We think outside the box, break through our own limits, and take up the challenge to go beyond what has ever done before.
01Business model, medium-and-long-term industry insight, and opportunities & risks
To start off, could you please describe OSG Group's business model, which is the source of its strength? Then, taking that into consideration, please share with us how you see the industry developing over the medium- and long-term as well as the opportunities and risks that presents.
OSG's initial product is a tool called the tap, which threads holes in metal workpieces. When OSG was founded, there were no Japanese-made taps that used a whetstone for grinding, and our goal was to create high-quality domestically-produced grinding taps. We made use of technology for manufacturing taps that we gained in that process to later expand our range of products to encompass specialty as well as standard items, such as end mills for cutting and shaping metal and drills for making round holes. We independently developed high-speed steel that is tough and wear-resistant as well as carbide round bars appropriate for high-speed cutting. We also produced in-house the production facilities for processing round bars. We have continued to add value with proprietary coating technologies improving the durability of these tools and a business model offering a variety of strengths.
As our business model has evolved, we have expanded globally based upon our "Global Presence" corporate philosophy, beginning with the establishment of OSG Tap and Die, Inc. in Chicago, USA in 1968. In the 1990s after the bubble collapsed in Japan, we modified our slogan to" Economic Global Presence." Our belief was the OSG Group would not grow unless we found a means of surviving overseas in the same way that people have gone off to find work elsewhere. This view created a heightened sense of urgency among management and accelerated the expansion of OSG operations to China, India, Europe, and other regions. As of the time of FY2022, the ratio of our overseas to total sales has risen to approximately 65%.
Over the medium- and long-term in the cutting tool industry, we foresee globalism put to the test in manufacturing industries worldwide. An extensive realignment is occurring in the automotive industry. Even as major automobile manufacturers shift to developing EVs, the percentage of EVs among total automobiles has not yet reached 10%. Internal combustion engine vehicles account for roughly 90% of the market. In the years ahead, production of internal combustion engine vehicles is forecast to move into third countries where labor costs are lower. Regardless, tool manufacturers will have to provide the same level of service no matter where the production sites are located. The question that we face is how extensively tool manufacturers will be able to support operations when plants producing internal combustion engine vehicles move production lines to emerging nations. I firmly believe the OSG Group's proactive global expansion, which we have promoted in line with our corporate philosophy "Global Presence," will be able to ride the wave, if you will, of the automotive industry's realignment so that OSG is the tool manufacturer that customers choose.
The transformation toward electrification entails risks as vehicles switch to battery power, which will eliminate the need to machine parts around the internal combustion engine. However, this conversion will also present opportunities for machining new components for these electric vehicles. The trend is toward higher precision machining as well as smaller diameter and lighter weight components. This presents a new business opportunity for micro-precision processing, and it will be a chance for the OSG Group to leverage our strengths. We are ready to capitalize on this future. In addition, even though the pandemic caused a temporary but significant downturn in the aircraft industry, we have seen signs in recent months that this slump has bottomed out. We are concentrating more on the aircraft industry now than we did in the past. I believe the recovery in demand will have a positive impact on OSG Group's performance.
In the first year of OSG's Medium-Term Management Plan, sales, ordinary income, and net income attributable to owners of parent were the highest ever, exceeding even their peak during the fiscal year ended November 2018. Why was the OSG Group able to surpass that level even without a full recovery of production in the automotive and aircraft industries?
If we look at product-specific sales during the previous term, tap and drill sales were the highest ever. Even though many of our specialty drills are designed for the automotive industry, it is a fact that we have been impacted by the sluggish demand for large aircraft in the aircraft industry in addition to the downturn in production in related industries. On the other hand, we saw significant growth (27% in FY2022) in the percentage of sales of standard components represented by our flagship A Brand products, for which we have strived to expand sales to general engineering as well as machinery and machine parts industries, and this offset the impact of the automotive and aircraft industries. We are also seeing the results of our efforts to build up our distribution organization A-Club, which operates across our network in 32 countries around the world.
