ITOCHU Group is exposed to various risks such as market risks, credit risks and investment risks, due to the nature of a wide range of its businesses. These risks include unpredictable uncertainties and may have significant effects on its future business and financial performance.
The risks described below are not exhaustive. Rather, these risks describe matters that may have a significant impact on investors’ decisions from the perspective of materiality. In addition to the risks described here, ITOCHU Group’s business may be affected by currently unknown risks, and risks that require no special mention or that are not considered material at this point. These risk factors may also affect investor decisions.
With respect to descriptions about future events, ITOCHU appropriately has determined its assumptions and estimates based on information currently available as of March 31, 2020.
(1) Risks Associated with Macroeconomic Factors and Business Model
ITOCHU Group involves a wide variety of business ranging from supply of raw materials to manufacturing and sale in each of its business areas. It conducts diverse types of commercial transactions such as purchase and sale of products in the domestic market, import/export trade between overseas affiliates as well as development of energy, metal and mineral resources. For the characteristics of the Group’s main areas of business, trade in machinery such as plants, automobiles and construction machineries, trade in mineral resources, energy and chemical products, and investments in development, they are all largely dependent on economic trends in the world, while the domestic economy has a relatively strong influence on the consumer sectors such as textiles and food. However, economic trends in the world have been more influential even on the consumer sectors, as economic globalization proceeds.
Furthermore, economic trends, not only overall worldwide economic trends but also specific regional trends, changes in industrial structures due to rapid technological innovation in recent years, increasing competition from companies in newly developing countries due to globalization, and changes in the business environment due to deregulation and entrants from other industries could significantly affect the existing business model and the competitiveness, financial position and results of operations of ITOCHU Group.
As the business environment is undergoing tumultuous change due to the outbreak of COVID-19, and with the recognition that ITOCHU is poised to move into a new management phase, ITOCHU have positioned Fiscal Year 2021, which can be considered as the beginning of the “global recession”, as a year for consolidating our foothold. Therefore ITOCHU formulated a management plan for the single year, which does not belong to the Medium-Term Management plan. ITOCHU will thoroughly instill the “earn, cut, prevent” principles as the core of our business and will steadily advance the group management even in a difficult business environment.
(2) Market Risk
ITOCHU Group is exposed to market risks such as foreign exchange rate risks, interest rate risks, commodity price risks and stock price risks. Therefore, the Group attempts to minimize risks related to market fluctuations such as changes in foreign exchange rates, interest rates, and commodities by establishing risk management policies such as setting and controlling limits and by utilizing a variety of hedge transactions for hedging purposes.
a) Foreign Exchange Rate Risk
ITOCHU Group is exposed to foreign exchange rate risk related to transactions in foreign currencies due to its significant involvement in import/export trading. Therefore, ITOCHU Group works to minimize foreign exchange rate risk through hedge transactions that utilize derivatives, such as foreign exchange forward contacts, however, cannot completely avoid such risk.
Further, ITOCHU’s investments in overseas businesses expose ITOCHU Group to the risk that fluctuations in foreign exchange rates could affect shareholders’ equity through the accounting for foreign currency translation adjustments and the risk that fluctuations in foreign exchange rates could affect the amount of periodic income when converted to yen. These foreign exchange rate risks could significantly affect the financial position and results of operations of ITOCHU Group.
b) Interest Rate Risk
ITOCHU Group is exposed to interest rate risk in both raising and using funds for investing, financing, and operating activities. Among interest insensitive assets, such as investment securities or fixed assets, the part acquired using floating interest loans is considered to be the interest mismatch amount exposed to interest rate risk. ITOCHU seeks to quantify the interest rate risk to control the fluctuation of gains and losses due to interest rate change properly.
In addition, ITOCHU Group periodically tracks interest rate trends and, using the Earnings at Risk (EaR), monitors the amount of influence on interest payments due to interest rate changes. However, interest rate trends could significantly affect the financial position and results of operations of ITOCHU Group.
c) Commodity Price Risk
ITOCHU Group conducts actual demand transactions that are based on the back-to-back transactions of a variety of commodities. In some cases, the Group is exposed to commodity price fluctuation risk, because it holds long or short positions in consideration of market trends. Therefore, the Group analyzes inventories and purchase and sales contracts, and each Division Company has established middle and back offices for major commodities, which establish a balance limit and loss cut limit for each commodity, as well as conduct monitoring, management, and periodic reviews.
