Performance Highlights and Q&A for the First Quarter of the Fiscal Year Ending March 2020

The Presentation of the Financial Results

In the presentation of the financial results, Senior Vice President Muramoto described two points;
"Highlights of Financial Results for 1Q", "Launched New Medium-Term Management Plan".

1. Highlights of Financial Results for 1Q

In the first quarter of FY2020.3, the consolidated operating revenue increased 2.0% year-on-year, to 1,246.1 billion yen. Even though there was a steady increase in the life design domain and business services segment, the consolidated operating income was 255.8 billion yen, which is an 11.4% year-on-year decrease. This was due to an increase in sales costs in order to strengthen our retention measures, mainly in response to the entry of new operators in the second half and the migration of 3G users to 4G in advance of the termination of 3G at the end of March 2022. The decrease was also due to temporary factors such as the change in the accounting period for the Myanmar business in the previous fiscal year, the accelerated depreciation of 3G equipment, and the devaluation of some handsets.
On the other hand, there was a steady increase in the number of mobile IDs, due to the penetration of unbundling plans and the effects of bundling the life design services. In addition, the growth in the telecommunications and non-telecommunications fields remained firm due to steady growth in the total ARPA revenues, au ARPA revenues, and value-added ARPA revenues as well.

2. Launched New Medium-Term Management Plan

We are now conducting our business operations under new brand slogans, which were revised in May. The KDDI brand slogan was changed to "Tomorrow, Together", and the au brand slogan was changed to "Explore the extraordinary".
The 5G era will be an era of competition and collaboration, in which we will work with partners to develop infrastructure and platforms, while actively competing to offer superior services and prices. We will leverage 5G to promote open innovation that leads to the creation of new experience value, and we will actively pursue efforts to develop next-generation services that lead to new platforms and regional revitalization.

Regarding the development of infrastructure for the 5G era, we are planning to launch 5G next spring as a non-standalone (NSA) network. Our brilliant 4G, which has been refined over many years, will be combined with special 5G and deployed as a hybrid network. In addition, to speed up the launch of 5G, we reached an infrastructure sharing agreement with SoftBank in July 2019 aimed at promoting the early development of the 5G network in rural areas. Through such efforts, we aim to make rapid progress in constructing a resilient 5G network.

Regarding open innovation for the 5G era, we opened KDDI Digital Gate in September 2018 as a site for facilitating collaboration with our partners. One example is our collaboration with JAL INNOVATION Lab, with whom we are conducting research, development, and trials for next-generation services using 5G and IoT. This autumn, we will expand into Osaka and Okinawa to provide powerful support for the creation of new business.

In the area of smart drones, we have formed an alliance with LGU+ to further grow the international drone market. In MaaS, we are collaborating with NAVITIME to promote the digital transformation of transportation in partnership with transportation operators and local governments. Through such activities, we will continue to develop a variety of specialized platforms and use them to collaborate with a variety of partners and create new business.

In the area of regional revitalization, we launched the regional revitalization fund in May this year and have concluded agreements with 63 local governments. Moving forward, we will continue working to achieve the SDGs and actively focus on regional revitalization and education business as social issues to be solved through our business.

Next, with respect to au, we will continue to provide individual customers an exciting experience that is centered on the smartphone, through payment, e-commerce such as au PAY and au Wowma!, and financial services. In addition, we will continue expanding the scale of the life design domain to further promote the integration of telecommunications and life design, around our core business of telecommunications.

In regards to payments, the number of au PAY subscribers has surpassed 4 million within four months of launch. As a result of our partnership with Rakuten, the smartphone payment service can be used in over 1 million locations. In the field of e-commerce, Wowma! was renamed as au Wowma! in July of this year. Furthermore, we will launch live commerce services and offer free shipping for au Smart Pass Premium members, as part of our efforts to provide smartphone-centric consumer services that are more familiar to the customers.

In the area of finance, we completed a takeover bid of kabu.com Securities Co., Ltd. in June of this year, and made au Insurance Company, Ltd. as a subsidiary in July. As a result, we are now prepared to provide one-stop access to all financial products in the au Financial Holdings circle. With our finance services based on the Smart Money Concept, we will continue to bring payment and financial services closer to customers both through the smartphone, which has become central to daily life, and through au WALLET, which has had more than 20 million cards issued.

