Business Risk Factors
Risk Factors Relating the Group and its Business
Note: The following is the translation of “Business Risk Factors” section of the Annual Securities Report filed by TOSHIBA CORPORATION (the “Company”) on June 27, 2022, updated by the Quarterly Securities Report for the Second Quarter filed by the Company on November 11, 2022. This English translation was prepared for reference purpose only. If there is any discrepancy between the Japanese original and this English translation, the Japanese original shall prevail.
The Group’s business areas of Energy Systems & Solutions, Infrastructure Systems & Solutions, Building Solutions, Retail & Printing Solutions, Electronic Devices & Storage Solutions, and Digital Solutions require highly advanced technology for their operation. At the same time, the Group faces fierce global competition. Major risk factors related to the Group recognized by the Company as of November 11, 2022, the date of the Quarterly Securities Report for the Second Quarter of the 184th Fiscal Year, are described below. However, they should not be regarded as a complete and comprehensive statement of risk factors relating to the Group, and there are unforeseeable risk factors other than those described below. The actual occurrence of any of those risk factors may adversely affect the Group’s operating results and financial condition.
The risks described below are identified by the Group based on information that the Group has obtained as of November 11, 2022, and involve inherent uncertainties, and, therefore, the actual results may differ.
(1) Assumptions of the business plan
On June 2, 2022, the Company announced the Group Management Policy of harnessing the power of digital and data to contribute to the realization of carbon neutrality and circular economy under our basic commitment of “Committed to People, Committed to the Future.” In this Management Policy, the Group’s long-term vision aiming at maximizing the corporate value of the Group was made clear and the Group’s mid-to-long term target figures were announced.
The target figures were formulated based on certain economic conditions, industrial trends and various assumptions and forecasts considered to be appropriate at the time of formulation. Whether the Group can achieve such target figures will be affected by many risks and issues including the matters described in “2. Business Risk Factors,” in 183rd Annual Securities Report, updated by the Quarterly Securities Report for the Second Quarter of the 184th Fiscal Year, and the assumptions, etc. may change and, in such case, such target figures may not be realized, and the business plan cannot be achieved as planned.
It is difficult to predict the future impact of the decrease in demand due to the COVID-19 pandemic, and the Company expects to continue to experience certain adverse effects on the Group’s business activities. Depending on the spread condition of the COVID-19 pandemic, there is a possibility that more serious adverse effects will occur. In countries and regions where the COVID-19 pandemic is spreading, the Group’s business activities may be temporarily suspended in terms of preventing the spread of the COVID-19 pandemic.
In addition, the effects of trade friction between the United States and China on sales to some customers, rising energy prices against the background of the conflict between Russia and Ukraine and other related matters, surge in transport costs due to disruptions in logistics, increasing costs of raw materials such as copper and aluminum, etc., may also continue to affect the Group’s ability to achieve its business plan.
(2) Review of strategic alternatives
On April 7, 2022, the Company resolved to engage with potential investors and sponsors (the “Potential Partners”) and explore strategic alternatives, and, as part of the solicitation of proposals regarding strategic alternatives to enhance the Company’s corporate value (the “Process”), the Company has proceeded to hold discussions with the Potential Partners.
On July 19, 2022, the Company decided to invite multiple Potential Partners to participate in the second round of the Process (i.e., the second bid process) and, thereafter, with a view to obtaining more comprehensive proposals, provided them with an opportunity to conduct due diligence on the Company’s business, including financial, legal, taxation, regulatory and other matters.
By September 30, 2022, the Company received a number of more in-depth (including legally binding) written indications of interest submitted by multiple Potential Partners, in varying degrees of completeness. The Company commenced a review of these submissions from financial, legal, taxation, regulatory and other perspectives, in order to determine next steps. The Company remains committed to the previously stated objective of attaining complete and committed binding proposals from the Potential Partners in order to be able to thoroughly consider them as potential strategic alternatives. The Company will continue to engage with the Potential Partners towards that important objective.
At this stage, given the present status of the Process and future discussions with the Potential Partners, no assurance can be given regarding the consummation of an agreement, whether going private or otherwise, with any of the Potential Partners.
(3) Compliance and internal control
The Group has implemented and operates the internal control systems for observance of laws and regulations, social norms and corporate ethics (compliance) and strict reporting of business and financial matters. However, in FY2015, it was recognized that inappropriate accountings such as the priority of benefit and advance of expenses were repeatedly conducted in the Company for the past several years, and there was weakness in the internal control over financial reporting. Therefore, the Group has been engaged in implementing measures for rectifying such weakness and is carrying out the implementation of the appropriate internal control design and operations.
The internal control systems may themselves, by their nature, have limitations, and it is not possible to guarantee that they will fully achieve their objectives. Therefore, there is no assurance that the Group will not unknowingly and unintentionally violate laws and regulations in the future. In FY2022, a US subsidiary of the Company suffered an outflow of funds due to fraudulent instructions being received from a third party who represented himself as a senior executive of the Company. The Company will continue to work to enhance its internal control system, including the measures to respond to misconduct by third parties.
However, it should be noted, changes in laws and regulations or changes in interpretations of laws and regulations by the relevant authorities may also cause difficulty in achieving compliance with laws and regulations, or in continuing business in certain regions or business categories and may result in increased compliance costs. Furthermore, if the Group is in violation of these laws and regulations, the Group may be subject to administrative sanctions, such as fines, or criminal penalties, and legal actions claiming damages may be filed against the Group. In such cases, the Group’s reputation may be adversely affected, and the Group’s business, operating results and financial condition may be adversely affected. In the past, the Company was imposed fines, etc. as administrative sanctions.