In addition, ITOCHU Group participates in development businesses such as mineral resources and energy and other manufacturing businesses. The production in these businesses is also exposed to the same price fluctuation risk noted above.
To reduce these commodity price risks, the Group uses such hedges as futures and forward contracts. However, ITOCHU Group cannot completely avoid commodity price risk. Therefore, commodity price trends could significantly affect the financial position and results of operations of ITOCHU Group.
ITOCHU Group uses “Value at Risk (VaR)” to ascertain and monitor risk in commodity transactions, which are susceptible to market fluctuations. The figures in this method are based on market fluctuation data for specific past periods, and statistical methods are used to estimate maximum loss amounts that may be incurred during specific future periods.
d) Stock Price Risk
ITOCHU Group holds a variety of marketable equity securities, mainly to strengthen relationships with customers, suppliers, and other parties, and to secure business income, and to increase corporate value through means such as making a wide range of proposals to investees. These shares are exposed to stock price fluctuation risk and could significantly affect the financial position and results of operations of ITOCHU Group depending on stock price trends.
Using “Value at Risk (VaR)”, ITOCHU Group periodically tracks and monitor the amount of influence on consolidated shareholders’ equity. The figures in this method are based on market fluctuation data for specific past periods, and statistical methods are used to estimate maximum loss amounts that may be incurred during specific future periods.
(3) Investment Risk
ITOCHU Group invests in various businesses. Based on the rapid changes in the business environment due to the outbreak of COVID-19, in the management plan for the fiscal year ending March 31, 2021, ITOCHU Group actively promote strategic investments in areas of strength and asset replacement in a timely manner from the business in peak-out stage or low-returns. In these investment activities, there are risks such as being unable to achieve expected earnings due to changes in business conditions or deterioration in the business results of its partners and investees; the likelihood of investment recovery is lowered due to poor corporate results of investees, or stock prices are expected to drop below a specified level for a considerable period of time, which may lead to necessities that the whole or partial investment is recognized as a loss, and that the infusion of additional funds are required. Also, there are investment risks that the Group may be unable to withdraw from a business or restructure the business under a timeframe or method that it desires due to differences in business management policy with partners or the low liquidity of investments; or the Group may be put at a disadvantage because it is unable to receive appropriate information from an investee. To reduce these risks, ITOCHU Group works through decision making based on the establishment of investment standards for the implementation of new investments while monitoring existing investments periodically and promoting asset replacement through the application of exit standards to investments with low investment efficiency that it has little reason to hold.
However, management cannot completely avoid the investment risks, and such risks could significantly affect the financial position and results of operations of ITOCHU Group.
(4) Risks Associated with Impairment Loss on Fixed Assets
ITOCHU Group is exposed to the risk of impairment losses on fixed assets it holds and leases. These include real estate, assets related to natural resource development, aircraft and ships, and goodwill and intangible assets.
ITOCHU Group has recognized impairment losses that are currently necessary. However, new impairment losses might be recognized if stores, warehouses, and other assets were to become unable to recover their book value due to declining profitability. Impairment losses could also be recognized if a market slump were to occur due to price fluctuations on coal, iron ore, crude oil or other resources, or the R&D policies were to change and if a decline in asset prices or unplanned additional funding were to result in losses on all or some investments. Such losses could significantly affect the financial position and results of operations of ITOCHU Group.
ITOCHU Group sustains its strength, highly efficient management, through investment in developing the foundations for sustainable growth and by steadily implementing flexible asset replacement. In addition, we manage investments appropriately, making investment decisions after thoroughly deliberating the appropriateness of the acquisition price and then monitoring investments periodically.
(5) Credit Risk
Through trade receivables, loans, guarantees, and other formats, ITOCHU Group grants credit to its trading partners, both domestically and overseas. The Group, therefore, bears credit risk in relation to such receivables becoming uncollectible due to the deteriorating credit status or insolvency of the Group’s partners, and in relation to assuming responsibilities to fulfill contracts where an involved party is unable to continue its business and therefore cannot fulfill its obligations under the contracts. Therefore, when granting credit, ITOCHU Group works to reduce risk by conducting risk management through the establishment of credit limits and the acquisition of collateral or guarantees as needed. At the same time, the Group establishes an allowance for doubtful accounts by estimating expected credit losses based on the creditworthiness, the status of collection, and the status of receivables in arrears of business partners.
