upwardly revised both sales and operating income forecasts: sales to JPY 1.770 trillion, an increase of JPY 90 billion on the previous forecast; and operating income to JPY 265 billion, an increase of JPY 35 billion from the previous forecast. The streaming sales in this segment continue to grow steadily, with a year-on-year increase of 34% recorded in media and 78% in music publications. In Recorded Music, an average of 48 of our songs ranked in the top 100 songs in Spotify's weekly global music ranking for the first half of the year, which substantially outperformed an average of 36 of our songs over 12 months. We are maintaining a high share of hit charts by continuing to generate hits from the contributions of new artists and well-established artists, like Beyoncé, and with 6 new albums in the past 6 years, including Renaissance. Now, I will take a moment to review our strategic investment in this segment. We are actively making a strategic investment to capture further growth in the music market, which is driven by AWAL, Som Livre, Alamo Records; and merchandising Ceremony of Roses; and podcast production, Somethin' Else and for the acquisitions. In addition, we are carefully selecting which music catalogs of industry-leading influential artists to acquire, such as Bruce Springsteen. These acquisitions play an important role in generating stable, long-term loyalty income, further expanding revenue opportunities and increasing our presence in the music industry. This strategic investment is steadily producing results, and we expect our operating income from this first fiscal year Sony Music Group, which is responsible for our Music business outside of Japan, to reach a record high for the sixth consecutive year. Next is the Pictures segment. Q2 sales increased 29% year-on-year to JPY 337.5 billion, primarily due to the impact of foreign exchange rates. Operating income decreased JPY 4.2 billion year-on-year to JPY 27.6 billion, primarily due to the licensing revenue from digital streaming services in the same period of the previous year. Fiscal year FY '22 sales are expected to be JPY 1.450 trillion, an increase of JPY 70 billion from the previous forecast, primarily due to the impact of foreign exchange rates. We have upward revised the operating income forecast to JPY 115 billion, an increase of JPY 15 billion compared to the previous forecast. In Motion Pictures, as you can see, Sony released original works in different genres during the quarter, and all of them performed well. One example is Where the Crawdads Sing, a movie adaptation of a bestseller novel which achieved box office revenue that greatly exceeded our expectations. The movie was produced by our 3000 Pictures studio, which partnered with HarperCollins and major global publishing companies. We are seeing the success of our efforts to discover excellent original works. Now I'd like to give you an update on Crunchyroll and the animation business distribution service. The integration of the Crunchyroll and Funimation services is progressing smoothly, and the number of paying members is increasing to nearly 10 million so far. The company is also actively involved in overseas theatrical distribution of Japanese animation. Dragon Ball Super: Super Hero was released in August in the U.S. and secured the number one box office sales in the first week of the release. Also, on August 4, we completed the acquisition of Right Stuf, a U.S. commerce company that sells anime DVDs, character goods, and comics. Next, I'd like to explain our recent acquisition of Pixomondo. With 7 facilities in North America and Europe, Pixomondo offers end-to-end services, from visual production to visual effects. It is a pioneer in the field, having won numerous Academy and Emmy awards for the projects it has worked on. It has superb technological capabilities and a rich history of success. Pixomondo is also known for using the Unreal Engine game engine provided by Epic Games, in which we invest to enhance its visual effects capabilities. In the virtual production market, which is expected to grow significantly in the future, we aim to combine Sony's hardware and software technologies with Pixomondo's technological capabilities to establish a leading position. Lastly, I will explain the progress toward the merger of Sony Pictures Networks India and Zee Entertainment Enterprises. Following the approval from the Competition Commission of India on October 4, Zee's shareholders approved the merger in an Extraordinary Shareholders Meeting held on October 14. The merger process is progressing steadily, and we currently expect the transaction to close by the end of the first half of next year. Now, for the ET&S segment. Q2 sales increased significantly by 16% year-on-year to JPY 677 billion, mainly due to the impact of foreign exchange rates. Operating income increased JPY 5.1 billion year-on-year to JPY 77.8 billion, primarily due to the positive impact of foreign exchange rates and an increase in sales of digital cameras. Although we have incorporated additional risks of a market slowdown in the second half of the fiscal year, our FY '22 sales forecast is JPY 2.510 trillion, an increase of JPY 60 billion. There is no change from the previous forecast for