Regarding the evaluations related to SDGs, we were selected as a component stock for the FTSE4GOOD Index Series and MSCI ESG Leaders Indexes, which are world-renowned socially responsible investment indexes, for the third consecutive year. We were also selected by the S&P Carbon Efficient Index Series for the second consecutive year, and have received high evaluations from a variety of institutions.
We will continue aiming for sustainable growth with society by pursuing efforts to achieve the KDDI SDGs.

• You explained that there were some temporary factors related to the 11.4% decrease in the operating income in the first quarter. Could you provide the details again, along with the amounts that correspond to each factors?

  

  In the first quarter, we recorded a decrease for the first time in seven quarters. First of all, there was a ¥10.9 billion operating income increase, due to the ¥5 billion increase in the operating income of the life design domain in the personal segment and the ¥5.9 billion increase in the operating income of the new business services segment.
  However, there were two elements that contributed to the overall operating income decrease.
  First, there were some temporary factors leading to an approximately ¥22 billion operating income decrease. These includes:(1) the effect of changing the accounting period for the Myanmar business (six months of operating income was incorporated into 1Q of the previous fiscal year, so that the 1Q of this year is approximately three months worth of operating income lower in the year-on-year comparison), (2) accelerated depreciation of 3G equipment (expected to be a cause of operating income decrease in the first half), (3) devaluation of some handsets (conservatively expected to have an effect), and (4) devaluation of product inventory. (In IFRS, losses such as future financial subsidies are estimated for each model in the market inventory, and this amount is calculated as a revenue loss. These future estimates are recalculated at the end of each quarter, and the amount increased this time.)
  The second cause is the ¥17.6 billion increase in sales costs. Competition in the mobile market grew more intense in the first quarter, leading to an increase in the sales costs associated with strengthening our defense.
  In the 1Q business results, there was an approximately ¥12 billion difference between our calculation and that of the analyst consensus, which can be attributed to these factors.

• Regarding the causes of the operating income decrease in 1Q, the Myanmar results only affect 1Q, and the increased costs associated with the accelerated depreciation of 3G will have an effect in the first half. Other than that, if we consider that there will be no significant effects in the second quarter and beyond, is it safe to assume that the business results will return to showing a positive operating income increase?

  

  Yes, that is correct. The effects of the temporary operating income decrease are expected to go as planned, so that by contributing to the growth of the life design domain and business services segment, we can expect to achieve the operating income increase for the full year as presented in the initial forecast.

• In the business services segment, the plan is to achieve 8% operating income growth for the full year. However, can you explain what contributed to the strong results of 18.9% in 1Q? In particular, I would like to know about the progress made in the IoT business.

  

  All of the areas are experiencing growth. In our core businesses, operating revenue increased for mobile and fixed-line communications, and these subscription models will steadily contribute to earnings throughout the year. In addition, the expansion of IoT and other growth areas, along with factors such as the growth of global business and subsidiaries, will result in a total increase.
  Furthermore, the operating revenue from external customers decreased in 1Q due to the effects of reorganization of lower profitability business overseas. However, if we exclude this, there was actually an increase. The exit from this business was completed in the previous fiscal year, and the effects are expected to appear this fiscal year.
  As a result of stable growth in all of these areas, there was a ¥5.9 billion operating income increase compared to the same quarter of the previous fiscal year.
  In addition, the total number of IoT connections, for which the goal in the medium-term management plan is to expand to 18 million connections (+1,000 connections over 3 years) by the end of March 2022, appears to be off to a promising start.

• I would like to ask about the competition in the consumer business. How many subscribers were gained by reducing the sales price for handsets in 1Q? Also, since this situation is expected to continue until September, how do you expect it to affect the second half?

  

  The competition continued to grow more intense from 4Q of last year, so the au churn rate saw a slight year-on-year increase. However, at the same time, we made decent progress in acquiring new customers. In this respect, I would like you to understand that au handset sales are increasing in terms of the number of units.
  Also, one reason for the increasingly intense competition in the first half is the announcement last November that 3G services would be terminated (planned for the end of March 2022). For the new competitive environment in the second half, we will actively promote efforts to have the significant numbers of remaining 3G users switch to smartphones.

