About USD4.2 billion in debt affected
Hong Kong, November 09, 2012 -- Moody's Investors Service has downgraded the issuer and long-term senior unsecured bond ratings of Sony Corporation to Baa3 from Baa2.
At the same time, Moody's has downgraded the short-term ratings of Sony and its supported subsidiary, Sony Global Treasury Services Plc., to Prime-3 from Prime-2.
The ratings outlook is negative.
The rating actions reflect Moody's concern that an increasingly rapid deterioration in demand in the digital AV market due to sluggish economic conditions and fast structural changes will weigh more heavily on Sony's earning than previously expected.
The structural changes include the maturation of major digital AV products, such as flat panel display (FPD) TVs, the growing use of smartphones, and the cannibalization of demand for low-end portable digital products, including compact digital cameras.
Moody's expects the operating margin for Sony's non-financial services businesses in FYE3/2013 to remain below 1%, excluding equity losses, non-recurring expenses, as well as one-off gains, such as gains from the sales of assets and insurance recoveries relating to the effects of the floods in Thailand in late 2011. This expectation is lower than our earlier estimates of over 1%.
Despite generally stable earnings in some segments, such as the company's semiconductors (mainly image sensors), pictures and music businesses, overall earrings will stay weak due largely to prolonged operating losses in TVs and mobile phones, as well as significant declines in earnings from digital imaging products and games.
The continued negative ratings outlook reflects Moody's view that without robust restructuring in the coming 12-18 months, Sony's non-financial services businesses will at best achieve roughly break-even, and are also at risk of remaining unprofitable, after excluding equity losses, non-recurring expenses, as well as one-off gains.
In FYE3/2012, Sony's operating margin for its non-financial services businesses was break-even (excluding non-recurring gains and losses, and equity income) and adjusted debt/EBITDA was over 5x.
Operating losses in its TV business -- which accounted for 11% of non-financial services revenue in 1H2012 -- are likely to continue pressuring overall earnings. The company expects an operating loss of JPY80 billion in FYE03/2013 and then break-even in FYE03/2014. The level of operating losses dropped in 1H2012 on a year-over-year basis, due largely to cost reductions. Sony has mentioned that such reductions have exceeded its target.
However, expected weak sales in 2H2012 and 2013, as well as continued fierce competition, are likely to make it challenging for Sony to reduce -- according to targets -- the operating loss in TVs. In particular, we expect large losses in TVs to continue in FYE03/2014, although the level of these losses will decline to some extent from that in FYE03/2013 due to cost cutting measures.
At the same time, operating profit from Sony's digital imaging products and games businesses declined about 60% in 1H2012 on a year-over-year basis. The earnings from these products are now expected to decline more rapidly than expected as the growing use of smartphones increasingly cannibalizes the market for compact digital cameras and portable game consoles.
These segments accounted for 16% of non-financial services revenue in 1H2012 and have helped to a large extent offset the large operating losses in TVs.
A significant reduction in Sony's large operating losses in its mobile phone segment is unlikely in the near-term, despite expected rapid unit and revenue growth. Its Mobile Products and Communication segment, including mobile phones, had an operating loss of JPY51.2 billion in 1H2012. Intensifying competition and the company's current weak position in smartphones will make it difficult to gain market share and improve its margins quickly. Sony's sales of mobile phones comprise 13% of its non-financial services revenue.
Given the long period over which weak earnings have prevailed and the possibility of additional restructuring costs in its troubled TV and mobile phone businesses, the company is not expected to reduce debt significantly without resorting to cuts in capital expenditure or the sale of non-core assets.
Moody's recognizes that Sony's stable relationships with its major banks, as well as its good liquidity profile, will continue to support its creditworthiness.
But stress on its balance-sheet metrics has recently increased substantially. Net debt for its non-financial services businesses increased by JPY400 billion from March 2012 to September 2012, although the rise is partly because of higher financial needs -- which are seasonal in character -- for year-end sales. Gross debt for its non-financial services businesses increased to about JPY1.25 trillion in September 2012 from JPY1.15 trillion in March 2012, while cash and deposits decreased to about JPY420 billion from about JPY720 billion.
If weak cash flow leads to the write-off of assets, the company's relatively solid balance sheet would also be negatively effected. Adjusted debt/capitalization in FYE3/2012 was about 52% in its non-financial services businesses.
Liquidity remains acceptable. As of September 2012, Sony reported cash and deposits of about JPY420 billion and about JPY750 billion in unused commitment lines in its non-financial services businesses. It also holds a listed financial subsidiary, Sony Financial Holdings, Inc.Sony's share is worth over JPY350 billion.
Nevertheless, the ratings could be pressured downward if profitability, cash flow, and leverage further deteriorate. For example, if the company fails to improve operating profit (excluding non-recurring gains and losses, and equity income), maintain adjusted debt/EBITDA in the 4.5-5.0x range, or keep adjusted debt/capitalization below 60% in its non-financial services businesses on a sustained basis, then the ratings could be downgraded.
Furthermore, acquisitions, which could change its business risk materially and adversely, and/or erode its balance sheet and financial flexibility, could also pressure the ratings.
The outlook could return to stable if Sony can substantially improve profitability, cash flow and leverage. Improvements would include: 1) reducing operating losses in its TVs and mobile phone businesses; 2) reversing declines in earnings from its games and digital imaging products; and 3) reducing debt through the sale of non-core assets. A shift in focus away from commoditized consumer products would also help diversify earnings and would be positive for the ratings.
For example, operating margins above 1.0% (excluding non-recurring gains and losses, and equity income), adjusted debt/EBITDA around 4.0-4.5x, and adjusted debt/capitalization below 55% in its non-financial services businesses on a sustained basis, in addition to a strong liquidity profile, would be necessary for the outlook to return to stable.
The principal methodology used in rating Sony Corporation and Sony Global Treasury Services plc was the Asian Consumer Electronics Industry Methodology published in December 2010. Please see the Credit Policy page on www.moodys.com for a copy of this methodology.
Sony Corporation, headquartered in Tokyo, is one of the world's leading manufacturers of consumer electronics products.
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Yoshio TakahashiAsst Vice President - Analyst Corporate Finance Group Moody'sInvestors Service Hong Kong Ltd. 24/F One Pacific Place 88 Queensway Hong Kong China (Hong Kong S.A.R.) JOURNALISTS: (852) 3758 -1350 SUBSCRIBERS: (852) 3551-3077 Richard C Bittenbender Associate Managing Director Corporate Finance Group JOURNALISTS: (03) 5408-4110 SUBSCRIBERS: (03) 5408-4100 Releasing Office: Moody's Investors Service Hong Kong Ltd. 24/F One Pacific Place 88 Queensway Hong Kong China (Hong Kong S.A.R.) JOURNALISTS: (852) 3758 -1350 SUBSCRIBERS: (852) 3551-3077 (C) 2012 Moody's Investors Service, Inc. and/or its licensors and affiliates (collectively, "MOODY'S"). All rights reserved.
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