operating income. In the current quarter, we were able to quickly recover from the supply chain turmoil caused by the lockdown in Shanghai, which allowed us to restore a stable supply. This enabled us to recover sales and profit primarily in the digital camera segment. However, for TVs, the deterioration of the business environment is becoming apparent, such as the increasing downward pressure on prices due to an oversupply of panels and sluggish demand, especially in Europe. We anticipate that this environment will become even more severe going into next fiscal year due to the global economic slowdown. We are aiming to minimize these risks. As of the end of September, daily turnover inventory in every product category has decreased compared to the end of June, and we are planning to closely monitor demand trends as we reduce the inventory even further. Additionally, we are accelerating our efforts to strengthen our business structure from next fiscal year onwards and enhancing cooperation between ET&S, I&SS, and G&NS in procurement and logistics while further optimizing the breakeven point according to the prevailing business environment. Also, new business areas, which have been positioned as our growth avenues such as sports, life sciences, network services, and virtual production, are expected to increase their sales by approximately 20%. Next is the I&SS segment. Q2 sales increased significantly by 43% year-on-year to JPY 398.4 billion, mainly due to the impact of foreign exchange rates and higher sales of image sensors for mobile devices. Operating income was JPY 74 billion, a significant increase of JPY 24.3 billion year-on-year, primarily due to the positive impact of foreign exchange rates and the benefit from the increase in sales. Our sales forecast remains unchanged. We have upwardly revised our operating income forecast by JPY 20 billion from the previous forecast to JPY 220 billion, primarily due to the positive impact of foreign exchange rates. The slowdown in the smartphone market, particularly in China, did not improve during Q2, but the impact was generally within the scope assumed in our previous forecast. However, the high-end smartphone cameras are progressing as expected, with larger die size, higher resolution, and higher performance benefitting from this. Sales reached a historic high for the segment in the second quarter. Due to the improved supply of logic semiconductors, it has become possible to increase the production of large die size and higher-resolution sensors, which allows us to proactively introduce high value-added sensors. We expect image sensor shipments in the third quarter ending December 31 to remain at a higher level, but we also believe that we need to consider the risk of further economic slowdown in the end-user product market. Therefore, in the current forecast, we have incorporated additional risk into our estimates and have made a conservative forecast. Regarding inventories, we continue to utilize existing production capacity and manage strategic inventories, optimizing the timing of future capital investments. Inventory at the end of the quarter was up about 33% year-on-year, which we believe is broadly in line with our sales growth. From next fiscal year onwards, we expect the trend of increasing adoption of large die size and higher resolution sensors in high-end smartphones. At the same time, the automotive business is also steadily expanding, and we have high expectations for the business to grow. Lastly, for the Financial Services segment. FY '22 Q2 Financial Services revenue decreased 17% year-on-year to JPY 304.5 billion, mainly due to the deterioration in net gains and losses in investment in the separate accounts at Sony Life Insurance. Operating income at Sony Life increased a significant 11.6% year-on-year to JPY 54.6 billion, primarily due to the impact of the recovery of the funds that were subject to unauthorized withdrawal. The FY '22 Financial Services revenue forecast is JPY 1.310 trillion, a decrease of JPY 130 billion from the previous forecast. There is no change from the previous forecast for the operating income. To summarize the earnings announcement, our biggest regret is that we have made a significant downward revision to the operating income forecast of the G&NS segment for the second consecutive quarter. As CFO, I take this very seriously, and I've been improving the accuracy of our earnings forecast. On the other hand, when looking at the entire group in the first half of the fiscal year, we think that each business has responded swiftly to major changes in the business environment. Furthermore, the results of the investments we have made in the Music and I&SS segments have made up for the weakness of the G&NS segment. The cost structure of each business segment has balanced out the significant fluctuation in foreign exchange rates, and therefore, we are able to strengthen our resilience. We anticipate that the business environment will become even more severe from now into the next fiscal year, and each business is taking steps to prepare for this. In addition to facing these issues in the short term, we will also work to implement measures to grow over the long term. This concludes my remarks. Thank you.