(4) The Shares of KIOXIA Holdings Corporation
In September 2017, the Company entered into a Share Purchase Agreement with K.K. Pangea (the “SPA”), a special purpose acquisition company formed by a consortium led by Bain Capital Private Equity, LP, for the sale of all shares of the former Toshiba Memory Corporation, which operates the Memory business. Accordingly, it was decided that the Memory business would be treated as a discontinued operation. Subsequently, as of June 1, 2018, the sale of the shares was closed in accordance with the SPA, and the Company reinvested 350.5 billion yen in total in K.K. Pangea while implementing this sale of the shares with the aim of ensuring a stable business transfer. As a result, the former Toshiba Memory Corporation was deconsolidated from the Group, and K.K. Pangea and the former Toshiba Memory Corporation was treated as affiliates accounted for by the equity method. In August 2018, K.K. Pangea carried out an absorption-style merger with the former Toshiba Memory Corporation and Pangea changed its name to Toshiba Memory Corporation (the name of which was further changed to Kioxia Corporation as of October 1, 2019). In March 2019, it implemented a sole-share transfer making Toshiba Memory Corporation the wholly-owned subsidiary in the share transfer and establishing Toshiba Memory Holdings Corporation (the name of which was changed to KIOXIA Holdings Corporation as of October 1, 2019; hereinafter “KHC”) as the parent company and, as a result, KHC became the Company’s affiliate accounted for by the equity method. The book value of the shares in KHC held by the Company is 84.0 billion yen in the non-consolidated financial statements and 323.0 billion yen in the consolidated financial statements (as of March 31, 2022). As a result of the conversion of the convertible preferred shares in KHC held by the Company into common shares in August 2020, the percentage of the voting rights held by the Company is 40.6%, while the Company granted instruction rights in respect of a part of its voting rights to INCJ, Ltd. as of November 11, 2022, the date of the Quarterly Securities Report for the Second Quarter of the 184th Fiscal Year. Therefore, the income/loss generated by KHC affects the equity in earnings or losses of the Group.
The Company is not involved in the management of KHC and has not been provided the performance forecast of KHC. Therefore, although it is difficult to predict the performance forecast of the equity in earnings or losses of KHC, in terms of KHC’s past performance, the Memory business tends to have significant cyclical fluctuation and its performance has fluctuated remarkably due to the impact of economic changes, especially the impact of currency.
If the performance of KHC significantly declines due to unavoidable circumstances, etc., including market difficulties of the Memory business, rising energy prices against the background of the conflict between Russia and Ukraine and other related matters, confusion in supply chains, natural disaster or power suspension in the future, there is a possibility that an impairment loss will be recorded with respect to the shares of KHC or the equity in earnings or losses will be affected. In the event that, due to export-related regulations, such as customs duties and taxes, or operations of such regulations, which results from recent trade friction between the U.S. and China, the KIOXIA Group’s sales to major customers located in China are restricted or such regulations cause production by such customers to be reduced, the KIOXIA Group’s sales revenue from such major customers could substantially decline and the KIOXIA Group’s business development and results of operations could otherwise be affected, which in turn could have an adverse effect on the Group’s financial condition and results of operations.
In addition, the Company has no intention to make the Group remain in the Memory business and will seek the optimal method to maximize the Company’s shareholder value with respect to the shares of KHC. The listing of common shares of KHC on the Tokyo Stock Exchange was approved as of August 27, 2020. However, KHC decided to postpone its listing procedures at its Board of Directors’ meeting held on September 28, 2020. KHC is considering the appropriate timing of its listing, and the Company continues to cooperate with KHC toward realizing the listing of its shares and continues to evaluate alternative means of monetizing KHC’s stake under the relevant restrictive conditions, including those imposed by shareholder agreements, laws and regulations, market environment, and relationships with various stakeholders. In February 2021, the Company pledged the shares of KHC held by the Company as collateral to Sumitomo Mitsui Banking Corporation, MUFJ Bank, Ltd., Mizuho Bank, Ltd., Sumitomo Mitsui Trust Bank, Limited and other financial institutions in order to secure the borrowings and other debts owed by KHC to the financial institutions.
(5) Securities litigations
In 2015, it was found that the Company made inappropriate accountings and, therefore, the Company filed amendments of the past Annual Securities Reports and other reports. Several lawsuits have been initiated in Japan with respect to such inappropriate accountings and claims for damages totaling 142.6 billion yen have been made against the Company and the Company records the allowances reasonably capable of being estimated (See “IV. Financial Statements,” “1. Quarterly Consolidated Financial Statements,” “Note 19 to Quarterly Consolidated Financial Statements” in the Quarterly Securities Report for the Second Quarter of the 184th Fiscal Year). With respect to these legal proceedings, as a considerable period has passed since the filings, judgments of the first instance may be issued or settlements may be recommended or reached for some of such legal proceedings during the period from FY2022 through FY2023. Including the above matters, since the Group reviews as necessary the amounts reasonably capable of being estimated with respect to the allowances already recorded depending on the future progress, additional expenses may be required to be recorded. In addition, if certain payments are required to be made, cash flows may be affected.
