Our business, financial condition and operating results could be materially adversely affected by the factors discussed below. The risks outlined below are those identified by Suntory Beverage & Food Limited and its consolidated subsidiaries as of March 29, 2019.
(1) Risks related to product development and supply
The beverage and food industry is highly susceptible to changes in consumer preferences. In order to generate revenues and profits, we must have product offerings that appeal to consumers. Although we strive to effectively monitor changes in the markets for our products, there is no assurance that we will develop new products that appeal to consumers. In particular, one element of our product strategy is to introduce products that appeal to health-conscious consumers, but we may face increased competition as other manufacturers also focus on products that emphasize health. Any significant changes in consumer preferences or any inability on our part to anticipate or react to such changes could result in reduced demand for our products and erosion of our competitiveness, and impact our operating results and financial position.
In regard to product supply, while we make predictions for consumer demand and design plans related to supply and demand based on such factors as consumer preferences, there is a possibility that we will not be able to appropriately respond to demand in the event that it exceeds the Group's estimations. In such an event, the Group would lose opportunities for sales, and the Group's brand image would also be adversely affected. There is also a possibility that demand for the Group's products would decrease. Such circumstances could have an impact on the Group's business performance and financial position.
In addition, the Group's continued success is also dependent on its ability to innovate, which includes maintaining a robust pipeline of new products and improving the effectiveness of product packaging and marketing efforts. While we devote significant resources to promoting our brands and new product launches, there can be no assurance as to our ability to effectively execute our marketing programs in the event of changes in the consumer environment. Any failure on our part to implement effective sales policies that respond to market trends and technological innovations, achieve appropriate innovation, or successfully launch new products could decrease demand for our products by negatively affecting consumer perception of our brands, as well as result in inventory write-down and other costs.
(2) Risks related to competition
The beverage and food industry is highly competitive. We compete with major international beverage companies that, like us, operate in multiple geographic areas, as well as numerous companies that are primarily local in operation. Large competitors can use their resources and scale to rapidly respond to competitive pressures and changes in consumer preferences by introducing new products, reducing prices or increasing promotional activities. We also compete with a variety of regional and private label manufacturers, which may have historical strengths in particular geographic markets or product categories. Our inability to compete effectively could have an impact on our operating results and financial condition.
(3) Risks related to potential acquisitions and joint ventures
Identifying and taking advantage of additional acquisition and market entry opportunities in Japan, Europe, other developed markets, and emerging markets is an important part of our growth strategy. Accordingly, we regularly evaluate potential acquisitions and joint ventures, some of which are large in size or otherwise substantial. Potential issues associated with these activities could include, among others:
- we may be unable to identify appropriate acquisitions and other opportunities or may be unable to agree on terms with potential counterparties, due to competing bids among other reasons;
- we may fail to receive necessary consents, clearances, and approvals in connection with an acquisition or joint venture;
- we may be unable to raise necessary capital on favorable terms;
- in entering new geographic markets or product segments, we may change our business profile and face challenges with which we are unfamiliar or fail to anticipate; and
- we may be unable to realize the full extent of the profits or cost savings that we expect to realize as a result of an acquisition or the formation of a joint venture.
If we do not successfully execute our acquisition and joint venture strategy, we may be unable to realize our medium- and long-term growth objectives.
(4) Risks related to international operations
Our global operations and ongoing investment in developed and especially emerging markets mean we are subject to risks involved in international operations generally. Such risks include among others:
- the need to comply with differing or undeveloped legal, regulatory, and tax regimes;
- negative economic or political developments;
- fluctuations in exchange rates; and
- disruptions from extraordinary events such as terrorism, political instability, civil unrest, or infectious diseases.
We also intend to leverage our product development expertise and existing product portfolio in Japan and key overseas group companies to expand our product offerings in other markets. However, there can be no assurance that our existing products, variants of our existing products, or new products that we make, manufacture, market, or sell will be accepted or successful in other markets, due to local competition, product price, cultural differences, or other factors. If we are unable to develop products that appeal to consumers in new markets in which we have little or no prior experience, our ability to realize our growth objectives could be adversely affected.