That was the presentation by Totoki. We will begin taking questions from the media at 4:25, and the Q&A session for investors and analysts will start at 4:50. Each segment will have a planned duration of 20 minutes for questions and answers. Thank you for your patience. We will now begin the Q&A session with the media. The presenters for this session are Hiroki Totoki, Executive Deputy President; Naomi Matsuoka, Senior Vice President responsible for Corporate Planning and Control, Support for the Finance Business and Entertainment Area; and Sadahiko Hayakawa, Senior Vice President overseeing Finance and Investor Relations. Let’s start the Q&A.

Can you hear me? About the game segment. About the sales forecast, can you give the breakdown, software, hardware? And can you give me the specifics of your sales forecast? I think major titles... you have a very good lineup. But including the year-end sales for the third quarter, how much of a level are you aiming for year-on-year? And there is a slowdown in the economy, et cetera, these external factors. So including those factors, can you answer? And PS5, will the price increase have an impact on the demand? That's my first question. The second question about semiconductors. Earlier you said that China and the high end, especially low-end, decline is within your expectation. But going forward, I think there are some additional risks that you have factored in. But about the high end, is there a possibility that the sales would drop? Did you factor in this possibility? And especially North American customers, high-end forecast, can you explain whether the high-end models are doing well now? And we have a lot of news about the problem at the production factory, et cetera. So can you explain how much of these factors have been included in your forecast? And what is the outlook?

Thank you for the question. Firstly, about Game & Network Services regarding the sales forecast and the breakdown of the forecast. As for specific numbers, I cannot disclose them here. But as a trend, I would say first-party software is expected to be high thanks to God of War. About third-party overall game trends will impact, but there may be a slight year-on-year decline. Regarding hardware, I cannot provide specific unit numbers. But as I mentioned, the second quarter production reached 6.5 million already. We want to use this to supply for the year-end sales. There's a lot of expectation here. As for the PS5 price increase's impact, so far, due to the price increase, we have not seen any dampening of the demand. However, we must monitor what will happen in the market going forward. As for I&SS, the China mid- and low-end models' slowdown is something we have already factored in. About high-end sales, I believe that they are performing relatively well. However, to some extent, due to the economic slowdown, we expect a slight decline. So this risk has been taken into account. Including that in our forecast, we have come up with these numbers.

We'd like to move to the next question. Kyodo News Agency, Mr. Yamasaki, please.

My name is Yamasaki of Kyodo News Services, and I think I have 2 questions. First one is for your performance forecast. Due to the yen's depreciation, what extent of upward effect do you expect because of the yen's depreciation? And what are the main factors for the upward revision? Is it possible to name a few? Second is for semiconductor trends. In October, you talked about the U.S. more stringent restrictions on China export. So what is the impact on your business due to the U.S. restrictions on China?

Thank you for your questions. First, regarding the business performance outlook and foreign exchange impact. Hayakawa-san will answer your questions.

Thank you for your questions. Your question regarding the foreign exchange impact on our future forecast: if there is a difference of JPY 1 against the dollar and euro, we have already indicated some extent. But there may be differences due to currency and foreign exchange hedging. In the gaming industry, we have a negative impact based on dollar costs. We expect around 50% of the impact by the foreign exchange. The I&SS has a positive effect due to fluctuations. As for the main factors for the upward revision, one is the contribution from the Music segment and growth in the streaming business, along with the foreign exchange impact. Those are the main drivers for the upward revision. For I&SS, we have significant revenue and sales, which drove the upward revision. Regarding the U.S. export restrictions to China, we have witnessed minimal impact and have incorporated this into our forecast. However, we are carefully monitoring the situation as tensions might intensify.

So we would now like to accommodate the next question. From NHK, Mr. Shimai, please.

This is Shimai from NHK. I hope you can hear my voice. I have 2 questions. First, about the yen's depreciation and looking at the business, there is a positive impact of a weaker yen. However, for example, cost increase could negatively impact. So what kind of impact is there? Additionally, in comparison to competitors, for example, due to the weak yen, are they going to review their production capability? Will Sony also review its production capability? My second question is about Sony's relationship to semiconductors. For the PS5, there were 6.5 million units produced. Do you think the impact from semiconductor production has been already resolved?

Talking about the exchange rate, there are positive and negative aspects for different segments. As Mr. Hayakawa mentioned, looking at the sensitivity for the weaker yen, the positive effect is about USD 1 billion. For the euro, it's about a 7 billion impact across Game & Network Services, ET&S, and I&SS segments. Regarding projections, we need to consider the supply chain conditions and geopolitical risks instead of relying solely on exchange rates. We must have flexibility. As mentioned, automation and DX are included in my speech to ensure standardization in production, allowing production wherever needed. We are taking proactive actions for that. On the semiconductor side, logistics pressures have been manageable. Through Q2, 6.5 million units were produced according to plan, and therefore we expect to achieve the target of 18 million units sold.

We'll proceed to the next question. Toyo Keizai, Sasaki-san, please.

I have 2 questions. First, about PS5, the outlook for next fiscal year. You mentioned logistics and component supply recovering. But will you be able to meet all the demands next fiscal year? When do you expect to surpass the demand? The second question is about Music. Earlier, you mentioned that the virtual media platform accounts for about 10%. Is this ratio growing? If so, what are the reasons for the growth, and how much does anime contribute to profit in this segment?

