Canon Annual Report 2003

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FY2003 Annual Report · Canon

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CANON
ANNUAL REPORT
2003

Fiscal Year Ended December 31, 2003

Corporate Profile

Canon Inc. (NYSE: CAJ) and the Canon Group develop,

produce and market a wide range of products used in

the home, offices and industry, including business

machines, conventional and digital cameras, lenses,

digital video camcorders, semiconductor production

equipment, television broadcasting lenses and medical

equipment, employing over 100,000 people worldwide.

CONTENTS

Financial Highlights · · · · · · · · · · · · · · · · · · · · · · 1

To Our Shareholders · · · · · · · · · · · · · · · · · · · · · 2

Corporate Governance · · · · · · · · · · · · · · · · · · · · 4
Board of Directors and Corporate Auditors

The operating environment in 2003 was harsh, but

Feature Stories

Canon’s strong product lines and successful manage-

ment reform activities led to a fourth consecutive year

of sales and profit growth and new record highs for the

Corporate Management · · · · · · · · · · · · · · · · 6

Research & Development

· · · · · · · · · · · · · · 8

company in consolidated net sales and net income.

Production · · · · · · · · · · · · · · · · · · · · · · · · · · · 10

The Group also made significant progress in achieving

the aims of Phase II of the Excellent Global Corporation

Plan, which commenced in 2001 and will conclude in

Environmental Responsibility · · · · · · · · · · · · 12

Philanthropy · · · · · · · · · · · · · · · · · · · · · · · · · 14

2005.

Canon Product Groups

The Canon Group pursues a variety of environmental

and philanthropic activities under its corporate philos-

ophy of kyosei, or living and working together for the

Office Imaging Products · · · · · · · · · · · · · · · · 16

Computer Peripherals · · · · · · · · · · · · · · · · · · 18

common good, and focuses on fulfilling its duties to

Cameras · · · · · · · · · · · · · · · · · · · · · · · · · · · · · 20

investors and society by stressing good corporate

governance throughout its activities.

Optical Products · · · · · · · · · · · · · · · · · · · · · · 22

Product Group Summary · · · · · · · · · · · · · · · · · · 24

Financial Section · · · · · · · · · · · · · · · · · · · · · · · · 25

Major Consolidated Subsidiaries · · · · · · · · · · · · 79

Transfer Office and Registrars · · · · · · · · · · · · · · 80
Shareholders’ Information

Cover photos:

Top left: Canon Development Americas (CDA) serves as the core of R&D
activities in the Americas, focusing on the digital home, the digital office, optics
and materials.
Top right: Canon Europa showroom near Amsterdam, where many Canon
products, from cameras to digital MFDs, are on display.
Bottom left: Canon Vietnam. Each Canon production base in Asia has deep
roots in the local culture.
Bottom right: Photo-functional water, an original Canon technology that
decomposes chlorinated organic compounds contained in industrial wastewater.

Financial Highlights

Millions of yen
(except per share amounts)

Thousands of U.S. dollars
(except per share amounts)

2003

2002

Change (%)

2003

¥ 3,198,072

¥ 2,940,128

+ 8.8

$ 29,888,523

454,424

346,359

+ 31.2

4,246,953

448,170

330,017

+ 35.8

4,188,505

Net sales

Operating profit

Income before income taxes
and minority interests

Net income

275,730

190,737

+ 44.6

2,576,916

Earnings per share:

-Basic

-Diluted

¥ 313.81

¥ 217.56

+ 44.2

$ 2.93

310.75

214.80

+ 44.7

2.90

Total assets

¥ 3,182,148

¥ 2,942,706

+ 8.1

$ 29,739,701

Stockholders’ equity

¥ 1,865,545

¥ 1,591,950

+ 17.2

$ 17,435,000

Notes: 1. Canon's consolidated financial statements conform with accounting principles generally accepted in the United States of America.
2. U.S. dollar amounts are translated from yen at the rate of U.S.$1 = ¥107, the approximate exchange rate on the Tokyo Foreign Exchange Market as of December 30, 2003,
solely for the convenience of the reader.

Net sales
(Millions of yen)

Net income
(Millions of yen)

Earnings per share
(Yen)

Stockholders’ equity
(Millions of yen)

3,200,000

280,000

320

1,900,000

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To Our Shareholders

Looking back at the global economy in 2003, although

sales growth of 3.7% to ¥1,061.1 billion (U.S.$9,917 million)

economic conditions in the United States remained stagnant

for our office imaging products.

during the first half of the year, a recovery quickly took hold

Despite the severe price competition in the computer

from the third quarter, led by healthy consumer spending

peripherals segment, brisk unit sales of inkjet printers,

resulting from tax cuts and growth in capital investment in

including both multifunction models for businesses and

the private sector, which was supported by a low-interest

SOHO models, produced 3.2% sales growth to ¥1,089.3

rate monetary policy.

billion (U.S.$10,180 million).

In the Canon Group’s markets, demand for digital

The introduction of several new compact and digital SLR

cameras and digital video camcorders continued to expand

cameras and digital video camcorders delivered healthy

in 2003. Shifting business demand toward multifunctionality

camera sales for the term, more than offsetting the decline

and color stimulated strong sales of network digital

in unit sales of conventional film cameras. Sales grew 34.5%

multifunction devices (MFDs). Computer peripherals,

and operating profit for the camera segment appreciably

including inkjet printers, however, struggled amid severe

price competition. In the field of optical equipment, the

semiconductor-production equipment market began to show

signs of a recovery and the increased demand for liquid

crystal display (LCD) televisions fueled growth in the market

for aligners, used in the production of LCDs.

The average value of the yen in 2003 was ¥115.61 to

the U.S. dollar, and ¥131.02 to the euro, representing an

appreciation of 8% against the U.S. dollar, and a depre-

ciation of 10% against the euro.

Amid these conditions, Canon registered net sales in

2003 of ¥3,198.1 billion (U.S.$29,889 million), representing

an 8.8% increase from the previous year. Canon’s gross

profit during the term increased by 14.9%, boosted by an

increase in sales volume and an improved gross profit ratio

made possible by R&D and production reforms. Conse-

quently, operating profit in 2003 significantly increased by

31.2% to ¥454.4 billion (U.S.$4,247 million). Net income

for the year climbed 44.6% to ¥275.7 billion (U.S.$2,577

million), and basic earnings per share were ¥313.81

(U.S.$2.93), a year-on-year increase of ¥96.25 (U.S.$0.90).

Reflecting Canon’s strong financial condition, the Board

of Directors has voted to increase the annual dividend to

¥50 (U.S.$0.47), from ¥30 (U.S.$0.28).

Results by Product Group

Strong sales of network digital MFDs, including the first color

imageRUNNER (iR) models, helped stimulate year-on-year

advanced 79.7% to ¥126.3 billion (U.S.$1,181 million).

market and plan to strengthen our sales structure there as

Sales of optical products totaled ¥270.6 billion

well. And we will continue to promote cash-flow manage-

(U.S.$2,529 million), a year-on-year increase of 18.6%.

ment to achieve financial strength befitting a truly excellent

Despite the increased sales, the gross profit ratio decreased

global company.

in 2003 due to severe competition and a one-time expense

for the disposal of inventories, resulting in an operating

Dealing with the Challenges Ahead

loss of ¥11.4 billion (U.S.$107 million) for the term.

Exchange rate fluctuation is a persistent challenge for a

global company. To mitigate its impact, we are working to

Progress toward Meeting Management Objectives

increase product development speed, which will enable

In 2001, Canon launched Phase II of the Excellent Global

us to introduce products priced to reflect the latest foreign

Corporation Plan, a five-year management initiative whose

exchange levels. For the long term, we will establish product

aims include securing the No. 1 position worldwide in all of

development operations in the United States and Europe,

our core business areas, strengthening R&D and further

enabling each region—Japan, the Americas and Europe—to

enhancing the Canon Group’s financial position. In 2003,

develop, produce and export its own products all over

we reached several milestones indicating our progress

the world.

toward achieving these aims. These include a move to

We also view environmental concerns as a management

increase R&D spending to 10% of net sales and the

issue of extreme importance. From the product development

reduction in our long-term interest-bearing debt to below

stage through to production, sales, use, recovery and

100 billion yen.

recycling, we focus our efforts on creating environmentally

Among our core businesses, we are aiming to build on

conscious products designed with energy savings, resource

our No. 1 position worldwide in the areas of copying

conservation, and the elimination of harmful substances

machines and laser beam printers by, among other methods,

in mind.

actively launching new models that will help to expand the

While the global economy appears to be headed for

color market and “print-on-demand” market.

recovery in 2004, uncertainties are likely to continue.

Canon is one of the few companies that possess world-

Strongly positioned in a range of expanding markets, Canon

class technologies for both cameras and photo-quality

will remain on course toward our goal of becoming an

printers. We intend to continue leveraging this advantage

excellent global company, and in so doing, I believe, will

to increase market share and expand new markets, such

continue adding value to the Canon Group for all

as home photo printing.

stakeholders around the world.

In 2003, Canon introduced new semiconductor

production equipment based on a new platform. With the

aim of capturing the No. 1 position in this industry, we will

continue to launch new leading-edge products.

Our expanded commitment to R&D is focused on

enhancing core technologies as well as bolstering product

“engine” and platform technologies. We are also continuing

to pursue “prototype-less design” through the effective

utilization of 3D-CAD systems, eliminating, to the extent

possible, physical prototypes from the design process.

We are keeping a close eye on the expanding Chinese

Fujio Mitarai
President and CEO
Canon Inc.

Corporate Governance at Canon:
A Commitment to Building Corporate Value

Good corporate governance is an integral part of the Canon business philosophy.

We are committed to approaching social, ethical and environmental matters in

the same way as we approach our core business activities, and to ensuring

transparency in these areas. Canon recognizes the importance of building

sound relationships with all of our shareholders. Therefore, we set high standards

of behavior and continuously strive to make pertinent information available for

our shareholders.

Streamlined Board Management
Canon’s board consists of 24 directors, all of

Vigorous Corporate Auditing
The board of four corporate auditors includes

whom typically attend the management meet-

two outside corporate auditors, and the board

ings where key corporate issues are discussed

attends directors’ meetings, reviews written and

and decided. For purposes of efficiency,

oral business reports from directors and other

Canon’s board does not include outside directors

managerial staff and conducts auditing proce-

and the term of service of a director has been

dures for the business and property. From May

reduced to one year (from two). As well as the

2003 on, any contracts between Canon and an

board of directors, a number of cross-company

accounting company must be approved by the

management advisory committees have been

auditors’ board in advance. In addition, an internal

formed, which specialize in different important

Corporate Audit Center inspects areas of the

management themes. As well as accelerating

company on issues such as compliance, risk

the decision-making process, these committees

management, and internal control systems prior

also serve another function as they perform an

to offering assessments and proposals in these

error-checking role.

areas. The center also works closely with admin-

istrative divisional management on quality,

environmental and security (informational and

physical) issues.

Enlightened Code of Conduct
The Canon Group Code of Conduct, a handbook

calling on all executives and employees to perform

their duties in compliance with laws and corporate

Board of Directors
and Corporate Auditors
(as of December 31, 2003)

ethics, has been distributed throughout the Canon

President and Chief Executive Officer

Group, in nine languages. Our corporate code also

Fujio Mitarai

encompasses our environmental policies, which

continue to be a prime concern throughout the

whole Canon organization. In addition, Canon Inc.

set up the Corporate Ethics & Compliance

Committee consisting of all chief executives on

January 1, 2004 for the purpose of sharing

compliance awareness as common value among

all executives and employees and therefore

enhancing sound management.

Senior Managing Directors

Ichiro Endo
Yukio Yamashita
Toshizo Tanaka

Kinya Uchida
Akira Tajima
Tsuneji Uchida

Managing Directors

Takashi Saito
Yusuke Emura
Nobuyoshi Tanaka
Junji Ichikawa

Directors

Hajime Tsuruoka
Akiyoshi Moroe
Kunio Watanabe
Ikuo Soma

Ryoichi Bamba

Teruomi Takahashi
Hironori Yamamoto Tomonori Iwashita
Yoroku Adachi
Yasuo Mitsuhashi
Katsuichi Shimizu

Toshio Homma
Shigeru Imaiida

Corporate Auditors

Kohtaro Miyagi
Masaharu Aono

Tadashi Ohe
Tetsuo Yoshizawa

Canon Inc. headquarters

NYSE Corporate Governance Standards
As a Japanese company listed on the New York Stock Exchange (NYSE), Canon is not required to follow several of the NYSE listing standards. Canon’s corporate
governance practices, as described above, differ in certain significant respects from those that U.S. companies must adopt in order to maintain a NYSE listing. Canon is
not required to: include individuals on its board of directors who meet the NYSE’s independence requirements; include non-management individuals on its board of
directors; create nominating, compensation and audit committees of the board of directors; make publicly available one or more documents which purport to summarize
all aspects of its corporate governance guidelines; or publicly or prompty disclose any waiver from its code of ethics for its directors or other executive officers.

Feature Story : Corporate Management

From a maverick corporate vision,
Canon reaches a higher plateau of success

With the announcement of another record-breaking year of

help but consider the benefits of long-term employment.”

profits, Canon again finds itself in the investor spotlight. It

In the developing markets where Canon maintains

is nearly impossible to talk about Canon’s remarkable

production operations, Mr. Mitarai aims to produce products

performance without referring to the ideas of its president

that will be marketed locally. He is vigorously pursuing this

and CEO, Fujio Mitarai. This article examines some of the

strategy, especially in China, where he hopes to eventually

most important of those ideas and the direction they are

shift some aspects of product design for locally produced

steering Canon.

and marketed goods.

“In every country and region where Canon operates,
we aim to be recognized for excellence.”

——— Fujio Mitarai

“Think Globally, Act Locally”

Having spent years at the top of Canon U.S.A., Inc., Mr.

Mitarai knows that different cultures demand different

management styles. “You cannot ignore the national

traits and characteristics of the country [where Canon is

operating],” he points out. “It is necessary to employ a local

style of management from a global business perspective.”

The scale of Canon’s operations is enormous. As of

December 31, 2003, Canon comprised 198 consolidated

companies and over 100,000 employees worldwide,

meaning that Canon must adhere to many local styles of

management.

Technology Is the Key

“We want to be a company that is welcomed and

While many aspects of the business operations are managed

respected in every country,” Mr. Mitarai adds. “So, in matters

locally, the global strategies for maintaining Canon’s

where people are concerned, we take a local approach.”

foothold on the leading edge of technology are developed

Part of that local approach in Japan is lifetime employ-

centrally under the eye of Mr. Mitarai in Tokyo.

ment. “If I were managing an American corporation,

Mr. Mitarai has set Canon on course to increase research

naturally I would employ an American style of management,”

and development investment to 10% of consolidated sales

he says. “But managing a corporation in Japan, I cannot

in the near future. This research is intended not only for

maintaining the company’s leading position in its current

income of 275 billion yen on sales topping three trillion

fields of business, but also for exploring possibilities in other

yen in fiscal 2003, was achieved despite the significant

markets. “Our fundamental approach is to have sufficient

appreciation of the yen against the dollar, testimony to

depth, as well as breadth, in core technologies so that we

Canon’s success in building a truly global organization.

can always adapt to changes over time,” he says.

When Mr. Mitarai took over as president and CEO, he

Another role of advanced technology in Mr. Mitarai’s

radically changed the way Canon employed its capital.

vision is to solve environmental problems, a subject about

Under Mr. Mitarai’s direction, Canon has reduced long-term

which he is unequivocally forthright. “Sacrificing the

interest-bearing debt from a high of 843.1 billion yen to

environment for profit is not an option in advanced

below 100 billion yen at the end of fiscal 2003 through cash

countries,” he declares. “It is not a matter of choosing one

repayments. Moreover, investor relations have been made

thing over another, but a matter of co-existence.”

a priority. The upshot: Today Canon claims 49.8% overseas

Canon has lived up to Mr. Mitarai’s ideals, adopting

investors and an expanding number of retail investors.

aggressive recycling targets, dramatically reducing the

By focusing on a healthy financial constitution, better cash

amount of energy used in the production and distribution of

flow and higher dividends, Mr. Mitarai has produced a recipe

its goods, and making stunning technological breakthroughs

for success that has been prescribed for the whole of Japan.

that have enabled Canon products to establish new

standards for energy efficiency in many fields.

Recently Canon made an official entrance into the

business field of environmental technology, receiving

governmental approval to start operations focused on

environmental analysis and testing. An engineering business

charged with testing and evaluating soil and groundwater

contamination has already been established.

Global Strategic Thinking

At the same time that Canon has pursued Mr. Mitarai’s

environmental and research ideals, corporate profits have

risen dramatically. The latest record-setting mark, net

To ensure compliance with regulations such as RoHS, Canon employees work
closely with regular suppliers, as shown here at a supplier’s plant in Shenzen, China.

A new state-of-the-art technology research center will be located in the
compound with the Canon headquarters in Shimomaruko.

The Poll of Public Opinion

Mr. Mitarai’s achievements resonate with the public. A

December 2003 Nikkei Sangyo Shimbun survey ranked him

as the No. 1 manager of the year in Japan. His achieve-

ments burnish the luster of the company as a whole, as

does Canon’s prominence as one of the post-recession

bellwethers. Japanese university students consistently rank

Canon among their top choices for employment following

graduation. Results such as these show that Mr. Mitarai is

clearly accomplishing his goal of making Canon “a first-rate

company in every country and region where we exist.”

Feature Story : Research & Development

Canon raises the stakes
in the research race

Already a leader in the research and development of leading-

of display called SED (surface-conduction electron-emitter

edge technology, Canon is working toward increasing the

display) has the potential to supersede both LCDs and

spending in this area to 10% of consolidated gross sales

plasma displays. Canon is jointly conducting SED research

in the near future. This effort, together with others made

and development activities with Toshiba Corporation,

throughout 2003, underscores the company’s strong

focusing on commercial applications.

commitment to R&D and the value it pins on the intellectual

While the technologies under development at Canon

property resulting from R&D activities.

hold the promise of exciting new products, Mr. Mitarai’s

“Companies that lack the strength to keep up with
the changing times will disappear. The ones
that remain will move further ahead.”

——— Fujio Mitarai

Pursuing Core Technologies

approach to R&D is not intended to provide an instant return

Core technologies are the foundation stones of President

on investment. “Even a brilliant patent may take a decade

Mitarai’s long-term strategic plans for Canon. The core

or two before providing any return,” he explains. “But the

research is in fields such as nanotechnology, which is

reason we invest so much money [260 billion yen in 2003]

expected to yield practical results in areas like fuel cells

in R&D is to provide an environment where our people

and new optical materials. Some of the other key areas of

can focus on long-term research projects without feeling

technology development in 2003 were organic electrolu-

minescent displays, which will have applications in portable

devices such as cellphones; ultra-fine particle technology,

which will increase the resolution of printing devices; and

a flexible, energy efficient thin-film display, which is expected

to find applications in a number of future devices. Bold

evidence of Mr. Mitarai’s steadfast commitment to R&D

can be seen in the plans to construct a new state-of-the-art

technology research center in the same compound as the

company’s headquarters in Shimomaruko.

Canon is not averse to collaborating with other companies

where such activity is beneficial. For instance, a new type

Through its nanostructural material research, Canon has found ways to produce
and systematically arrange nanoholes, which can be filled with a magnetic
substance. Future applications include high-density magnetic recording media.

the pressure of employment issues, and where the future

Patents are more than a revenue source at Canon;

health of the company can become a priority for managers.”

they support future product development, reduce costs

The “D” Side of R&D

and drive up operational efficiency. For example, if Canon

requires a certain minor technology that has already been

Canon is re-inventing the way in which product development

patented by other companies, rather than devote significant

moves from concept to finished article. Developing a new

time and resources to developing it internally, Canon

product usually involves the production of expensive and

oftentimes negotiates the use of the patent in exchange for

time-consuming prototypes. With the aid of simulation

the use of a Canon patent. Mr. Mitarai says, “One thing

technologies and 3D-CAD systems, Canon aims to minimize

that sets Canon apart is the huge number of patents we

reliance on prototypes. Canon already boasts one of the

hold. It enables a great reduction in our costs.”

highest production standards in Japan. “Prototype-less

In September 2003, Canon spun off the Canon

design” can greatly reduce development time, enabling

Technology Information Service Inc. from the Corporate

Canon to respond more nimbly to the fast-changing

Intellectual Property & Legal Headquarters in order to

consumer electronics market.

achieve more effective handling of intellectual property.

Software development continues to be a priority for

This company, tasked with handling and managing patent

Canon. Since many devices rely on embedded software to

registration, works hand in hand with Canon’s R&D and

differentiate them, it is important that the development of

manufacturing operations.

this software does not form the traditional bottleneck

holding back product launches. Therefore, Canon develops

Top 10 Corporations Receiving U.S. Patents in 2003 (Preliminary count)

common software platforms within product ranges, elimin-

Rank

Organization

Number of Patents

ating the need to “re-invent the wheel” each time a new

product is launched.

Intellectual Property, the Lifeblood of a Technology

Company

With nearly 2,000 patents registered in the U.S. this year,

Canon continued its 12-year winning streak of finishing

among the top three in the “patent race*.”

IBM

Canon

Hitachi

Matsushita Electric

Hewlett-Packard

Micron Technology

Intel

Royal Philips Electronics

Samsung Electronics

Sony

(Source: United States Patent and Trademark Office)

3,415

1,992

1,893

1,786

1,759

1,707

1,592

1,353

1,313

1,311

Canon has developed a color paper-like display (PLD) that does not require a
power source to retain displayed images. Ongoing research is focused on making
larger and thinner PLDs.

*Announced by the USPTO

Feature Story : Production

Building factories at home, Canon finds
new ways to extend its global reach

Canon’s decision last year to open a new digital camera

production facility in Oita, Kyushu (Japan) raised some

eyebrows. After all, conventional wisdom for some time

now has been to move factories overseas, preferably to

Southeast Asia, where labor costs are low.

Canon’s president and CEO Fujio Mitarai defends

Canon’s maverick move: “If we switch factories each time

a place with lower labor costs is found, all the investment in

equipment is wasted. Instead, we should use our strengths

in production, and manufacture products more cheaply

than they could be manufactured in locations where the

cost of labor is lower.”