In the previous term, we achieved our target of reducing the percentage of automotive-related sales to total sales below 50%. This target was set out in our Medium-Term Management Plan to be reached by the fiscal year ending November 2024. In other words, we reduced that ratio below 50% level earlier than planned. This was made possible in part due to the increase in production at the NEO Shinshiro Factory, which began operating in May 2020. The factory is a demonstration of Project OSG 4.0, the objective of which whose is to increase productivity. We will continue promoting our strategy of increasing the percentage of A Brand standard products sales to 30% in FY2024 and then 40% by FY2027.
The purpose of A Brand is to provide universal cutting tools exhibiting outstanding functionality with a diverse range of workpiece materials and under a diverse range of cutting conditions, which will help customers more easily manage their tools. Could you please share with us what sort of advantage the A Brand brings to increasing sales in industries, requiring micro-precision processing, up to 30% of total sales by the fiscal year ending November 2030 (sales were 16% in FY2022)? Also, how does profitability in this area compare with other areas?
The use of small-diameter tools for micro-precision processing is projected to grow over the medium- and long-term in many sectors, including semiconductor manufacturing equipment and components, mobility services, EV motors, precision dies, medical devices, and robotics. If I were to specify the OSG Group's strengths facilitating growth in these areas, the first would be our three core products: taps, drills and end mills. All of these are necessary for machining. The second would be the twin billing of high-speed steel and carbide as our tool base materials. We have the highest tap market share in the world (over 30%). OSG has the ability to present comprehensive proposals to our customers. So, we see an inclination on the part of our customers to call for OSG products first when threading micro-precision components.
Production of micro-precision components is concentrated in China and Asia because these small components are mass-produced. Many of the machine tools used for processing these components are automatic lathes. In that field, several of Japan's small precision machine tool manufacturers hold an overwhelming share of the global market. Some of our largest customers in China machine somewhere between 1,000 and 2,000 automatic lathes simultaneously side-by-side, so cutting tool manufacturers also need to be able to supply these companies with the level of products that they require. High-speed processing is not necessarily what this sector demands, rather it requires cutting tools that are not only carbide materials, but also high-speed steel materials that are very tough.
The OSG Group maintains a world-class production system for taps. This gives us the advantage of being able to put together an array of diverse product lines and, moreover, collaborate with machine tool manufacturers to offer customers integrated processing. Because our sales teams have offices near customer sites in global, we are recognized as having an advantageous position over the competition.
In addition, we also anticipate greater profitability in this market as small-diameter tools for micro-precision processing have a raw material cost ratio that is lower overall than that of other products.
02Significant challenges and specific initiatives contribute to realizing our long-term vision
The OSG Group's long-term vision is to be an" essential player contributing to the global manufacturing industry." Which of the eight key issues that the group has identified pose the greatest challenge? Please share with us efforts being made to address these.
As stated at the beginning of our long-term vision, we are heading "toward the carbon-neutral era," so" initiatives to address climate change," is the most important issue not only for OSG Group but for all companies in the world. Although we are currently unable to calculate our Scope 3 CO2 emissions, we are aiming to reduce the Scope 1 and 2 emissions below the FY2019 level by 30% by FY2030 and achieve carbon neutrality by FY2050.
A specific effort that we have made relating to these goals concerns the electric power which will be generated by the OSG Group's dedicated solar power plant beginning in the spring of 2023 as part of an off-site PPA to supply power over a 20-year period to four of our domestic plants. The use of solar power-derived CO2-free electricity will lead to a reduction of 2,000 tons of CO2 emissions annually.