Regarding PS5 expectations for the next fiscal year, during the presentation in May, we set a goal for PS5 to surpass PS4 in the fourth year after PS5 was introduced. If we can manage 18 million this year, we aim for over 23 million next year, which will allow us to surpass PS4's sales. As for Music, while the visual platform is around 10%, FGO is the largest contributor. Though we anticipate mid- to long-term declines, with acquisitions like Lasengle, we expect continual growth in IP, including new titles like Demon Slayer.

Time is running out, and we would like to take one final question. There seems to be no questions, so I will close the Q&A session for the media attendants. For analysts and investors, the Q&A session will start at 4:45 PM. We will resume the session for investors and analysts then. Thank you. Thank you for your patience. We will now begin the Q&A session for investors and analysts. I am Shinichi from our Financial/IR Group and I'll be leading this session. For the media, we have three representatives available to respond to your questions. Let's start the Q&A session. Now, from Morgan Stanley MUFG, we have Ono-san.

I have 2 questions, one on ET&S and one on games. For ET&S, the camera sales and business seem promising. However, the JPY 180 billion operating profit might be because of the foreign exchange impact and higher margin camera business. It seems a bit awkward. Regarding smartphones, the new Xperia 1 IV are being discounted by communication carriers. What is your position on this and why didn't you change guidance? For games, we have strong production of 18 million units, yet MAU figures are gradually slowing. Are you expecting recovery in Q3?

Thank you for your questions. For ET&S, the camera business has performed excellently, almost reaching record highs, as pent-up demand has driven sales due to previous supply shortages. However, we should incorporate concerns about economic slowdown in the second half, which is why we have adopted a conservative approach to our guidance. About TVs, as you know, panel supply is high, and profitability is declining. We will focus on maximizing profit in the first half while being selective in the second half. We're preparing for recovery in the economic cycles of next fiscal year. For Game & Network Services, production is on track, but we are experiencing declines in MAU and other metrics as users are spending more time outdoors. PS4 and third-party software sales are sluggish. However, engagement remains high with PS5, and we expect some recovery in Q3, especially with strong titles released during the holiday season.

Thank you very much, Mr. Ono. We'd like to move to the next question from JPMorgan Securities, Mr. Ayada, please.

I have 2 questions for the game. You've mentioned that there has been deterioration in third-party sales, and I'd like you to explain the details. Additionally, PS Plus memberships have seen a significant decline. How do you plan to recover membership?

Thank you for the questions. First, regarding the deterioration in third-party software, our initial forecast was overly optimistic, and its weakness stems from more users going out for leisure activities. New titles, especially AAA titles such as Call of Duty, have a good release planned, and we expect recovery in Q3 due to seasonal effects and strong first-party titles. As for PS Plus membership, while there was a decline in members, with the renewal of services lacking momentum and aggressive promotions during this quarter, we plan to increase PS5 adoption and improve promotion to attract members and recover subscriptions moving forward.

Thank you very much. Next question, UBS Securities, Mr. Yasui, please.

I have 2 questions. First, about Music. The streaming market is very strong with numerous hits generating a lot of profit. Do you feel any potential risks in your music business? Secondly, about semiconductors in I&SS, you've mentioned a profitability ratio of 20%. When is the peak period where you expect profitability to increase, given the current situation with contracts and foreign exchange hedging?

Thank you for your questions. Regarding the music sector, we are performing extremely well, and the strong performance in streaming brings little concern currently. However, we recognize potential risks from new platforms like TikTok that could disrupt the industry. About I&SS and the profitability ratio of 20%, I believe we can increase profitability, and while short-term revenue is a focus, we understand the need for higher margins eventually. External factors will greatly influence the timing of achieving these margins.

We would like to move on to the next question, SMBC Nikko Securities, Katsura-san.

For I&SS and strategic investments, I have 2 questions. Concerning I&SS, inventory and capital investments, how are they related? You raised your investment amount possibly due to foreign exchange and semiconductors. What are the changes in the semiconductor prospects? For the next period, how will you respond flexibly to market restraint? Secondly, about strategic investment, could you elaborate on potential changes given interest rate hikes and their effects on investments in companies like Bungie?

For I&SS, regarding inventory and capital investments, we aimed to raise productivity with investments in optical sensors for mobiles and other high-end products. Our Nagasaki plant expansion is tied to this demand. On the inventory side, our growth aligns with revenue, and for this quarter, we aim to maintain full production capacity to build inventory for the coming fiscal year. Regarding strategic investment, we are on track and aligning with our initial planning. We have completed around JPY 1.23 trillion in investment including some share buybacks. Concerning Bungie, while environmental changes affect decisions, we currently do not have concerns regarding its investment.

Thank you very much, and as time is running out, we would like to conclude the earnings announcement. Thank you very much for your participation.