Furthermore, in a class action brought against the Company as defendant in the State of California in the U.S. with respect to the inappropriate accountings, an order granting a motion to dismiss was issued by United States District Court of California. However, the plaintiffs appealed such order. In July 2018, the Court of Appeals reversed and remanded the case to allow the plaintiffs to file an amended complaint in the District Court. In October 2018, the Company objected to the relevant appellate judgment and further appealed to the U.S. Supreme Court. However, in June 2019, the appeal was refused by the U.S. Supreme Court and the case was remanded to the above-District Court. In relation to the inappropriate accounting issues, the Group is subject to investigations by relevant authorities and may be subject to additional investigations in the future. If, as a result, any sanction is given to the Group, the Group’s financial results and financial condition may be adversely affected.
(6) Success of strategic business alliances and acquisitions
The Group has actively promoted business alliances with other companies, including the formation of joint ventures, and acquisitions, in order to grow new businesses in research and development, production, marketing and various other areas. If the Group has any disagreement with its partner in a business alliance or an acquisition in respect of financing, technological management, product development, management strategies or otherwise, such business alliance may be terminated, or such business alliance or acquisition may not have the expected effects. In addition, additional capital expenditures and provision of guarantees may be needed to meet the obligations for such partnership business that may be incurred due to the deterioration of the financial condition of the partner, as well as for other reasons, and as a result, the Group’s results of operations and financial condition may be adversely affected.
(7) Risks related to financial condition, results of operations and cash flow
1) Risks related to large-scale projects
The Group involves and promotes the supply of products and services for large-scale projects in Nuclear Power Generation Systems, Thermal Power Generation Systems, Transmission & Distribution Systems and Railway Transportation Systems, etc. Post order changes in the specifications or other terms, delays, appreciation of material costs, changes to and suspension or stoppage of plans for various reasons, including policy changes, natural and other disasters and other factors, may adversely and substantially affect the progress of such large-scale projects. In addition, the Group may allocate the allowance in preparation for the future losses or retroactively reassess profits that had been recorded as accrued and record them as losses if, among other things, the original estimate is underestimated, the expected profits from such projects do not meet original expectations, or the projects are delayed or cancelled for any reason. The Group recorded losses on certain projects on Thermal Power Generation Systems, etc., in FY2019, and also recorded losses on certain projects on Transmission & Distribution Systems in FY2020 and FY2021. Furthermore, for overseas railway projects ordered in 2018, there have been significant delays in the process due to post order changes in the specifications, delays in design, the impact of the COVID-19 pandemic and other reasons, which also caused losses in FY2019, FY2020 and FY2021, and may continue to cause losses in the future. In order to prevent such losses from arising in large-scale projects, the Group examines whether or not an order can be accepted not only by the key group companies but also by the Company at the stage of accepting orders and strengthens the management of the projects and minimizes the risk of loss, for a certain scale of projects.
Although, as a result of these measures, there has been a decrease in already-commissioned large-scale projects with respect to which losses have arisen, there is a possibility that losses will arise in respect of such projects due to post-order changes to the specifications or other terms, delays, appreciation of material costs, policy changes, and other factors, and, consequently, the Group’s operating results and financial condition may be adversely affected.
2) Business environment of the Energy Systems & Solutions business
A significant portion of the net sales in the Energy Systems & Solutions business is attributable to sales related to capital expenditures by the private sector centering on operators of electricity utilities in Japan and overseas. Accordingly, this business could be affected by trends in such capital expenditures, and low levels of private capital expenditures due to the economic recession, trends in tax reduction measures related to infrastructure investments, higher construction costs arising from factors such as appreciation of personnel expenses, and other changes in the business environment of private business operators, and exchange rate fluctuations may have a negative impact on this business.
With respect to projects regarding plants of operators of electricity utilities, the Company accepts some orders that involve businesses with functions that do not exist in the Group by forming consortiums to share the responsibilities with its partners. The orders are accepted as blanket orders at fixed prices, which include design, engineering, procurement and construction. In such cases, the Company generally assumes the obligations owed to the ordering party jointly and severally with the partner companies, and, therefore, (i) if there are deficiencies in the partner companies’ business operation abilities, (ii) the partner companies fail to perform their share of business, (iii) the financial condition of the partner companies deteriorates, or (iv) the partner companies file for in-court rehabilitation, then the Company will assume the obligations of the partner companies and expenses, and cash expenditures may increase unexpectedly by a large amount. In the case of a fixed-price contract, losses accrued from increase in construction cost and delay in delivery are to be borne by the company that accepted the order, in principle, except for the case where a structure to share the expense with the customer has been introduced. In particular, in certain projects in the Nuclear Power Systems business, which is one of the main businesses of the Energy Systems & Solutions business, the cost unexpectedly increased from the initial estimates and the work process was unexpectedly prolonged, due to such reasons as (i) safety standards of many countries were changed one after another due to raising of the required level of safety measures against terrorism and large-scale natural disasters and (ii) there was no precedent that could be used as a benchmark with respect to a certain project in an area where there had been no opportunity for construction of a nuclear power plant for a long period of time and another project for construction of a state-of-the-art facility.
For the reasons stated above, it may not be possible to pass on to the customer, the partner company or others any additional costs incurred due to the stoppage of the project, changes in regulations or other business circumstances, delays in the work process, or unexpected events specific to first models and such costs may not be collected, or a dispute may arise over such costs. In fact, there are certain projects regarding which the Group is taking legal action. With respect to the investments in an operator that promotes a certain project in which investment is made in order to secure the order from such operator, the Group may incur liability for damages to a customer or any third party, additional expenses, impairments in investments, increases in the financial burden or delays in payouts, depending upon the trends in projects. Difficulties may also arise for the continuance of certain currently ongoing projects due to a change in the policies of fund providers and other factors.