As a good example of this philosophy, the new Oita

The cell production environment employed at Canon’s factory in Vietnam draws
on the strong traditions of Vietnamese craftsmanship not only for achieving
high production standards, but also for making some production equipment.

plant, which will start operations in 2006, will produce up

While Mr. Mitarai says “cell production is a primary

to six million units of high-end digital cameras and digital

reason for Canon’s profitable status in recent years,” he

video camcorders annually.

believes that “the process is reaching its limits.” Looking

“With factory automation and other production
techniques, we can manufacture certain goods
at a lower cost in Japan.”

——— Fujio Mitarai

Cell Production and Beyond

ahead, Canon is investing heavily in automation technology

The production workers at the new Oita plant will work in

that will be integrated with cell production and Canon’s

a cell production environment, a method that gives a small

increasingly effective supply chain management (SCM)

number of workers, or in some cases a single worker,

systems to achieve higher levels of productivity. Overall,

responsibility for the final assembly of a product from

Canon’s production reform activities since 1998 have

subassemblies. Canon reports that cell production has led

enabled the company to reallocate over 215 acres of facility

to considerable gains in productivity and product quality,

space, resulting in an estimated elimination of 65,600 tons

enabling over 12 miles of conveyor belts to be retired

of CO2 emissions.

since 1998.

In all its overseas operations, Canon has continued to

place priority on its policy of being a good corporate citizen

of the community, which entails adhering to local work

customs and striving to produce products that will be

marketed locally. Mr. Mitarai says on the subject of China:

“I want to put in place a production system suitable for

China, whereby products are designed for the Chinese

market [in China] and distributed there.”

In-house Development of Production Tools

Canon recently purchased a mold-production company,

adding to its formidable ability to produce many of the metal

Mr. Mitarai visits Canon production facilities on a regular basis to obtain a
firsthand perspective of the production systems in action.

Behind Mr. Mitarai’s decision to build new production

molds needed for production. Canon also produces many

facilities at home rather than chasing after cheap labor

of the tuning and measuring tools needed for the develop-

abroad is a deeply held belief that Japan must maintain a

ment, maintenance and repair of its production equipment.

strong manufacturing base to ensure itself of a vibrant

Key tools such as these are not marketed for sale; they

economy in the years ahead. The validation of his vision

are reserved as crown jewels within the Canon Group.

will lie in Canon’s ability to produce key products more

The ability to develop its own tools of production provides

cost-effectively in Japan than abroad over the long run.

quality assurance as well as adds speed and flexibility

when retooling is necessary, which is a crucial advantage

Commitment to Global Production

in the cell production environments Canon has set up.

To be sure, the development of automation systems for

Shopping outside the company for production tools,

domestic factories signals an important development in

according to Mr. Mitarai’s way of thinking, not only limits

Canon’s global production strategy. But that certainly does

Canon creatively. Over the long run, in-house tool devel-

not mean Canon will abandon overseas production. In fact,

opment can also cut costs and help prevent prying eyes

by the end of 2003, the proportion of Canon goods manu-

from getting a glimpse at the secrets of Canon’s core

factured outside Japan had reached 42%, a 4% year-on-

proprietary technologies.

year increase.

At Canon Virginia, Inc., the use of lasers enables small-batch production of
many types of products.

At the Ami Plant in Japan, highly flexible and cost-efficient factory automation is
employed for the production of toner cartridges.

Feature Story : Environmental Responsibility

New initiatives affirm that environmental
commitment runs deep inside Canon

Kyosei, or living and working together for the common

Living up to Ideals

good, has long been a part of the Canon corporate culture.

New regulations such as the RoHS (Restriction of Hazardous

A major facet of the kyosei philosophy is environmental

Substances) Directive in Europe and elsewhere will have an

responsibility, and Canon, rather than being content to

impact on Canon’s production methods. Lead-free solder,

follow others in environmental matters, or wait until legis-

for example, which is to replace traditional toxic lead solder,

lation forces change, takes the lead in developing practices

demands different and more complex manufacturing pro-

and policies that shoulder that responsibility.

cesses, due to its higher melting point. Although the final

“Corporations have the responsibility to develop
advanced technologies that will stop
the destruction of nature.”

——— Fujio Mitarai

Leadership Policies

details of the RoHS Directive are still awaiting confirmation,

Today companies need to concern themselves with the

Canon has moved ahead and begun developing a “green”

total impact of their products on the environment: from

toxic-free procurement policy with other industry leaders.

production through distribution, use and disposal. This

Minimizing environmental impact in the area of

impact, known as a Life Cycle Assessment (LCA), is object-

distribution may seem beyond Canon’s scope, but in 2003,

ively measured and certified in Japan by the government-

Canon announced that over 550 tons of carbon dioxide

affiliated Japan Environmental Management Association

for Industry (JEMAI). Canon cameras, printers and copying

machines have been certified for meeting the criteria of the

JEMAI program.

One of Canon’s boldest initiatives to date, Factor 2,

aims to halve the company’s environmental burden relative

to its sales (from 2000 to 2010). Thanks to its proactive

corporate policies towards the environment, Canon garnered

the No. 1 spot in the Nihon Keizai Shimbun (Nikkei)

ranking of manufacturers’ environmental policies in

December 2003.

Canon has proactively sought to minimize the environmental impact from the
distribution of its goods. The adoption of a new rail and ship container system
has significantly reduced the company’s reliance on trucks for transportation.

would be eliminated annually as a result of a change in

On the inkjet printer front, even more dramatic improve-

transportation policy. By using an efficient new rail container

ments are underway. Canon’s research is already showing

system, jointly developed with Nippon Express and Japan

results: A 2003 model of one Bubble Jet printer consumes

Freight Railway Company, Canon will take traffic off the

76% less power than its 2001 counterpart.

roads between Tokyo and Osaka, and thereby cut the

associated truck exhaust emissions.

Responsibility, Top to Bottom

Canon has long been an industry leader in the recycling

While Canon’s organizational structure allows streamlined

of laser and inkjet cartridges and other consumable items,

environmental assessment and the rapid implementation of

as well as in the actual materials used for production and

appropriate actions, Mr. Mitarai’s leadership of Canon has

packaging of its goods. In 1990, Canon pioneered the

driven the company towards industry-leading moves. A good

collecting and recycling of used toner cartridges, and in

example took place in June 2003 when Canon invited 80

the years since has been responsible for the recycling of

Tokyo analysts to its Tokyo corporate headquarters to listen

over 120,000 tons of those cartridges. Today, the toner

to a full report on the company’s environmental strategy.

cartridges Canon collects are 100% recycled in four

Mr. Mitarai has proclaimed that “sacrificing the envir-

facilities worldwide.

onment for profit is not an option in advanced countries.”

Canon, as it has for years, continues to back up his strong

words with bold actions.

Presentation of Canon’s environmental strategies to analysts at Canon
headquarters

The fully automated Canon Ecology Industry Inc. facility in Japan is one of four
plants worldwide that Canon operates for the recycling of used toner cartridges.

Smart Technology

In one of his many aggressive statements on corporate

environmental responsibility, Canon president and CEO

Fujio Mitarai stated: “Technology and industry have

destroyed nature. It is up to technology to solve environ-

mental problems.”

Canon’s development engineers have given truth to

Mr. Mitarai’s words, especially in the area of energy

conservation. Color IH Fusing technology, which warms

only the area necessary for toner fusing, cuts down the

warm-up time, and hence the energy consumption, of

copying machines and laser beam printers.

Feature Story : Philanthropy

With the help of technology and people,
Canon broadens its goodwill contributions

Canon’s kyosei philosophy of living and working together

WWF PAN Park Support

for the common good guides the company, its products and

A long-time supporter of the World Wildlife Fund, Canon

its people into situations where you might otherwise be

Europe Ltd. expanded its support in Europe in 2003 of its

surprised to see the name. Here are a few recent highlights.

promotion and development of the Protected Area Network

The 2003 Canon Digital
Creators Contest attracted
thousands of entries
from 77 countries and
regions around the world.

Eyes on Yellowstone

Eyes on Yellowstone is made possible by Canon U.S.A.

and represents the largest corporate donation for wildlife

conservation in Yellowstone National Park. Funding for

the Yellowstone Park Foundation, an educational and

research program, by Canon U.S.A. assists with important

scientific research and breaks new ground in conservation,

endangered species protection and the application of

(PAN) park concept. PAN parks provide shelters for wildlife

in an ever more crowded world. Canon provides financial

and other support to these projects, and Canon staff

members regularly volunteer their time and talents to the

parks. In Bieszczady in Poland, it was a Canon volunteer

who was responsible for the introduction and development

of the mountain horseback riding trails which are now a

major part of the park’s appeal.

Canon Europe’s support of the PAN park network helps ensure the protection of
pristine natural treasures like the Fulufjället National Park in Sweden.

cutting-edge science and technology that is essential to

4th Canon Digital Creators Contest and Other Sponsorships

managing park wildlife and ecosystems. Canon’s digital

In 2003, Canon held its fourth Canon Digital Creators

imaging products are used for remote monitoring of

Contest in which digital photos, digital graphics/illustration,

wildlife in the park to capture images all year round that

digital movies and Web work are submitted, judged and

scientists can study, children can learn from and nature

honored for excellence. This contest once again showed

lovers can enjoy. Canon also is supporting education,

clearly that digital creation techniques and artistic sensi-

through electronic field trips on a National Park Service

bility are by no means mutually exclusive.

Web site, to increase public access to the wonder and

In the arena of sports, Canon has the privilege of spon-

magic of one of the most recognizable and popular parks

soring EURO 2004, which will be held in Portugal in June.

in the world and to raise awareness about the importance

And the Canon name continues to be a familiar sight on

of environmental conservation.

soccer fields in Japan and on the American PGA tour.

Canon Product Groups

Office Imaging Products

Cameras

Computer Peripherals

Optical Products

©J.LEAGUE PHOTOS

Product Group Report
Office Imaging Products

The introduction of
new digital
technologies and
value-added solutions
helped Office Imaging
Products to steer
successfully through
fast-moving markets.

Ikuo Soma
Chief Executive
Office Imaging Products Operations

Despite the fact that the office equipment market is almost

are providing about 4% of our [domestic] sales, but we

saturated in developed countries, we saw our largest sales

hope to get this figure up to 19% by the end of 2006.

figures ever in 2003. China accounted for much of the

As it happens, 50% of our R&D staff and budget is on

extra sales, but it’s important to realize that added value,

the software development side. I think that gives you a pretty

in the form of networking, integration, color copying, and

good idea of our future priorities.

high-speed models, comprises a significant portion of our

With regard to production, we’re making the mid-range

sales. Incidentally, only 5% of our copying machine sales

products in China, and the high-end models in Japan. We

is now analog—the remaining 95% is digital.

are considering using our European and American facilities

It’s a fair assumption that the market will polarize into

mainly for kitting out the base models, which would then

high-end and low-end models. In the high-end market,

be localized for different markets. The European centers

we’re providing total hardware/software solutions. We’re
now using a sales strategy in Japan that we call D2 (Digital,

will also be involved in the recycling of cartridges, etc.

Europe’s a lot more active than the U.S.A. in this regard.

Devices) whereby Canon Sales Co., Inc. and Canon Inc.

Looking ahead, we see digital technology continuing to

link forces to provide solutions, not just copying machines,

reshape the reproduction market. Currently divided into four

to our end-user customers. A similar strategy is already in

segments—offset, electrophotography [copying machines],

place in the U.S.A. For Europe we hope to implement it in

inkjet and silver-halide photographic processes—the

the coming year.
Among the products and services marketed by the D2

market will consolidate into two areas as silver-halide and

offset continue to decline. Office Imaging Products Opera-

team is our proprietary Java-based Multifunctional Embed-

tions will focus, as we have for some time, on filling the gap

ded Application Platform (MEAP), which enables our clients

with innovations in electrophotography and inkjet printing.

to customize their multifunction devices (MFDs) according to

(From an interview with Mr. Soma on January 19, 2004)

their needs. Of course, the sales process here is long-term,

up to years in length, but our bigger clients appreciate the

flexible solutions we provide. Right now, customized solutions

Fiscal 2003 Review

2003 marked a period of transition for the office imaging and

for a more significant proportion of the sales volume. MEAP,

business machine segment, as the rising demand for network

a Java-based software platform, allows Canon Sales in Japan

digital MFDs indicated a shift from monochrome machines to

and Canon Inc. to work jointly on the presentation and imple-

color products and a trend toward higher-end features.

mentation of specialized customer solutions.

Throughout the year Canon introduced new models,

For the term, Office Imaging Products recorded sales of

including the first color offerings in the powerful imageRUNNER

¥1,061.1 billion (U.S.$9,917 million), a year-on-year increase

series. The Color imageRUNNER C3200 (iRC3200N) achieved

of 3.7%.

healthy sales, adding to Canon’s market share worldwide.

Competition in the monochrome MFD segment was fierce.

The high-end iR5000 series and iR105, however, continued

to register strong sales during the term. The introduction of

the compact Satera PC1280 (Japanese market model) for

small and medium-sized businesses consolidated Canon’s

position in this important market segment.

In the color copying machine segment, the mid-speed

imageRUNNER C3100 (iR3100CN) again recorded strong sales.

For the development of MFDs, Canon makes effective use

of a deep and wide pool of technologies from the fields of optics,

mechatronics, electronic photo processing, chemical materials

and image processing. Canon’s MFDs are differentiated chiefly

by the use of leading-edge SOC (System On a Chip) technology,

the iR controller, which acts as the “brains” of networked MFDs.

The iR controller provides easy integration with customers’ IT

environments together with speedy high-quality image

processing. The result is boosted office productivity, which

has garnered uniform acclaim from business customers.

At the time of publication, the 2003 market share figures

for office imaging products were pending, but it would appear

that Canon has repeated its 2002 performance: top share for

total sales in the three major sales regions of the U.S., Europe

and Japan. As the business trend toward adopting MFDs

accelerates, Canon is confident that its market position will

grow even stronger.

Solution sales, centered on the installation of Canon’s pro-

prietary MEAP (Multifunctional Embedded Application Platform)

on MFDs, currently account for under 5% of total sales, but

the aim is to drive up total solution sales until they account

Sales results:
Office Imaging Products
(Millions of yen)

1,100,000

,
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9999 0000 0101 0202 0303

Fast, flexible and efficient, the networkable Color
imageRUNNER C3200 is Canon’s latest entry in the
color document processing market.

Product Group Report
Computer Peripherals

Innovations across the
board last year, in
hardware as well as in
software, enabled
Canon to continue
expanding its inkjet
business in new
directions.

Katsuichi Shimizu
Chief Executive
Inkjet Products Operations

At Canon, we are continuously looking for new ways to

also see the potential for price reduction at the pro end of

improve the image quality and print speed of our inkjet

the market, and we hope that our technologies here will

printers. Our latest innovation is New MicroFine Droplet

trickle down to the prosumer and consumer markets.

Technology, which is being equipped on a wide range of

By the way, the development of high-grade photo-quality

our inkjet printers, from multifunction models through to

inks and paper is another way we are successfully boosting

SOHO and home Bubble Jet models. It has bolstered our

image quality for the home printing market. Needless to

technological lead in the market and drawn outstanding

say, this is an important field for us, because the products

reviews from our customers.

are a source of recurring revenue.

One of the more exciting developments underway in our

On the other end of the spectrum, we have continued

business is in the area of home printing. A host of new

to bring innovation to our large-scale inkjet printers. Posters,

developments is enabling us to raise the image quality of

signboards, in-store advertisements and many other small-

home printing to the level of traditional film photo printing,

run jobs that were traditionally done by offset can be handled

while the PictBridge standard has helped to ensure seamless

with our inkjet printers.

direct printing from digital cameras. We’ve had considerable

I’d like to finish by mentioning the utility software that

success marketing ultra-compact printers that allow direct

is supplied with computer peripherals, both printers and

printing from digital cameras and camera-equipped mobile

scanners. It forms a vital part of the whole Canon product,

phones, and we think the demand for such products,

turning it into an integrated customer solution. I’m happy

including micro-printers, will continue to expand.

to say that we’re supporting all major platforms, and we

Consumers, of course, appreciate the “on-demand”

are doing so in 18 languages, providing simple-to-use

aspect of home printing—they can shoot what they want,

utilities that actually help customers use the hardware

when they want, and not have to worry about involving a

more effectively.

film processor or output center. But just as much, I believe,

(From an interview with Mr. Shimizu on January 20, 2004)

people love the DIY, fun aspect of amateur photography

and we’re helping to make that possible in new ways. We

Fiscal 2003 Review

In response to heated competition in the inkjet printer segment,

Despite severe price competition in its markets, Computer

the Computer Peripherals Operations launched several new

Peripherals achieved 3.2% sales growth for the term, totaling

models in 2003. Particularly noteworthy were the Bubble Jet

¥1,089.3 billion (U.S.$10,180 million), the highest figure

printers supporting the PictBridge camera-printer communi-

among Canon’s product groups.

cations standard, which were released in the second half of

the year. These new models incorporated New MicroFine

Droplet Technology, which has boosted image quality and

print speed over those offered on previous models.

The keys to a successful printer are speed, image quality

and paper handling capabilities. Although ranked high among

the leaders in all three categories, Canon has targeted each

category for improvements. Additionally, the PictBridge system

has been marked for enhancement, and future printers will

offer even stronger integration with digital cameras.

The 2004 sales strategy for printers is twofold. First, with

cost competitiveness the key factor in the expanding market

for inkjet multifunction peripherals, the plan is to move beyond

the competition in price, performance and the level of after-sales

service provided. Second, in the single-function inkjet printer

market, the aim is to add value to the printers by focusing on

ease of use and connectivity to cameras.

Since peaking in 2000, the scanner market has continued

to shrink at a rate of 10% to 20% per year. Under the

prevailing highly competitive conditions, it is necessary to attain

a high market share. To achieve that goal, Canon has success-

fully introduced several new scanner models. In the year

ahead, the focus will be on the introduction of new, third-

generation products, as well as improving the image quality

of models using existing Canon technology. Future scanner

products will incorporate Canon lens technology, as well as

automated scratch/dirt processing for film scanning. This last

process uses infrared technology in order to achieve quality

results. Lastly, China and Eastern Europe are new markets for

Canon scanners, and sales efforts there should help future

sales figures.

In the market for home facsimile machines, Canon released

new models offering attractive styling and ease of use.

Sales results:
Computer Peripherals
(Millions of yen)

1,100,000

,
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9999 0000 0101 0202 0303

The i990 Bubble Jet printer incorporates Canon’s leading-
edge inkjet technology for photo-quality printing at an
economical cost. It’s equipped with PictBridge technology
for easy integration with digital cameras.

Product Group Report
Cameras

Canon’s operational
flexibility and superior
input-to-output
technological
capabilities provided a
big pay off for camera
products in 2003.

Tsuneji Uchida
Chief Executive
Image Communication Products Operations

Canon was not a big player in the field of video camcorders

low image-noise characteristics. This fact actually has

until the digital wave hit the market. Given our strength in

applications in the field of astronomy where the EOS Digital

both the field of optics and the field of digital imaging with

Rebel has been used successfully.

technologies like our DIGIC DV imaging processor, it was

Since Canon’s product line for digital photography

only a matter of time before Canon products made a big

covers both the input and output sides—that is, cameras

impact on the market. We fired a first volley in 2003 with

and printers—it’s important to have an easy and consistent

the Optura 300 (MVX 10i) digital video camcorder, which

interface between them. I’m especially proud of the role

became the best seller in the field in Japan. Now we’re

that Canon’s played here in establishing the PictBridge

having to ramp up production to meet global demand.

industry standard. Another interoperability issue is that of

Perhaps our most successful new product of the year

consistency in color management, and that’s something

was our EOS Digital Rebel (EOS 300D Digital) SLR camera,

that I think Canon, as a maker of input and output devices,

which has been highly evaluated in every respect—price,

has addressed successfully.

performance, functionality.

Our diverse in-house development strength sometimes

A key to the success of both of these product lines is the

enables us to pool the talents of engineers from various

in-house capabilities we enjoy at Canon. This has allowed

departments. A great example of that can be seen in our

us to bring features such as our DIGIC imaging processor

development of the Optura 300, where we employed engi-

to the market much faster than would otherwise be the case.

neers from both the video and still sides of our operation.

Being able to produce our own image sensors is a real plus,

Finally, I’d like to comment on the production side.

too, and helped us to keep the product in production even

We’re building a new plant in Oita, Japan where we will

when there was a massive run on it and demand started to

manufacture digital cameras. Since cameras have a short

exceed supply. If we’d had to rely on a third party for our

lifecycle, being close to the production center will allow us

CMOS imaging sensors, we couldn’t have done that. By

to be more flexible in meeting market demands. Right now,

the way, I’d like to mention that our imaging sensors are

demand is outstripping supply for cameras, so we’re looking

recognized as being particularly good with regard to their

forward to a busy 2004.

(From an interview with Mr. Uchida on January 20, 2004)

Fiscal 2003 Review

In 2003, the compact digital camera market continued to show

imaging processor, which improves both digital movie quality

significant growth. In this circumstance, Canon introduced six

and digital still quality. In 2004, we will continue to develop

new PowerShot series and three Digital ELPH series cameras

and produce new camcorders with innovative technologies.

and has finally reached the top position in the industry. In

Since Canon introduced the new PictBridge-equipped CP

2004, Canon’s new products plan is even more aggressive,

series Compact Photo Printers in 2003, the market has shown

aiming to establish the uncontested No. 1 position.

very positive signs of accepting this distinctive new printer

In the digital SLR camera segment, popular new product

category. In 2004, Canon will show strong leadership and

offerings including the EOS 10D and EOS Digital Rebel (EOS

presence to establish this new printer market.

300D Digital) bolstered Canon’s dominant position worldwide.

In 2003, the LCD projector market grew by volume, but

Canon’s digital SLR cameras feature the company’s proprietary

slipped on a revenue basis. In

CMOS imaging sensors to offer advantages like low image

response to this situation, Canon

noise, and low power consumption. Both the sensor technology,

is using its proven imaging

and the cameras themselves, captured numerous awards in

expertise to implement optical

Sales results:
Cameras
(Millions of yen)

700,000

the respective industries. With an eye on further expanding

technologies that will differentiate

its lead in this growing global market, Canon plans to boost

Canon LCD projectors from the

production further in 2004.

competition.