However, such management cannot completely avoid the actualization of credit risks, which could significantly affect the financial position and results of operations of ITOCHU Group.
(6) Country Risk
ITOCHU Group conducts transactions and business activities in various countries and regions overseas. The Group is exposed to country risk, including unforeseen situations arising from the political, economic and social conditions of these countries and regions and national expropriation or remittance suspension due to changes in various laws and regulations.
To respond to these risks, we formulated the appropriate risk countermeasures by project. To control risk, from the standpoint of preventing ITOCHU Group from excessive concentrations of risk in specific countries or regions, we set limits for each country that are based on internal country ratings and maintain overall exposure at a level that is appropriate for the Group’s financial strengths.
Although it strives to reduce risk through these measures, ITOCHU Group cannot completely avoid such risks and the actualization of such risk could delay or incapacitate debt collection or operational implementation, causing losses, and could significantly affect the financial position and results of operations of ITOCHU Group.
(7) Risks Associated with Fund-raising
ITOCHU Group procures the necessary funding for its businesses through debt from domestic and international financial institutions, as well as the issuance of commercial papers and debentures. However, should ITOCHU’s credit worthiness in the capital market deteriorate due to a significant lowering of the Company’s credit rating, or should there be an upheaval in the financial systems in major financial markets, there are risks that the Group may experience an inability to raise funds from financial institutions or investors when necessary or under desirable conditions and may consequently experience an increase in funding costs. Therefore, while securing adequate liquidity by utilizing cash deposits and commitment line, the Group has taken steps to diversify its sources of funds and methods of fundraising, however, cannot completely avoid such risks. The actualization of such risks could significantly affect the financial position and results of operations of ITOCHU Group.
(8) Risks Associated with Taxes
ITOCHU Group has established the Group tax policy, whose basic principles are to comply with all applicable tax laws, rules, regulations, and tax treaties of each country and region where the ITOCHU Group conducts business. ITOCHU Group is committed to managing its business operations in full compliance with all applicable tax rules and not engaging in transactions that are intended to evade or avoid taxes. Also, ITOCHU Group strives to maintain a relationship of mutual trust with all tax authorities by engaging in constructive discussions in an accurate, timely and appropriate manner to ensure overall transparency of the ITOCHU Group’s tax matters.
Despite such efforts, ITOCHU Group is unable to completely avoid all risks associated with taxes. Factors such as fluctuations in estimates of taxable income used in tax planning, changes in tax planning, revisions in tax rates and other changes to tax systems could significantly affect the financial position and results of operations of ITOCHU Group.
In addition, the amount of deferred tax assets recorded in the asset section of ITOCHU Group’s consolidated statement of financial position is significant, and accounting judgements related to the valuation of deferred tax assets significantly impact ITOCHU Group’s consolidated financial statements. For these reasons, ITOCHU Group takes future taxable income and viable tax planning into consideration, recording recoverable amounts of deferred tax assets.
(9) Risks Associated with Significant Lawsuits
There is no significant, currently pending lawsuit, arbitration, or other legal proceeding that may significantly affect the financial position and results of the operations of ITOCHU Group.
However, there is a possibility that domestic or overseas business activities of ITOCHU Group may become subject to any of such lawsuits, arbitrations or other legal proceedings, and significantly affect the future financial position and results of operations of ITOCHU Group.
(10) Risks Associated with Laws and Regulations
ITOCHU Group is subject to a number of diverse laws and regulations both domestically and overseas due to the vast array of products and services the Group provides.
To be specific, ITOCHU Group is required to adhere to laws and regulations such as the laws for each industry, including companies act, financial instruments and exchange laws, and tax laws, as well as all laws pertaining to trade such as foreign exchange control laws, antitrust laws, intellectual property laws, environmental-related laws, anti-bribery-related laws and the laws of each country in which ITOCHU Group conducts business overseas. ITOCHU Group has made every effort to observe these laws and regulations by reinforcing the compliance system, being aware that the observance of laws and regulations is a serious obligation of the Group. With all these measures, however, there is a possibility of the situation where, including personal misconduct by directors and employees, risks associated with compliance or suffering social disgrace cannot be avoided.
Also, ITOCHU cannot deny that unexpected, additional enactment or change in laws and regulations by legislative, judicial, and regulatory bodies are a possibility both domestically and overseas, and there are possibilities of major change in laws and regulations by political/economical changes. Such occurrences could significantly affect the financial position and results of operations of ITOCHU Group.