With respect to projects regarding plants of operators of electricity utilities, submission of documents such as a bank guarantee for the guarantee of performance or expenditure is usually required when bidding, accepting the order, and commencing the construction. Furthermore, as stated in “2. Business Risk Factors,” “(10) Risks related to trade practices and parent company’s guarantees” below, when a subsidiary of the Company accepts an order for a project, such as a plant, the Company may provide guarantees as a parent company with respect to the subsidiary’s payment and performance of its obligation under the contract. Since the Company has actually provided the parent company’s guarantee with respect to the large amount of payment obligation and performance obligation with respect to projects regarding plants for which orders were accepted by subsidiaries, if the subsidiaries fail to perform their obligations due to deterioration of the subsidiary’s financial condition or other reasons, the Company will be required to fulfill the parent company’s guarantee and bear a large amount of additional cash expenses, and, consequently, the Group’s operating results and financial condition may be adversely affected.
With respect to the Nuclear Power business, in September 2019, Tokyo Electric Power Company Holdings, Incorporated, Chubu Electric Power Co., Inc., Hitachi, Ltd., and the Company executed a basic agreement to discuss potential collaboration in relation to the nuclear energy business and agreed to advance discussions for the potential collaboration. Depending on the result of the discussions, the Group’s operating results may be adversely affected.
With respect to the Thermal Power business, the Company realizes that, due to internationally accelerated effort to realize a decarbonized society, investment in coal-fired power has been restrained and the shift to renewable energy has proceeded, and as a result, the market conditions regarding large-scale new thermal power projects are severe. Therefore, the long-lived assets related to the Thermal Power business may be required to be impaired depending on the future income/loss forecast. The Group is currently working to change its business structure to mainly operate a service business, optimize the allocation of personnel and reform the layout of manufacturing facilities. However, the business may be adversely affected due to further competition with competitors, etc.
The Energy Aggregation business is in a severe environment due to the rise of fuel costs in energy generation businesses, surge in ocean transport costs and other matters that are affected by yen depreciation and, depending on fluctuations in the estimate of future cash flow due to changes in the business environment, there is a risk that an impairment loss may arise with respect to the fixed assets, etc.
If the plan of the business of Toshiba Energy Systems & Solutions Corporation is not achieved due to worsening of the future external environment, an impairment loss may arise with respect to the shares of such company. In addition, if restructurings, etc. in the Group occur, a loss may be recorded in the Company’s non-consolidated financial results.
3) Business environment of the Infrastructure Systems & Solutions business
The Infrastructure Systems & Solutions business provides diversified solutions and components for the areas of public infrastructure, and industrial systems.
Since a significant portion of the net sales in this business is attributable to sales related to expenditures on public works and capital expenditures by the private sector, reductions or delays in spending on public works, low levels of private capital expenditures due to the economic recession, trends in tax reduction measures related to infrastructure investments, higher construction costs arising from factors such as appreciation of personnel expenses, and other changes in the business environment of private business operators, trends in building and housing construction on a worldwide basis and other factors may have a negative impact on this business.
This business is promoting its business development on a worldwide basis. Post order changes in the specifications or other terms, changes to and stoppages of plans for various reasons including policy changes, changes in regulations, appreciation of material costs and personnel expenses, natural and other disasters and other factors, may adversely and substantially affect the progress of this business. In addition, exchange rate fluctuations and other factors may also have a negative impact on this business.
4) Business environment of the Building Solutions business
The Building Solutions business engages in business regarding elevators and industrial light parts, etc. With respect to elevators, the Group has manufacturing bases in China and sells products in China and China is one of the major markets for the Group’s overseas elevator business. Therefore, low levels of private capital expenditures due to the economic recession, higher construction costs, the COVID-19 pandemic, and other changes in the business environment of private business operators, trends in building and housing construction in China and other factors may have a negative impact on this business. The progress of the business may be adversely affected by future trade friction between the U.S. and China.
5) Business environment of the Retail & Printing Solutions business
The Retail & Printing Solutions business provides retail solutions for the retail distribution industry and service industry, offices, manufacturing and logistics industries and particular customers, as well as printing solutions for offices, and manufacturing and logistics industries. The results of the Retail Solutions business may be adversely affected by any changes in political and economic conditions, taxation, environmental regulations and foreign exchange, and postponement or suspension of capital expenditure by reason of customers’ earnings deterioration, acceleration of industrial realignment due to compounding and systemization, more intensified market competition with competitors, new entries into such industry, and similar events.
With respect to the printing business which Toshiba Tec Corporation is engaged in, as Toshiba Tec Corporation is a listed subsidiary of the Company, the Company respects the independence of Toshiba Tec Corporation’s management and is closely monitoring its recovery plans and progress. From its position as Toshiba Tec Corporation’s shareholder, the Company will discuss with Toshiba Tec Corporation the measures necessary to be taken for the printing business in light of the Group’s business portfolio strategies. Toshiba Tec Corporation is now considering and implementing all strategic measures, including alliances with external companies. The total assets of such business in the Company’s consolidated financial statements are approximately 200.0 billion yen as of March 31, 2022, which includes property, plant and equipment in the amount of approximately 30.0 billion yen and goodwill and other intangible assets in the amount of approximately 40.0 billion yen.