Hindered by the surging popularity of digital cameras, the

Camera products achieved

conventional film camera market continued to shrink in 2003.

sales growth of 34.5%, totaling

The introduction of new models, however, enabled Canon to

¥653.5 billion (U.S.$6,108 mil-

retain its position firmly atop this market worldwide and to

lion) in 2003. Operating profit for

record a healthy level of profitability. With a cautious eye on

the segment appreciably ad-

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market trends, Canon will continue to develop new products

vanced 79.7% to ¥126.3 billion

and maintain a firm commitment to the film camera market.

(U.S.$1,181 million).

9999 0000 0101 0202 0303

Technological developments, including Diffractive Optical

Elements (DO), Image Stabilizer (IS) and Ultrasonic Motor

(USM), have helped Canon to maintain a technical lead over

other makers in the camera lens segment. Canon offers over

50 EF lenses. These high-quality, high-performance lenses

provide outstanding performance with digital cameras as well

as film cameras, greatly contributing to sales. The introduction

of new lenses offering optimum performance with Canon’s

digital SLR cameras is planned for 2004.

In the worldwide digital video camcorder market, our eight

new products gave Canon a 19% share (Canon estimate). Since

its introduction, the Optura 300 (MVX 10i) kept the No. 1 position

(GfK Japan) for three months from October through December

in the Japanese market for its advanced DIGIC DV digital

Incorporating a 2.2-megapixel CCD and Canon’s proprietary
DIGIC DV digital imaging processor, the Optura 300 digital
video camcorder captures both video and still images of
outstanding quality.

Product Group Report
Optical Products

Akira Tajima
Chief Executive
Optical Products Operations*

Unrelenting focus
on research and
development has put
Canon’s Optical
Products Operations
in position to control
key markets with
leading-edge products.

In the Optical Products Operations, we see a growth area

That’s the price we have to pay for being on the leading

in our steppers [semiconductor production equipment].

edge. But when we get this technology working, we’ll be

Japan is the main market for our steppers, followed by

able to get down to the 30nm level from the current

South Korea, Taiwan and Singapore. Until now consumer

90nm—a huge breakthrough.

spending in the U.S. has been a reliable barometer for chip

One product that our group is particularly pleased with

demand, but going forward we see Europe as a real growth

is our new cassette-type digital radiography system, the

market for chips—not in PCs, but in communications

CXDI-50G. It’s portable, so it can be taken directly to the

devices, cars and networked appliances.

bedside of an immobilized patient, and the data, since it’s

With the accelerating demand for large LCD screens,

digital, can be sent instantly via the Internet to a specialist

we also anticipate growth in the demand for our mask

doctor anywhere in the world. Our cassette-type digital

aligners. To be frank, this is a market we’re looking to lead.

radiography systems have found uses in veterinary medi-

We’re expanding our development side, spending 100

cine, too, where again the portability of the system enables

billion yen in the next three years. Most of this will go into

on-the-spot examinations that were once impossible.

the research and development of advanced manufacturing

Finally, a quick look at our series of television broad-

systems, including factory automation systems, inside Japan.

casting lenses. We see China, especially with the coming

We have a new plant in Ibaraki for manufacturing LCD mask

Olympics, as a big market for our 100x television broadcast-

aligners and a new facility in Utsunomiya, to the north of

ing zoom lens. We already have a dominant market share

Tokyo, for producing several of the equipment’s key com-

worldwide for this class of lens, but we are looking to build

ponents. We’re also going to be setting up new R&D teams

on that.

in Utsunomiya to develop optical steppers and cameras.

Canon is part of the Japanese-sponsored group on EUV

(From an interview with Mr. Tajima on January 19, 2004)

(Extreme Ultra-Violet) lithography, and at the moment we’re

at the basic research phase. We need to develop new meas-

urement, polishing and coating tools for this new technology.

*Group Chief Executive in FY 2003.

Fiscal 2003 Review

In the semiconductor production equipment segment, Canon

technology gains wider acceptance, Canon signed an OEM sales

saw a small year-on-year percentage increase of market share

deal with a major European manufacturer of medical equipment.

in 2003, assisted by the introduction of new models (the

In 2004, sales activities for medical imaging equipment will

FPA-6000ES5 and FPA-6000AS4) featuring high resolution

be expanded in Asia and new differentiating features (e.g.

and high throughput. Unit sales, however, declined slightly to

movie support), higher resolution and sensitivity, and improved

360 from 390 in 2002. Recovery is anticipated in the segment

portability will be introduced to increase market share.

in 2004, and a new model (FPA-6000ES6) will be introduced

For the term, Optical Products registered sales of ¥161.8

to increase market share. New technologies— liquid immersion

billion (U.S.$1,512 million).

ArF and F2, and EUV—being developed will enable Canon’s

future steppers to produce smaller chips.

Sales of mask aligners for the production of LCDs are

growing with the increasing demand for large flat-screen TVs

and the continuing shift from CRT to LCD computer displays.

Canon shipped 130 units of mask aligners in 2003. Thanks to

an early lead in the development of equipment necessary for

large-panel manufacture, and the increase of manufacturing

capacity to meet the growing market demand, Canon holds a

huge majority share of this market. Canon plans to maintain

its lead by introducing seventh-generation technology and

large-scale mirror processing and measurement technology.

Unit sales of television broadcasting lenses, used chiefly

by sports broadcasters, continue to decline. Canon, however,

possesses over half the share of the world market, and new

products such as a 100x zoom lens have been well received.

Sales operations have been expanded in China, as substantial

future growth is anticipated in light of the upcoming 2008

Beijing Olympics. In 2004, the product range will be enhanced

with the inclusion of large-diameter aspherical lenses and

Diffractive Optical Element and anti-vibration technologies;

autofocus and multi-group zoom features will also be added to

some products. In addition, Canon’s full range of television

broadcasting lens products will be certifiably environment

friendly.

In the field of digital medical imaging, Canon launched two

new digital radiography systems offering increased flexibility

and sensitivity. Canon now holds much more than half the share

of the market. In anticipation of substantial market growth as the

Sales results:
Optical Products
(Millions of yen)

210,000

3
3
7
7
3
3
8
8
0
0
2
2

,
,

9
9
4
4
3
3
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1
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,
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4
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2
8
8
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1
6
6
1
1

,
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7
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3
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7
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3
1
1

,
,

9
9
6
6
7
7
9
9
0
0
1
1

,
,

9999 0000 0101 0202 0303

The precision and reliability of Canon’s leading-edge optics
technologies make Canon steppers the preferred choice
for many of the world’s top semiconductor companies.

Product Group Summary

Business machines
Office Imaging Products

Office network digital multifunction devices (MFDs)

Color network digital MFDs

Office copying machines

Personal-use copying machines

Full-color copying machines, etc.

Business machines
Computer Peripherals

Laser beam printers

Inkjet printers

Inkjet multifunction peripherals

Image scanners, etc.

Business machines
Business Information Products

Computer information systems

Micrographic equipment

Personal information products, etc.

Cameras

SLR cameras

Compact cameras

Digital cameras

Digital video camcorders, etc.

Optical Products

Semiconductor production equipment

Mirror projection mask aligners for LCD panels

Broadcasting equipment

Medical equipment, etc.

Other Products

Share of
consolidated
sales

33.2%

34.1%

3.9%

20.4%

5.1%

Sales results:
(Millions of yen)

3
3
5
5
0
0
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0
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8
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,
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4
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70,915
70,915

96,427
96,427

94,344
94,344

91,018
91,018

08,804
108,804

9999

0000

0101

0202

0303

FINANCIAL SECTION

TABLE OF CONTENTS

FINANCIAL OVERVIEW

(cid:1)

TEN-YEAR FINANCIAL SUMMARY

CONSOLIDATED BALANCE SHEETS

(cid:1)

CONSOLIDATED STATEMENTS OF INCOME (cid:1)

(cid:1)

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (cid:1)

CONSOLIDATED STATEMENTS OF CASH FLOWS (cid:1)

(cid:1)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (cid:1)

(cid:1)

(cid:1) 26

(cid:1) 44

(cid:1) 46

(cid:1) 47

(cid:1) 48

(cid:1) 49

(cid:1) 50

(1) Basis of Presentation and Significant Accounting Policies

(2) Financial Statement Translation (cid:1)

(cid:1)

(cid:1) 54

(3) Foreign Operations

(4) Marketable Securities and Investments

(5) Trade Receivables (cid:1)

(cid:1)

(6) Inventories

(7) Property, Plant and Equipment

(8) Goodwill and Other Intangible Assets

(cid:1)

(9) Short-term Loans and Long-term Debt

(10) Trade Payables (cid:1)

(cid:1)

(11) Employee Retirement and Severance Benefits (cid:1)

(cid:1)

(12) Income Taxes

(cid:1)

(13) Common Stock (cid:1)

(cid:1)

(14) Legal Reserve and Cash Dividends

(15) Noncash Financing Activities

(16) Other Comprehensive Income (Loss) (cid:1)

(17) Earnings per Share (cid:1)

(cid:1)

(18) Derivatives and Hedging Activities (cid:1)

(cid:1)

(19) Commitments and Contingent Liabilities (cid:1)

(cid:1)

(20) Disclosures about the Fair Value of Financial Instruments (cid:1)

(21) Supplementary Expense Information (cid:1)

INDEPENDENT AUDITORS’ REPORT (cid:1)

(cid:1)

(cid:1) 55

(cid:1) 58

(cid:1) 59

(cid:1) 61

(cid:1) 62

(cid:1) 63

(cid:1) 66

(cid:1) 69

(cid:1) 70

(cid:1) 73

(cid:1) 74

(cid:1) 75

(cid:1) 76

(cid:1) 77

(cid:1) 78

FINANCIAL OVERVIEW

GENERAL
The following discussion and analysis provides information that
management believes to be relevant to understanding Canon’s
consolidated financial condition and result of operations.
References in this discussion to the “Company” are to Canon
Inc. and, unless otherwise indicated, references to the financial
condition or operating results of “Canon” refer to Canon Inc. and
its consolidated subsidiaries.

OVERVIEW
Canon is one of the world’s leading manufacturers of copying
machines, laser beam printers, inkjet printers, cameras, steppers
and aligners. Canon earns revenues primarily from the
manufacture and sale of these products domestically and
internationally. Canon’s basic management policy is to contribute
to the prosperity and well-being of the world while endeavoring to
become a truly excellent global corporate group targeting
continued growth and development.

Canon divides its businesses into three product groups:
business machines, cameras and optical and other products.
The business machines product group has three sub-groups:
office imaging products, computer peripherals and business
information products.

Economic environment
Looking back at the global economy in 2003, although economic
conditions in the United States remained stagnant during the first
half of the year, a recovery quickly took hold from the third
quarter, led by healthy consumer spending resulting from tax
cuts, and growth in capital investment in the private sector,
which was supported by the low-interest rate monetary policy.
The economies of Europe remained flat through most of 2003,
although an increase in exports accompanying the upturn in the
U.S. economy pointed to signs of a recovery in the region in the
latter half of the year. Asian economies grew substantially during
2003, particularly in China, as the adverse effects of the Severe
Acute Respiratory Syndrome (SARS) epidemic were kept to a
minimum. In Japan, while there were no signs of a turnaround in
consumer spending or employment and income conditions, a
gradual recovery was evident during the second half of the year
as exports and capital investment showed steady improvement.

Summary of operations
Canon achieved record highs in both consolidated net sales and
net income, and a fourth consecutive year of sales and profit
growth, mainly due to a significant increase in sales of digital
cameras and color network digital multifunction devices
(“MFDs”). In fiscal 2003, Canon achieved 8.8% growth in net
sales, to ¥3,198,072 million (U.S.$29,889 million) marking the
first time it has surpassed the ¥3,000 billion level, and a 44.6%
increase in net income, to ¥275,730 million (U.S.$2,577 million).

Canon’s gross profit increased by 14.9% to ¥1,608,900 million
(U.S.$15,036 million). This improvement was the result of an
increase in sales volume as well an improved gross profit ratio,
made possible through development reforms that shortened lead
times for new product launches and cost savings realized
through sustained production reforms.

Key performance indicators
Following are the key performance indicators (“KPI”) that Canon
uses in managing its business. The changes from year to year in
these KPI are set forth in the table shown on page 27.
-Revenues-

As Canon seeks to become a truly excellent global company,
one indicator that Canon’s management puts strong emphasis on
is revenue. Following are some of the KPI relating to revenues
that management considers to be important.

Net sales is one of the KPI. Canon derives net sales primarily
from products, and services relating to its products. These sales
vary based on such factors as product demand, the number and
size of transactions within the reporting period, and the impact of
changes in sales prices. Other factors involved are market share
and market environment. In addition to net sales, sales by
product group is considered important, since this will work as a
measurement in identifying Canon’s performance in relation to
market trends.

Gross profit ratio (Gross profit to net sales ratio) is another

KPI for Canon. Through enhanced development reforms
activities, Canon has been aiming to shorten product-
development lead times in order to launch new, competitively
priced products at a faster pace. In addition, Canon has achieved
cost reductions through production reforms activities. These
achievements have worked to improve Canon’s gross profit ratio,
and Canon will continue to pursue these approaches.

Operating profit ratio (Operating profit to net sales ratio) and
research and development (“R&D”) expense to net sales ratio are
also considered by Canon to be KPI. Canon puts significant
emphasis on operating profit. Canon focuses on two areas for the
improvement of operating profit. On one side, Canon strives to
control and reduce its selling, general and administrative
expenses. On the other side, Canon’s R&D policy is designed to
maintain a high level of spending in core technology, in order to
sustain Canon’s leading position in its current fields of business,
and also for exploring possibilities in other markets. Such
investments will be the basis for future success in Canon’s
business and operations.
-Cash Flow Management-

Canon also places significant emphasis on cash flow
management. The following are the KPI relating to cash flow
management that Canon believes to be important.

Inventory turnover within days is a KPI because it is a

measure of supply-chain management efficiency. Inventories have

inherent risks of becoming obsolete, deteriorating or otherwise
decreasing in value, which may adversely affect Canon’s
operating results. To mitigate these risks, management believes
that it is important to continue reducing inventories and shorten
production lead times in order to achieve early recovery of related
product expenses, by strengthening supply-chain management.
Canon’s management seeks to meet its liquidity and capital
requirements primarily with cash flow from operations and also
seeks debt-free operations. For a manufacturing company such

as Canon, the process for realizing profit on any endeavor can be
lengthy, involving as it does R&D, manufacturing, and sales
activities. Management, therefore, believes that it is important to
have sufficient financial strength so that it does not have to rely
on external funding. Canon has continued to reduce its reliance
on external funding for capital investments in favor of generating
the necessary funds from its own operations.

KEY PERFORMANCE INDICATOR
Net sales (Millions of yen)
Gross profit to net sales ratio
R&D expense to net sales ratio
Operating profit to net sales ratio
Inventory turnover within days
Debt to total assets ratio

2003
¥ 3,198,072
50.3%
8.1%
14.2%
49 days
3.1%

2002
¥ 2,940,128
47.6%
7.9%
11.8%
51 days
5.0%

2001
¥ 2,907,573
44.0%
7.5%
9.7%
57 days
10.4%

2000
¥ 2,696,420
41.5%
7.2%
8.7%
65 days
13.8%

Note: Inventory turnover within days; Inventory divided by net sales for the previous six months, multiplied by 182.5.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The consolidated financial statements are prepared in
accordance with accounting principles generally accepted in the
United States of America, and based on the selection and
application of significant accounting policies, which require
management to make significant estimates and assumptions.
Canon believes that the following are some of the more critical
judgment areas in the application of its accounting policies that
currently affect its financial condition and results of operations.

Revenue recognition
Canon recognizes revenue for sales of products when persuasive
evidence of an arrangement including title transfer exists, delivery
has occurred, the sales price is fixed or determinable, and
collectibility is probable. These criteria are met for mass-
merchandising products such as printers and cameras at the
time when the product is received by the customer based on the
free-on-board destination sales terms, and for equipment with
acceptance provisions such as steppers and aligners at the time
when the equipment is received by the customer and the specific
criteria of the equipment functionality is successfully tested and
demonstrated by Canon to the customer. Service revenues are
derived primarily from maintenance contracts on our equipment
sold to customers and are recognized over the term of the
contracts. A substantial portion of office imaging products is sold
with service maintenance guarantee contracts for which the
customer typically pays a base service fee plus a variable amount
based on usage.

Allowance for doubtful accounts
Allowance for doubtful accounts is determined using a combination
of factors to ensure that Canon’s trade and financing receivables
are not overstated due to uncollectibility. Canon maintains a bad
debt reserve for all customers based on a variety of factors,
including the length of time receivables are past due, trends in
overall weighted average risk rating of the total portfolio,
macroeconomic conditions, significant one-time events and
historical experience. Also, Canon records specific reserves for
individual accounts when Canon becomes aware of a customer’s
inability to meet its financial obligations to Canon, such as in the
case of bankruptcy filings or deterioration in the customer’s
operating results or financial position. If circumstances related to
customers change, estimates of the recoverability of receivables
would be further adjusted.

Valuation of inventories
Inventories are stated at the lower of cost or market value. Cost is
determined principally by the average method for domestic
inventories and the first-in, first-out method for overseas inventories.
Market value is the estimated selling price in the ordinary course of
business less the estimated costs of completion and the estimated
costs necessary to make a sale. Canon routinely reviews its
inventories for their salability and for indications of obsolescence to
determine if inventories should be written-down to market value.
Judgments and estimates must be made and used in connection
with establishing such allowances in any accounting period. In
estimating the market value of its inventories, Canon considers the
age of the inventories and the likelihood of spoilage or changes in
market demand for its inventories.

Environmental liabilities
Canon is subject to liability for the investigation and clean-up of
environmental contamination at each of the properties that Canon
owns or operates, as well as at certain properties Canon formerly
owned or operated. Canon employs extensive internal
environmental protection programs that focus on preventive
measures. Canon conducts environmental assessments for a
number of its locations and operating facilities. If Canon was to be
held responsible for damages in any future litigation or
proceedings, such costs may not be covered by insurance and
may be material. The liability for environmental remediation and
other environmental costs is accrued when it is considered
probable and costs can be reasonably estimated.

Collectibility of receivables
Canon is required to estimate the collectibility of its notes
receivable and accounts receivable. A considerable amount of
judgment is required in assessing the ultimate realization of these
receivables including the current creditworthiness of each
customer taking into account business conditions, turnover of
receivables and financial positions of significant customers.
Significant changes in required reserves have been recorded in
recent periods and may occur in the future depending on the
financial status of customers under the current environment. In
case the financial quality of customers becomes worse, reserves
for each customer will increase and will adversely affect net
income.

Deferred tax assets
Canon currently has significant deferred tax assets, which are
subject to periodic recoverability assessments. Realization of
Canon’s deferred tax assets is principally dependent upon its
achievement of projected future taxable income. Canon’s
judgments regarding future profitability may change due to future
market conditions, its ability to continue to successfully execute its
operating restructuring activities and other factors. Any changes, in
any of these factors may require possible recognition of significant
valuation allowance to these deferred tax asset balances. In case
Canon considers that deferred tax assets may not be recovered,
the unrecoverable amounts should be included in income taxes in
the statements of income and may adversely affect net income.

Employee retirement and severance benefit plan
Canon has significant employee retirement and severance benefit
obligations which are developed from actuarial valuations. Inherent
in these valuations are key assumptions, including discount rates
and expected return on plan assets. Management must consider
current market conditions, including changes in interest rates, in
selecting these assumptions. Other assumptions include assumed
rate of increase in compensation levels, mortality rate, and
withdrawal rate. Changes in these assumptions inherent in the

valuation are reasonably likely to occur from period to period.
These changes in assumptions may lead to changes in related
employee retirement and severance benefit costs or credits, in the
future.

Actual net periodic benefit cost may differ from net periodic
benefit cost estimated at the beginning of a period due to changes
in assumptions regarding the discount rate that would in turn affect
service costs, changes in assumptions regarding the expected
long-term rate of return on plan assets that would in turn affect
interest cost on projected benefit obligations, and changes in
assumptions regarding net amortization. The revised discount rate
and expected rate of increase in future compensation levels are
used to calculate net periodic benefit cost for the following fiscal
year, unless more current valuations of plan assets and obligations
are available.

In preparing its financial statements for fiscal 2003, Canon
estimated a discount rate of 2.7% and an expected long-term rate
of return on plan assets of 3.6%. In estimating the discount rate,
Canon determines which of its long-term debt securities have the
same maturity period as the remaining service period, and
matches this period with the remaining life expectancy of Canon’s
participants. In addition, in determining the discount rate, Canon
takes into account estimations with respect to future changes
expected by management in the interest rates of its debt securities.
Canon establishes the expected long-term rate of return on plan
assets based on managements’ expectations of the long-term
return of the various plan asset categories in which it invests.
Management develops expectations with respect to each plan
asset category based on actual historical returns and its current
expectations for future returns.

Decreases in discount rates lead to increases in actuarial

pension benefit obligations which, in turn, could lead to an
increase in amortization cost through amortization of actuarial gain
or loss, and vice versa. A decrease of 50 basis points in the
discount rate increases the projected benefit obligation by
approximately nine percent. The net effect of changes in the
discount rate, as well as the net effect of other changes in actuarial
assumptions and experience, are deferred until subsequent
periods, as permitted by Statement of Financial Accounting
Standards No. 87, “Employers’ Accounting for Pensions”.

Increases in expected return on plan assets may decrease net
periodic benefit cost by increasing expected return amounts, while
differences between expected value and actual fair value of those
assets could affect adversely net income in the following years, and
vice versa. For fiscal 2004, if a change of 50 basis points in the
expected long-term rate of return on plan assets is to occur, that
may cause a change of approximately ¥2,360 million in net
periodic benefit cost. Canon multiplies management’s expected
long-term rate of return on plan assets by the value of its plan
assets, such value being calculated by taking into account
potential changes in the fair value of the plan assets, to arrive at

the expected return on plan assets that is included in pension
income (expense). Canon defers recognition of the difference
between this expected return on plan assets and the actual return
on plan assets. The net deferral of unrecognized asset gains
(losses) affects the value of plan assets in fiscal years and,
ultimately, future pension income (expense).