• How do you expect the business environment to be affected by the reductions to the cancellation fees and the placement of upper limits on handset subsidies, which will be a result of the revisions to the Telecommunications Business Act?

  

  We will respond thoroughly to the revisions to the law in October.
  First, regarding unbundling plans, we have already responded by offering the au Pitatto Plan and au Flat Plan starting in July 2017. With 15 million customers already using these unbundling plans, the preparations for October are well in place.
  On the other hand, regarding the sales methods for handsets, we must revise our approach so that the handset costs remains completely separate from the communication charges.
  In this respect, we will respond thoroughly in accordance with the new laws and ordinances.
  As for the movement of the market in the second half, we need to assess the situation carefully, but our impression is that it will proceed more or less as anticipated.

• Would it be possible to sustain your strong performance without significantly changing the handset sales methods and fee structure?

  

  Regarding the mobile price plans, we began offering au Flat Plan 7 Plus in June of this year, and the au Data MAX Plan, which has no upper limit on data capacity, was launched on July 26. Of course, the mobile price plans will be properly reviewed in accordance with the market situation, but in general, these mobile price plans will serve as the base.
  As for the handset sales methods, we announced today that applications for the upgrade program will no longer be accepted after September 30. However, we believe that it will still be necessary to provide an affordable means for customers after September, and we will decide how to proceed based on the customers' opinions and market trends.

• I would like to ask about the overseas business within the business services segment. You explained that there was an increase in operating revenue if you exclude the wholesale voice call business, but specifically, is it the data center business that is steady?

  

  The two pillars of growth are the data center business and the system integration (SI) business for corporate customers.

• What is the scale of the SI business in overseas business? Also, can you describe the strengths of KDDI in this area, if any?

  

  We are not able to provide the specific financial figures, but the sales are significant in scale.
  As with the business in Japan, we are providing communications in regions where we have a license. In other areas, it is common to provide end-to-end solutions, such as networks that establish links between bases in each country, or networks that establish links between the customer's own bases.

• Regarding the global communications platform, in addition to the advance launch of services in the US and Japan, it appears that you also recently began efforts in China. Could you provide the details again regarding the future areas of its expansion and the schedule?

  

  The platform is already deployed in Japan and the US, and we will expand into other areas, including China, in the future. We will begin conducting the full-scale roll-out this fiscal year, and the expansion of services to 120 countries in the future will contribute to the increase of operating revenue in KDDI's global business.

• In the life design domain, how did the establishment of ENERES and Jibun Bank as consolidated subsidiaries affect the operating revenue and operating income?
  Also, it appears that there was a double-digit operating revenue and operating income increase even if you exclude the effects of the two companies, but what companies and businesses are driving this increase, and is this business growth sustainable?

  

  The financial effects of establishing ENERES and Jibun Bank as consolidated subsidiaries are not disclosed, but the scale of the contribution to the operating revenue in particular was significant.
  As for your other question regarding operating income, au Smart Pass is the base for growth, just as before. The proportion of operating income attributable to au Smart Pass Premium increased steadily from 47% at end of March, to 51% at the end of June.

• What about the number of au Smart Pass Premium subscribers? Also, what are your thoughts regarding the decrease in the total number of subscribers, including those for au Smart Pass?

  

  At the end of June, the number of au Smart Pass Premium subscribers was 7.81 million. au Smart Pass has reached a peak in terms of its penetration, so that the increase in the proportion attributable to au Smart Pass Premium, which is the top au Smart Pass service, is currently contributing to the operating income increase.

• I would like to ask about Rakuten's new entry into the market and KDDI's partnership with them to provide roaming services, as well as the effects that these developments will have on the competitive environment.
  When the roaming partnership was initially announced, the indication was that Tokyo's 23 wards, Nagoya City, and Osaka City were not included in the roaming service areas. However, as more information became available, I got the impression that support would be provided in a wide variety of areas such as subways and commercial buildings, even in Tokyo, Nagoya, and Osaka. In addition, there are rumors suggesting that additional support will be provided temporarily in Tokyo's 23 wards if the Rakuten network is not completed on schedule.
  I would like to confirm whether or not the details have been formally decided in the roaming contract between KDDI and Rakuten. Also, is it your intent to actively provide roaming support if Rakuten has some trouble with their network? Is there any truth to the rumors that additional services may be provided depending on the circumstances, even though Tokyo's 23 wards are not included in the service area? This could have a significant impact on the competitive environment in the future, so could you provide as much detail as you are able to disclose?

