Nippon Denko (5563) FY2026 Q2 Earnings Report

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Executive Summary

The divergence in the earnings structure—higher operating income, lower ordinary income, and a final net loss—is the most important point in these results, primarily due to the sharp expansion in equity-method investment losses. Revenue increased 1.8% year on year to ¥387.9B, while operating income improved substantially by 164.5% to ¥52.5B. However, ordinary income turned into a loss of ¥29.1B, compared with income of ¥11.8B in the same period of the previous year, and net income also turned into a loss of ¥26.9B, compared with income of ¥4.7B previously. Although improved profitability at the operating level was largely attributable to lower costs, equity-method investment losses of ¥77.3B offset the operating profit and resulted in a final net loss.

Factors Behind Earnings Fluctuations

【Revenue】Revenue increased slightly by 1.8% year on year to ¥387.9B. The core Ferroalloy Business recorded a decline in revenue to ¥237.2B (-3.3%), while the Functional Materials Business also reported lower revenue of ¥67.5B (-8.0%). However, the Incinerator Ash Recycling Business grew significantly to ¥60.7B (+56.2%), supporting overall revenue. The Ferroalloy Business is the largest segment, accounting for approximately 61% of the revenue mix.

【Profit and Loss】Cost of sales decreased 8.6% year on year to ¥297.3B, and the gross profit margin improved substantially to 23.4% from 14.6% in the same period of the previous year. SG&A expenses increased 6.9% to ¥38.1B, exceeding the revenue growth rate, but the improvement in gross profit absorbed this increase. As a result, operating income rose 164.5% to ¥52.5B, and the operating margin improved to 13.5%, up +8.3pt year on year. By segment, the Incinerator Ash Recycling Business made the largest contribution to profit, with income of ¥22.2B (+247.5%), while the Ferroalloy Business recorded a loss of ¥62.7B, expanding from a loss of ¥8.1B in the previous year. The deterioration in profitability in the core business weighed heavily at the ordinary income level. In addition, non-operating expenses surged to ¥84.9B from ¥10.7B in the previous year, primarily due to equity-method investment losses of ¥77.3B, compared with ¥3.5B previously. Consequently, ordinary income was a loss of ¥29.1B, and net income was also a loss of ¥26.9B. The extraordinary loss of ¥1.7B was not a primary cause of the deterioration in earnings. In summary, operating income increased, but ordinary income and net income deteriorated, resulting in a structure of higher revenue and lower profit—or lower ordinary income and net income with a shift into the red on those bases.

Segment Analysis

Segment profit is disclosed on an ordinary income basis. The Incinerator Ash Recycling Business was the most profitable segment, with revenue of ¥60.7B (+56.2%), profit of ¥22.2B (+247.5%), and a profit margin of 36.5%, making it the leading contributor to both revenue and profit growth. The Functional Materials Business recorded revenue of ¥67.5B (-8.0%), profit of ¥9.0B (-13.2%), and a profit margin of 13.3%, resulting in lower revenue and profit. The Ferroalloy Business recorded revenue of ¥237.2B (-3.3%) and a loss of ¥62.7B, deteriorating from a loss of ¥8.1B in the previous year. Its profit margin remained substantially negative at -26.4%, indicating continued severe deterioration in profitability. The Power Business recorded revenue of ¥5.7B (-13.1%) and profit of ¥0.97B (-40.9%), resulting in lower revenue and profit. The Aqua Solution Business was broadly flat, with revenue of ¥7.9B (-3.7%) and profit of ¥0.5B (-2.0%). The expansion of losses in the core Ferroalloy Business was the largest factor depressing consolidated ordinary income, while the high profitability of the Incinerator Ash Recycling Business partially offset the impact.

Key Financial Metrics

【Profitability】The operating margin improved to 13.5% from 5.2% in the same period of the previous year, an improvement of +8.3pt. In contrast, the net profit margin deteriorated to negative 6.9% from +1.2% previously. The gross profit margin rose to 23.4% from 14.6%, an increase of +8.8pt, with cost improvements serving as the primary driver of enhanced profitability.【Cash Flow Quality】Annualized DIO was 171 days, CCC was 199 days, and inventory days were 108 days. Inventory of ¥175.4B accounted for 18.7% of total assets, indicating a substantial amount of capital tied up in working capital.【Investment Efficiency】Annualized ROE was negative 7.9%, while total asset turnover remained at approximately 0.83x, a level broadly consistent with a capital-intensive business. Equity-method investment losses of ¥77.3B weighed on net income and contributed to lower investment efficiency.【Financial Soundness】The equity ratio was 73.1%, slightly lower than 76.0% in the previous year. The current ratio was approximately 268%, while interest-bearing debt of ¥94.5B remained low relative to net assets of ¥684.2B, indicating a conservative capital structure. However, short-term borrowings increased 57.1% year on year to ¥55.0B, making trends in short-term funding an area requiring attention.

Cash Flow Analysis

Because cash flow statement figures have not been disclosed, funding trends are analyzed based on changes in the balance sheet. Cash and deposits declined to ¥48.9B from ¥60.2B in the same period of the previous year, while short-term borrowings increased to ¥55.0B, up +57.1% from ¥35.0B. Inventory increased to ¥175.4B from ¥153.5B, indicating a greater amount of capital tied up in working capital. Annualized DIO of 171 days and CCC of 199 days indicate that it takes considerable time to convert inventory into cash. Investment securities declined 32.4% year on year to ¥129.4B, suggesting changes in the asset mix or valuation movements. Construction in progress increased substantially to ¥30.7B from ¥6.9B, potentially indicating that ongoing capital investment is increasing funding needs. Overall, despite the improvement in operating income, the buildup of inventory and increase in short-term borrowings appear to be placing pressure on liquidity.