(5) Risks related to business plans and management strategies
Although we have established a long-term strategy and medium-term plan to achieve medium- and long-term growth, there can be no assurance that we will be successful in implementing our long-term strategy, or achieving our medium-term plan. In order to implement our long-term strategy and achieve our medium-term plan, we will need to achieve growth organically and through acquisitions and joint ventures. In addition to the risks we face in sourcing acquisition and joint venture opportunities and executing and integrating acquisitions and joint ventures as noted in Item (3) above, we also face risks in achieving organic growth in our existing operations. For example, we may not succeed in implementing our long-term strategy.
(6) Risks related to our product safety
As a beverage and food manufacturer, the safety of our products is vital to our business and we strive to comply with applicable rules and regulations and ensure that our products meet all required quality standards. In addition, we have adopted various quality, environmental, and health and safety standards in our operations. However, despite our efforts, our products may not meet these standards or could otherwise become contaminated, resulting in product safety issues. Such failure to meet our standards or contamination of our products could occur in our own operations or those of third-party manufacturers, distributors or suppliers, who we do not control. This could result in expensive production interruptions, recalls, or liability claims and harm the affected brand and our corporate reputation. Moreover, negative publicity could be generated from unfounded or nominal liability claims or limited recalls.
(7) Risks related to distribution channels
We sell our products through multiple channels, including wholesalers and major retail groups. In Japan, our vending machine network, among others, is also an important distribution channel. Challenges we face with respect to our distribution channels include:
- consolidation among wholesalers or retail groups in many markets could result in large, sophisticated wholesalers or retailers with strong bargaining power in terms of pricing and sales promotions. The loss of significant customers, or unfavorable changes to pricing and other terms, could adversely affect our results of operations;
- independent retailing groups, including those in Japan, are introducing competitively priced private label products that contribute to intensifying price competition; and
- the Japanese market is relatively saturated in terms of vending machines, resulting in increased price competition. In addition, sales per machine may decrease due to increased competition from an increase in convenience store locations.
These risks related to our distribution channels could impact our results of operations and financial condition.
(8) Risks related to economic conditions
Unfavorable economic conditions, such as a future recession or economic slowdown in Japan or our other major markets, could negatively affect the affordability of, and consumer demand for, our products. Under challenging economic conditions, consumers may seek to reduce discretionary spending by forgoing purchases of our products or by shifting away from our products to lower-priced offerings from other companies. Weak consumer demand for our products in Japan or in other major markets could reduce our profitability and negatively affect our results of operations and financial position.
The Japanese government plans to increase the rate of consumption tax from the current 8% to 10% in October 2019. It is unclear what impact these increases will have on our sales in Japan or whether we will be able to maintain current margin levels following such increases. Furthermore, Japan's long-term demographic trends generally point to an aging and declining population. This could have a negative impact on consumer demand. If the tax increases or Japan's demographic trends result in decreased demand for our products or increased pricing pressure, they may have a negative effect on our results of operations and financial position.
(9) Risks related to foreign exchange rate fluctuations
We purchase certain raw materials internationally using currencies other than the Japanese yen, principally the U.S. dollar. Although we use derivative financial instruments to reduce our net exposure to exchange rate fluctuations, such hedging instruments do not protect us against all fluctuations and our business and financial performance could be adversely affected. In addition, because our consolidated financial statements are presented in Japanese yen, we must translate revenues, income and expenses, as well as assets and liabilities, of overseas subsidiaries into Japanese yen at exchange rates in effect during or at the end of each reporting period. Therefore, foreign exchange rate fluctuations could impact our results of operations and financial position.
(10) Risks related to interest rate fluctuations
We finance a portion of our operations through interest-bearing loans and in the future we may conduct debt financing through loans, the issuance of corporate bonds, or other means. In addition, we may engage in fundraising to finance future acquisitions. Although we use fixed-interest transactions and derivative instruments to manage our interest rate exposure, large increases in interest rates could have an adverse effect on our financial condition and results of operations.
(11) Risks related to goodwill and intangible assets
As of December 31, 2018, the Group's goodwill was ¥250.7 billion and intangible assets were ¥418.6 billion. Among the intangible assets, trademarks were ¥319.0 billion.
The majority of goodwill is related to the acquisition of shares in the Orangina Schweppes Group and Japan Beverage Holdings Inc. Furthermore, most of the intangible assets are trademarks. Most of the trademarks are related to the manufacture and sales business of Lucozade and Ribena, which were acquired from GlaxoSmithKline plc, and the manufacture and sales business of Schweppes, Orangina, Oasis and other products, which were acquired through the acquisition of the Orangina Schweppes Group.