In addition, we are aggressively implementing other initiatives, including designing Eco-friendly Products. More specifically, we developed the A Brand product A-XPF, a highly-efficient multi-purpose forming tap that is an advanced version of the S-XPF. Tap machining entails many problems, among which are breakage, chipping, and inferior threading precision. The main cause of these involves the cutting chips produced during machining. Forming taps do not produce cutting chips. They enhance the efficiency of customers' equipment operation, making it possible to curb electricity usage. A reduction in the work of removing cutting chips which often is done manually, can be expected to improve the working environment. So, this extends to the range of factors that need to be addressed to include the workpiece material as well as cutting conditions so that they align with the machining environment. From the standpoints of resource utilization and recycling as well, we intend to increase to 15% by FY2027 the ratio of regrinding and coating. These processes save resources and prolong tool life.
In January 2023, the OSG Group earned a B (management-level) score on the CDP Climate Change Disclosure Ranking, an index fostering engagement with institutional investors and suppliers worldwide making ESG investments. The B score surpasses the average for the machinery industry as well as the Asia region, which was given a C score. Long-term, there is also the possibility of shifting to an overall assessment that takes into account tool suppliers' environmental management. Our aim is to rise further in the rankings and achieve an A score in the future.
As a business contributing to the community, we launched a special subsidiary OSG Active Co., Ltd. to create employment opportunities for people with health conditions or impairments. The establishment of this special subsidiary creates opportunities for people facing challenges throughout the OSG Group by offering an environment where our personnel can work comfortably and at ease in an arrangement that matches each individual's particular skill set with the work to be performed. In addition, we have also been active int he community as the top sponsor of the San-en NeoPhoenix professional basketball team based in the San-en region, which encompasses eastern Mikawa and the Enshu region. One aspect of the corporate value to which the OSG Group aspires is to develop into an attractive company. We want to continue to contribute to the sustainable development of society through a broad range of endeavors that facilitate realizable philanthropic activities in order to effectuate co-creation with the community.
03Challenge of how to best utilize human resources for sustainable management
Sustainable management requires the use of human capital. The Medium-Term Management Plan sets out four points for maximizing the performance of each individual employee: (1) go beyond the limit, (2) set no limits, (3) push forward and evolve, and (4) break out of the norm. What are the challenges that the OSG Group faces in terms of utilizing its human capital in the future?
As of the end of FY2022, the OSG Group has 7,543 consolidated company employees, of which roughly 40% are employed at group companies in Japan and the other 60% or so at group companies around the world. In the process of accelerating OSG's global expansion, Chairman Ishikawa and myself have also been members of teams that went overseas to work. We feel that those experiences helped us to grow and learn so much. It is more important now than ever before that our employees gain this experience and that we maintain personnel policies and programs that enable such career paths. While it is important for the future that we develop executives for our domestic group companies, it is also essential to develop executives among our local employees overseas by having them become better versed in the OSG Group corporate philosophy. We send employees from Japan to key bases overseas, but the challenge we face is how to increase the number of local executives rather than executives dispatched from Japan. The advice we give to organization leaders is that there are limits to what one person can do, so the question they face is how to discern individual team member's abilities and maximize the skills and capabilities that the leader does not possess but others do. If a team lacks certain talent, then human resources nearby outside the team need to be brought in.
In addition, the OSG Group has a retirement age of 65, but the trend today is toward extending a person's corporate life. Advances are being made through digitalization to visualize production sites, yet we are lagging behind in our efforts to visualize our human assets. This shortcoming has resulted in an inability to properly match our personnel with operations and assignments so that we have the right people in the right place throughout our group. When we are able to put in place a framework for talent management as well as training and reskilling our employees, then we will be able to more effectively match personnel to occupations as we may anticipate which employees can perform which work. It is my intention to strive to create a system that not only develops our next generation, but also enables employees possessing extensive experience to work enthusiastically.
Engagement with stakeholders is vital for the OSG Group
to continue to be the manufacture customers choose first.
04Engagement with stakeholders
Dialogue and engagement with stakeholders are important for increasing corporate value over the medium- and long-term and promoting ESG management. If possible, could you share with us what you are striving for and the message that you want to communicate through this engagement?