It should be noted that negotiations and agreements with third parties are necessary for strategic measures, including alliances with external companies, and the feasibility of these measures is uncertain. In addition, depending on the terms of such agreements, impairment loss, loss of valuation, or other losses may be recorded with respect to goodwill, intangible assets, property, plant and equipment or other assets.
6) Business environment of the Electronic Devices & Storage Solutions business
The Electronic Devices & Storage Solutions business consists of semiconductors, storage products (HDDs), semiconductor production systems and other products, and the business results tend to change with economic fluctuations and to be affected by exchange rate fluctuations. The market for this business is subject to intense competition with many companies, in Japan and overseas, which manufacture and sell products similar to those offered by the Group. The market may face a downturn, the Group may fail to market new products in a timely manner, production may not go as planned, or competitiveness of the Group’s current products may be lost or decrease due to a rapid introduction of new technology. The Group’s business activities have been partially restricted by the trade friction between the U.S. and China, the spread of COVID-19 and the impact of the conflict between Russia and Ukraine; in addition to that, the prices of raw materials and logistics costs are soaring. If these circumstances continue, this business may thereby be adversely affected.
With respect to the Semiconductor and HDD businesses, demand for the products is somewhat difficult to accurately predict due to such factors as technical innovation, trends in the consumer market, and the actions of ordering parties. Even if capital expenditures are made, unforeseen market changes may cause changes in demand at the time of sale, and it may result in a mismatch between the production of particular products based on the sales volume initially expected and the actual demand for such products, or cause an overstocked inventory in the supply chain, which may have adverse effects on the business such as a downward revision of the sales volume initially planned.
With respect to the HDD business, as a result of continuing discussions with a particular customer on the quality of certain products already delivered, a provision for product warranty has been made and an investigation is being conducted to identify the causes of the quality problem. However, if these circumstances continue for a long period of time, this business may thereby be adversely affected.
With respect to the Semiconductor Production Systems business, while growth is expected in the semiconductor industry due to technological innovation, the business activities of going abroad and locally conducting installation works have been partially restricted by the impact of COVID-19 and the Group is facing the trade friction between the U.S. and China, soaring raw material prices caused by the conflict between Russia and Ukraine, and other factors. If these circumstances continue, the business plan may be adversely affected by them.
7) Business environment of the Digital Solutions business
A significant portion of the net sales in the Industrial ICT Solutions business is attributable to sales related to private IT investments by, among others, the financial sector and major manufacturers, as well as national and local government expenditures on public IT investments. Accordingly, this business could be affected by changes in such investments. Low levels of private IT investments due to economic recession, and reductions and delays in spending on public IT investments may have a negative impact on this business. Since the solution services field of this business accepts most orders by executing service contracts and the term from order to delivery is relatively long, additional costs over original expectations may be incurred, if, among others, the original estimate is underestimated, or a problem occurs in project management. Furthermore, in the case of delay of delivery or defects of delivered systems, the Group may be required to pay ordering parties damages, in addition to bearing additional costs.
8) Business environment of Others
This business provides “SCiB™” rechargeable lithium-ion batteries and makes capital expenditures in expectation of increase in demand. However, the expectation of demand may be underestimated, production may not go as planned, or new technology may appear rapidly, and, consequently, competitiveness of the Group’s current products may be lost or decrease, and a loss may be recorded. Since the rechargeable lithium-ion batteries made by the Company are incorporated into a wide range of products including automobiles, if any material defect occurs with respect to the products made by the Company, there is a possibility that a recall, etc. will arise and the Company will incur a large amount of losses.
9) Financial risk
Apart from being affected by the business operations of the Company or the Group, the Company’s consolidated and nonconsolidated results of operations and financial condition may be affected by the following major financial factors:
(i) Accrued pension and severance costs
The most important assumption that affects the calculation of net periodic pension, and severance cost and benefit obligations, is discount rate and expected rate of return on plan assets. The discount rate is determined considering such factors as the yield of highly-rated fixed income corporate bonds currently available, and expected to continue to be available by the payment date of pension benefits, and the yield of fixed income government bonds. The expected rate of return has been determined considering such factors as composition of plan assets held, risk that can be assumed from investment method, actual returns, basic policy for investment of plan assets, and market trends.
The Group recognizes the funded status (i.e., the difference between the fair value of plan assets and the benefit obligations) of its pension plan in the consolidated balance sheets, with a corresponding adjustment, net of tax, included in “accumulated other comprehensive loss” reported as a component of shareholders’ equity. Such adjustment to “accumulated other comprehensive loss” represents the result of adjustment for the net unrecognized actuarial losses, unrecognized prior service costs, and unrecognized transition obligations. These amounts will be subsequently recognized as net periodic pension and severance costs calculated pursuant to the applicable accounting standards. The funded status of the Group’s pension plan may deteriorate due to declines in the fair value of plan assets caused by lower returns, increases of severance benefit obligations caused by changes in the discount rate, salary increase rates or other actuarial assumptions. As a result, the Group’s shareholders’ equity may be adversely affected, and the net periodic pension and severance costs to be recorded in “other expenses” may increase.