Quality of Earnings

The current period’s results show a significant divergence between recurring operating earnings and non-recurring equity-method investment gains and losses, making this an important issue in assessing earnings quality. Operating income of ¥52.5B reflects improved profitability in the core business, primarily due to lower costs, indicating that the quality of business operations improved from the previous year. On the other hand, the primary reason ordinary income turned negative at ¥29.1B was equity-method investment losses of ¥77.3B. Because these losses arise from non-cash accounting treatment related to performance fluctuations at affiliated companies other than consolidated subsidiaries, their direct impact on operating cash flow is considered limited. The extraordinary loss of ¥1.7B, including losses on disposal of fixed assets, was small and had a limited impact on earnings. Comprehensive income was negative ¥17.6B, representing a narrower loss than the net loss of negative ¥26.9B. This indicates that other comprehensive income, including valuation differences on securities and foreign currency translation adjustments, made a positive contribution. Given the substantial divergence between operating income and final earnings, accounting net income for the period may understate the underlying earnings power of the business. The normalization of performance at equity-method investees will be a key factor determining future earnings quality.

Earnings Forecast and Guidance

Progress against the full-year earnings forecast was broadly in line with normal seasonality, with revenue at 47.8% and operating income at 47.7% of the full-year forecast. However, ordinary income was negative ¥29.1B as of the first half, compared with a full-year forecast of ¥15.0B, while net income was negative ¥26.9B, compared with a full-year forecast of ¥5.0B. Substantial earnings improvement will therefore be required in the second half. During Q2, revisions were made to the earnings forecast and dividend forecast. Equity-method investment gains and losses and profitability trends in the Ferroalloy Business will determine whether the full-year targets can be achieved.

Shareholder Returns

The interim dividend was ¥5.50 per share, increased from ¥5.00 in the same period of the previous year. The company recorded a net loss of ¥26.9B in the first half, meaning that the dividend increase cannot be assessed based on a payout ratio calculated from earnings. The full-year dividend forecast is ¥17.00 per share, including a ¥1 anniversary commemorative dividend in addition to the regular dividend. The implied payout ratio against the full-year EPS forecast of ¥4.01 is approximately 424%, indicating that the planned dividend cannot be funded by forecast earnings alone. The financial base of net assets of ¥684.2B and retained earnings of ¥366.7B provides a buffer for dividend payments. However, the sustainability of dividends from the second half onward will depend on equity-method investment gains and losses and the recovery of profitability in the Ferroalloy Business.

Risk Factors

1. Risk of performance fluctuations at equity-method investees: Equity-method investment losses of ¥77.3B, compared with ¥3.5B in the previous year, exceeded operating income of ¥52.5B and caused ordinary income and net income to turn negative. The performance of investees has a significant impact on consolidated net income.

2. Deterioration in profitability of the core business (Ferroalloy Business): Against revenue of ¥237.2B (-3.3%), the segment loss expanded to ¥62.7B from a loss of ¥8.1B in the previous year. Fluctuations in raw material and energy costs and supply-demand conditions directly affect consolidated profitability.

3. Inventory accumulation and extension of the working capital cycle: Inventory of ¥175.4B accounted for 18.7% of total assets, while annualized DIO of 171 days and CCC of 199 days indicate that it takes considerable time to convert capital into cash. The risk of valuation losses also increases during periods of volatility in commodity markets.

Industry Benchmark (For Reference; Compiled by the Company)

Profitability and Returns

The operating margin exceeds the industry median, while the net profit margin is substantially below the industry level.

Growth and Capital Efficiency

The revenue growth rate is below the industry median, indicating a relatively moderate pace of revenue growth.

Source: Compiled by the Company

Key Points from the Results

1. The operating margin improved by +8.3pt year on year to 13.5%, clearly reflecting improved profitability in the core business, primarily due to lower costs.

2. The shift of ordinary income and net income into the red was not caused by operating factors, but by non-operating losses of ¥77.3B from equity-method investments. Normalization of performance at investees will be key to earnings recovery.

3. While losses in the core Ferroalloy Business expanded, the Incinerator Ash Recycling Business grew into the segment making the largest contribution to profit, indicating a change in the earnings structure of the business portfolio.

Theoretical Share Price (Reference Value)

Sensitivity: ¥410–¥433 at ±1% for the cost of equity, and ¥417–¥424 at ±0.1 for ω.

Notes:

• Net income is substantially compressed relative to operating income due to tax burdens, acquisition-related expenses, non-controlling interests, and other factors (net income ÷ operating income 5%). This value reflects that compression at face value; if the factors are temporary, the underlying earnings power may be higher.
• Because forecast ROE is below the cost of equity, the theoretical value is below book value per share.
• Net assets as of the end of the quarter are used; there is a timing difference relative to the full-year forecast.
• Because net assets include non-controlling interests, the theoretical value may be calculated somewhat higher.

(Calculation model: Residual Income Model (Ohlson-type; explicit 5-year fade) / Interest Rate Reference Month: 2026-07 / Mechanically calculated solely from publicly disclosed data; this is not a forecast of the market share price or a recommendation of any specific investment action, and does not predict or guarantee future share prices.)

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This report is an earnings analysis document automatically generated by AI based on XBRL earnings release data. It does not recommend investment in any specific security. Industry benchmarks are reference information compiled by the Company based on publicly disclosed earnings data. Investment decisions should be made at your own responsibility, after consulting with a professional as necessary.

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