Daiwa House Industry : Chapter 4 Message from the CFO [2.7MB］

Message from the CFO

Message from the CFO	33
Basic strategy for capital policy	38
Capital allocation and shareholder return	39
		Chapter4

Daiwa House Group Integrated Report 2023 32

Message from the CEO

Long-Term Vision and the 7th Plan

The Story of the Group's	Message from the CFO	Developing
Value Creation	our Businesses

Environmental Vision

Strengthening

our Bases

Governance

Financial Results,

Corporate Information

Chapter 4 Message from the CFO

Continue proactive growth-oriented investment to maximize corporate value, aiming for an optimum balance between profit growth and capital efficiency

Takeshi Kosokabe

Executive Vice President and CFO

Building portfolio of quality assets to underpin solid business growth

We are evolving our revenue model to optimize management efficiency, a policy in our Seventh Medium- Term Management Plan. We aim at steady growth by building a portfolio of quality assets by investing heavily in areas with prospects of expanding scale and steady profit expansion. We will return resulting proceeds to shareholders and reinvest in further growth. Our growth investments center on developing real estate for logistics and commercial facilities, and new areas such as data centers and public wholesale markets. In fiscal 2022, after spending ¥408.0 billion on real estate development, our investment real estate portfolio was ¥1.6 trillion, as we build a suite of quality assets to generate future capital gains. We are also investing in

the housing sector for overseas growth, and making strategic carbon neutrality initiatives.

Our digital transformation initiatives include capex in our IT platform and digital construction, as well as robot technologies and drones for laborsaving and workflow automation. We are also investing in the human and intellectual capital that will sustain our businesses in the future.

Debt-equity ratio above 0.6 times, but higher investment hurdle rates prepare us for rate rises

Maintaining a sound financial position is a key to improving management efficiency. We target a debt-equity ratio around 0.6 times for financial disci- pline. At end-March 2023, interest-bearing debt stood at ¥1,849.4 billion, for a debt-equity ratio 0.72 times

Daiwa House Group Integrated Report 2023 33

Message from the CEO

Long-Term Vision and the 7th Plan

The Story of the Group's	Message from the CFO	Developing
Value Creation	our Businesses

Environmental Vision

Strengthening

our Bases

Governance

Financial Results,

Corporate Information

(taking into account hybrid finance).

This is partly because we are making upfront investments in overseas growth. With the US Single-Family Houses Business performing well, we upped our activi- ties, but year-end inventories increased on a temporary downturn in orders following sharp rate hikes, with the balance sheet inflated by yen weakness. In Japan, inventories rose in the Rental Housing and Commercial Facilities Businesses on our aggressive rollout of subdivisions using our extensive local knowledge, in addition to contracted work. This boosted interest-bearing debt. However, sales in the subdivision business are solid and we maintained high asset turnover rates.

When we drafted our medium-term plan we expected the D/E ratio to exceed 0.6 times in the first half, due to frontloaded investments. However, in light of interest rate movements and the outlook we need to be prepared for future eventualities. We lifted our IRR hurdle rate for real estate development investment to 10% in February 2023.

When we set up the Real Estate Investment (now Business Investments) Committee in 2008, most of our profit came from contract work, and we adopted an IRR investment benchmark to raise awareness of capital costs inside the company. Lifting the rate recently reflected the importance of managing risks yet

to emerge, and we hope it will instill awareness of our target ROE of at least 13% in our workforce. A review showed that many previous projects achieved an IRR of 10% or more, so the new benchmark will not significantly curtail our investments. We manage overseas investment projects with country-specific risk premi- ums. We also adopted internal carbon pricing (ICP) to help us prioritize eco-friendly investments, which we added to our investment evaluation criteria. We are promoting environmental investment as a result.

In fiscal 2022 we raised ¥200 billion via two bond issues. With prospects of higher interest rates, it is gradually becoming more difficult to raise long-term funds at low rates. In addition to raising funds from outside parties, we are recouping funds from sales of for-sale and investment real estate more quickly than before. Some investors have voiced concerns about changes in the property market with rates on the rise, but to date we see no signs of concerning developments in the domestic Japanese market. We have developed a rich variety of assets in a range of locations, attracted clients to suitable sites using our relationships with tenants, and exited real estate investments through a variety of means, generating significant and stable profits. We will continue leveraging our strengths to keep generating substantial profits and cash flows in the real estate development business.

Boosting market value of company

through ROE of at least 13%

IIn March 2023, the Tokyo Stock Exchange asked companies with a PBR of below 1.0 times to take remedial action. Unfortunately, at end-March 2023, our PBR was in the 0.9 times range, so there is room for improvement. In fiscal 2022, our ROE was 14.3%, but amortization of actuarial differences of retirement benefits inflated ROE by about 3 percentage points. Looking back, our highest PBR was 1.85 times in fiscal 2017, when we achieved ROE of 17%, more than double our cost of equity. This reflected high margins and profit growth in our three key drivers at the time (the Rental Housing, Commercial Facilities, and Logistics, Business and Corporate Facilities Business). I believe a favorable market rating requires an ROE of at least 13%.