We may record additional goodwill and intangible assets as a result of conducting new acquisitions and joint ventures in the future. Goodwill and intangible assets with indefinite useful lives are not amortized, but are tested for impairment each reporting period, or whenever there is any indication of impairment. Depending on the result of this test, we are required to post an impairment loss. The recording of such an impairment loss could have an adverse effect on our results of operations and financial position.
(12) Risks related to procurement of raw materials
The principal raw materials we use in our business are aluminum and steel cans and ends, glass bottles, PET bottles and caps, paperboard packaging, coffee beans, tea leaves, juice, fruit, sweeteners, and other ingredients. The price of these materials is affected by changes in weather patterns and supply and demand in the relevant global markets. Additionally, conversion of raw materials into our products for sale also uses electricity and natural gas. The cost of the raw materials and energy can fluctuate substantially. Continued increases in the prices of these raw materials and energy could exert pressure on our costs, and we may not be able to pass along any such increases to the sales price of our products, which could negatively affect our business, results of operations, and financial position.
In addition, some raw materials we use are sourced from industries characterized by a limited supply base. Although we believe we have strong relationships with our suppliers, we could suffer raw material shortages if they are unable to meet our requirements. The failure of our suppliers to meet our needs could occur for many reasons, including climate change, adverse weather conditions, natural disasters, fires, crop failures, epidemic, strikes, manufacturing problems, transportation issues, supply interruptions, government regulation, political instability, and terrorism. Some of these risks may be more acute in cases in which the supplier or its facilities are located in countries or regions where there is a high risk that the aforementioned circumstances will occur. Changing suppliers can require long lead times and any significant interruption to supply over an extended period of time could substantially harm our business, results of operations, and financial position.
(13) Risks related to water supply
Water is the main ingredient in substantially all our products and water resources in many parts of the world are facing unprecedented challenges from population pressures, pollution, poor management, and the impact of climate change. As demand for water resources increases around the world, companies that depend on abundant water resources, including us, may face increased production costs or capacity constraints which could adversely affect our profitability or growth strategy over the long term.
(14) Risks related to weather conditions
Sales of certain types of our products are significantly influenced by weather conditions. We ordinarily record our highest sales volume levels during hotter weather in the spring and summer months, but unseasonably cool weather conditions during this period could depress demand for our products and negatively impact our results of operations and financial position.
(15) Risks related to corporate social responsibilities
Recognizing that the global natural environment constitutes one of our management resources, we are working in earnest to implement environmental preservation activities, in an effort to hand a sustainable society to future generations. We are striving to thoroughly reduce water usage, cut CO2 emissions, convert waste materials into useful resources, and recycle containers. In the course of executing business operations, we comply with various related environmental regulations. Also, we are working with our suppliers to promote procurement activities that take into account social responsibilities such as those related to human rights, labor standards, and the environment. However, our results of operations and financial position could be negatively affected if, despite our efforts, any of the following were to occur in relation to our business activities and supply chain: Global environmental problems due to global climate change, resource depletion, and other issues; issue of marine plastic; environmental pollution caused by accidents, mishaps, and other events; higher cost outlays for investment in new equipment and production quantity restrictions mainly due to amendments in relevant laws and regulations; and problems concerning human rights such as occupational health and safety, and child labor.
(16) Risks related to supply chains
We and our business partners source materials and conduct manufacturing activities globally. Using supply chain management techniques to manage proper quality, lower costs and improve profitability is one element of our business strategy, but we may not be able to achieve the targeted efficiencies, due to factors beyond our control. Damage or disruption to our manufacturing or distribution capabilities due to any of the following could impair our ability to make, manufacture, distribute, or sell our products: climate change; adverse weather conditions; natural disasters; fires; crop failures; epidemic; strikes; manufacturing problems; transportation issues; supply interruptions; government regulation; government action; infectious diseases; industrial accidents or other occupational health and safety issues; labor shortages; political instability; and terrorism. Failure to take adequate steps to mitigate the likelihood or potential impact of such events, or to effectively manage such events if they occur, could adversely affect our business, financial condition, and results of operations, as well as require additional resources to restore our supply chain.