At least twice a year, I personally go out to engage in a dialogue with our institutional investor shareholders. Some of these shareholders recognize the OSG Group as a capital goods manufacturer when they consider corporate value. However, cutting tools are actually nondurables, so we are able to say that we are a consumer goods manufacturer.
The risks are no different as the automobile industry transitions to electric vehicles, but this change also presents new opportunities. We believe that this will not hinder the medium to long-term growth of the OSG Group. We intend to faithfully continue to engage in these dialogues so that our shareholders appreciate our strategy for new business sectors as well as our vision of future value creation. In the previous term, we raised from 30% to 35% the dividend payout ratio that we pledge to return to shareholders. Our aim is to further increase this ratio to 40% in the future. We are also considering measures to increase the number of individual shareholders interested in the OSG Group.
Internally, the President of OSG Group addresses employees each year in December, traveling around to plants and offices in Japan to explain the company's policies and aims. In the hope of conducting these talks in-person while, of course, taking steps to prevent any spread of infection, we have restarted these sessions on-site. At each of our plants and business offices, I asked OSG employees about four numbers, which are the KPIs set out in our Medium-Term Management Plan: (1) our operating income for the fiscal year ending November 2024, (2) ROA (on an operating income basis), (3) our share of the global tap market, and (4) the portfolio ratios of specific micro-precision processing by customers. It has been my impression that we will need more time for our personnel to be fully aware of these four figures. In order for us to achieve the targets set out in the Medium-Term Management Plan, I believe it is important the same message be repeatedly conveyed to our employees in order to enhance their sense of ownership in this endeavor and move everyone within the OSG Group in the proper direction. This term, we achieved record levels of sales and ordinary income, but Japan was the only region where we operate that performance did not reach the highest level. Moreover, our targets for FY2024 (operating income of ¥30 billion, 15% ROA, etc.) do not permit us to be satisfied with the status quo.
I feel it will be difficult for OSG Group's employees, who support the strength wielded in our on-site capabilities, to see beyond to the other side where we surpass our limits unless we do a better job of instilling our medium- and long-term vision, including understanding our monthly production targets and other short-run figures.
In addition, the percentage of employees participating in our shareholders program is a little less than 50% of the entire group. Increasing this rate will, I believe, lead to greater motivation and sense of ownership among employees. Employees are also key stakeholders, and we need to engage in a dialogue with them. This will result in an increase in corporate value while, at the same time, enhancing the skills of each and every employee.
You stated that your aspiration when you became president in 2020 was to make the OSG Group into a" company shining more brightly than ever before" by the year 2038 when the company celebrates its 100th anniversary. What do you envision a" company shining more brightly than ever before" to be? Also, in closing, is there any message you would like to communicate, including any remarks about your own responsibilities as a manager?
The OSG Group is such a familiar part of the community that some of our employees are even the third generation in their family to work here. As a manager, I feel great joy when an employee tells me that he or she decided to join our company, saying," It was my dream to work at OSG." The OSG Group provides a complete range of fringe benefits as well as systems and programs to specifically meet the needs of our employees. I have heard people say that we provide a favorable working environment. What underlies the ambition to make the OSG Group shine more brightly than ever before is our ability to continue to grow beyond our 100th anniversary to another 10 and even 20 years down the road as well as to continue to be a manufacturer that our clients will select. For that way of thinking to take root, we need to be the one and only company for all our stakeholders.
In 1996, our former chairman, the late Teruhide Osawa, issued a three-pronged declaration for the OSG Group: global presence, health consciousness, and eco-friendliness. This statement was made at a time when the idea of pursuing ESG management was hardly known, yet the spirit of this three-pronged declaration supports the foundation of the OSG Group's management at the global standard level, which has continued to be pursued to the present day.
My responsibility as the President & COO of the OSG Group is to present and properly guide our employees along our future path in accordance with our long-term vision. This direction will enhance our corporate value. It is my sincere wish that our stakeholders accompany us as we grow for many, many years to come.