Canon’s domestic benefit plan weighted-average asset
allocations (see note 11 to the consolidated financial statements)
has changed from fiscal 2002 to fiscal 2003. In particular, cash, as

a percentage of total plan assets, increased to 21.8% in fiscal
2003, compared to 6.8% in fiscal 2002. Canon increased the
relative proportion of cash and decreased the relative proportion of
equity securities and debt securities in anticipation of transferring a
substitutional portion of its defined benefit pension plan to the
Japanese government in fiscal 2004 in compliance with the
Emerging Issues Task Force consensus on Issue 03-2,
“Accounting for the Transfer to the Japanese Government of the
Substitutional Portion of Employee Pension Fund Liabilities”.

CONSOLIDATED RESULTS OF OPERATIONS

SUMMARY OF OPERATIONS

Net sales
Operating profit
Income before income taxes and minority interest
Income before cumulative effect of
change in accounting principle

Net income

(Millions of yen)
2003

2002
change
¥ 3,198,072 +8.8% 2,940,128

454,424 +31.2
448,170 +35.8

346,359 +22.9
330,017 +17.2

(Thousands of
U.S. dollars)
change
2001
2003
+1.1% 2,907,573 $ 29,888,523
4,246,953
4,188,505

281,839
281,566

275,730 +44.6
275,730 +44.6

190,737 +16.4
190,737 +13.8

163,869
167,561

2,576,916
2,576,916

Sales
With respect to the markets in which the Canon Group operates,
demand for digital cameras and digital video camcorders continued
to expand in 2003. While shifting business demand toward
multifunctionality and color stimulated strong sales of network digital
MFDs, computer peripherals, which mainly consists of printers,
struggled amid severe price competition. In the field of optical
products, the semiconductor-production equipment market began
to show signs of a recovery while increased demand for liquid crystal
display (“LCD”) televisions fueled growth in the market for projection
aligners. These increases were a result of enhanced development
reforms activities such as 3D computer aided design (“3D-CAD”).
These improvements have significantly shortened product-
development lead times and thus made it possible to launch new,
competitively priced products at a faster pace. Under these
environments, Canon’s consolidated net sales in fiscal 2003 totaled
¥3,198,072 million (U.S.$29,889 million). This represents an 8.8%
increase from the previous fiscal year, reflecting a significant growth
in sales of digital cameras and color network digital MFDs.

Overseas operations are significant to Canon’s operating results
and generated approximately 73% of total net sales in fiscal 2003.
Such sales are denominated in the applicable local currency and are
subject to fluctuations in the value of the yen in relation to such
other currencies. Despite efforts to reduce the impact of currency
fluctuations on operating results, including localizing some
manufacturing and procuring parts and materials from overseas

suppliers, Canon believes such fluctuations have had and will
continue to have a significant effect on results of operations. The
average value of the yen in 2003 was ¥115.61 to the U.S. dollar,
and ¥131.02 to the euro, representing an appreciation of 8% against
the U.S. dollar, and a depreciation of 10% against the euro,
compared with the previous year. These effects of foreign exchange
rate fluctuations unfavorably impacted net sales by approximately
¥25,100 million. Net sales decreased by approximately ¥105,800
million in U.S. dollars, increased by ¥76,400 million in euro, and
increased by ¥4,300 million in other foreign currencies.

Cost of sales
Cost of sales reflects principally the cost of raw materials, parts and
labor used by Canon in the manufacture of its products. A portion of
the raw materials used by Canon is imported or includes imported
materials. Such raw materials are subject to fluctuations in world
market prices and exchange rates that may affect Canon’s cost of
sales. Other components of cost of sales include depreciation
expenses from plants, maintenance expenses, light and fuel
expenses and rent expenses. The ratio of cost of sales to net sales
for the past three years was 49.7%, 52.4% and 56.0%, respectively.

Gross profit
Canon’s gross profit in fiscal 2003 increased by 14.9% to
¥1,608,900 million (U.S.$15,036 million) from fiscal 2002, as a
result of increased sales and an improved gross profit ratio. Gross

profit margins have also benefited from cost reductions achieved
through continued production reforms activities.

Selling, general and administrative expenses
The major components of selling, general and administrative
expenses are payroll, R&D, advertising expenses and other
marketing expenses. Selling, general and administrative
expenses increased by 9.6% from the previous year and
amounted to ¥1,154,476 million (U.S.$10,789 million). An
increase in R&D expenditures and advertising and other
marketing expenses largely accounted for this increase. Canon
maintains a high level of R&D expenditure to strengthen its R&D
capabilities. R&D expenditures grew 10.9% from the previous
year to ¥259,140 million (U.S.$2,422 million), resulting from
increased R&D activities in the areas of business machines and
cameras. Advertising and other marketing expenses increased by
39.8% from the previous year to ¥100,278 million (U.S.$937
million), reflecting management’s policy to strengthen Canon’s
corporate and brand image.

Operating profit
Operating profit in fiscal 2003 significantly increased by 31.2% to
¥454,424 million (U.S.$4,247 million) from fiscal 2002.
Operating profit in fiscal 2003 was 14.2% of net sales, compared
with 11.8% in fiscal 2002.

Other income (deductions)
Other income (deductions) improved by ¥10,088 million
(U.S.$94 million), owing to the increase in net interest income
resulting from the company’s strengthened financial condition, in
addition to the decrease in currency exchange losses and
improved earnings of equity affiliates.

Income before income taxes and minority interests
Income before income taxes and minority interests in fiscal 2003
was ¥448,170 million (U.S.$4,189 million), a 35.8% increase
from fiscal 2002, and constituted 14.0% of net sales.

Income taxes
Provision for income taxes increased by ¥27,950 million
(U.S.$261 million) from fiscal 2002, primarily as a result of the
increase in income before income taxes. The effective tax rate
during the term declined by 4.5% compared with fiscal 2002 due
to an increased tax credit for R&D expenditures arising from an
amendment to Japanese tax regulations.

Net income
Net income in fiscal 2003 increased substantially by 44.6% to
¥275,730 million (U.S.$2,577 million), which exceeds the growth
rate of income before income taxes. This represents an 8.6%
return on net sales.

Product information
On a consolidated basis, Canon divides its businesses into three
product groups: business machines, cameras and optical and
other products.

• The business machine product group includes office
imaging products, computer peripherals and business
information products.
Office imaging products include office network digital MFDs,
color network digital MFDs, office copying machines,
personal-use copying machines and full-color copying
machines.
Computer peripherals include laser beam printers, inkjet
printers, inkjet multifunction peripherals and image
scanners.
Business information products include micrographic
equipment, personal computers and calculators.
• The camera product group includes single lens reflex

(“SLR”) cameras, compact cameras, digital cameras and
digital video camcorders.

• The optical and other products product group includes

steppers for semiconductor chip production, mirror
projection mask aligners used in the production of LCDs,
television broadcasting lenses and medical equipment.
Effective January 2003, Canon reclassified certain products
that were historically included in business systems, now called
business information products. Facsimiles, including certain
personal digital MFDs, are now classified as office imaging
products. Products based on inkjet technology are now classified
as inkjet printers in computer peripherals. In connection with these
business alignment adjustments, copying machines were renamed
office imaging products and business systems were renamed
business information products. Information for previous fiscal years
has been reclassified to conform to the current classification.

Return on sales

8.6%

6.5%

5.8%

5.0%

2.8%

Sales by product
Canon’s sales by product group are summarized as follows:

SALES BY PRODUCT

(Millions of yen)
2003

change

2002

change

2001

Business machines:

Office imaging products
Computer peripherals
Business information products

Cameras
Optical and other products

Total

¥ 1,061,099
1,089,312

+3.7%
+3.2
123,493 –16.1
+2.1
653,540 +34.5
270,628 +18.6
+8.8

¥ 3,198,072

2,273,904

1,023,131
1,055,956
147,108
2,226,195

+4.4%
+0.8
–25.0
+0.1
485,778 +27.4
–24.6
228,155
+1.1
2,940,128

980,053
1,047,385
196,051
2,223,489
381,367
302,717
2,907,573

(Thousands of
U.S. dollars)
2003

$ 9,916,813
10,180,486
1,154,140
21,251,439
6,107,850
2,529,234
$ 29,888,523

Sales of business machines, constituting 71% of consolidated
net sales, increased 2.1%, to ¥2,273,904 million (U.S.$21,251
million) in fiscal 2003.

Sales of office imaging products increased 3.7%, to
¥1,061,099 million (U.S.$9,917 million). Demand for network
digital MFDs appears to be shifting from monochrome machines
to color models, as well as towards higher-end features. The
Color imageRUNNER C3200/iRC3200N, Canon’s first color
offerings in the high-end imageRUNNER (iR)-series lineup, was
well received in Japan and overseas markets, and contributed
significantly to increased sales of office imaging products. Among
monochrome network digital MFDs, the high-end iR5000 series
and iR105 models continued to record strong sales during the
term. Color office imaging products accounted for 20% and 17%

and monochrome office imaging products accounted for 72%
and 75% of office imaging products sales in fiscal 2003 and
2002, respectively. Sales of facsimiles remained flat and
accounted for the remaining 8% of sales of office imaging
products in both fiscal 2003 and 2002.

Sales of computer peripherals increased 3.2%, to

¥1,089,312 million (U.S.$10,180 million). While sales of laser
beam printers were flat in the previous year due to inventory
adjustment by Canon’s OEM partner, a recovery in orders fueled
robust growth in terms of unit sales during 2003, especially
among personal models. Although unit sales of inkjet printers
increased due to favorable acceptance of such models as the
i560, i860, and MultiPASS MP700/MP730 (high-speed
multifunction inkjet systems), severe price competition resulted

Sales by product
(Millions of yen)

Business machines
Office imaging products
Computer peripherals
Business information products

Cameras

Optical and other products

3,500,000

Sales by region
(Millions of yen)

Japan

Americas

Europe

Other areas

3,500,000

3,198,072

2,907,573

2,940,128

2,696,420

2,530,896

3,198,072

2,907,573

2,940,128

2,696,420

2,530,896

in a slight sales decrease in value terms. Sales of computer
peripherals as a whole mainly increased, due to expanded sales
of laser beam printers. The adverse effect of severe price
competition on sales of computer peripherals was more than
offset by a rise in unit sales. As a result, sales of computer
peripherals in 2003 increased by 3.2%.

Sales of business information products decreased 16.1%, to
¥123,493 million (U.S.$1,154 million) in fiscal 2003, mainly due
to a decision to curtail the sales of personal computers on stand-
alone basis, which are unprofitable, and to concentrate more on
providing comprehensive business solutions.

Sales of cameras continued to achieve significant sales growth of
34.5%, totaling ¥653,540 million (U.S.$6,108 million). Amid the
continued strong demand for digital cameras worldwide, Canon
launched several new compact digital cameras in 2003,
including six new PowerShot-series models and three new
DIGITAL ELPH-series. These new products, led by the PowerShot
S400 DIGITAL ELPH and PowerShot A70, contributed
significantly to an increase in sales. Canon’s digital SLR cameras
also enjoyed sales growth, supported by the introduction of new
product lineups, including the EOS 10D, launched in the first half
of 2003, and the EOS Digital Rebel, launched in September.
Sales of conventional film cameras continued to decline amid the
increasing popularity of digital models. In fiscal 2003, digital
cameras accounted of 61% and 45% and conventional film
cameras accounted for 21% and 31% of camera sales in fiscal
2003 and 2002, respectively. Video camcorders accounted for
the remaining 18% and 24% of camera sales in fiscal 2003 and
2002, respectively. In the field of digital video camcorders, the
eight new products Canon launched in fiscal 2003, include the
Optura 300, as well as the ZR Series (ZR60, ZR65, ZR70)
contributed to increased sales. Sales of cameras constituted 20%
of consolidated net sales in fiscal 2003, an increase of 4% from
fiscal 2002, primarily due to increased sales of digital cameras.

Sales of optical and other products increased 18.6%, to
¥270,628 million (U.S.$2,529 million). Sales of aligners for the
production of LCDs displayed notable growth as the PC monitor

industry continued its shift from cathode-ray tube (CRT) to LCD
computer displays, and the LCD television market continued to
expand, while sales of steppers, used for the production of
semiconductors, also increased as the semiconductor market
began to show signs of a turnaround. Sales of optical and other
products constituted 9% of consolidated net sales in fiscal 2003
and increased 18.6% from fiscal 2002, primarily due to
increased sales of aligners for LCDs and steppers.

Sales by region
A geographical analysis indicates that net sales in fiscal 2003
increased in every region.

In Japan, net sales increased by 9.4% in fiscal 2003 despite

a decrease in sales of personal computers due to Canon’s
intentional curtailment of such sales in Japan. The results were
mainly attributable to increased sales of office imaging products
and digital cameras. Color network digital MFDs, which include
the Color imageRUNNER C3200/iRC3200N, have been well
received, contributing to increased sales of office imaging
products.

In the Americas, net sales increased by 11.9% on a local
currency basis, mainly due to increased sales of digital cameras,
network digital MFDs and laser beam printers. Sales of digital
cameras experienced continued strong demand and benefited
from the effect of newly-launched products. After accounting for
the appreciation of the yen against the U.S. dollar, net sales in
the Americas increased by 3.5%.

In Europe, net sales increased by 5.4% on a local currency
basis mainly due to increased sales of digital cameras, and laser
beam printers. After accounting for the depreciation of the yen
against the euro, net sales in Europe grew 13.1% in fiscal 2003.
Sales in other areas increased by 12.4% on a yen basis in
fiscal 2003, reflecting overall sales growth, particularly in digital
cameras and semiconductor equipment.

A summary of net sales by region is provided below:

SALES BY REGION

Japan
Americas
Europe
Other areas
Total

(Millions of yen)
2003

change

2002

change

801,400 +9.4%

732,551 –11.5%

1,045,166 +3.5
969,042 +13.1
382,464 +12.4
¥ 3,198,072 +8.8

+2.9
1,010,166
857,167
+6.3
340,244 +16.5
+1.1

2,940,128

2001
827,288
982,104
806,104
292,077
2,907,573

(Thousands of
U.S. dollars)
2003
$ 7,489,719
9,767,907
9,056,467
3,574,430
$ 29,888,523

Note: This summary of net sales by region of destination is determined by the location of the customer.

Segment information by product for the years ended December 31,
2003 and 2002 are as follows, and segment information by geographic

area for the years ended December 31, 2003 and 2002 are shown on
page 34. This segment information is prepared under Japanese GAAP.

SEGMENT INFORMATION BY PRODUCT

(Millions of yen)
2003: Net sales:

Unaffiliated customers
Intersegment

Total

Operating cost and expenses
Operating profit
Assets
Depreciation and amortization
Capital expenditure

2002:

Net sales:

Unaffiliated customers
Intersegment

Total

Operating cost and expenses
Operating profit
Assets
Depreciation and amortization
Capital expenditure

2001:

Net sales:

Unaffiliated customers
Intersegment

Total

Operating cost and expenses
Operating profit
Assets
Depreciation and amortization
Capital expenditure

(Thousands of U.S. dollars)
2003: Net sales:

Unaffiliated customers
Intersegment

Total

Operating cost and expenses
Operating profit
Assets
Depreciation and amortization
Capital expenditure

Business
machines

Cameras

Optical and
other products

Corporate and
Eliminations

¥ 2,273,904
—
2,273,904
1,786,808
¥
487,096
¥ 1,260,790
118,556
105,700

¥
¥

2,226,915
—
2,226,915
1,815,179
411,016
1,296,829
106,865
104,877

2,223,489
—
2,223,489
1,888,571
334,918
1,280,949
105,907
121,333

653,540
—
653,540
527,222
126,318
317,672
17,712
25,894

485,778
—
485,778
415,488
70,290
263,532
14,118
15,627

381,367
—
381,367
345,223
36,144
215,173
12,745
16,871

—
270,628
(141,718)
141,718
(141,718)
412,346
5,858
423,760
(11,414)
(147,576)
418,208 1,185,478
26,810
20,526
46,961
31,483

228,155
139,608
367,763
379,415
(11,652)
338,377
19,817
23,767

—
(139,608)
(139,608)
(16,313)
(123,295)
1,043,968
24,460
54,431

302,717
116,748
419,465
395,615
23,850
361,799
15,291
36,057

—
(116,748)
(116,748)
(3,675)
(113,073)
986,835
18,357
33,413

Business
machines

Cameras

Optical and
other products

Corporate and
Eliminations

Consolidated

3,198,072
—
3,198,072
2,743,648
454,424
3,182,148
183,604
210,038

2,940,128
—
2,940,128
2,593,769
346,359
2,942,706
165,260
198,702

2,907,573
—
2,907,573
2,625,734
281,839
2,844,756
152,300
207,674

Consolidated

$ 21,251,439 6,107,850
—

21,251,439 6,107,850
16,699,140 4,927,308
$ 4,552,299 1,180,542
$ 11,783,084 2,968,897
165,533
242,000

1,108,000
987,850

2,529,234

— 1,324,467 (1,324,467)
3,853,701 (1,324,467)
54,748
3,960,374
(106,673) (1,379,215)
3,908,486 11,079,234
250,560
438,888

191,832
294,234

— 29,888,523
—
29,888,523
25,641,570
4,246,953
29,739,701
1,715,925
1,962,972

Notes:
(1) General corporate expenses of ¥147,616 million (U.S.$1,379,589 thousand) and ¥123,193 million in the years ended December 31, 2003 and 2002, respectively, are included in

“Corporate and Eliminations.”

(2) Corporate assets of ¥1,185,506 million (U.S.$11,079,495 thousand) and ¥1,044,036 million as of December 31, 2003 and 2002, respectively, which mainly consist of cash and

cash equivalents, marketable securities and corporate properties, are included in “Corporate and Eliminations.”

SEGMENT INFORMATION BY GEOGRAPHIC AREA

Japan

Americas

Europe

Others

Corporate and
Eliminations

Consolidated

(Millions of yen)
2003: Net sales:

Unaffiliated customers
Intersegment

Total

Operating cost and expenses
Operating profit
Assets

2002: Net sales:

Unaffiliated customers
Intersegment

Total

Operating cost and expenses
Operating profit
Assets

2001: Net sales:

Unaffiliated customers
Intersegment

Total

Operating cost and expenses
Operating profit
Assets

(Thousands of U.S. dollars)
2003: Net sales:

856,851
1,662,172
2,519,023
2,025,442
493,581
¥
¥ 1,600,726

1,044,998
8,101
1,053,099
998,492
54,607
306,140

789,066
1,475,091
2,264,157
1,867,817
396,340
¥
¥ 1,485,238

858,580
1,378,031
2,236,611
1,893,448
343,163
¥
¥ 1,376,939

1,007,572
9,791
1,017,363
969,542
47,821
346,021

983,561
17,475
1,001,036
969,630
31,406
346,046

968,938
3,861
972,799
946,282
26,517
546,625

852,931
4,639
857,570
836,341
21,229
460,521

805,243
2,449
807,692
806,495
1,197
423,295

327,285
503,119
830,404
806,281
24,123
249,755

(2,177,253)
(2,177,253)
(2,032,849)
(144,404)
478,902

— 3,198,072
—
3,198,072
2,743,648
454,424
3,182,148

290,559
426,914
717,473
699,420
18,053
202,388

260,189
299,410
559,599
546,291
13,308
174,553

— 2,940,128
—
2,940,128
2,593,769
346,359
2,942,706

(1,916,435)
(1,916,435)
(1,779,351)
(137,084)
448,538

— 2,907,573
—
2,907,573
2,625,734
281,839
2,844,756

(1,697,365)
(1,697,365)
(1,590,130)
(107,235)
523,923

Corporate and
Eliminations

Consolidated

Japan

Americas

Europe

Others

Unaffiliated customers
Intersegment

Total

Operating cost and expenses
Operating profit
Assets

$ 8,007,953
15,534,318
23,542,271
18,929,365
$ 4,612,906
$ 14,960,056

9,766,337
75,710
9,842,047
9,331,701
510,346
2,861,121

9,055,495
36,084
9,091,579
8,843,757
247,822
5,108,645

— 29,888,523
3,058,738
4,702,047 (20,348,159)
—
7,760,785 (20,348,159) 29,888,523
7,535,336 (18,998,589) 25,641,570
(1,349,570) 4,246,953
4,475,720 29,739,701

225,449
2,334,159

Notes:
(1) General corporate expenses of ¥147,616 million (U.S.$1,379,589 thousand) and ¥123,193 million in the years ended December 31, 2003 and 2002, respectively, are included in

“Corporate and Eliminations.”

(2) Corporate assets of ¥1,185,506 million (U.S.$11,079,495 thousand) and ¥1,044,036 million as of December 31, 2003 and 2002, respectively, which mainly consist of cash and

cash equivalents, marketable securities and corporate properties, are included in “Corporate and Eliminations.”

(3) Segment information by geographic area is determined by the location of Canon or its relevant subsidiary.

Operating profit by product
Operating profit for business machines in fiscal 2003 increased
¥76,080 million (U.S.$711 million) to ¥487,096 million
(U.S.$4,552 million). The operating profit ratio also improved by
2.9% to 21.4%. Sales of business machines in 2003 totaled
¥2,273,904 million (U.S.$21,251 million), an increase of 2.1%. In
addition to cost-cutting measures and the introduction of new
price-competitive products, which contributed to an improvement
in the gross profit ratio, a steady increase in sales volume resulted
in an increase in operating profit in 2003 of 18.5%.

Operating profit for cameras increased ¥56,028 million (U.S.$524
million) to ¥126,318 million (U.S.$1,181 million). Significantly
improved profitability for camera products resulted from the rapid
growth in sales of digital cameras, along with a significant
improvement in the gross profit ratio, made possible through
effective cost-saving initiatives in development and production
reforms activities. Consequently, operating profit in the camera
segment increased by 79.7%.

Optical and other products generated operating losses of ¥11,414
million (U.S.$107 million) in 2003, an improvement from losses of
¥11,652 million in fiscal 2002, despite increased sales of 18.5%
for the segment. These continuing operating losses are primarily
the result of severe price competition and a one-time expense for
the disposal of inventories relating to obsolete scanning steppers.