(ii) Impairment of long-lived assets and goodwill
If there is an indication of impairment for a long-lived asset and the carrying amount of such asset will not be recovered by the future undiscounted cash flow, the carrying amount may be reduced to its fair value and a loss may be recognized as an impairment with respect to such difference. A certain amount of goodwill has been recorded in the Company’s consolidated balance sheets in accordance with the U.S. Generally Accepted Accounting Principles. Goodwill is required to be tested for impairment annually. If an impairment test shows that the carrying amount of a reporting unit goodwill exceeds the implied fair value of that goodwill, the amount of such excess, up to the total amount of the goodwill assigned to the reporting unit, will be recognized as an impairment. In addition to the above annual impairment test, if any event indicating a decline in corporate value owing to changes in the business environment or other factors arises, and the total of the carrying amounts exceeds its fair value, an impairment will be recognized. Therefore, additional impairments may be recorded, depending on the valuation of long-lived assets, the estimate of future cash flow from business related to goodwill, and changes in the discount rate for the weighted average capital cost.
Out of the goodwill recorded in the consolidated balance sheet of the Company, the main items include those regarding Toshiba Tec Corporation group, Toshiba Elevator and Building Systems Corporation group and NuFlare Technology, Inc. Goodwill regarding Toshiba Tec Corporation group and Toshiba Elevator and Building Systems Corporation group was recorded upon the acquisitions of a non-listed company by Toshiba Tec Corporation and Toshiba Elevator and Systems Corporation, respectively. In addition, in the consolidated balance sheet prepared by Toshiba Tec Corporation, although goodwill is equally amortized in accordance with Japanese GAAP by which such company is governed, since goodwill is not permitted to be amortized under the U.S. GAAP by which the consolidated balance sheet of the Company is governed, there is a difference between the balances of goodwill. Since such company is a listed company, not only the market environment and such company’s forecast of business results but also the share price of such company is referred to at the time of measurement of the fair value in the impairment test. In the Second Quarter of the 184th Fiscal Year, an impairment loss was recorded with respect to goodwill regarding such company because the fair value of its shares fell below the carrying value thereof, owing mainly to a fall in its share price in respect of such reporting unit and changes in exchange rate. However, there still remains a significant amount of goodwill. Goodwill regarding NuFlare Technology, Inc. was recorded at the time of making it a subsidiary of the Company.
Including the above-mentioned matters, if fair value of the marketable securities or the investments in affiliates held by the Group declines, there is a possibility that a loss will be recorded.
(iii) Exchange rate fluctuations
The Group conducts business in various regions worldwide using a variety of foreign currencies and is therefore exposed to exchange rate fluctuations.
Although the Group makes efforts to minimize the effect of fluctuation in exchange rates by balancing sales in foreign currencies and purchase in foreign currencies, there is a possibility that operating income/loss will be affected by exchange rate fluctuations due to a change in the balance in each business segments and other factors. Also, there is a possibility that foreign exchange losses will occur, as resulting from a difference between the exchange rates at the time of recognition and at the time of settlement, etc. of the credits and debts in foreign currencies, in case of steep exchange rate fluctuations.
Foreign currency denominated assets and liabilities held by the Group are translated into yen as the currency for reporting consolidated financial results. The effects of currency translation adjustments are included in “accumulated other comprehensive loss” reported as a component of equity attributable to shareholders of the Company (“shareholders’ equity”). As a result, the Group’s shareholders’ equity may be adversely affected by exchange rate fluctuations.
(iv) Deferred tax assets
The Group accounted for deferred tax assets. The Group reduces deferred tax assets by a valuation allowance if, based on the weight of available evidence, some portion or all of the deferred tax assets are unlikely to be realized. Recording of valuation allowances includes estimates and therefore involves inherent uncertainty.
The Group may also be required hereafter to record further valuation allowances, and the Group’s future results and financial condition may be adversely affected thereby.
In addition, the Group may be affected by future tax regulatory changes as the recordation of deferred tax assets and valuation allowances have been made based on the currently-effective tax regulations.
10) Changes in financing environment and others
The Group is continuously obtaining financing through, among others, cash flows from operating activities, borrowings from financial institutions including banks and bond offerings such as CP and corporate bonds. These methods of financing are highly susceptible to global economic trends, market environments, interest rate movements and fund supply and demand. Thus, changes in these factors may have an adverse effect on the Group’s funding activities.
In addition, loan agreements (including commitment lines) entered into between the Company and several financial institutions contain certain financial covenants. If the Company’s consolidated operating income or other financial metrics fall below the standards set forth in the financial covenants, the Company’s obligations with respect to the relevant loan repayments may be accelerated upon demand by the relevant lending financial institutions.
(8) Risks related to business partners and others
1) Procurement of components and materials
It is important for the Group’s business activities to procure materials, components and other goods in a timely and appropriate manner. However, such materials, components and other goods may only be obtainable from a limited number of suppliers due to the particularity of such materials, components and other goods, and, therefore, such suppliers may not be easily replaced if the need to do so arises. In cases of delay or other problems in receiving supply of such materials, components and other goods, shortages may occur, or procurement costs may rise. It is necessary to procure materials, components and other goods at competitive costs and to optimize the entire supply chain, including suppliers, in order for the Group to bring competitive products to market. However, the expense for purchasing necessary materials, components and other goods may increase due to the recent appreciation of material costs and personnel expenses and the change in the currency exchange rate. In addition, a shortage in the electric power supply resulted from the suspension of the operation of nuclear power plants in Japan and a further rise in electricity costs due to the rise of fuel costs affected by exchange rate fluctuations may affect business activities, including manufacturing operations, of the Group, since a stable supply of electricity is essential to the Group’s business activities. Any failure by the Group to procure such materials, components and other goods from key suppliers or any shortage in the power supply or further rise in electricity costs may adversely impact the Group’s competitiveness.
