After posting large losses for five years in a row and losing 82% of its market value, Sony (SNE) finally seems to be turning around. Since December, Sony's share price has appreciated by 95%; however, it is still far from where it was a few years ago. As the company trades at 52-week high, many investors are asking this question: is Sony saved?
Sony has multiple business units under three main departments: electronics, entertainment and financial services. While some of these business units have always been profitable for the company, others have been losing money for years. The business units under electronics department have been the worst performing parts of the company. The high costs of production related to strong Yen and high commodity prices coupled with weak demand due to slowing global economy, and these factors hurt Sony's business aspects for years. Furthermore, some natural disasters such as the earthquake in Japan and the flood in Southeast Asia damaged Sony's margins deeply. Moreover, the emerging competition in the TV and mobile phone markets brought in strong pricing pressures, hurting the company further. As the costs went up and revenues went down, Sony seemed like it was in a situation it couldn't get out of. In the recent months, the company seems to be doing better, partly thanks to weaker Yen; however, the improvement isn't only due to Yen's weakness alone. Things are really changing at the company.
Last year, Sony deployed a new strategy called "One Sony" which is strikingly similar to Ford's (F) "One Ford" strategy that became popular in 2007 when the company was bleeding cash. Similar to what Alan Mulally did in Ford, Sony attempted to reduce the amount of layers in management in order to reduce bureaucracy and allow for more efficiency in making and implementing crucial decisions. Many of Sony's business units were brought together under the same umbrella and some of the products were discontinued in order to keep the company's focus in more successful products. Now Sony is more integrated, more united and more determined than ever to tackle many of the challenges that drove the company almost into bankruptcy as recently as last year.
In Sony Electronics, the focus was on two priorities: 1) strengthen the business units that are not struggling too much, such as the mobile phone, gaming and digital imaging businesses, 2) ensure a quick and efficient turnaround for the struggling business units, such as the television business which caused a lot of cash bleeding in the company in the recent years. Sony continues to be dominant in the digital camera market, and it enjoys brand names such as PlayStation in gaming and Xperia in smart phones. The TV business has been one of the biggest troublemakers for the company. Sony had too many TV models and these models were too expensive to build; therefore, the company couldn't enjoy pricing power over the competition. As Sony had the most expensive TVs, it lost a lot of market share to companies that produced cheaper TVs. In the last year, the company has been able to cut its operating expenses in the TV division and reduce the number of TV models in order to increase its focus further.
Furthermore, Sony is in the process of entering and growing in new business areas that it didn't have much presence before. For example, the company recently started to move into the healthcare business where it will offer products and services utilizing Sony's deep expertise in technology. Moving forward, the company will see a lot of growth through its medical equipment and medical diagnostic businesses.
How About Results?
Now that we established that the company has been working hard for a turnaround, the next question comes: how is the new strategy working out for Sony? On May 9th, the company announced its earnings for the quarter and the full year. This was the first time in five years that Sony printed its earnings in black ink rather than red ink. This is somewhat encouraging but there is still a lot of work to do and a lot of road to travel. Sony's good results were a result of asset sales, including the company's headquarters in Manhattan, which it was able to sell for $1.1 billion. Furthermore, weak Yen was able to help Sony greatly as its operating expenses fell because of the weakness of the currency, which helped make Sony's products more affordable outside of Japan.
In the latest earnings release, the company's management was cautiously optimistic. For example, the company's Chief Financial Officer Masaru Kato talked about how he expects Sony to be profitable in this fiscal year; however, he also acknowledged that there is a lot of work to do before Sony can accomplish its goals. While Sony's financial services and entertainment divisions continued to stay profitable, the electronics division didn't contribute to the profits because the company continued to suffer from declining PC and digital camera sales along with the low margins in the TV business. Sony hasn't made any money from televisions in the last 9 years. In contrast, it lost billions of dollars in order to keep its TV business running.
Moving forward, Sony targets selling 16 million TV sets in order to turn the TV division profitable. Also, the company expects its smart phone volume to grow by another 27%. Furthermore, Sony will be hiring contract manufacturers to build PlayStation 4 units, which will ensure that PlayStation 4 has better margins for Sony than PlayStation 3 did. If the plan goes accordingly, Sony will be able to turn a profit in the electronics department.
I don't even know why Sony insists on building TVs after having lost money on them for nine years in a row. Perhaps the company should dump its TV business and make it much easier to post a profit in the near future. The company's management seems to believe that it can turn the TV business around even though it has been trying that for nine years. The company could simply sell the TV business and move on.
In the current fiscal year, Sony expects to earn $505 million which represents a 16% growth over last year's profit. The company will have to rely on more than asset sales this year in order to post a profit and I like the fact that the company's management is confident about posting a profit without asset sales. Compared to the last year, Yen is 20% cheaper in dollar currency, and if the cheap Yen continues (which the Japanese government is pushing for), this should help Sony greatly. In the last quarter, Sony's revenue was up by 8% to $17 billion mostly due to weak Yen. The operating profit for the full year was $2.45 billion. On the negative side, the company reported decreases in revenues for its cameras, game systems and home entertainment products.
Now we are going back to the main question: is Sony saved? Currently, there is no clear answer to this question. In the last year, the company has made a lot of changes which resulted in some encouraging results; however, there is still a lot of work to do and a lot of road to travel. The company will have to show that it can make a profit without selling assets and that it is willing to abandon products that aren't profitable. Sony has several products that are highly profitable, and the company needs to stick to those products.
Personally, I've never owned shares of Sony but it looks tempting at the moment. Currently the company trades for 1.0 times its book value, 0.3 times its sales and 4.2 times its cash flow. If the company can continue to cut costs and only stick to profitable products, it will have a lot of upside potential.