Business and Other Risks

The following are risks that may have an impact on the business operations, performance, or financial condition of the TechnoPro Group (“the Group”). We also discuss matters that are not necessarily risk factors having a significant impact on our business, offering disclosure from the standpoint of providing information to investors proactively. To ensure sustainable growth, the Group identifies potential current and long-term risks, striving to avoid or respond to risks that occur. Investors should mainly take the following matters into consideration prior to making a decision regarding investment in TechnoPro Holdings stock. Further, statements regarding future matters reflect information available at the time of the publication of this document and judgments deemed rational by the Group. In addition, the following does not necessarily include all potential risks that may arise within the Group and all major risks that may have a significant impact on investment decisions of the investors.

A. Risks Related to Business Operations and Compliance

(1) Response to technological innovations

The speed of technological change is increasing at an accelerated pace. As a global technology-based human resources service provider, we must be able to respond to technological innovation in a timely and appropriate manner. Risks associated with technological innovation include the following. Failure to address these risks may affect the Group’s business operations and performance.
- The risk that the Group fails to predict or recognize the direction of technological changes correctly, or the risk that the Group cannot improve the technical skills of engineers in response to recognized technological changes, resulting in an obsolete skill set
- The risk that the Group experiences an excess of personnel due to a decrease in demand for technical staffing stemming from new technologies that cause a major reduction in the work hours required for R&D and IT systems development
- The risk of incurring major expenses to secure or train engineers capable of responding to new technologies
- The risk of losing demand to the direct employment or use of freelance engineers by customers due to the development of HR tech, remote work, and other technologies
At the same time, if customers experience greater needs for technical human resources in connection with technological innovation, the Group could experience increased demand.
The Group strives to improve the capital efficiency of education and training investments by providing various educational and training opportunities to support the advancement of our engineers’ abilities and skills, as well as their familiarity with new technologies. To ensure sustainable growth, the Group analyzes future technological trends, identifying as strategic technology fields those fields expected to experience strong demand over the long term. We recruit and train engineers who possess skills in these strategic technology fields.

(2) Changes in Related Laws and Regulations

The Group conducts labor dispatch business under the provisions of the Worker Dispatch Act, Standards on the Classification Between Dispatch Businesses and Subcontracting Businesses (Ministry of Health, Labor and Welfare Notice No.37, 1986), and other relevant laws and regulations. Any conflict with said laws and regulations could result in the cancellation of permission to engage in the labor dispatch business, suspension of business, etc. Any act in violation of the Worker Dispatch Act or other related laws and regulations may affect the Group’s business operations and performance.
The Group has established and operates a strict system of legal compliance, including organizational considerations, internal rules, and training for officers and employees.
The Worker Dispatch Act and other related laws and regulations are revised on a continuous basis in response to changes in the economic and social environments. If revisions occur in the future that are significantly disadvantageous to the Group’s business model, such revisions may affect the Group’s business operations and performance. Besides revisions to the Worker Dispatch Act, other labor related changes have been introduced in recent years, including overtime hour work limits, seasonal specifications for annual paid leave, fair treatment in employment (regardless of employment terms), and measures ensuring employment of senior-age workers. The Group has adopted a variety of measures to respond to these changes. However, changes in the future could require responses resulting in significant costs to the Group.
At the same time, stricter regulations could result in the weeding out of small- and medium-sized staffing companies, increasing demand for the Group’s services and allowing the Group to seize larger market share.
The grounds for business abolition, revocation of permission, or business suspension with respect to the Group’s permission to operate a labor dispatch business and a paid placement service are stipulated in Article 14 of the Worker Dispatch Act and Article 32 of the Employment Security Act. As of the date of submission of this document, the Group is not aware of any facts or indications that we have become subject to grounds for business abolition, revocation of permission, or business suspension.

(3) Economic Trends in Customer Industries

As of June 30, 2019, the Group employs 19,293 engineers in Japan, 88.9 percent (17,160 persons) of whom are employed under terms of indefinite-term employment. If the industries to which our customers belong experience downturns, the Group may experience shortened work hours, less-advantageous contractual terms, or cancellation of labor dispatch contracts in progress. As the Group employs significant numbers of indefinite-term employment engineers, the burden of personnel costs for such employees could increase during phases of economic downturn, which may affect the Group’s business performance and financial position.
The Group has bolstered education and training to enhance the added value of our engineers. Since June 2012, the utilization rate of our engineers has been stable at more than 95 percent. By conducting business with a variety of industries and customers in the R&D outsourcing field, the Group avoids the potential impact of relying on specific industries or specific customers, engaging in risk diversification of our business operations. The top ten Group customers accounted for 13.3 percent of total sales for the current consolidated fiscal year.

(4) Mergers and Acquisitions (M&A)

As part of the growth strategy outlined in our medium-term management plan, the Group may engage in M&A, equity investments, or the establishment of new companies. When conducting M&A or equity investments, we perform due diligence on target companies, striving to avoid risk. However, subsequent to the acquisition, the Group may discover contingent liabilities, or the business may not be able to achieve business plans initially forecasted, or the Group may not be able to exercise sufficient control or monitoring of the management of the investee company, resulting in interference in business operations. The occurrence of such circumstances may affect the Group’s business performance and financial position.
The Group engages in business operations with an awareness of the cost of capital. We have identified return on invested capital (ROIC) as a key performance indicator to consider during price negotiations and post-merger integration of investments, striving to achieve sustainable growth while creating value.