(17) Risks related to management team and employees
Our continued growth requires us to hire, retain, and develop our leadership driven management team and highly skilled workforce. We must hire talented new employees and then train them and develop their skills and competencies. Any unplanned turnover or our failure to develop an adequate succession plan for current management positions could deplete our institutional knowledge base and erode our competitive advantage. Our operating results and financial position could be adversely affected by increased costs due to increased competition for employees, higher employee turnover, increased employee benefit costs or impediments to employee health, etc. that could arise from not being able to adequately perform labor management.
(18) Risks related to employee retirement benefit obligations
Our post-employment benefit expenses, post-employment benefit obligations and plan assets are calculated based on actuarial assumptions and estimates such as an assumed discount rate. A divergence of actual results from our assumptions or estimates, or a change in those assumptions and estimates, could adversely affect our results of operations and financial position.
(19) Risks related to information systems and services
We depend on key information systems and services to accurately and efficiently transact our business, interface with customers, provide information to management, and prepare financial reports, among other activities. In addition, we rely on third-party providers, including a subsidiary of Suntory Holdings Limited, for a number of key information systems and business processing services. Although we have implemented policies and procedures to increase the security of these systems and services, they are vulnerable to interruptions or other failures resulting from, among other things, hardware, software, equipment, or telecommunications defects and failures, processing errors, earthquakes and other natural disasters, terrorists attacks, computer virus infections, cyberattacks including computer hacking, and unauthorized access with malicious intentions, or any other security issues or supplier defaults. Security, backup, and disaster recovery measures may not be adequate or implemented properly to avoid such disruptions or failures. In the event that such breakdowns or faults occur, this could adversely affect our results of operations and financial position.
(20) Risks related to legal compliance
We are subject to a variety of national and local laws and regulations in Japan, Europe, Asia, Oceania, the Americas, and the other regions in which we do business. These laws and regulations apply to many aspects of our business activities, including the manufacture, labeling, transportation, advertising, and sale of our products. In particular, if an accident or non-compliance with these laws or regulations results in environmental pollution, we could be subject to claims or sanctions and incur increased costs. Due to our global operations, we must also comply with anti-corruption provisions of Japanese law or foreign statutes. Violations of applicable laws or regulations could damage our reputation or result in regulatory or private actions with substantial penalties or damages. In addition, any significant change in such laws or regulations or their interpretation, or the introduction of higher standards or more stringent laws or regulations, could result in increased compliance costs.
Recently, a number of jurisdictions have introduced or have been considering measures such as special excise taxes and new labeling requirements, serving sizes, or other restrictions on the sale of sweetened soft drinks including carbonated soft drinks on health grounds. Although we believe our product portfolio has a much higher proportion of non-carbonated and healthy products as compared to other global beverage firms, any such regulatory measures could adversely affect our results of operations and financial position.
(21) Risks related to the reputation of our brands
Maintaining a good reputation globally is critical to selling our branded products. Product contamination or tampering; the failure to maintain high standards for product quality, safety and integrity, including with respect to raw materials and ingredients obtained from suppliers; allegations of product quality issues, mislabeling or contamination, even if untrue; or negative opinions spread by the mass media or on the internet, may harm our reputation and reduce demand for our products or cause production and sales disruptions. If any of our products fail to meet health or safety standards, cause injury to consumers or are mislabeled, we may have to engage in a product recall and/or be subject to liability. Furthermore, Suntory Holdings Limited and other Suntory Group companies not under our control also use the "Suntory" brand. Similar problems or compliance failures in Suntory Holdings Limited or other Suntory Group companies, or issues related to, for example, compliance at one of our contractors, could also contribute to negative perceptions of our brand. Damage to our reputation or loss of consumer confidence in our products for any of these or other reasons could result in decreased demand for our products and could have a material adverse effect on our business, financial condition, and results of operations, as well as require additional resources to rebuild our reputation.
(22) Risks related to intellectual property
We license the "Suntory" brand from our Parent, Suntory Holdings Limited, and expect to continue to do so in the future. If our license is terminated, including because we are no longer a subsidiary of our Parent, our corporate image and marketing efforts could be impacted, and we could be required to make a significant investment in rebranding.
We also license various other trademarks from third parties and license our own trademarks to third parties.