FOREIGN OPERATIONS AND FOREIGN CURRENCY
TRANSACTIONS
Canon’s marketing activities are performed by subsidiaries in
various regions in local currencies, while the cost of goods sold is
generally in yen. Given Canon’s current operating structure,
appreciation of the yen has a negative impact on net sales and the
gross profit ratio. To reduce the financial risks from changes in
foreign exchange rates, Canon utilizes derivative financial
instruments, which are comprised principally of forward currency
exchange contracts.

The return on foreign operation sales is usually lower than that

from domestic operations because foreign operations consist
mainly of marketing activities. Return on foreign operation sales is
calculated by dividing net income of foreign subsidiaries, after
factoring in a consolidation adjustment between foreign
subsidiaries, by net sales of foreign subsidiaries. Marketing
activities are generally less profitable than production activities,
which are mainly conducted by the Company and its domestic
subsidiaries. The returns on foreign operation sales in fiscal 2003,
2002 and 2001 were 3.2%, 2.7% and 1.6%, respectively. This
compares with returns of 8.6%, 6.5% and 5.8% on total
operations for the respective years.

LIQUIDITY
Cash and cash equivalents in fiscal 2003 increased ¥169,027
million (U.S.$1,580 million) to ¥690,298 million (U.S.$6,451
million), compared with ¥521,271 million in fiscal 2002 and
¥506,234 million in fiscal 2001. Canon’s cash and cash
equivalents are typically denominated in Japanese yen, with the
remainder denominated in foreign currencies such as the U.S.
dollar.

Net cash provided by operating activities in fiscal 2003

increased by ¥16,699 million (U.S.$156 million) from the previous
year to ¥465,649 million (U.S.$4,352 million). Cash flow from
operating activities consisted of the following components: the
major component of Canon’s cash inflow is cash received from
customers, while the major components of Canon’s cash outflow
are payments for parts and materials, selling, general and
administrative expenses, and income taxes.

For fiscal 2003, cash inflow from cash received from
customers increased, due to the increase in net sales. This
increase in cash inflow was within the range of the increase in net
sales, as there were no significant changes in Canon’s collection
rates. Cash outflow for payments for parts and materials also
increased, as a result of an increase in net sales. However, this
increase was less than the increase in net sales, due to the effects
of cost reduction. Cost reduction reflects a decline in unit prices of
parts and raw materials, as well as a streamlining of the process of
using these parts and materials through promoting efficiency in
operations. Cash outflow for payroll payments increased, due to the
increase in the number of employees. The employees in the Asian
region increased, due to the expansion of production in the region.
Cash outflow for payments for selling, general and administrative
expenses increased, due to the increase in advertising and
marketing expenses, reflecting management’s policy to strengthen
Canon’s corporate brand image. Cash outflow for payments of
income taxes increased, due to the increase in taxable income.
Net cash used in investing activities in fiscal 2003 was
¥199,948 million (U.S.$1,869 million), compared with ¥230,220
million in fiscal 2002 and ¥192,592 million in fiscal 2001, which
consists primarily of capital expenditures. Capital expenditures in
fiscal 2003 totaled ¥210,038 million (U.S.$1,963 million), mainly
to expand production capabilities in Japan and overseas. Of the
¥24,341 million (U.S.$227 million) payment for the purchase of
other investments, ¥12,718 million (U.S.$119 million) is
attributable to the acquisition of Sumitomo Metal System Solutions
Co., Ltd., now Canon System Solutions Inc.

As a result, free cash flow, or cash flow from operating
activities minus cash flow from investing activities, totaled
¥265,701 million (U.S.$2,483 million) for the year ended
December 31, 2003 as compared to ¥218,730 million for the year
ended December 31, 2002.

Net cash used in financing activities totaled ¥102,039 million

(U.S.$954 million) in fiscal 2003, mainly resulting from Canon’s
active efforts to repay short-term loans and long-term debts
towards the goal of improving the Company’s financial position,
including the redemption of ¥10,000 million (U.S.$93 million) in
debentures.

Canon seeks to meet its liquidity and capital requirements
principally with cash flow from operations and, to a lesser extent,
with short-term loans and long-term debt. Consistent with this
objective, Canon continued to reduce its reliance on external
funding for capital investments in favor of relying upon internally
generated cash flows. This approach is supplemented with group-
wide treasury and cash management activities undertaken at the
parent company level. Canon believes that its working capital is
sufficient for its present requirements.

To the extent Canon relies on external funding for its liquidity

and capital requirements, it generally has access to various
funding sources, including issuance of additional share capital,
long-term debt or short-term loans. While Canon has been able to
obtain funding from its traditional financing sources and from the
capital markets, and believes it will continue to be able to do so in
the future, there can be no assurance that adverse economic or
other conditions will not affect Canon’s liquidity or long-term
funding in the future.

Short-term loans (including the current portions of long-term

loans) amounted to ¥39,136 million (U.S.$366 million) at
December 31, 2003 compared to ¥66,754 million at December
31, 2002. Long-term debt (excluding their current portions)
amounted to ¥59,260 million (U.S.$554 million) at December 31,
2003 compared to ¥81,349 million at December 31, 2002.
Substantially all of Canon’s short-term loans consist of

borrowings from banks under uncommitted lines of credit. Canon’s
long-term debt generally consists of secured or partially-secured
term loans from banks, bearing interest at floating rates, as well as
fixed rate-notes and convertible debentures which Canon has
issued in the domestic market with original maturities of five to
fifteen years.

In order to facilitate access to global capital markets, Canon
obtains credit ratings from two rating agencies, Moody’s Investors
Services, Inc. (“Moody’s”) and Standard and Poor’s Rating
Services (“S&P”). In addition, Canon maintains a rating from
Rating and Investment Information, Inc. (“R&I”), a rating agency in
Japan, for access to the Japanese capital market.

As of March 3, 2004, Canon’s debt ratings are: Moody’s: Aa3

(long-term); S&P: AA (long-term, outlook: stable), A-1+ (short-
term); and R&I: AA+ (long-term). Canon does not have any rating
downgrade triggers that would accelerate the maturity of a material
amount of its debt. A downgrade in Canon’s credit ratings or
outlook could, however, increase the cost of its borrowings.

CAPITAL RESOURCES
Capital expenditure in fiscal 2003 amounted to ¥210,038 million
(U.S.$1,963 million) compared with ¥198,702 million in fiscal
2002 and ¥207,674 million in fiscal 2001. In 2003, capital
expenditures were mainly used for next-generation new technology
devices for aligners and steppers, construction of facilities in the
Company’s consolidated subsidiaries, and expansion of production
capabilities in Japan and overseas. In addition, Canon has been
continually investing in tools and dies for business machines, in
which the amount invested is generally the same each year. For
fiscal 2004, Canon projects its capital expenditure will be
approximately ¥300,000 million (U.S.$2,804 million). The capital
expenditure includes an investment in a new technology
development center in Kanagawa, Japan, and a new plant in Oita,
Japan for digital camera production, reflecting the worldwide
increase in demand.

Employer contributions to Canon’s worldwide defined benefit
pension plans were ¥29,944 million (U.S.$280 million) in fiscal
2003, ¥33,661 million in fiscal 2002, ¥89,626 million in fiscal
2001. Employer contributions were greater in fiscal 2001 because
they included an additional trust fund of cash and equity securities
in the amount of ¥58,954 million in addition to typical employer
contributions. During fiscal 2004, Canon expects to make cash
contributions of approximately ¥40,044 million (U.S.$374 million)
to its domestic defined benefit pension plans, which would be an
increase of 34.0% from ¥29,879 million (U.S.$279 million) in
fiscal 2003. This expected increase is primarily the result of an
anticipated increase in the Company’s cash contributions to
replenish the shortage of a reserve for the Company’s pension.

Working capital in fiscal 2003 increased ¥200,340 million
(U.S.$1,872 million), to ¥1,103,474 million (U.S.$10,313 million),

Capital expenditure
(Millions of yen)

200,000

6
8
3
0
0
2

6
8
9
0
7
1

4
7
6
7
0
2

2
0
7
8
9
1

8
3
0
0
1
2

perform under a guarantee, if the borrower defaults on a payment
within the contract periods of 1 year to 30 years in the case of
employees with housing loans, and of 1 year to 10 years in the
case of affiliates and other companies. The maximum amount of
undiscounted payments Canon would have had to make in the
event of default by all borrowers was ¥58,299 million (U.S.$545
million) at December 31, 2003. The carrying amounts of the
liabilities recognized for Canon’s obligations as a guarantor under
those guarantees are insignificant. Certain of those guarantees are
secured by guarantees issued to Canon by other parties. Such
third party guarantees amounted to ¥950 million (U.S.$9 million)
at December 31, 2003. The company and its consolidated
subsidiaries provide guarantees to third parties of certain
obligations of their consolidated subsidiaries. At December 31,
2003, these guarantees amounted to ¥55,730 million (U.S.$521
million). To a lesser extent, consolidated subsidiaries provide
guarantees to third parties of obligations of other consolidated
subsidiaries. All intercompany guarantees are eliminated in
consolidation and therefore are not reflected in the above figure.

compared with ¥903,134 million in fiscal 2002 and ¥776,111
million in fiscal 2001. This increase was primarily a result of a
decrease in short-term loans. Canon believes its working capital
will be sufficient for its requirements for the foreseeable future.
Canon’s capital requirements are primarily dependent on
management’s business plans regarding the levels and timing of
capital expenditures and investments.

The working capital ratio (current assets to current liabilities)

for fiscal 2003 was 2.33, compared to 2.13 for fiscal 2002 and
1.91 for fiscal 2001.

Return on assets (Net income divided by the average of total
assets as of December 31, 2002 and 2003) increased to 9.0% in
fiscal 2003, compared to 6.6% in fiscal 2002 and 5.9% in fiscal
2001. This increase was due mainly to an increase in net income.
Return on stockholders’ equity increased to 15.9% in fiscal 2003,
compared with 12.5% in fiscal 2002 and 12.2% in fiscal 2001.

Debt to total assets ratio for the past three years was 3.1%, 5.0%
and 10.4%, respectively. Canon had short-term loans and long-
term debt of ¥98,396 million (U.S.$920 million) in fiscal 2003,
¥148,103 million in fiscal 2002 and ¥295,630 million in fiscal
2001.

Off-balance sheet arrangements
As part of its ongoing business, Canon does not participate in
transactions that generate relationships with unconsolidated
entities or financial partnerships, such as entities often referred to
as structured finance or special purpose entities, which would have
been established for the purpose of facilitating off-balance sheet
arrangements or other contractually narrow or limited purposes.

Canon provides guarantees to third parties of bank loans of its

employees, affiliates and other companies. Canon would have to

Working capital ratio

Return on stockholders’ equity

2.5

2.33

2.13

1.91

1.70

1.71

15.9%

12.2% 12.5%

10.7%

6.0%

Contractual obligations and commercial commitments
The following summarizes Canon’s contractual obligations at December 31, 2003.

Total

Less than 1 year

1-3 years

3-5 years

More than 5 years

Payments Due By Period

(Millions of yen)

Contractual Obligations:
Long-Term Debt

Capital Lease Obligations
Other Long-Term Debt
Operating Lease Obligations
Purchase Commitments for Property Plant and Equipment
Total

11,267
84,188
43,430
54,947
¥ 193,832

5,200
30,995
11,769
54,947
102,911

5,230
22,420
15,304
—
42,954

765
30,711
9,055
—
40,531

72
62
7,302
—
7,436

Total

Less than 1 year

1-3 years

3-5 years

More than 5 years

Payments Due By Period

(Thousands of U.S.dollars)

Contractual Obligations:
Long-Term Debt

Capital Lease Obligations
Other Long-Term Debt
Operating Lease Obligations
Purchase Commitments for Property Plant and Equipment
Total

$ 105,299
786,804
405,888
513,523
$1,811,514

48,598
289,673
109,991
513,523
961,785

48,878
209,534
143,028
—
401,440

7,150
287,018
84,626
—
378,794

673
579
68,243
—
69,495

Canon provides warranties generally less than one year
against defects in materials and workmanship on most of its
consumer products. A liability for estimated product warranty
related cost is established at the time revenue is recognized
and is included in accrued expenses. Estimates for accrued
product warranty cost are primarily based on historical
experience, and are affected by ongoing product failure rates,
specific product class failures outside of the baseline
experience, material usage and service delivery costs incurred
in correcting a product failure. As of December 31, 2003, the
accrued product warranty cost amounted to ¥10,512 million
(U.S.$98 million).

At December 31, 2003, Canon had outstanding

commitments of approximately ¥54,947 million (U.S.$514
million) to purchase property, plant and equipment for use in
the ordinary course of its business. Canon anticipates that
funds needed to fulfill these commitments will be generated
internally through operations.

Canon’s management believes that current financial
resources, cash generated from operations and Canon’s
potential capacity for additional debt and/or equity financing will
be sufficient to fund current and future capital requirements.

RESEARCH AND DEVELOPMENT, PATENTS AND
LICENSES
Canon is now in Phase II of its Excellent Global Corporation Plan,
which started in 2001 and will end in 2005. The management
plan aims to guide Canon to the No.1 position worldwide in all
core business areas, to build on its R&D capabilities and to
continually create new businesses and to further strengthen its
financial position.

With respect to its R&D goals, Canon formulated as part of its

management plan the “Canon Over IP” concept, through which
Canon intends to connect its digital products to the Internet and
lay the foundations for Internet-businesses for the future. The
Company envisions Canon products and systems interconnected
over networks, as well as a variety of Web services that expand its
business domains while creating new value for customers.

Canon has R&D centers worldwide that closely collaborate in

their R&D activities. Some regional R&D centers conduct basic
research into technology, and others apply their expertise to
develop new products and businesses.

In October 2003, the Company formed a new organization for

its R&D activities, Leading-Edge Technology Development
Headquarters, from the former Canon Research Center and other
R&D divisions. Leading-Edge Technology Development
Headquarters aims to create new products for the development
of new business areas.

In addition to Leading-Edge Technology Headquarters, the

Company’s R&D activities are conducted in the following six
organizations:

• Core Technology Development Headquarters (where

component engineering and base technology R&D, such as
material engineering, nanotechnology and production
engineering, is conducted)

• Platform Technology Development Headquarters (where
platform technology R&D, such as system Large Scale
Integration (LSI) chips and network technology, is
conducted)

• Device Technology Development Headquarters (where key

device R&D, such as for semiconductor devices, is
conducted)

• SED Development Headquarters (where Surface-conduction

Electron-emitter Display R&D is conducted)

• Ecology Research Center (where solar cell R&D is

conducted)

• Advanced Materials Research Center (where advanced

materials R&D is conducted)

Canon had R&D expenditures of ¥259,140 million

(U.S.$2,422 million) in fiscal 2003, ¥233,669 million in fiscal
2002 and ¥218,616 million in fiscal 2001. The ratio of R&D
expenditure to total net sales for the past three years was 8.1%,
7.9% and 7.5%, respectively.

Canon seeks to produce new products that are protected by
patents and to set market product standards in order to enhance
its market position. The United States Patent and Trademark
Office (USPTO) announced that Canon obtained the second-
greatest number of private sector patents in 2003. This
achievement marks Canon’s twelfth consecutive year as one of
the top three patent-receiving private-sector organizations.
Canon aims to realize production procedures that
dramatically reduce the need for prototypes in the design
process, through the effective utilization of 3D-CAD systems, in
order to accelerate product development and curtail costs.

R&D expenditure
(Millions of yen)

300,000

0
4
1
9
5
2

9
6
6
3
3
2

6
1
6
8
1
2

2
5
5
4
9
1

2
2
9
7
7
1

MARKET RISK EXPOSURE
Canon is exposed to market risks, including changes in foreign
exchange rates, interest rates and prices of marketable securities
and marketable investments. In order to hedge the risks of
changes in foreign exchange rates and interest rates, Canon uses
derivative financial instruments.

Due within one year
Due after one year through five years
Due after five years
Equity securities

Equity price risk
Canon holds marketable securities included in current assets for
short-term investment, which consists generally of highly-liquid
and low-risk instruments. Marketable investments included in
noncurrent assets are held as longer-term investments. Canon
does not hold marketable securities and investments for trading
purposes.

Maturities and fair values of such marketable securities and

investments were as follows at December 31, 2003.

Millions of yen

Cost

Fair Value

194
1,480
5,951
7,569
¥ 15,194

202
1,932
6,002
22,977
31,113

Thousands of U.S.dollars

Cost
1,813
13,832
55,617
70,738
$ 142,000

Fair Value

1,888
18,056
56,094
214,738
290,776

Foreign exchange rate and interest rate risk
Canon operates internationally and is therefore exposed to the
risk of changes in foreign exchange rates and interest rates. The
Company and certain of its subsidiaries utilize various derivative
financial instruments, principally foreign exchange contracts and
interest rate swaps, to reduce these risks. Canon assesses the
risks of foreign currency exchange and interest rates by
continually monitoring changes in its exposure to these risks and
by evaluating hedging opportunities. Canon does not hold or
issue derivative financial instruments for trading purposes. Canon
is also exposed to credit-related losses in the event of non-
performance by counterparties to derivative financial
instruments; however, Canon does not expect that any
counterparties will fail to meet their obligations, because most of
the counterparties are internationally recognized financial
institutions and the contracts are diversified across a number of
major financial institutions.

The major manufacturing bases of Canon are located in

Japan and other countries in Asia. The sales generated from
overseas are mainly denominated in U.S. dollars or euro.
Therefore, Canon’s international operations expose Canon to the
risk of changes in foreign currency exchange rates. Canon enters
into foreign exchange contracts to manage certain foreign
currency exchange exposures principally from the exchange of
U.S. dollars and euro into yen. These contracts are primarily
used to hedge the foreign currency exposure of forecasted
intercompany sales, which are denominated in foreign
currencies. In accordance with Canon’s policy, a specific portion
of foreign currency exposure resulting from forecasted
intercompany sales are hedged using foreign exchange
contracts, which principally mature within three months.

The table on page 41 provides information about Canon’s
major derivative financial instruments related to foreign currency
exchange transactions existing at December 31, 2003. All of the
foreign exchange contracts described in the following table have
a contractual maturity date in 2004.

Forwards to sell foreign currencies:
Contract amounts
Estimated fair value
Forwards to buy foreign currencies:
Contract amounts
Estimated fair value

Canon’s exposure to the market risk of changes in interest rates

relates primarily to its debt obligations. Fixed-rate debt obligations
expose Canon to variability in their fair values due to changes in
interest rates. To manage the variability in fair values caused by
interest rate changes, Canon enters into interest rate swaps when it
is determined to be appropriate based on market conditions. The
interest rate swaps change fixed-rate debt obligations to variable-
rate debt obligations by entering into receive-fixed, pay-variable
interest rate swaps. To a lesser extent, Canon has entered into
interest rate swaps that change variable-rate debt obligations to
fixed-rate debt obligations. The hedging relationship between
interest rate swaps and hedged debt obligations is highly effective in
achieving offsetting changes in fair values resulting from interest
rate risk.

The information about Canon’s derivative financial instruments

and other financial instruments that are sensitive to changes in
interest rates are shown on page 42. For debt obligations, the table
presents principal cash flows by expected maturity dates and
related weighted average interest rates. For interest rate swaps, the
table presents notional principal amounts by expected maturity
dates and weighted average interest rates. Notional principal
amounts are used to calculate the contractual payments to be
exchanged under the contracts. The table presents information for
obligations existing at December 31, 2003 together with the related
weighted average contractual interest rates at December 31, 2003.
Derivative financial instruments designated as fair value hedges

principally relate to interest rate swaps associated with fixed-rate
debt obligations. Changes in fair values of the hedged debt
obligations and derivative instruments designated as fair value
hedges of these debt obligations are recognized in other income
(deductions). There is no hedging ineffectiveness or net gains or
losses excluded from the assessment of hedge effectiveness for
fiscal 2003 as the critical terms of the interest rate swaps match the
terms of the hedged debt obligations.

U.S.$
232,013
3,623

11,151
(35)

euro
191,537
(6,287)

3,261
(165)

U.S.$
$ 2,168,346
33,860

euro
1,790,065
(58,757)

Others
23,993
(132)

Millions of yen

Total
447,543
(2,796)

7,972
(941)

22,384
(1,141)

Thousands of U.S. dollars

Others
224,234
(1,234)

Total
4,182,645
(26,131)

104,215
(327)

30,476
(1,542)

74,505
(8,795)

209,196
(10,664)

Changes in the fair value of foreign exchange contracts
designated and qualifying as cash flow hedges of forecasted
intercompany sales are reported in accumulated other
comprehensive income (loss). These amounts are subsequently
reclassified into earnings through other income (deductions) in the
same period as the hedged items affect earnings. Substantially all
accumulated other comprehensive income (loss) at year-end is
expected to be recognized in earnings over the next twelve months.
Canon excludes the time value component of the hedging
instruments from the assessment of hedge effectiveness.

Canon has entered into certain foreign exchange contracts,
which do not meet the hedging criteria of Statement of Financial
Accounting Standards No. 133 (“SFAS 133”), “Accounting for
Derivative Instruments and Hedging Activities” and Statement of
Financial Accounting Standards No. 138 (“SFAS 138”),
“Accounting for Certain Derivative Instruments and Certain Hedging
Activities, an amendment of FASB Statement No. 133”. Canon
records these foreign exchange contracts on the balance sheet at
fair value. The changes in fair values are recorded in earnings
immediately. The notional amounts of those foreign exchange
contracts were ¥408,540 million (U.S.$3,818 million) and
¥362,276 million at December 31, 2003 and 2002, respectively.
Canon has entered into certain interest rate swap agreements
which do not meet the hedging criteria of SFAS 133 and SFAS 138.
Canon records these interest rate swap agreements on the balance
sheet at fair value. The changes in fair values are recorded in
earnings immediately. The notional amount of those interest rate
swap agreements was ¥57,270 million at December 31, 2002.
Canon recognized net losses related to those interest rate swaps in
the amount of ¥94 million (U.S.$1 million), ¥1,738 million and
¥2,521 million for the years ended December 31, 2003, 2002 and
2001, respectively, and classified such amount in other income
(deductions).