(5) Adoption of Impairment Accounting

As of June 30, 2019, the Group had a total of 39,675 million yen in goodwill and intangible assets on our consolidated statement of financial position. Goodwill and intangible assets account for 42.3 percent of total assets and consist mainly of machinery, electric and electronic-related (14,651 million yen) and embedded control and IT infrastructure-related (7,969 million yen). Goodwill and intangible assets have increased as a result of our active pursuit of M&A in Japan and overseas. However, a notable decline in the Group’s profitability, or changes in the business environment leading us to judge that the expected results of M&A cannot be achieved may require the Group to determine whether goodwill or intangible assets have been impaired. Impairment losses related to goodwill or intangible assets may affect the Group’s business performance and financial position. Further, the Group treats goodwill as a non-amortized asset.
In connection with M&A and equity investment, the Group may take action to avoid downside risk by reducing the potential amount of impairment loss by reducing initial investment or ownership ratio, or by granting put options to minority shareholders to act as an incentive to the founders (sellers) of the investee company to reduce management risk associated with the investment. If the performance of an investee business diverges significantly from originally forecast plans, the Group must determine whether a change in the fair value of related options has occurred. Such changes may affect the Group’s business performance and financial position.
The Group engages in a disciplined approach to M&A, aware of potential impairment risks. When engaging in M&A, the Group forms a team consisting of business unit and PMI representatives beginning at the due diligence stage, creating a post-investment plan in advance. Plans are executed promptly after the closing of an investment as we strive to improve the management of the investee company and secure expected synergies between the investee company and the Group.

(6) Securing Sufficient Human Resources

The supply and demand for engineers in Japan has become tight over the past several years. Depending on future trends in the recruitment market, the Group may experience difficulty in securing sufficient engineering professionals, which may affect the Group’s business operations and performance as a result.
We believe that recruiting capability is one of the Group’s strengths and that the acquisition of outstanding engineering professionals is a driving force for the Group’s growth. In addition to mid-career recruitment, the Group is strengthening our recruitment of new graduates. Our recruitment channels include current online media, Hello Work (Japanese government employment service center), etc. By continuing to diversify our recruitment channels, including the use of professional recruitment service providers and personal referrals, we strive to generate greater recruitment expense efficiencies and recruit higher-quality employees, securing engineering resources sufficient for our needs. As a result of these efforts, we are making favorable progress in hiring and employing engineering professionals, as shown in the table below.
The Group conducts annual employee satisfaction surveys and uses the results of these surveys to implement measures for improved treatment. In this way, we strive to strengthen recruitment competitiveness and maintain higher retention.

  FY2015 FY2016 FY2017 FY2018 FY2019
Number of newly recruited engineers 2,413 2,541 2,684 4,151 4,512
Number of engineers employed 11,969 13,127 14,346 16,797 19,293

(Figures for engineers hired and total number of engineers employed are for Japan only (including increases due to M&A); number of engineers employed is as of the end of the fiscal year.)

To respond to the rapid increase in the number of engineers and the expansion of our organization, the Group must hire and train sufficient administrative staff to support stable business operations. Difficulty in securing such human resources may affect the Group’s business operations and performance.
Although the Group is competitive in recruiting engineers, we face severe competition from other entities in the recruitment of administrative personnel, regardless of industry, in this tightening labor market. The Group is investing actively in IT system to construct a platform to support core processes of our engineer staffing business, enhancing productivity of our administrative personnel through adoption of the latest IT technologies and work process revisions. At the same time, we are strengthening our administrative functions, having launched a business process reengineering project which involves a fundamental review of our enterprise systems, including sales, human resources, and accounting.

(7) Labor

The Group employs more than 20,000 employees and hires a large number of new employees each year, including engineers and administrative personnel. Accordingly, disputes may arise with employees regarding occupational health and safety, management-labor relations, etc. Such events may affect the Group’s business operations and performance.
One of our management policies is to support our engineers and researchers in realizing their dreams. We are executing initiatives to ensure the quality of human resources at the time of hiring, to enhance engineer management (including labor management that emphasizes compliance), to strengthen education and training, and to improve employee satisfaction.

(8) Compliance

The Group must comply with laws and regulations in the countries or regions in which we operate. If the Group’s executives or employees engage in acts that violate social ethics disregarding compliance, reparations to compensate for damage suffered by society or customers and harm to our reputation may affect the Group’s business operations and performance.
The Group has established an integrated risk management plan under our CSR Committee, which consists of the Group directors and members of the Audit & Supervisory Board and is chaired by the representative director. This plan identifies compliance risks and management focus. In practical terms, the Group has established a cross-Group compliance department. This compliance department is charged with preventing major compliance violations by ensuring consistent escalation of arising issues, implementation and of internal audits and corrective action, and a reporting system for internal communications.