(11) Risks Associated with the Environment and Society
ITOCHU Group positions the resolution of global issues related to the environment and society as one of the most important management issues. Accordingly, we have formulated a basic policy on sustainability and identified material sustainability issues. The Group takes an active approach to managing risks. These efforts include establishing an environmental policy and building an environmental management system to minimize environmental risk, such as the risk of infringement of laws and regulations in the handling of goods, the provision of services, and business investment, and conducting an extensive sustainability study for the supply chain. Specific actions include establishment of the Sustainability Committee, the formulation and revision of policies related to sustainability, and annual reviews of Companywide activities. We also promote environmental and social management activities in individual departments.
Recognizing climate change as a pressing issue, we concur with the recommendations of the Task Force on Climate-related Financial Disclosure (TCFD). We participate in the TCFD Consortium, led by the Ministry of Economy, Trade and Industry, Ministry of the Environment, and Financial Services Agency. We analyze the impact of climate change-related risks on our business and operating performance, as well as countermeasures, based on the TCFD’s recommendations. We disclose such information and calculate our greenhouse gas emissions.
However, despite such countermeasures the occurrence of environmental pollution and other environmental or social problems due to ITOCHU Group’s business activities could lead to the delay or suspension of operations, the incurring of countermeasure expenses, or the lowering of society’s evaluation of the Group and could significantly affect the financial position and results of operations of ITOCHU Group.
(12) Risks Associated with Natural Disasters
In the countries and regions in which ITOCHU Group conducts business activities, natural disasters, such as earthquakes, or the outbreak of infectious diseases may adversely affect its business activities. ITOCHU has implemented measures such as developing Business Continuity Plans (BCPs) for large-scale disasters and the outbreak of infectious disease, introducing a safety confirmation system, and conducting emergency drills. Also, various measures have been implemented individually in each Group company.
However, since ITOCHU Group conducts business activities across a wide range of regions, when damage arises due to natural disasters or the outbreak of infectious diseases, it cannot completely avoid such damage. Therefore, such occurrences could significantly affect the financial position and results of operations of ITOCHU Group.
(13) Risks Associated with Information Systems and Information Security
In ITOCHU Group, a code of conduct concerning the handling of information is enforced on all directors and employees and high priority is placed on maintaining a high information security level. ITOCHU Group leveraged digitalization and data, took measures to build and operate information systems that promote information sharing and operational efficiency, and established security guidelines that take cyber-security risks into consideration by ensuring the safe operation of information systems, ITOCHU Group is putting in place an IT environment, enhancing technological security countermeasures to malware, enhancing our structures through a cyber-security response team, and engaging in thorough ongoing measures to address crisis management.
Despite these measures, ITOCHU Group cannot completely avoid the risk of sensitive information leakage due to unauthorized access from the outside or computer viruses, and the risk of the stoppage of information systems due to equipment damage or problems with telecommunications circuitry. Depending on the scale of the damage, such occurrences could significantly affect the financial position and results of operations of ITOCHU Group.
(14) Risks Associated with the Outbreak of COVID-19
Established the response headquarter and prioritized ensuring employee safety in response to the spread of infections and prevention of spread of infections, ITOCHU carried out strategies, considering the domestic work system such as working from home, as well as evacuating expatriates and family members from overseas regions with low medical standards. In addition, ITOCHU, as a general trading company with strengths in the consumer sectors, has continued to carry out important tasks while avoiding risks even during the outbreak period in order to contribute to the stability of social life by maintaining the supply chain in each field in addition to fulfilling our responsibilities for dealing with customers on-site, including group companies.
Due to the outbreak of COVID-19, the global economy is likely to go through a severe recession for the foreseeable future, and it will continue to be difficult to predict when it will bottom out. In ITOCHU Group, impacts due to reduced economic activity in various business areas are expected in addition to the impacts of fluctuations in exchange rates, interest rates, commodity prices, and stock prices. While continuing to monitor, ITOCHU Group will strive to minimize each risk by thoroughly instilling “earn, cut, prevent” principles, especially “cut, prevent” principles, as the core of our business.
However, ITOCHU Group cannot completely avoid the actualization of such risks and the actualization could significantly affect the financial position and results of operations of ITOCHU Group.