LONG-TERM DEBT (including due within one year)

Average interest
rates
Total
2.39% ¥ 45,000

1.28%
2.88%

11,734
38,721
¥ 95,455

2004
20,000

—
16,195
36,195

2005
5,000

2,577
17,180
24,757

Japanese yen notes
Japanese yen convertible

debentures

Loans, principally from banks

Total

INTEREST RATE SWAP

Expected maturity date

2006
2007
— 10,000

2008
10,000

Thereafter
—

(Millions of yen)

Estimated
Fair Value

47,076

—
2,893
2,893

—
2,100
12,100

9,157
219
19,376

—
134
134

38,030
38,594
123,700

Notional principal
amount (million)
169
euro

Average receive
rate
2.33%

Average pay
rate
3.44%

Total
22,564

2004
8,480

2005
8,534

2006
3,611

2007
1,939

2008
—

Thereafter
—

Expected maturity date

(Millions of yen)

Estimated
Fair Value

(55)

LONG-TERM DEBT (including due within one year)

Average interest
rates
2004
2.39% $ 420,561 186,916

Total

Expected maturity date

2005
46,729

2006
2007
— 93,458

2008
93,458

(Thousands of U.S.dollars)

Thereafter

Estimated
Fair Value
— 439,963

Japanese yen notes
Japanese yen convertible

debentures

Loans, principally from banks

Total

INTEREST RATE SWAP

1.28%
2.88%

— 24,084
109,663
361,879 151,356 160,561
$ 892,103 338,272 231,374

— 85,579
—
2,047
19,626
27,037
27,037 113,084 181,084

— 355,421
360,692
1,252
1,252 1,156,076

(Thousands of U.S.dollars)

Notional principal
amount (million)
169
euro

Average receive
rate
2.33%

Average pay
rate
3.44%

Total
210,878

2004
79,252

2005
79,757

2006
33,748

2007
18,121

2008
—

Thereafter
—

Expected maturity date

Estimated
Fair Value

(514)

Note: All long-term debt is fixed rate except loans, principally from banks which include both fixed and floating rate debt.

RECENT DEVELOPMENTS
On January 1, 2004, Canon Precision Inc. (“Canon Precision”), a
wholly owned subsidiary of Canon Inc., merged with Hirosaki
Precision, Inc. (“Hirosaki Precision”), a wholly owned subsidiary of
Canon Precision. Hirosaki Precision was merged into Canon
Precision, the surviving company. Canon Precision targets the
improved efficiency and specialization of business operations. Since
both Canon Precision and Hirosaki Precision were consolidated
subsidiaries of Canon Inc., the merger has no impact on Canon’s
current or future business results.

On January 1, 2004, Canon N.T.C., Inc. (“Canon N.T.C.”), a
wholly owned subsidiary of Canon Inc., spun off its environmental
business operations into a newly established company, named
“Canon Ecology Industry Inc.” Following the separation, Canon
N.T.C. focused its energies on its semiconductor equipment-related
business and was renamed “Canon Semiconductor Equipment Inc.”
The spin-off was intended to improve efficiency and the
specialization of business operations while facilitating the pursuit of
independent businesses, consistent with Canon’s Excellent Global
Corporation Plan.

LOOKING FORWARD
For Canon, 2004 marks the fourth year of Phase II of its Excellent
Global Corporation Plan (2001-2005), which targets the completion
of structural reforms in 2005. As such, Canon will move forward with
several initiatives designed to ensure that it meets the goals set out
in the plan by 2005, including further efforts to reform its operations,
from R&D and production processes to head-office administrative
operations by simultaneously targeting improved productivity and the
elimination of waste. In the area of development, Canon will target
the further shortening of product-development periods and
improvements in design quality. Canon will also continue to strive to
substantially reduce product development costs by implementing
digital trial production procedures that make it unnecessary to create
prototypes. As for production, Canon will focus its energies on the in-
house production of key components and development of innovative
high-efficiency factory automation equipment to realize even greater
cost reductions. With regard to marketing activities, in addition to
promoting marketing reforms through structural reorganization and
strengthening marketing channels, Canon is also working to expand
and strengthen its solutions business and improve its hardware
solutions offerings through greater customization to better meet
customer needs. Canon also views the protection of the environment
as an essential part of its management activities and will continue to
develop environmentally-conscious products and introduce
resource-recycling systems while actively expanding its green
procurement and purchasing programs.

In the office imaging products market, Canon is gradually
moving from monochrome office imaging products to color office
imaging products in response to market demand. Canon’s response
to this transition will continue to affect its performance in this

market. In the camera market, Canon has experienced a significant
increase in sales of digital cameras due to strong worldwide
demand, which has more than offset the decline in sales of
conventional film cameras. Canon’s ability to respond to trends in
the comparatively young market for digital cameras will continue to
significantly affect the performance of Canon’s camera products.
Pursuant to the enactment of the new law concerning defined
benefit corporate pension plans in Japan, the Company, on March
1, 2003, obtained from the Minister of Health, Labor and Welfare an
exemption from its obligation to pay benefits for future employee
services related to the substitutional portion of the Employees’
Pension Fund which will result in the transfer of the pension
obligation and related assets to the government. The relevant impact
is recognized only on the settlement of the substitutional portion
when the company returns the past benefit obligation to the
government (expected to be sometime in the latter half of 2004). In
fiscal 2003, there has been no effect on Canon’s consolidated
financial statements. The aggregate effect of this separation will be
determined based on the Company’s total pension benefits
obligation as of the date the transfer is completed and the amount of
plan assets required to be transferred. Based on the Company’s
current estimates as to the total amount of such pension benefits
obligation and the amount of plan assets required to be transferred,
management does not presently expect that this separation will have
a significant effect on Canon’s financial condition and results of
operation. However, the final amount of the impact could be
significantly different depending on any change in the amounts of
the pension benefit obligation or plan assets to be transferred.
The foregoing discussion and other disclosure in this item
contains forward-looking statements that reflect management’s
current views with respect to certain future events and financial
performance. Actual results may differ materially from those
projected or implied in the forward-looking statements. Further,
certain forward-looking statements are based upon assumptions of
future events that may not prove to be accurate. The following
important factors could cause actual results to differ materially from
those projected or implied in any forward-looking statements:
exchange rate fluctuations; the uncertainty of Canon’s ability to
implement its plans to localize production and other measures to
reduce the impact of exchange rate fluctuations; uncertainty as to
economic condition, in Canon’s major markets; uncertainty of
continued demand for Canon’s high-value-added products;
uncertainty as to the recovery of computer and related markets;
uncertainty of recovery in demand for Canon’s semiconductor
production equipment; Canon’s ability to continue to develop
products and to market products that incorporate new technology on
a timely basis, are competitively priced and achieve market
acceptance; the possibility of losses resulting from foreign currency
transactions designed to reduce financial risks from changes in
foreign exchange rates; and inventory risk due to shifts in market
demand.

TEN-YEAR FINANCIAL SUMMARY

(Millions of yen except per share amounts)

Net sales:

Domestic
Overseas
Total

Percentage of

previous year

Net income

Percentage of sales

Advertising
Research and development
Depreciation of property, plant and equipment
Capital expenditure

Long-term debt, excluding current installments
Stockholders’ equity
Total assets
Per share data:

2003

2002

2001

2000

801,400
2,396,672
3,198,072

732,551
2,207,577
2,940,128

827,288
2,080,285
2,907,573

779,366
1,917,054
2,696,420

108.8%

275,730
8.6%

100,278
259,140
168,636
210,038

101.1

190,737
6.5

71,725
233,669
158,469
198,702

107.8

167,561
5.8

66,837
218,616
147,286
207,674

106.5

134,088
5.0

67,840
194,552
144,043
170,986

59,260
1,865,545
3,182,148

81,349
1,591,950
2,942,706

95,526
1,458,476
2,844,756

142,925
1,298,914
2,832,125

Income before cumulative effect of change in accounting principle:

Basic
Diluted
Net income:
Basic
Diluted

Cash dividends declared
Stock price:
High
Low

313.81
310.75

313.81
310.75
50.00

6,210
3,910

217.56
214.80

217.56
214.80
30.00

5,250
3,620

187.07
184.55

191.29
188.70
25.00

5,330
3,150

153.66
151.51

153.66
151.51
21.00

5,620
3,400

Average number of common shares in thousands
Number of employees

878,649
102,567

876,716
97,802

875,960
93,620

872,606
86,673

Common stock price range (Tokyo stock exchange)
(Yen)

6,500

6,000

5,500

5,000

4,500

4,000

3,500

3,000

2,500

2,000

1,500

1,000

500

6,500

6,000

5,500

5,000

4,500

4,000

3,500

3,000

2,500

2,000

1,500

1,000

500

1999

1998

1997

1996

1995

1994

(Thousands of U.S. dollars
except per share amounts)
2003

718,513
1,812,383
2,530,896

725,063
2,011,021
2,736,084

811,455
1,858,079
2,669,534

784,917
1,687,920
2,472,837

677,692
1,408,186
2,085,878

596,564
1,266,160
1,862,724

$ 7,489,719
22,398,804
29,888,523

92.5

70,234
2.8

1,589,475

67,544
177,922
155,682
200,386

165,277
1,202,003
2,587,532

80.66
79.50

80.66
79.50
17.00

4,200
2,170

102.5

109,569
4.0

76,911
176,967
159,888
221,401

108.0

118,813
4.5

75,800
170,793
137,777
219,779

118.6

94,177
3.8

68,354
150,085
117,263
176,357

112.0

55,036
2.6

53,033
125,253
104,474
123,560

105.1

31,024
1.7

44,698
121,273
103,304
133,068

180,320
1,155,520
2,728,329

226,889
1,109,511
2,872,779

192,254
1,007,434
2,644,452

298,055
880,150
2,506,152

311,002
808,985
2,270,010

126.10
123.93

126.10
123.93
17.00

3,400
1,930

137.73
134.60

137.73
134.60
17.00

3,820
2,280

111.29
106.96

111.29
106.96
15.00

2,630
1,780

65.96
62.73

65.96
62.73
13.00

1,940
1,230

38.50
35.84

38.50
35.84
12.50

1,820
1,530

870,699
81,009

868,916
79,799

862,664
78,767

846,224
75,628

834,329
72,280

805,897
67,672

108.8

2,576,916
8.6

937,178
2,421,869
1,576,037
1,962,972

553,832
17,435,000
29,739,701

2.93
2.90

2.93
2.90
0.47

58.04
36.54

Note: U.S. dollar amounts are translated from yen at the rate of U.S.$1= ¥107, the
approximate exchange rate on the Tokyo Foreign Exchange Market as of
December 30, 2003.

CANON INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS

December 31, 2003 and 2002

Millions of yen

2003

2002

690,298
1,324
539,006
444,244
255,905
1,930,777
16,543
78,912
846,433
309,483
¥ 3,182,148

39,136
391,181
83,064
193,657
120,265
827,303
59,260
238,001
30,843
1,11,155,407
161,196

521,271
7,255
498,587
432,251
245,610
1,704,974
20,568
64,037
830,304
322,823
2,942,706

66,754
408,464
80,169
154,621
91,832
801,840
81,349
285,129
26,193
1,194,511
156,245

Thousands of
U.S. dollars (note 2)

2003

$ 6,451,383
12,374
5,037,439
4,151,813
2,391,636
18,044,645
154,607
737,495
7,910,589
2,892,365
$229,739,701

365,757
3,655,897
776,299
1,809,879
1,123,972
7,731,804
553,832
2,224,308
288,252
10,798,196
1,506,505

168,892
396,939
39,998
1,410,442

167,242
394,088
38,803
1,164,445

1,578,430
3,709,710
373,813
13,181,701

(143,275)

(166,467)

(1,339,019)

(7,451)
1,865,545
¥ 3,182,148

(6,161)
1,591,950
2,942,706

(69,635)
17,435,000
$229,739,701

ASSETS
Current assets:

Cash and cash equivalents (note 9)
Marketable securities (note 4)
Trade receivables (note 5)
Inventories (note 6)
Prepaid expenses and other current assets (note 12)

Total current assets

Noncurrent receivables (note 19)
Investments (note 4)
Property, plant and equipment, net (notes 7 and 9)
Other assets (notes 8, 11 and 12)

Total assets

LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:

Short-term loans (note 9)
Trade payables (note 10)
Income taxes (note 12)
Accrued expenses (note 19)
Other current liabilities (note 12)

Total current liabilities

Long-term debt, excluding current installments (note 9)
Accrued pension and severance cost (note 11)
Other noncurrent liabilities (note 12)

Total liabilities

Minority interests
Commitments and contingent liabilities (note 19)
Stockholders’ equity:
Common stock

Authorized 2,000,000,000 shares;
issued 881,338,645 shares in 2003
and 879,136,244 shares in 2002 (notes 9 and 13)

Additional paid-in capital (notes 9 and 13)
Legal reserve (note 14)
Retained earnings (notes 12 and 14)
Accumulated other comprehensive income (loss)

(notes 4, 11, 12, 16 and 18)

Treasury stock, at cost 1,606,513 shares in 2003 and

1,373,557 shares in 2002
Total stockholders’ equity
Total liabilities and stockholders’ equity

See accompanying notes to consolidated financial statements.

CANON INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME

Years ended December 31, 2003, 2002 and 2001

Net sales
Cost of sales
Gross profit

Selling, general and administrative expenses

Operating profit

Other income (deductions):

Interest and dividend income
Interest expense
Other, net

Income before income taxes and minority interests

Income taxes (note 12)

Income before minority interests

Minority interests

Income before cumulative effect of change in

accounting principle

Cumulative effect of change in accounting principle, net of

tax (note 1(q))
Net income

Earnings per share (notes 1(s) and 17):

Basic:

Income before cumulative effect of change

in accounting principle

Cumulative effect of change in accounting principle
Net income

Diluted:

Income before cumulative effect of change

in accounting principle

Cumulative effect of change in accounting principle
Net income

See accompanying notes to consolidated financial statements.

2003
¥ 3,198,072
1,589,172
1,608,900
1,154,476
454,424

Millions of yen

2002
2,940,128
1,540,097
1,400,031
1,053,672
346,359

9,284
(4,627)
(10,911)
(6,254)
448,170

162,653
285,517

9,198
(6,788)
(18,752)
(16,342)
330,017

134,703
195,314

2001
2,907,573
1,626,959
1,280,614
998,775
281,839

9,571
(10,712)
868
(273)
281,566

115,154
166,412

Thousands of
U.S. dollars (note 2)

2003
$ 29,888,523
14,852,075
15,036,448
10,789,495
4,246,953

86,766
(43,243)
(101,971)
(58,448)
4,188,505

1,520,122
2,668,383

9,787

4,577

2,543

91,467

275,730

190,737

163,869

2,576,916

—
275,730

3,692
167,561

—
190,737

Yen

—
2,576,916

U.S. dollars (note 2)

313.81
—
313.81

310.75
—
310.75

217.56
—
217.56

214.80
—
214.80

187.07
4.22
191.29

184.55
4.15
188.70

2.93
—
2.93

2.90
—
2.90

CANON INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

Years ended December 31, 2003, 2002 and 2001

Common stock:

Balance at beginning of year
Conversion of convertible debt (notes 13 and 15)
Balance at end of year
Additional paid-in capital:

Balance at beginning of year
Conversion of convertible debt and other (notes 13 and 15)
Share issued for acquisition of minority interest

(notes 13 and 15)

Capital transactions by consolidated subsidiaries
Balance at end of year

Legal reserve:

Balance at beginning of year
Transfers from retained earnings (note 14)
Other
Balance at end of year

Retained earnings:

Balance at beginning of year
Net income for the year
Cash dividends (note 14)
Transfers to legal reserve (note 14)
Balance at end of year

Accumulated other comprehensive income (loss)

(notes 4, 11, 12, 16 and 18):
Balance at beginning of year
Other comprehensive income (loss) for the year,

net of tax

Balance at end of year

Treasury stock:

Balance at beginning of year
Purchase
Balance at end of year

Total stockholders’ equity

Disclosure of comprehensive income:

Net income for the year
Other comprehensive income (loss) for the year,

net of tax (note 16)

Total comprehensive income for the year

See accompanying notes to consolidated financial statements.

Millions of yen

Thousands of
U.S. dollars (note 2)

2003

2002

2001

2003

167,242
1,650
168,892

394,088
1,649

—
1,202
396,939

38,803
1,195
—
39,998

165,287
1,955
167,242

392,456
1,953

1,052
(1,373)
394,088

38,330
477
(4)
38,803

1,164,445
275,730
(28,538)
(1,195)
1,410,442

997,848
190,737
(23,663)
(477)
1,164,445

164,796
491
165,287

391,939
517

—
—
392,456

35,584
2,746
—
38,330

853,177
167,561
(20,144)
(2,746)
997,848

$ 1,563,009
15,421
1,578,430

3,683,065
15,411

—
11,234
3,709,710

362,645
11,168
—
373,813

10,882,663
2,576,916
(266,710)
(11,168)
13,181,701

(166,467)

(135,168)

(146,582)

(1,555,767)

23,192
(143,275)

(31,299)
(166,467)

11,414
(135,168)

216,748
(1,339,019)

(6,161)
(1,290)
(7,451)
¥ 1,865,545

(277)
(5,884)
(6,161)
1,591,950

—
(277)
(277)
1,458,476

(57,579)
(12,056)
(69,635)
$ 17,435,000

275,730

190,737

167,561

$ 2,576,916

23,192
298,922

(31,299)
159,438

11,414
178,975

216,748
$ 2,793,664

CANON INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS

Years ended December 31, 2003, 2002 and 2001

Net income
Adjustments to reconcile net income to net cash

provided by operating activities:

Depreciation and amortization
Loss on disposal of property, plant and equipment
Gain on securities contributed to retirement benefit trust

(notes 4 and 11)
Deferred income taxes
(Increase) decrease in trade receivables
(Increase) decrease in inventories
Increase (decrease) in trade payables
Increase in income taxes
Increase in accrued expenses
Other, net

Net cash provided by operating activities

Cash flows from investing activities:

Capital expenditure
Proceeds from sale of property, plant and equipment
Payment for purchase of available-for-sale securities
Proceeds from sale of available-for-sale securities
Payment for purchase of other investments
Other

Net cash used in investing activities
Cash flows from financing activities (note 15):

Proceeds from long-term debt
Repayment of long-term debt
Decrease in short-term loans
Dividends paid (note 14)
Payment for purchase of treasury stock
Other

Net cash used in financing activities
Effect of exchange rate changes on cash and

cash equivalents

Net change in cash and cash equivalents
Cash and cash equivalents at beginning of year
Cash and cash equivalents at end of year

Cash paid during the year for:

Interest
Income taxes

See accompanying notes to consolidated financial statements.

2003
¥ 275,730

Millions of yen

2002
190,737

183,604
12,639

—

(3,035))
(36,638))
(15,823)9
1,129
3,441
37,131
7,471
465,649

(210,038))
9,354
(249)
6,544
(24,341)
18,782
(199,948)

4,132
(25,301)
(1(49,224)
(28,538)
(1,071)
(2,037)
(102,039)

5,365
169,027
521,271
¥5690,298

165,260
13,137

—
(1,788)
(47,077)
14,029
64,040
14,935
12,901
22,776
448,950

(198,702)
11,971
(2,751)
1,099
(30,331)
(11,506)
(230,220)

10,609
(60,690)
(101,125)
(23,663)
(5,884)
(2,961)
(183,714)

(19,979)
15,037
506,234
521,271

2001
167,561

152,300
20,323

(15,536)
2,172
47,844
73,858
(161,157)
10,561
2,177
5,649
305,752

(207,674)
10,224
(9,225)
9,473
(2,452)
7,062
(192,592)

7,417
(40,423)
(64,292)
(20,144)
(277)
(3,509)
(121,228)

20,340
12,272
493,962
506,234

Thousands of
U.S. dollars (note 2)

2003
$ 2,576,916

1,715,925
118,122

—
(28,364)
(342,411)
(147,879)
10,551
32,159
347,019
69,822
4,351,860

(1,962,972)
87,420
(2,327)
61,159
(227,486)
175,533
(1,868,673)

38,617
(236,458)
(460,037)
(266,710)
(10,010)
(19,038)
(953,636)

50,140
1,579,691
4,871,692
$ 6,451,383

4,570
162,247

6,890
121,556

10,722
102,421

42,710
1,516,327

CANON INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(1) Basis of Presentation and

Significant Accounting Policies

(a) Description of Business
The Company and subsidiaries (collectively “Canon”) is a high-
technology oriented company which operates globally and has
numerous core businesses. Originally a 35mm camera maker,
Canon is now one of the world’s leading manufacturers in other
fields, such as office imaging products (mainly copying machines
and digital multifunction devices), and computer peripherals
(mainly laser beam and inkjet printers). Canon’s products also
include business information products such as computers,
micrographics and calculators. Canon’s camera business consists
mainly of SLR cameras, compact cameras, digital cameras and
video camcorders. Optical related products include steppers and
aligners used in semiconductor chip production, projection
aligners used in the production of liquid crystal displays (LCDs),
broadcasting lenses and medical equipment. Canon’s sales in the
years ended December 31, 2003, 2002 and 2001 were distributed
as follows: office imaging products 33%, 35% and 34%, computer
peripherals 34%, 36% and 36%, business information products
4%, 5% and 7%, cameras 20%, 16% and 13%, and optical and
other products 9%, 8% and 10%, respectively.

Sales are made principally under the Canon brand name,
almost entirely through sales subsidiaries. These subsidiaries are
responsible for marketing and distribution and primarily sell to
retail dealers in their geographical area. Approximately 73%, 73%
and 70% of consolidated net sales for the years ended December
31, 2003, 2002 and 2001 were generated outside Japan, with
33%, 34% and 34% in the Americas, 30%, 29% and 27% in
Europe, and 10%, 10% and 9% in other areas, respectively.

Canon’s manufacturing operations are conducted primarily at
18 plants in Japan and 14 overseas plants which are located in the
United States, Germany, France, Taiwan, China, Malaysia,
Thailand and Vietnam.

Canon sells laser beam printers on an OEM basis to Hewlett-
Packard Co.; such sales constituted approximately 20%, 21% and
21% of consolidated net sales for the years ended December 31,
2003, 2002 and 2001, respectively.

(b) Basis of Presentation
The Company and its domestic subsidiaries maintain their books of
account in conformity with financial accounting standards of
Japan. Foreign subsidiaries maintain their books of account in
conformity with financial accounting standards of the countries of
their domicile.