(9) Information Security

In the course of their duties, the Group’s engineers may become aware of confidential information, including customer research and development. If an external leakage of customer confidential information by the Group’s engineers results in a demand of reparation for damages, such may affect the Group’s business performance and financial position. In addition, data loss or leakage from the Group’s information systems may interfere with the Group’s business operations.
The Group has developed and operates various rules related to information security. We also instill the proper handling of information and information equipment through education and training of executives and employees. The Group works to address data loss or leakage from the Group’s information systems by strengthening network security and taking other measures.

(10) Business Reputation

The Group’s main business is engineer staffing business. This is a significant business with a social responsibility as an employer of numerous people. If the Group’s executives or employees engage in acts that damage our social credibility or corporate reputation, such acts may affect the Group’s business operations. The engineer staffing market is subdivided across a large number of business operators. If an act that violates social ethics in disregard of compliance is committed by the Group or by any other company engaged in similar business, such act may harm the reputation of the entire industry and may affect the Group’s business operations.

(11) Personal Information Protection

The Group retains a significant amount of personal information related to engineers and other employees, as well as information on job applicants. An external leak of such personal information may result in the loss of social trust in the Group and may affect the Group’s business operations.
The Group recognizes that proper management of personal information is extremely important. We instill the proper handling of personal information through ongoing education and training for executives and employees. In addition, we have designated a CSR Promotion Officer responsible for personal information protection. We have also structured other security measures related to personal information, including the development and operation of personal information protection rules and information systems.

(12) Natural Disasters and Accidents

The Group operates more than 200 business locations throughout Japan and the Group’s engineers work at more than 2,000 customers in Japan. Accordingly, if a natural disaster such as earthquake or flooding occurs, or if an unforeseen accident occurs, such events may affect the Group’s business operations and performance.
The Group has established business continuity plans and corporate crisis countermeasure rules in the event of natural disasters or accidents. Measures include utilizing a data recovery center in the event of information system failure.

B. Risks that May Affect the Group’s Business from a Medium- and Long-Term Perspective

(1) Progress of Globalization

In recent years, major Japanese companies, many of which are main customers of the Group, have pursued globalization in R&D and IT systems development. This movement is expected to accelerate further in the future. The improvement of technological capabilities in emerging economies has resulted in low-cost offshore development from Europe and the United States, even for critical development projects. In the future, the number and scale of development projects in Japan could shrink and demand for technology development services could decrease. If the Group is unable to respond to such geographical shift, such changes may affect the Group’s business operations and performance.
At the same time, the Group could develop new growth opportunities if the Group can establish a business foundation to meet customer demand on a global scale and propose the best technology development services and solutions in each region.
The Group is pursuing globalization as part of a growth strategy based on our medium-term management plan. As of June 30, 2019, the Group employs a total of 1,608 engineers in overseas locations that include China, Singapore, India, and the United Kingdom.

(2) Changes in Employment Practices

One reason behind the strong demand for technology development services in Japan is employment practices that encounter difficulty in adjusting quickly to direct employment needs. R&D and IT systems development projects sometimes have difficulty in securing human resources in a timely and appropriate manner. In recent years, employment practices have been changing gradually in Japan. At the same time, employment fluidity will only become more prominent in the future. If customers generally begin direct hiring on a development project basis, such practices could reduce demand for engineering resources outsourcing. This may affect the Group’s business operations and performance.
Working from our medium-term management plan, the Group is diversifying our business domain into a higher-value-added technology development service that includes training engineers who have the latest technology skills, engineering consulting, and professional recruitment services for engineers and others.

(3) Changes in Customer Demand

In recent years, progress in digitalization and software have introduced significant changes in R&D methods and IT systems development. In Europe and the United States, in-house IT systems development and systems packaging has become a widespread practice. The advancement of technology is also likely to change development methods among our customers in Japan in the future. An inability to respond to these changes may affect the Group’s business operations and performance.
At the same time, the Group could develop new growth opportunities if the Group can train engineers in mastering new development methods and optimize development resources on a global basis. In so doing, we may be able to propose technology development services for customers to respond to changes in technology.

(4) Population Trends in Japan

Although the large part of the Group’s business is conducted in Japan, the total population and the number of engineers are expected to continue to decline in Japan. Contraction of the market in which the Group operates and increasing competition for new graduates and mid-career recruits may affect the Group’s business operations and performance.
At the same time, the Group could develop new opportunities for growth if demand for technical human resources in Japan continues to rise as expected and if the Group can meet the technical development needs of our customers by recruiting global human resources and improving technological development.

(5) Long-Term Trends in the Global Economy

Demand for the Group’s services links to our customers’ willingness to invest in R&D and IT systems development. Major Japanese companies, many of which are main customers of the Group, continue to invest in R&D to maintain global competitiveness. This is a key factor in the Group’s growth.
However, if the return to global protectionism over recent years and ongoing constraints to a free trade economy result in many Japanese corporations becoming reluctant to invest in R&D, such events could reduce demand for technical human resources and may affect the Group’s business operations and performance.

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