  

  We are currently in the process of working out the final contract details related to Rakuten's market entry. Basically, we do not intend to change our initial stance of excluding Tokyo, Nagoya, and Osaka from the roaming service areas, except in the case of subways and major buildings.
  Upon entering the telecommunications business as MNO, Rakuten naturally came to the conclusion that they should construct their own network. If you consider that they are promoting their network virtualization technology in a variety of places, it would appear that they are adequately prepared.

• Next I would like to ask a technical question. It appears that the specifications are such that when a user moves out of the KDDI roaming area and into the Rakuten network area, communication is interrupted without performing handover, and communication is restored when a request is made on the handset side. Is this understanding correct?

  

  We are now conducting trial tests of the roaming service, and the results will be announced when the service is launched in October.
  That is all that I am able to comment on today.

• The churn rate increased due to changes in the competitive environment, but where are the customers going? Considering that DOCOMO raised the prices of their handsets, is it safe to assume that customers are going to operators other than DOCOMO?

  

  The launch of the au Pitatto Plan and au Flat Plan two years ago helped stem the outflow of customers to MVNOs. The market was calm in 1Q of last year, but competition intensified in 4Q of last year and in 1Q of the current fiscal year. Although the acquisition of new customers partially offset the overall decrease, the au churn rate ultimately increased compared to the same quarter of the previous year. I would like to refrain from commenting on the details about which operators the users went to.

• To achieve the operating income target for the full-year plan, an operating income increase of approximately ¥40 billion must be achieved in 2Q to 4Q. In light of the need to remain focused on activities such as encouraging users to migrate from 3G to 4G and conducting promotional activities, what will be the promotional costs in the second half?

  

  After the revision of the law in October, the fluidity in handset sales is expected to decrease. Regarding the migration of users from 3G to 4G, we will continue our promotional activities, and the situation is expected to go as planned.
  In addition, the decrease in the number of au accounts is slowing, and I believe we can achieve the operating income targets for this fiscal year by steadily increasing the total ARPA including the au ARPA, and maintaining the current circumstances.

• Although the number of au accounts in the personal segment is forecast to decrease by 500,000, it is expected to move in a more positive direction, and the ARPA is also expected to be healthy. However, the breakdown of the total ARPA is not disclosed, so we cannot make a detailed analysis. If possible, can you provide the breakdown and a supplementary explanation?

  

  The total ARPA is composed of four parts: the au ARPA, the value-added ARPA, the au Denki ARPA, and the compensation ARPA. The compensation ARPA remains at about the same level, while the other figures are increasing steadily.

• Can you provide the financial amounts for each of the temporary factors contributing to the operating income decrease?
  Also, you explained that the devaluation of the handset inventory is a temporary factor, but what criteria are used to classify this as temporary?
  Finally, regarding the competitive environment, given that the sales costs will continue to increase in 2Q and beyond, is it possible to increase the operating income under these circumstances?

  

  We are not able to disclose the financial amounts corresponding to each of the temporary factors contributing to the operating income decrease.
  The devaluation was limited to certain handsets, and it will not occur again in 2Q or later. Although the devaluation was applied this one time, it is possible that this could return as operating income in the future if it contributes to an increase in operating revenue.
  The devaluation of product inventory is adjusted based on the inventory quantities at the end of the period, but it is strictly controlled and the effects are unique to 1Q. As for the ¥17.6 billion increase in handset sales costs, we will monitor the market situation and implement controls accordingly, so you can have peace of mind.

• Does the devaluation of handsets reduce the book value to zero, or does it reduce the value to that of used handsets?

  

  It is reduced to zero.

• Can you describe the extent to which the infrastructure sharing with SoftBank will be implemented? Also, could you provide the maximum and minimum case scenarios, or indicate whether there are any restrictions?

  

  This autumn, we are planning to conduct trials in the city of Asahikawa in Hokkaido, in the city of Narita in Chiba prefecture, and in the city of Fukuyama in Hiroshima prefecture. Through these trials, we will identify where there are risks and issues, and examine the scenarios. Regarding the direction, we would like to make a decision during this fiscal year.