For trademarks licensed from third parties, the licensor may terminate the license arrangement or other agreements.
Consequently, we may no longer be able to manufacture or sell the related products. The termination of any material license arrangement or other agreements could adversely affect our results of operations and financial position.
For trademarks licensed to third parties, problems could occur with respect to the use of trademarks and related products by these third parties. This could have an impact on our use of the trademarks and the reputation of our brands. In regions where we have not registered our trademarks, third parties may own or use the same or similar trademarks to our own. In the event that problems occur with respect to the use of trademarks or related products by these third parties, this could adversely affect our brands, and could have an impact on our results of operations and financial position.
We also possess other intellectual property that is important to our business. This intellectual property includes trademarks, copyrights, patents, and other trade secrets. We and third parties could come into conflict over intellectual property rights. Conflict could disrupt our business and cost a substantial amount to protect our rights or defend ourselves against claims. We cannot be certain that the steps we take to protect our rights will be sufficient or that others will not infringe or misappropriate our rights. If we are unable to protect our intellectual property rights, our brands, products, and business could be harmed.
(23) Risks associated with control by the Parent
As of March 29, 2019, our Parent, Suntory Holdings Limited, owned 59.48% of the outstanding shares of our common stock, and accordingly, has control, or a veto right with respect to fundamental decisions such as election and removal of our Directors, the approval of joint ventures or other business reorganizations, the transfer of material businesses, amendments to our Articles of Incorporation, and the declaration of dividends.
Suntory Holdings Limited could continue to influence the determination of all matters that require the approval of the general meeting of shareholders, regardless of the intentions of other shareholders. Our management makes decisions independently of our Parent, with no matters requiring the Parent's prior approval.
1) Details on our main relationships with the Suntory Holdings Limited
With respect to transactions with the Suntory Group, the legal affairs division and the accounting division confirm in advance the necessity of a transaction as well as the validity of its terms and conditions and the method of determination. In addition, from the standpoint of ensuring our independence from Suntory Holdings Limited, we engage in ample deliberation at Board of Directors meetings, attended by several independent Outside Directors, in regard to transactions that are deemed particularly important. These deliberations address the necessity and validity of such a transaction, and decisions are made upon the completion of the deliberations. Moreover, in regard to whether or not transactions based on the content of these deliberations are actually being carried out, the internal audit division conducts ex-post evaluations of the transaction's content and the Audit and Supervisory Committee performs audits. In this way, we have developed a framework to ensure sound and appropriate terms for transactions with the Suntory Group.
2) Posts held concurrently at Suntory Holdings Limited by our officers
Among our Directors, Director Nobuhiro Torii concurrently serves as Executive Vice President of Suntory Holdings Limited. This appointment was made in the hope that his extensive track record over many years as a business manager in the Suntory Group and his wide-ranging insights and experience in all areas of management, will contribute further strengthening the functioning of the Board of Directors.
3) Acceptance of seconded personnel (employees) from Suntory Holdings Limited
Among our personnel, a certain number of full-time employees other than employees at the managerial level and above are seconded from Suntory Holdings Limited. As of December 31, 2018, there were approximately 250 employees seconded to us from Suntory Holdings Limited. In addition, all of our employees at the managerial level and above are registered with us. Employees seconded from Suntory Holdings Limited will become SBF employees upon promotion to the managerial level and above.
4) Trademarks, patents, and comprehensive licensing agreements
We have entered into a licensing agreement with Suntory Holdings Limited regarding our use of the "Suntory" corporate brand. Based on this agreement, we are licensed to use the "Suntory" name and brand. Under the terms of the agreement, our use of the "Suntory" brand remains effective as long as we remain part of the Suntory Group. Based on the agreement, we are paying brand royalties to Suntory Holdings Limited.
Also, for the Suntory Group to facilitate the effective use of intellectual property rights and promote optimization by focusing on maintaining these rights, Suntory Holdings Limited holds a portion of the intellectual property rights such as patents, designs, and trademarks related to our business and we are granted exclusive licensing rights, etc., by Suntory Holdings Limited. We do not pay Suntory Holdings Limited royalties for the aforementioned exclusive licensing rights, etc. Furthermore, were this arrangement to come to an end, these intellectual property rights would be transferred without compensation from Suntory Holdings Limited to us.