Furthermore, any case of defective materials, components or other goods, or any failure to meet required specifications with respect to such materials, components or other goods, may also have an adverse effect on the reliability and reputation of the Group and Toshiba brand products.
2) Securing human resources
A large part of the success of the Group’s businesses depends on securing excellent human resources in every business area and process, including product development, production, marketing and business management. In particular, securing the necessary human resources is essential in respect of achieving globalization of the Group’s businesses and promoting advanced product development and research. However, competition to secure human resources is intensifying and personnel expenses are increasing, as the number of qualified personnel in each area and process is limited, while demand for such personnel is increasing. As a result, the Group may fail to retain existing employees or to obtain new human resources or require costs more than in the past in order to obtain such human resources.
(9) Risks related to new businesses
The Group invests in companies involved in new businesses, enters into alliances with other companies with respect to new businesses, and actively develops its own new businesses.
Cultivation of new businesses entails substantial uncertainty, and if any new business in which the Group invests or which the Group attempts to develop does not progress as planned, the Group may be adversely affected by incurring investment expenses that do not lead to the anticipated results.
(10) Risks related to trade practices and parent company’s guarantees
When a subsidiary of the Company accepts an order for a large project, such as a plant, the Company, as the parent company, may, at the request of the customer, provide guarantees with respect to the subsidiary’s performance under the contract. Such parent guarantees are made pursuant to standard business practices and in the ordinary course of business. If the subsidiary subsequently fails to fulfill its obligations, the Company may be obligated to bear losses as a result.
In addition, with respect to some contracts with customers, since the Company’s consolidated net assets, consolidated operating income or credit ratings fell below the respective levels provided for in the contracts with such customers, the relevant guarantees could be required to be replaced by letters of credit, bonds or submission of cash collateral, and in such cases the Group may incur additional expenses.
Furthermore, since, in certain projects for which the Group receives orders, the payment from a customer is conditioned on the completion of the relevant project, any deterioration in the credit standing of the relevant customer or a delay in the collection of such payment may adversely affect the financial condition, results of operations and cash flows of the Group.
(11) Risks related to new products and new technology
It is critically important for the Group to offer innovative and attractive new products and services. However, due to the rapid pace of technological innovation, the emergence of alternative technologies and products and changes in technological standards, the optimum introduction of new products to the market may not be accomplished, or new products may be accepted by the market for a shorter period than anticipated. In addition, any failure on the part of the Group to continuously obtain sufficient funding and resources for development of technologies may affect the Group’s ability to develop new products and services and to introduce them to market.
From the viewpoint of enhancing concentration and selection of managerial resources, the Group now selects research and development themes more rigorously, with a primary focus on developing original and advanced technologies, with close consideration for the timing of market introduction. In certain products and technological fields, the research and development may not proceed due to more focus on research and development in other products and technological fields, and as a result, the Group’s technological superiority may be impaired.
(12) Risks related to laws and regulations
1) Information security
The Group maintains and manages trade secrets regarding the Group’s technology, marketing and other business operations. The Group has been implementing measures to prevent leakage of such trade secrets outside the Group through maintaining and tightening control of its information management system, training its employees, and other measures. However, in the past, situations have occurred in which leakage of trade secrets was suspected. The Group’s competitive power may be weakened, and the Group’s business, operating results and financial condition may be subject to negative influences, in the event of an unanticipated leak of such information which results in illegal retention or usage of such information by a third party.
The Group also maintains and manages the personal information of customers, business partners and employees, etc. obtained through business operations. Even though the Group makes every effort to manage this information appropriately, the Group’s brand image, reputation and business performance may be subject to negative influences, or the Group may be found to be liable for damages in the event of an unanticipated leak of such information which results in illegal retention or usage of such information by a third party.
Additionally, the role of information systems and information/communication networks in the Group is critical to carrying out business activities. While the Group makes every effort to ensure the stable operation of, and to improve safety measures for, its information systems and information/communication networks, there is no assurance that the functionality of the information systems and information/communication networks would not be impaired or destroyed by cyberattacks such as computer viruses and unauthorized access, software or hardware failures, discontinuance of information/communication services provided by outside operators, disaster, or other causes, and in such cases the Group’s business performance may be adversely affected.
2) The environment
The Group is subject to various environmental laws, including laws on air pollution, water pollution, toxic substances, waste disposal, product recycling, prevention of global warming and energy policies, in its global business activities. It is possible that the Group may encounter legal or social liability for environmental matters, such as liability for the cleanup of land at manufacturing bases throughout the world, regardless of whether the Group is at fault or not, with respect to its business activities, including its past activities. It is also possible that, in future, the Group will face more stringent requirements on the removal of environmental hazards, including toxic substances, or on further reducing emissions of greenhouse gases, as a result of the introduction of more demanding environmental regulations or in accordance with societal requirements.
For example, the Company closed its Fukaya Complex at the end of September 2021 and, following such closure, has conducted soil surveys at the site in accordance with the Soil Contamination Countermeasures Act and Saitama Prefecture Ordinances. As a result of said surveys, it was identified that there were certain substances exceeding the standards. The Company will take countermeasures and, if any event that is currently unexpected occurs, the Company may incur a certain amount of additional expenses.