To this end, we are optimizing our business portfolio as set out in our Seventh Medium-Term Plan. We plan to expand the scale of our growth-driver businesses through focused investment. Meanwhile, we are rethinking growth scenarios, and rebuilding and restructuring businesses that have issues with growth and capital efficiency. In December 2022, we decided

Daiwa House Group Integrated Report 2023 34

Message from the CEO

Long-Term Vision and the 7th Plan

The Story of the Group's	Message from the CFO	Developing
Value Creation	our Businesses

Environmental Vision

Strengthening

our Bases

Governance

Financial Results,

Corporate Information

to sell our resort hotels business. Considerations in optimizing our business portfolio include potential for synergies within the Group and whether we are the best owner. We will concentrate our business resources in areas where unique Daiwa House attributes can maximize value-businesses that will drive profit growth in the future. We believe these initiatives put the target of

Business portfolio (conceptual)*1

(market				Growth businesses
	New business	New	Commercial
growthrate/competitiveadvantage,	Externalmarketevaluation	seeds	business	Facilities
	creation	Logistics,
		Business and
		Corporate
		Facilities
			Single-
			Family
		Condominiums	Houses	Rental
			Housing
		Consider
etc.)		exit
	Businesses requiring overhaul

Internal quantitative evaluation

(return on capital, sales growth, etc.)

Creation of new businesses and improved capital efficiency through swift action on businesses requiring overhaul and aggressive investment in growth sectors.

*1 Desired direction for each business shown, with flow of funds shown by dotted arrows *2 Bubble sizes proportionate to sales

13% ROE in the last year of the plan within reach. At end- March 2023, our PER was 6 times, which we consider low in terms of the overall market, despite industry-specific circumstances. We plan to streamline operations by reviewing business processes and using IT to strengthen cost competitiveness with Group purchasing.

Daiwa House Group (DHG) position (conceptual)*2

		Average for the
	three major home builders
ROE		(FY 2021)
15%			DHG
At least			FY 2026
13%			target
			DHG
			FY 2021
			result
		Average for the
		three major	Average for the
		general
		contractors	three major developers
		(FY 2021)		(FY 2021)
		(Simple average for three listed companies with most sales) D/E ratio
	0	About	2.0

0.6 times

Current position built using our unique business model leveraging strength as home builder, general contractor, and developer.

Boosting internal awareness of ROIC for capital efficient operations

We adopted ROIC as a KPI when we moved to a business division-based structure in April 2021. I feel that awareness of ROIC is taking hold under independent management by the business divisions. The aim is for division heads to be responsible for balance sheets (including at Group companies), striking a balance between our "stock businesses" and "flow businesses" (business lines that generate recurring profit or once- off profits) depending on their respective business characteristics. We do not expect a single-minded focus on profit, but decisions appropriate for focusing on investment efficiency as awareness of return on capital takes hold. We also expect intra-divisional cooperation to boost business margins overall.

We need to boost margins and improve our total asset turnover ratio to enhance capital efficiency. We are aggressively rolling out our subdivision business, which entails land purchases, and are keenly aware of how investment quality affects the total asset turnover ratio. Our turnover ratio has been about 0.8 times recently. It was trending at around 1.0 times from fiscal

Daiwa House Group Integrated Report 2023 35

Message from the CEO

Long-Term Vision and the 7th Plan

The Story of the Group's	Message from the CFO	Developing
Value Creation	our Businesses

Environmental Vision

Strengthening

our Bases

Governance

Financial Results,

Corporate Information

2012 to fiscal 2019, and we will continue to sell inventories and investment real estate to improve it. When evaluating branch offices' performance, in addition to looking at their earnings we assess them from a cash- flow perspective, looking at details like whether they avoid long-term land holdings, whether and how early they collect receivables, and whether early payment collection rates have improved. We think that this kind of "being complete in small things" at our frontline business locations helps improve capital efficiency.

Our efforts to cull inefficient assets include ongoing reductions of cross-shareholdings. Each year the Board of Directors examines the holdings to test economic rationality from a longer term perspective. In fiscal 2022, we sold shares in 11 companies, including partial divestments. Since beginning the process at end-fiscal 2014, we have reduced the number of holdings from 98 companies to 56 at end-fiscal 2022.

Overseas business investments

and moves to strengthen management and supervisory functions

As CFO, I will continue to monitor our overseas busi- nesses, keeping an eye on interest rates and global

developments. As touched upon earlier, in the land- based US housing business, real estate for sale increased by ¥108.6 billion versus end-March 2022 (including forex effects). The business slowed down from late 2022 on a downturn in demand following rises in mortgage rates and elevated house prices. Still, we do not think the circumstances will cause unrealized losses. We view this as an opportunity to buy land amid prospects of long-term US population growth and ongoing growth in demand for housing, and we are preparing to meet underlying housing demand by acquiring quality sites after careful scrutiny.

In the China condominuims business, we are working on two projects for delivery in fiscal 2025 and 2026. Real estate for sale will increase as construction progresses. Recently sales have been sluggish as property prices are in a downtrend, and with some time remaining until completion, we are not cutting prices and are pushing ahead with community-based sales, with an eye on conditions.

Strengthening risk management overseas has been an ongoing priority since the incidents of 2019, and we have put in place and enhanced regional corporate functions. In our Japanese operations, in February 2023 we announced an organizational restructure to strengthen management and supervisory functions.

Now, head offices and local offices coordinate with branches to take responsibility for legal compliance and governance in areas under their purview. We aim to continue organizational reform for sound branch office operations with business workflow streamlining and thorough legal compliance.

Stable returns to shareholders

Our shareholder-returns policy entails returning profit generated through our businesses to shareholders, in tandem with growth investments in real estate development, overseas businesses, M&A, and R&D and production facilities, to maximize longer-term corporate value while growing earnings per share and working to improve shareholder value. In fiscal 2022, we paid an annual dividend per share of ¥130, for the 13th consecutive dividend increase.

Due to actuarial differences on retirement benefits, the dividend payout ratio was 27.7%, below our 35% tar- get. We book the entirety of actuarial differences in the year they occur. In fiscal 2022, we changed the discount rate used to calculate retirement benefit obligations

Daiwa House Group Integrated Report 2023 36