The accompanying consolidated financial statements reflect
the adjustments but not recorded in the books of account, which
management believes are necessary to conform them with
accounting principles generally accepted in the United States of
America.

(c) Principles of Consolidation
The consolidated financial statements include the accounts of the
Company and its majority owned subsidiaries after elimination of all
significant intercompany balances and transactions.

In December 2003, the Financial Accounting Standards Board
issued FASB Interpretation No. 46 (revised December 2003) (“FIN
46R”), “Consolidation of Variable Interest Entities”, which
addresses how a business enterprise should evaluate whether it
has a controlling financial interest in an entity through means other
than voting rights and accordingly should consolidate the entity.
FIN 46R replaces FASB Interpretation No. 46, “Consolidation of
Variable Interest Entities”, which was issued in January 2003. For
any variable interest entities (“VIEs”) that must be consolidated
under FIN 46R that were created before January 1, 2004, the
assets, liabilities and noncontrolling interests of the VIE initially
would be measured at their carrying amounts with any difference
between the net amount added to the balance sheet and any
previously recognized interest being recognized as the cumulative
effect of an accounting change. If determining the carrying
amounts is not practicable, fair value at the date FIN 46R first
applies may be used to measure the assets, liabilities and
noncontrolling interest of the VIE. Canon was required to apply FIN
46R to special-purpose entities in consolidated financial
statements as of December 31, 2003, and to other VIEs in
consolidated financial statements as of March 31, 2004. The
adoption of FIN 46R did not have and is not expected to have a
material effect on Canon’s consolidated financial position and
results of operations.

(d) Cash Equivalents
For purposes of the statements of cash flows, Canon considers all
highly-liquid debt instruments purchased with an original maturity
of three months or less to be cash equivalents.

(e) Translation of Foreign Currencies
Foreign currency financial statements have been translated in
accordance with Statement of Financial Accounting Standards No.
52 (“SFAS 52”), “Foreign Currency Translation”. Under SFAS 52,
assets and liabilities of the Company’s subsidiaries located outside
Japan with functional currencies other than Japanese yen are
translated into Japanese yen at the rates of exchange in effect at
the balance sheet date. Gains and losses resulting from translation
of financial statements are excluded from the consolidated
statement of income and are reported in other comprehensive
income (loss). Income and expense items are translated at the
average exchange rates prevailing during the year. Gains and
losses resulting from other foreign currency transactions are
included in other income (deductions).

(f) Marketable Securities and Investments
Canon classifies its debt and equity securities into one of three
categories: trading, available-for-sale, or held-to-maturity securities.
Trading securities are bought and held principally for the purpose of
selling them in the near term. Held-to-maturity securities are those
securities with respect to which Canon has the ability and intent to
hold until maturity. All securities not included in trading or held-to-
maturity are classified as available-for-sale.

Trading and available-for-sale securities are recorded at fair
value. Held-to-maturity securities are recorded at amortized cost,
adjusted for the amortization or accretion of premiums or discounts.
Unrealized holding gains and losses on trading securities are
included in earnings. Unrealized holding gains and losses, net of the
related tax effect, on available-for-sale securities are excluded from
earnings and are reported as a separate component of other
comprehensive income (loss) until realized.

A decline in fair value of any available-for-sale or held-to-
maturity security below the amortized cost basis that is deemed to
be other than temporary results in a write-down of the amortized
cost basis to fair value as a new cost basis and the amount of the
write-down is included in earnings.

On a continuous basis, but no less frequently than at the end of
each quarter period, Canon evaluates the cost basis of an available-
for-sale security for possible impairment. Factors considered in
assessing whether an indication of other than temporary impairment
exists include: the degree of change in ratio of market prices per
share to book value per share at date of evaluation compared to that
at date of acquisition, the financial condition and prospects of each
investee company, industry conditions in which the investee
company operates, the fair value of an available-for-sale security
relative to the cost basis of the investment, the period of time the fair
value of an available-for-sale security has been below the cost basis
of the investment and other relevant factors.

Canon evaluates the cost basis of a held-to-maturity security for

possible impairment by taking into consideration the financial
condition, business prospects and credit worthiness of the issuer.

Impairment to be recognized is measured based on the amount

by which the carrying amount of the investment exceeds the fair
value of the investment. Fair value is determined based on quoted
market prices, projected discounted cash flows or other valuation
techniques as appropriate.

The cost of a security sold or the amount reclassified out of
accumulated other comprehensive income (loss) into earnings was
determined by the specific identification method.

(g) Allowance for Doubtful Receivables
Canon recognizes allowance for doubtful receivables to ensure trade
and financing receivables are not overstated due to uncollectibility.
Allowance for doubtful receivables is maintained for all customers
based on a variety of factors, including the length of time receivables

are past due, macroeconomic conditions, significant one-time events
and historical experience. An additional reserve for individual
accounts is recorded when Canon becomes aware of a customer’s
inability to meet its financial obligations, such as in the case of
bankruptcy filings or deterioration in the customer’s operating results
or financial position. If circumstances related to customers change,
estimates of the recoverability of receivables would be further
adjusted.

(h) Inventories
Inventories are stated at the lower of cost or market value. Cost is
determined principally by the average method for domestic
inventories and the first-in, first-out method for overseas inventories.

(i) Investments in Affiliated Companies
Investments in 20% to 50% owned affiliates in which Canon has the
ability to exercise significant influence over their operating and
financial policies are stated at their underlying equity value.

Canon’s share of the net earnings (loss) of companies carried on

the equity method, included in other income (deductions), and
dividends received from those companies for the years ended
December 31, 2003, 2002 and 2001 are as follows:

Millions of yen

2003

¥ (1,124)
288

2002

(3,521)
664

2001

(1,845)
401

Thousands of
U.S. dollars
2003

$ (10,505)
2,692

Net loss
Dividends received

(j) Impairment of Long-Lived Assets
Canon adopted Statement of Financial Accounting Standards No.
144 (“SFAS 144”), “Accounting for the Impairment or Disposal of
Long-Lived Assets” on January 1, 2002. The adoption of SFAS 144
did not have a material affect on Canon’s consolidated financial
position and results of operations.

In accordance with SFAS 144, long-lived assets, such as
property, plant, and equipment, and purchased intangibles subject
to amortization, are reviewed for impairment whenever events or
changes in circumstances indicate that the carrying amount of an
asset may not be recoverable. Recoverability of assets to be held
and used is measured by a comparison of the carrying amount of an
asset to estimated undiscounted future cash flows expected to be
generated by the asset. If the carrying amount of an asset exceeds
its estimated future cash flows, an impairment charge is recognized
by the amount by which the carrying amount of the asset exceeds
the fair value of the asset. Assets to be disposed of would be
separately presented in the consolidated balance sheet and reported
at the lower of the carrying amount or fair value less costs of selling
such assets, and are no longer depreciated. The assets and liabilities
of a disposed group classified as held for sale would be presented

CANON INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

separately in the appropriate asset and liability sections of the
consolidated balance sheet.

Prior to the adoption of SFAS 144, Canon accounted for long-lived

assets in accordance with Statement of Financial Accounting
Standards No. 121 (“SFAS 121”), “Accounting for Impairment of
Long-Lived Assets and for Long-Lived Assets to be Disposed Of”.

which those temporary differences are expected to be recovered or
settled. Under SFAS 109, the effect on deferred tax assets and
liabilities of a change in tax rates is recognized in income in the period
that includes the enactment date.

Canon records a valuation allowance to reduce the deferred tax

assets to the amount that is more likely than not to be realized.

(k) Property, Plant and Equipment
Property, plant and equipment are stated at cost. Plant and
equipment under capital leases are stated at the present value of
minimum lease payments.

Depreciation is calculated by the declining-balance method,
except for some assets which are depreciated by the straight-line
method, over the estimated useful lives of the assets. The depreciation
period ranges from 3 years to 60 years for buildings and 2 years to 20
years for machinery and equipment.

(l) Goodwill and Other Intangible Assets
Goodwill represents the excess cost over fair value of assets of
businesses acquired. Canon adopted the provisions of Statement of
Financial Accounting Standards No. 142 (“SFAS 142”), “Goodwill and
Other Intangible Assets”, as of January 1, 2002. Pursuant to SFAS
142, goodwill and intangible assets acquired in a purchase business
combination and determined to have an indefinite useful life are not
amortized, but instead tested for impairment at least annually in
accordance with the provisions of SFAS 142. SFAS 142 also requires
that intangible assets with estimable useful lives be amortized over
their respective estimated useful lives to their estimated residual
values, and reviewed for impairment in accordance with SFAS 144.
Prior to the adoption of SFAS 142, goodwill was amortized on a

straight-line basis over the expected periods to be benefited and
assessed for recoverability by determining whether the amortization of
the goodwill balance over its remaining life could be recovered through
undiscounted future operating cash flows of the acquired operation.
All other intangible assets were amortized on a straight-line basis over
the expected periods to be benefited. The amount of goodwill and
other intangible asset impairment, if any, was measured based on
projected discounted future operating cash flows using a discount rate
reflecting Canon’s average cost of funds.

(m) Income Taxes
Canon accounts for income taxes in accordance with Statement of
Financial Accounting Standards No. 109 (“SFAS 109”), “Accounting
for Income Taxes”. Under the asset and liability method of SFAS 109,
deferred tax assets and liabilities are recognized for the estimated
future tax consequences attributable to differences between the
financial statement carrying amounts of existing assets and liabilities
and their respective tax bases and operating loss and tax credit
carryforwards. Deferred tax assets and liabilities are measured using
enacted tax rates expected to apply to taxable income in the years in

(n) Revenue Recognition
Canon generates revenue principally through the sale of consumer
products, equipment, supplies and related services under separate
contractual arrangements for each. Canon recognizes revenue when
persuasive evidence of an arrangement exists, delivery has occurred
and title and risk of loss have been transferred to the customer, the
sales price is fixed or determinable, and collectibility is probable.
Revenue from sales of consumer products including office
imaging products, computer peripherals, business information
products and cameras is recognized when the products are received
by customers based on the free-on-board destination sales term.
Revenue from sales of optical equipment such as steppers and
aligners sold with customer acceptance provisions related to their
functionality is recognized when the equipment is received by the
customer and the specific criteria of the equipment functionality are
successfully tested and demonstrated by Canon to the customer.
Service revenues are derived primarily from maintenance contracts on
our equipment sold to customers and are recognized over the term of
the contracts. A substantial portion of the office imaging products is
sold with service maintenance guarantee contracts for which the
customer typically pays a base service fee plus a variable amount
based on usage. Revenue from service maintenance spot contracts for
time and materials is recognized as the services are provided.
Standard service maintenance fee prices are established depending
on equipment classification and include a cost value for the estimated
services to be performed based on historical experience plus a profit
margin thereon.

Canon enters into arrangements with multiple elements, which
may include any combination of products, equipment, installment and
maintenance. Canon allocates revenue to each element based on its
relative fair value if such element meets the criteria for treatment as a
separate unit of accounting as prescribed in the Emerging Issues Task
Force Issue 00-21(“EITF 00-21”), “Revenue Arrangements with
Multiple Deliverables”: 1) a delivered item has value to customers on a
stand-alone basis, 2) there is objective and reliable evidence of fair
value of an undelivered item, and 3) the delivery of the undelivered
item must be probable and controlled by Canon if the arrangement
includes the right of return. The price charged when the element is
sold separately generally determines fair value. Otherwise, revenue is
deferred until the undelivered elements are fulfilled as a single unit of
accounting.

EITF 00-21 was effective for revenue arrangements entered into

after June 30, 2003. EITF 00-21 did not have a material effect on

our financial position or results of operations.

Canon records estimated reductions to sales at the time of sale for

sales incentive programs including product discounts, customer
promotions and volume-based rebates. Estimated reductions in sales
are based upon historical trends and other known factors at the time
of sale. In addition, Canon provides price protection to reseller
customers, and records reductions to sales for the estimated impact of
price protection when price protections are announced.

A liability for the estimated product warranty related cost is
established at the time revenue is recognized and is included in
accrued expenses. Estimates for accrued product warranty cost are
based on historical experience, and are affected by ongoing product
failure rates, specific product class failures outside of the baseline
experience, material usage and service delivery costs incurred in
correcting a product failure.

(o) Research and Development and Advertising
The costs of research and development and advertising are expensed
as incurred.

(p) Shipping and Handling Costs
Shipping and handling costs totaled ¥40,660 million ($380,000
thousand), ¥39,170 million and ¥33,835 million for the years ended
December 31, 2003, 2002 and 2001, respectively, and are included
in selling, general and administrative expenses in the consolidated
statements of income.

(q) Derivative Financial Instruments
Canon accounts for its derivative and hedging activities pursuant to
Statement of Financial Accounting Standards No. 133 (“SFAS 133”),
“Accounting for Derivative Instruments and Hedging Activities” and
No. 138 (“SFAS 138”), “Accounting for Certain Derivative Instruments
and Certain Hedging Activities, an amendment of FASB Statement
No. 133”. Both standards establish accounting and reporting
standards for derivative instruments and for hedging activities, and
require that an entity recognize all derivatives as either assets or
liabilities in the balance sheet and measure those instruments at fair
value.

All derivatives are recognized on the consolidated balance sheet at

fair value. On the date the derivative contract is entered into, Canon
designates the derivative as either a hedge of the fair value of a
recognized asset or liability or of an unrecognized firm commitment
(“fair value” hedge), a hedge of a forecasted transaction or the
variability of cash flows to be received or paid related to a recognized
asset or liability (“cash flow” hedge), a foreign-currency fair-value or
cash-flow hedge (“foreign currency” hedge), or a hedge of a net
investment in a foreign operation. Canon formally documents all
relationships between hedging instruments and hedged items, as well
as its risk-management objective and strategy for undertaking various
hedge transactions. This process includes linking all derivatives that

are designated as fair-value, cash-flow, or foreign-currency hedges to
specific assets and liabilities on the consolidated balance sheet or to
specific firm commitments or forecasted transactions. Canon also
formally assesses, both at the hedge’s inception and on an ongoing
basis, whether the derivatives that are used in hedging transactions
are highly effective in offsetting changes in fair values or cash flows of
hedged items. When it is determined that a derivative is not highly
effective as a hedge or that it has ceased to be a highly effective
hedge, Canon discontinues hedge accounting prospectively.

Changes in the fair value of a derivative that is highly effective and

that is designated and qualifies as a fair-value hedge, along with the
loss or gain on the hedged asset or liability or unrecognized firm
commitment of the hedged item that is attributable to the hedged risk
are recorded in earnings. Changes in the fair value of a derivative that
is highly effective and that is designated and qualifies as a cash-flow
hedge are recorded in other comprehensive income (loss), until
earnings are affected by the variability in cash flows of the designated
hedged item. Changes in the fair value of derivatives that are highly
effective as hedges and that are designated and qualify as foreign-
currency hedges are recorded in either earnings or other
comprehensive income (loss), depending on whether the hedge
transaction is a fair-value hedge or a cash-flow hedge. However, if a
derivative is used as a hedge of a net investment in a foreign
operation, its changes in fair value, to the extent effective as a hedge,
are recorded in the cumulative translation adjustments account within
other comprehensive income (loss).

Canon discontinues hedge accounting prospectively when it is

determined that the derivative is no longer effective in offsetting
changes in the fair value or cash flows of the hedged item, the
derivative expires or is sold, terminated, or exercised, the derivative is
dedesignated as a hedging instrument, because it is unlikely that a
forecasted transaction will occur, a hedged firm commitment no
longer meets the definition of a firm commitment, or management
determines that designation of the derivative as a hedging instrument
is no longer appropriate.

When hedge accounting is discontinued because it is determined
that the derivative no longer qualifies as an effective fair-value hedge,
Canon continues to carry the derivative on the consolidated balance
sheet at its fair value, and no longer adjusts the hedged asset or
liability for changes in fair value. The adjustment of the carrying
amount of the hedged asset or liability is accounted for in the same
manner as other components of the carrying amount of that asset or
liability. When hedge accounting is discontinued because the hedged
item no longer meets the definition of a firm commitment, Canon
continues to carry the derivative on the consolidated balance sheet at
its fair value, removes any asset or liability that was recorded pursuant
to recognition of the firm commitment from the consolidated balance
sheet and recognizes any gain or loss in earnings. When hedge
accounting is discontinued because it is probable that a forecasted
transaction will not occur, Canon continues to carry the derivative on

CANON INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

the consolidated balance sheet at its fair value, and gains and
losses that were accumulated in other comprehensive income
(loss) are recognized immediately in earnings. In all other
situations in which hedge accounting is discontinued, Canon
continues to carry the derivative at its fair value on the
consolidated balance sheet, and recognizes any changes in its fair
value in earnings.

Canon also uses certain derivative financial instruments which

do not meet the hedging criteria of SFAS 133 and 138. Canon
records these derivative financial instruments on the consolidated
balance sheet at fair value. The changes in fair values are recorded
in earnings immediately.

The cumulative effect adjustment upon the adoption of SFAS

133 and 138 on January 1, 2001 resulted in an increase to net
income of approximately ¥3,692 million and a decrease to other
comprehensive income (loss) of approximately ¥2,401 million,
which are net of the related income tax effect of ¥2,674 million
and ¥1,738 million, respectively.

(r) Issuance of Stock by Subsidiaries
The change in the Company’s proportionate share of subsidiary
equity resulting from issuance of stock by the subsidiaries is
accounted for as an equity transaction.

(s) Earnings per Share
Basic earnings per share have been computed by dividing net
income available to common stockholders by the weighted-average
number of common shares outstanding during each year. Diluted
earnings per share reflect the potential dilution and have been
computed on the basis that all convertible debentures were

converted at beginning of the year or at time of issuance (if later),
and that all dilutive warrants were exercised (less the number of
treasury shares assumed to be purchased from the proceeds using
the average market price of the Company’s common shares).

(t) Use of Estimates
The preparation of the consolidated financial statements requires
management of Canon to make a number of estimates and
assumptions relating to the reported amount of assets and
liabilities and the disclosure of contingent assets and liabilities at
the date of the consolidated financial statements and the reported
amounts of revenues and expenses during the period. Significant
items subject to such estimates and assumptions include valuation
allowances for receivables, inventories and deferred tax assets;
impairment of long-lived assets; environmental liabilities; valuation
of derivative instruments; and assets and obligations related to
employee benefits. Actual results could differ from those estimates.

(u) Environmental Liabilities
Liabilities for environmental remediation and other environmental
costs are accrued when environmental assessments or remedial
efforts are probable and the cost can be reasonably estimated.
Such liabilities are adjusted as further information develops or
circumstances change. Costs of future obligations are not
discounted to their present values.

(v) Reclassification
Certain reclassifications have been made to the prior years’
consolidated financial statements to conform with the presentation
used for the year ended December 31, 2003.

(2) Financial Statement Translation
The consolidated financial statements presented herein are
expressed in yen and, solely for the convenience of the reader, have
been translated into United States dollars at the rate of ¥107 = U.S.
$1, the approximate exchange rate prevailing on the Tokyo Foreign

Exchange Market on December 30, 2003. This translation should
not be construed as a representation that the amounts shown could
be converted into United States dollars at such rate.

(3) Foreign Operations
Amounts included in the consolidated financial statements
relating to subsidiaries operating in foreign countries are

summarized as follows:

Total assets
Net assets
Net sales
Net income

2003
¥ 1,339,854
564,041
2,341,221
74,274

Millions of yen

2002
1,238,800
518,927
2,151,062
58,883

2001
1,074,856
482,986
2,048,993
31,903

Thousands of
U.S. dollars

2003
$ 12,522,000
5,271,411
21,880,570
694,150

(4) Marketable Securities and Investments
Marketable securities and investments include available-for-sale
securities. The cost, gross unrealized holding gains, gross
unrealized holding losses and fair value for such securities by

major security type at December 31, 2003 and 2002 were as
follows:

(Millions of yen)
2003:

Current:

Available-for-sale:

Japanese and foreign governmental bond securities
Corporate debt securities
Bank debt securities
Fund trusts
Equity securities

Noncurrent:

Available-for-sale:

Japanese and foreign governmental bond securities
Corporate debt securities
Fund trusts
Equity securities

(Millions of yen)
2002:

Current:

Available-for-sale:

Japanese and foreign governmental bond securities
Corporate debt securities
Bank debt securities
Fund trusts
Equity securities

Noncurrent:

Available-for-sale:

Japanese and foreign governmental bond securities
Corporate debt securities
Bank debt securities
Fund trusts
Equity securities

Gross
Unrealized
Holding
Gains

Gross
Unrealized
Holding
Losses

—
—
—
12
78
90

—
53
455
15,534
16,042

Gross
Unrealized
Holding
Gains

2
44
—
90
—
136

7
67
—
—
2,628
2,702

4
—
—
—
—
4

5
—
—
204
209

Gross
Unrealized
Holding
Losses

—
14
—
—
129
143

—
43
—
193
880
1,116

Fair Value

61
7
71
63
1,122
1,324

238
5,194
2,502
21,855
29,789

Fair Value

61
5,728
91
310
1,065
7,255

227
5,173
150
2,109
7,011
14,670

Cost

65
7
71
51
1,044
¥ 1,238

243
5,141
2,047
6,525
¥ 13,956

Cost

59
5,698
91
220
1,194
7,262

220
5,149
150
2,302
5,263
¥ 13,084

CANON INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

(Thousands of U.S. dollars)
2003:

Current:

Available-for-sale:

Japanese and foreign governmental bond securities
Corporate debt securities
Bank debt securities
Fund trusts
Equity securities

Noncurrent:

Available-for-sale:

Japanese and foreign governmental bond securities
Corporate debt securities
Fund trusts
Equity securities

Gross
Unrealized
Holding
Gains

Gross
Unrealized
Holding
Losses

—
—
—
112
729
841

37
—
—
—
—
37

Fair Value

570
65
664
589
10,486
12,374

—
495
4,252
145,178
149,925

47
—
—
1,906
1,953

2,224
48,542
23,383
204,253
278,402

Cost

607
65
664
477
9,757
$ 11,570

2,271
48,047
19,131
60,981
$ 130,430

Gross unrealized holding losses on available-for-sale securities

and the fair value of the related securities, aggregated by
investment category and length of time that individual securities

have been in a continuous unrealized loss position, at December
31, 2003, were as follows:

(Millions of yen)
2003:

Current:

Available-for-sale:

Japanese and foreign governmental bond securities

Noncurrent:

Available-for-sale:

Japanese and foreign governmental bond securities
Equity securities

Less than 12 months

12 months or longer

Gross
Unrealized
Holding
Losses

Fair Value

Gross
Unrealized
Holding
Losses

4
4

5
31
36

—
—

—
756
756

—
—

—
173
173

Fair Value

¥ 61
¥ 61

¥ 238
528
¥ 766

(Thousands of U.S. dollars)
2003:

Current:

Available-for-sale:

Japanese and foreign governmental bond securities

Noncurrent:

Available-for-sale:

Japanese and foreign governmental bond securities
Equity securities

Less than 12 months

12 months or longer

Gross
Unrealized
Holding
Losses

37
37

47
289
336

Gross
Unrealized
Holding
Losses

—
—

—
1,617
1,617

Fair Value

—
—

—
7,065
7,065

Fair Value

$
$

570
570

$ 2,224
4,935
$ 7,159

Net unrealized gains on available-for-sale securities, net of
related taxes and minority interests, increased by ¥7,952 million
($74,318 thousand) in the year ended December 31, 2003, and
decreased by ¥1,732 million and ¥13,603 million in the years

ended December 31, 2002 and 2001, respectively.