In addition, the Company additionally recorded the expenses for disposing of polychlorinated biphenyl waste, which is stored at the Group’s business facilities in accordance with the Act on Special Measures concerning Promotion of Proper Treatment of Polychlorinated Biphenyl Wastes, as environmental liabilities as of the end of September 2022 in order to proceed with proper disposal of such waste within the statutory period. However, if any event that is currently unexpected occurs, the Company may further incur a certain amount of expenses.
The Group’s operations require the use of various chemical compounds, radioactive materials, nuclear materials and other toxic materials. However, the Group may incur damage, or the Group’s reputation may be adversely affected, as a result of a natural disaster, the threat or occurrence of a terrorist incident, or of an accident or other contingency (including those beyond the Group’s control) that leads to environmental pollution or the potential for such pollution.
3) Product quality claims
While the Group makes every effort to implement quality control measures and to manufacture its products in accordance with appropriate quality-control standards, in the past, the Group recalled certain products, and lawsuits and other claims relating to product quality were filed against the Group, and there is no assurance that all products are free of defects that may result in such product quality claims due to unforeseen reasons or circumstances. Furthermore, if material product quality claims occur in large projects, and there are long delays in deliveries to customers or reworking is needed, the Group may be liable for a large amount in expenses or damages.
(13) Legal proceedings other than securities litigations
The Group undertakes global business operations and is involved from time to time in lawsuits and other legal proceedings, including class actions, and investigations by relevant authorities. It is possible that such cases may also arise in the future. Due to the differences in judicial systems and the uncertainties inherent in such proceedings, the Group may be subject to a ruling requiring payment of amounts far exceeding its expectations. Any judgment or decision unfavorable to the Group could also have a material adverse effect on the Group’s business, operating results or financial condition. In addition, due to various circumstances, there can be no assurance that lawsuits involving claims for large sums will not be brought, even if the possibility of receiving orders for such payment is quite low.
1) Protection of intellectual property rights
The Group makes every effort to secure intellectual property rights. However, in some regions, it may not be possible to secure sufficient protection.
The Group uses the intellectual property of third parties pursuant to licenses. It is possible that the Group may fail to receive the necessary third-party licenses for new technology or is unable to obtain the renewal of existing licenses or receives them on unfavorable terms.
In the past, lawsuits or similar actions or proceedings have been brought against the Group in respect of intellectual property rights, and the Group has filed lawsuits in order to protect its intellectual property rights. Such lawsuits and actions may be brought against the Group, or the Group may file lawsuits against infringing third parties in the future. Such lawsuits may require time, costs and other management resources, and depending on the outcome of these lawsuits, the Group may not be able to use important technology, or the Group may be found to be liable for damages. Toshiba Tec Corporation and one of its subsidiaries received petitions for order of provisional disposition and a complaint for patent infringement that were filed by Teraoka Seiko Co., Ltd. in the Tokyo District Court for infringement of its patent rights related to semi-self checkout, and Toshiba Tec Corporation has been engaged in settlement negotiations with Teraoka Seiko Co., Ltd. in an effort to reach a resolution of the petitions and complaint (See “IV. Financial Statements,” “1. Quarterly Consolidated Financial Statements,” “Note 19 to Quarterly Consolidated Financial Statements” in the Quarterly Securities Report for the Second Quarter of the 184th Fiscal Year).
In addition, there are products for which the Company has granted use of the Toshiba trademark, etc. to companies outside the Group. Under the license agreement, the licensee is liable for any loss attributable to the products. However, there is a possibility that the Company may incur liability from claims made by third parties, who suffered losses attributable to the products, or suffer reputational harm with regard to the quality of the Group’s products.
2) Political, economic and social conditions
The Group undertakes global business operations. Any Japanese or overseas changes in political, economic and social conditions and policies, such as trade friction between the U.S. and China and the conflict between Russia and Ukraine, and legal or regulatory changes including changes in rules and regulations concerning investment, repatriation of profits, export and import controls, foreign exchange and taxation and exchange rate fluctuations, may adversely impact market demand and the Group’s business operations.
3) Natural disasters
Any occurrence of a wide-scale disaster, strike, terrorism or epidemic illness, such asCOVID-19, particularly in the areas where production or distribution sites are located could have a significant adverse effect on the Group’s results.
Additionally, large-scale disasters, such as earthquakes, floods or typhoons, in regions where production or distribution sites are located may damage or destroy production capabilities, suspend procurement of raw materials or components, and cause transportation and sales interruptions, shutdown of the production facilities or other similar disruptions, which could adversely affect asset value and production capabilities significantly. In the past, the businesses of the Group were affected by the Great East Japan Earthquake and the floods in Thailand and India. Furthermore, main site of Kioxia Corporation is located in Yokkaichi-shi, and, therefore, KHC’s share value may be adversely affected if a Nankai Trough earthquake occurs.
4) Measures against counterfeit products
While the Group protects and seeks to enhance the value of the Toshiba brand, counterfeit products created by third parties are found worldwide. While the Group makes every effort to prevent counterfeit products, the heavy circulation of counterfeit products may dilute the value of the Toshiba brand, and the Group’s net sales may be adversely affected.
This Web site contains projections of business results, statements regarding business plans and other forward-looking statements. This information is based on certain assumptions, such as the economic environment, business policies and other factors, as of the date when each document was posted. Actual results may differ significantly from the estimates listed here.