Maturities of debt securities and fund trust classified as

available-for-sale were as follows at December 31, 2003:

Due within one year
Due after one year through five years
Due after five years

Millions of yen

Cost

194
1,480
5,951
¥ 7,625

Fair Value
202
1,932
6,002
8,136

Thousands of
U.S. dollars

Cost
1,813
13,832
55,617
$ 71,262

Fair Value
1,888
18,056
56,093
76,037

Proceeds from sale of available-for-sale securities were ¥6,544
million ($61,159 thousand), ¥1,099 million and ¥9,473 million in
the years ended December 31, 2003, 2002 and 2001,
respectively.

In June 2001, Canon contributed certain marketable equity

securities, not including those of its subsidiaries and affiliated
companies, to an established employee retirement benefit trust,
with no cash proceeds thereon. The fair value of those securities at
the time of contribution was ¥38,954 million. Upon contribution of
those available-for-sale securities, the net unrealized gains
amounting to ¥15,536 million were realized and were included in

other income (deductions) in the consolidated statements of
income.

Realized gains and losses during the years ended December

31, 2003 and 2002 were insignificant.

At December 31, 2003, investments include investment in
affiliated companies and non-marketable securities amounting to
¥24,806 million ($231,832 thousand) and ¥24,317 million
($227,261 thousand), respectively. At December 31, 2002,
investments include investment in affiliated companies and non-
marketable securities amounting to ¥30,007 million and ¥19,360
million, respectively.

CANON INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

(5) Trade Receivables
Trade receivables are summarized as follows:

Notes
Accounts

Less allowance for doubtful receivables

(6) Inventories
Inventories comprised the following:

Finished goods
Work in process
Raw materials

(7) Property, Plant and Equipment
Property, plant and equipment are stated at cost less
accumulated depreciation and are summarized as follows:

Land
Buildings
Machinery and equipment
Construction in progress

Less accumulated depreciation

Millions of yen
2003
28,880
524,549
553,429
14,423
539,006

2002
26,456
484,162
510,618
12,031
498,587

Thousands of
U.S. dollars

2003
269,907
4,902,327
5,172,234
134,795
$ 5,037,439

Millions of yen
2003
305,414
124,410
14,420
444,244

2002
288,592
127,769
15,890
432,251

Millions of yen
2003
177,953
766,398
990,638
29,627
1,964,616
1,118,183
846,433

2002
167,848
743,473
962,037
34,640
1,907,998
1,077,694
830,304

Thousands of
U.S. dollars

2003
2,854,337
1,162,710
134,766
4,151,813

Thousands of
U.S. dollars

2003
1,663,112
7,162,598
9,258,299
276,888
18,360,897
10,450,308
7,910,589

(8) Goodwill and Other Intangible Assets
The components of acquired intangible assets excluding goodwill
at December 31, 2003 and 2002 were as follows:

(Millions of yen)

Intangible assets subject to amortization:

Software
Other
Total

(Thousands of U.S. dollars)

Intangible assets subject to amortization:

Software
Other
Total

2003

2002

Gross Carrying
Amount

Accumulated
Amortization

Gross Carrying
Amount

Accumulated
Amortization

¥ 115,675
6,188
¥ 121,863

80,534
3,319
83,853

¥ 106,664
3,233
¥ 109,897

74,971
1,106
76,077

2003

Gross Carrying
Amount

Accumulated
Amortization

$1,081,075
57,832
$1,138,907

752,654
31,019
783,673

Intangible assets not subject to amortization at December 31,

2003 and 2002 were insignificant.

Aggregate amortization expense for the years ended
December 31, 2003, 2002 and 2001 was ¥12,438 million
($116,243 thousand), ¥6,288 million and ¥4,046 million,
respectively. Estimated amortization expense for the next five
years ending December 31 is ¥12,184 million ($113,869

thousand) in 2004, ¥9,498 million ($88,766 thousand) in 2005,
¥6,974 million ($65,178 thousand) in 2006, ¥3,890 million
($36,355 thousand) in 2007, and ¥1,969 million ($18,402
thousand) in 2008.

The changes in the carrying amount of goodwill for the years

ended December 31, 2003 and 2002 were as follows:

Balance at beginning of year
Goodwill acquired during the year
Impairment losses
Translation adjustments
Balance at end of year

Millions of yen

2003
¥ 13,640
7,839
—
588
¥ 22,067

2002
13,375
806
(503)
(38)
13,640

Thousands of
U.S. dollars

2003
127,477
73,262
—
5,495
206,234

In the year ended December 31, 2002, under a continuing

negative trend in the business information industries and
semiconductor related market, the majority of goodwill impairment
loss of ¥503 million was recognized from the business information
products and optical and other products reporting units since the

carrying amounts of the reporting units were greater than the fair
value of the reporting units (as determined using the expected
present value of future cash flows) and the carrying amounts of
the reporting units goodwill exceeded the implied fair value of that
goodwill.

CANON INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

Reconciliation of “Income before cumulative effect of change
in accounting principle” and “Earnings per share before cumulative
effect of change in accounting principle” to the amounts adjusted

for the exclusion of goodwill amortization for the years ended
December 31, 2003, 2002 and 2001 are as follows:

Income before cumulative effect of change in

accounting principle:

Reported income before cumulative effect of

change in accounting principle

Add back: goodwill amortization (net of tax)

Adjusted income before cumulative effect of

change in accounting principle

Basic earnings per share before cumulative
effect of change in accounting principle:

Reported income before cumulative effect of

change in accounting principle

Add back: goodwill amortization (net of tax)

Adjusted income before cumulative effect of

change in accounting principle

Diluted earnings per share before cumulative
effect of change in accounting principle:

Reported income before cumulative effect of

change in accounting principle:

Add back: goodwill amortization (net of tax)

Adjusted income before cumulative effect of

change in accounting principle

Millions of yen

Thousands of
U.S. dollars

2003

2002

2001

2003

¥ 275,730
—

190,737
—

163,869
968

$ 2,576,916
—

¥ 275,730

190,737

164,837

$ 2,576,916

Yen

2003

2002

2001

U.S. dollars

2003

313.81
—

217.56
—

187.07
1.11

313.81

217.56

188.18

310.75
—

214.80
—

184.55
1.08

310.75

214.80

185.63

2.93
—

2.93

2.90
—

2.90

(9) Short-term Loans and Long-term Debt
Short-term loans consisted of the following:

Bank borrowings
Long-term debt due within one year

Millions of yen
2003
2,941
36,195
39,136

2002
47,748
19,006
66,754

Thousands of
U.S. dollars

2003
27,486
338,271
365,757

The weighted average interest rates on short-term loans
outstanding at December 31, 2003 and 2002 were 2.10% and
2.58%, respectively.

At December 31, 2003, unused short-term credit facilities for

issuance of commercial paper amounted to ¥53,565 million
($500,607 thousand).

Long-term debt consisted of the following:

Loans, principally from banks, maturing in installments through 2030;
bearing weighted average interest of 2.88% and 2.84% at December 31,
2003 and 2002, respectively, partially secured by mortgage of property,
plant and equipment
2-3/10% Japanese yen notes, due 2003
1-53/100% Japanese yen notes, due 2003
2-23/40% Japanese yen notes, due 2004
2-1/40% Japanese yen notes, due 2004
1-22/25% Japanese yen notes, due 2005
2-19/20% Japanese yen notes, due 2007
2-27/100% Japanese yen notes, due 2008
1-2/10% Japanese yen convertible debentures, due 2005
1-3/10% Japanese yen convertible debentures, due 2008
Capital lease obligations

Less amount due within one year

Millions of yen
2003

2002

Thousands of
U.S. dollars

2003

¥ 27,452
—
—
10,000
10,000
5,000
10,000
10,000
2,577
9,157
11,269
95,455
36,195
¥ 59,260

20,190
5,000
5,000
10,000
10,000
5,000
10,000
10,000
5,149
9,882
10,134
100,355
19,006
81,349

256,561
—
—
93,458
93,458
46,729
93,458
93,458
24,084
85,579
105,318
892,103
338,271
553,832

CANON INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

The aggregate annual maturities of long-term debt

outstanding at December 31, 2003 were as follows

2004
2005
2006
2007
2008
Later years

Millions
of yen
36,195
24,757
2,893
12,100
19,376
134
95,455

Thousands of
U.S. dollars

338,271
231,374
27,038
113,084
181,084
1,252
892,103

Property, plant and equipment with a book value at December

31, 2003 of ¥11,358 million ($106,150 thousand) were
mortgaged to secure loans from banks.

As is customary in Japan, both short-term and long-term bank

loans are made under general agreements which provide that
security and guarantees for present and future indebtedness will
be given upon request of the bank, and that the bank shall have
the right to offset cash deposits against obligations that have
become due or, in the event of default, against all obligations due
to the bank. Long-term agreements with lenders other than banks
also generally provide that Canon must give additional security
upon request of the lender.

(10) Trade Payables
Trade payables are summarized as follows:

Notes
Accounts

The 1-2/10% Japanese yen convertible debentures due 2005

are convertible into approximately 1,721,000 shares of common
stock at a fixed conversion price of ¥1,497.00 ($13.99) per share,
not less than the fair market value of the Company’s common
stock on the date of issuance, at December 31, 2003. The
debentures are redeemable at the option of the Company between
January 1, 2004 and December 31, 2004 at premiums of 1%, and
at par thereafter, or, under particular circumstances, at par.

The 1-3/10% Japanese yen convertible debentures due 2008
are convertible into approximately ¥6,117,000 shares of common
stock at a fixed conversion price of ¥1,497.00 ($13.99) per share,
not less than the fair market value of the Company’s common
stock on the date of issuance, at December 31, 2003. The
debentures are redeemable at the option of the Company between
January 1, 2004 and December 31, 2007 at premiums ranging
from 4% to 1%, and at par thereafter, or, under particular
circumstances, at par.

The decrease of convertible debt due to conversion in the
years ended December 31, 2003, 2002 and 2001 were ¥3,297
million ($30,813 thousand), ¥3,908 million and ¥981 million,
respectively.

Millions of yen

2003
¥ 47,771
343,410
¥ 391,181

2002
62,894
345,570
408,464

Thousands of
U.S. dollars

2003
446,458
3,209,439
$ 3,655,897

(11) Employee Retirement and Severance Benefits
The Company and certain of its subsidiaries have contributory and
noncontributory defined benefit plans covering substantially all
employees after one year of service. Other subsidiaries sponsor
unfunded retirement and severance plans. Benefits payable under
the plans are based on employee earnings and years of service. The
contributory plans mainly represent the Employees’ Pension Fund
plans (“EPFs”), composed of the substitutional portions based on
the pay-related part of the old age pension benefits prescribed by
the Welfare Pension Insurance Law in Japan and the corporate
portions based on contributory defined benefit pension
arrangements established at the discretion of the Company and its
subsidiaries. Management considers that substitutional portions of
the EPFs, which are administered by a board of trustees composed
of management and labor representatives, represent welfare
pension plans carried on behalf of the Japanese government. These
contributory and noncontributory plans are funded in conformity
with the funding requirements of applicable Japanese governmental
regulations.

In January 2003, the Emerging Issues Task Force reached a
final consensus on Issue 03-2 (“EITF 03-2”), “Accounting for the
Transfer to the Japanese Government of the Substitutional Portion
of Employee Pension Fund Liabilities”. EITF 03-2 addresses
accounting for a transfer to the Japanese government of a
substitutional portion of an EPF. EITF 03-2 requires employers to
account for the entire separation process of a substitutional portion
from an entire plan (including a corporate portion) upon completion
of the transfer to the government of the substitutional portion of the
benefit obligation and related plan assets as the culmination of a
series of steps in a single settlement transaction. Under this
approach, the difference between the fair value of the obligation
and the assets required to be transferred to the government should
be accounted for and separately disclosed as a subsidy. In the year
ended December 31, 2003, the government approved applications
submitted by the Company and certain of its domestic subsidiaries
for an exemption from the obligation to pay benefits for future
employee service related to the substitutional portion. On January

Service cost — benefits earned during the year
Interest cost on projected benefit obligation
Expected return on plan assets
Net amortization

Weighted-average assumptions:

Discount rate
Assumed rate of increase in future compensation levels
Expected long-term rate of return on plan assets

30, 2004, management submitted another application for
separation of the remaining substitutional portion (that is, the
benefit obligation related to past services). After Canon’s
applications are approved by the government, the remaining benefit
obligation of the substitutional portion (that amount earned by past
services) as well as the related government-specified portion of the
plan assets of the EPF will be transferred to the government.
Accordingly, there has been no effect on Canon’s consolidated
financial statements for the year ended December 31, 2003. The
aggregate effect of this separation will be determined based on the
Company’s total pension benefits obligation as of the date the
transfer is completed and the amount of plan assets required to be
transferred. Based on the Company’s current estimates as to the
total amount of such pension benefits obligation and the amount of
plan assets required to be transferred, Canon’s management does
not presently expect that this separation will have a significant effect
on Canon’s financial condition or results of operation. However, the
final amount of the impact could be significantly different
depending on any change in the amounts of the pension benefit
obligation or plan assets to be transferred.

In December 2003, the Financial Accounting Standards Board

issued Statement of Financial Accounting Standards No. 132
(revised 2003) (“SFAS 132R”), “Employers’ Disclosures about
Pensions and Other Postretirement Benefits”. SFAS 132R revises
and prescribes employers’ disclosures about pension plans and
other postretirement benefit plans; it does not change the
measurement or recognition of those plans. SFAS 132R retains the
disclosure requirements contained in the original SFAS 132. It also
requires additional disclosures about the assets, obligations, cash
flows, and net periodic benefit cost of defined benefit pension plans
and other postretirement benefit plans. SFAS 132R is generally
effective for fiscal years ending after December 15, 2003.

Net periodic benefit cost included in selling, general and
administrative expenses for Canon’s employee retirement and
severance defined benefit plans for the years ended December 31,
2003, 2002 and 2001 consisted of the following components:

2003
¥ 29,024
20,806
(13,959)
10,636
¥ 46,507

Millions of yen
2002
39,206
19,270
(14,523)
11,841
55,794

2.7%
2.0%
3.6%

2.7%
3.4%
3.5%

2001
36,553
20,341
(13,636)
8,755
52,013

2.7%
3.3%
3.5%

Thousands of
U.S. dollars

2003
$ 271,252
194,449
(130,458)
99,402
$ 434,645

CANON INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

Reconciliations of beginning and ending balances of the
benefit obligations and the fair value of the plan assets are as
follows:

Change in benefit obligations:

Benefit obligations at beginning of year
Service cost
Interest cost
Plan participants’ contributions
Amendments
Actuarial gain
Benefits paid
Other
Benefit obligations at end of year

Change in plan assets:

Fair value of plan assets at beginning of year
Actual return on plan assets
Employer contributions
Plan participants’ contributions
Benefits paid
Other
Fair value of plan assets at end of year

Funded status
Unrecognized actuarial loss
Unrecognized prior service cost
Unrecognized net transition obligation being recognized over 22 years
Net amount recognized
Amounts recognized in the consolidated balance sheets consist of:

Prepaid pension cost
Accrued pension and severance cost
Intangible assets
Accumulated other comprehensive income (loss), gross of tax

Net amount recognized
Pension plans with an accumulated benefit obligation in excess of plan assets:

Projected benefit obligation
Accumulated benefit obligation
Fair value of plan assets

Millions of yen
2003

2002

¥ 766,452
29,024
20,806
2,102
(52,749)
(3,398)
(12,484)
2,637
752,390

421,642
31,008
29,944
2,102
(12,484)
16
472,228
(280,162)
289,991
(99,512)
4,644
¥ (85,039)

2,515
(238,001)
86
150,361
¥ (85,039)

¥ 745,781
697,711
466,970

718,091
39,206
19,270
3,825
—
(1,916)
(13,019)
995
766,452

429,483
(33,813)
33,661
3,825
(13,019)
1,505
421,642
(344,810)
329,240
(52,773)
4,988
(63,355)

2,664
(285,129)
144
218,966
(63,355)

709,881
650,339
369,777

Thousands of
U.S. dollars

2003

$ 7,163,103
271,252
194,449
19,645
(492,981)
(31,757)
(116,673)
24,644
7,031,682

3,940,579
289,794
279,851
19,645
(116,673)
150
4,413,346
(2,618,336)
2,710,196
(930,019)
43,402
(794,757)

23,505
(2,224,308)
804
1,405,242
(794,757)

$ 6,969,916
6,520,664
4,364,206

Information with respect to domestic plans is as follows:

Measurement date
The Company and certain of its domestic subsidiaries use a
October 1 measurement date for the majority of its plans.

Assumptions

Weighted-average assumptions used to determine

benefit obligations at December 31:

Discount rate
Assumed rate of increase in future compensation levels

Weighted-average assumptions used to determine net

periodic benefit cost for the years ended December 31:

Discount rate
Assumed rate of increase in future compensation levels
Expected long-term rate of return on domestic plan assets

Canon determines the expected long-term rate of return based on
the expected long-term return of the various asset categories in
which it invests. Canon considers the current expectations for
future returns and the actual historical returns of each plan asset
category.

Plan assets
Canon’s domestic benefit plan weighted-average asset allocations
at December 31, 2003 and 2002 by asset category are as follows:

Asset Category

Equity securities
Debt securities
Cash
Life insurance company general accounts
Other

2003
2.5%
1.9%

2003
2.5%
3.3%
3.1%

2002
2.5%
3.3%

2002
2.5%
3.3%
3.0%

2001
3.0%
2.1%
4.0%

Obligations
The accumulated benefit obligation for all domestic defined benefit
plans was ¥647,447 million ($6,050,907 thousand) and ¥652,416
million at December 31, 2003 and 2002, respectively.

2003
29.6%
26.8%
21.8%
21.1%
0.7%
100.0%

2002
35.6%
32.8%
6.8%
24.1%
0.7%
100.0%

Canon’s investment policies are designed to ensure adequate plan
assets are available to provide future payments of pension benefits
to eligible participants. Taking into account the expected long-term
rate of return on plan assets, Canon formulates a “model” portfolio
comprised of the optimal combination of equity securities and debt
securities. Plan assets are invested in individual equity and debt
securities using the guidelines of the “model” portfolio in order to
produce a total return that will match the expected return on a
mid-term to long-term basis. Canon evaluates the gap between
expected return and actual return of invested plan assets on an
annual basis to determine if such differences necessitate a revision
in the formulation of the “model” portfolio. Canon revises the

“model” portfolio when and to the extent considered necessary to
achieve the expected long-term rate of return on plan assets.

Equity securities include common stock of the Company and
certain of its domestic subsidiaries in the amounts of ¥796 million
($7,439 thousand) (0.2 percent of total domestic plan assets) and
¥1,477 million (0.4 percent of total domestic plan assets) at
December 31, 2003 and 2002, respectively.

Cash flows
Canon expects to contribute ¥40,044 million ($374,243 thousand)
to its domestic defined benefit plan in the year ending December
31, 2004.

CANON INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

(12) Income Taxes
Total income taxes were allocated as follows:

Income before income taxes and minority interests
Stockholders’ equity — accumulated other comprehensive

income (loss):
Foreign currency translation adjustments
Net unrealized gains and losses on securities
Net losses on derivative instruments
Minimum pension liability adjustments

2003
¥ 162,653

Millions of yen

2002
134,703

(3,469)
4,692
27
39,738
¥ 203,641

2,387
(1,188)
1,513
(10,680)
126,735

2001
115,154

(684)
(11,692)
(1,755)
(26,592)
74,431

Thousands of
U.S. dollars

2003
$ 1,520,122

(32,421)
43,851
252
371,383
$ 1,903,187

Domestic and foreign components of income before income

taxes and minority interests (“Income before income taxes”),
and the current and deferred income tax expense (benefit)

attributable to such income before income taxes are
summarized as follows:

Japanese
¥ 337,093

¥ 132,204
(5,828)
¥ 126,376

¥ 237,677

¥ 109,102
(7,212)
¥ 101,890

¥ 230,456

95,664
(1,738)
93,926

Millions of yen

Foreign
111,077

33,484
2,793
36,277

92,340

27,389
5,424
32,813

51,110

17,318
3,910
21,228

Total
448,170

165,688
(3,035)
162,653

330,017

136,491
(1,788)
134,703

281,566

112,982
2,172
115,154

Thousands of U.S. dollars

Japanese
$ 3,150,402

Foreign
1,038,103

Total
4,188,505

$ 1,235,551
(54,467)
$ 1,181,084

312,935
26,103
339,038

1,548,486
(28,364)
1,520,122

2003: Income before income taxes

Income taxes:
Current
Deferred

2002:

Income before income taxes
Income taxes:
Current
Deferred

2001:

Income before income taxes
Income taxes:
Current
Deferred

2003: Income before income taxes

Income taxes:
Current
Deferred

The Company and certain of its domestic subsidiaries are
subject to a corporate tax of 30%, an inhabitant tax of 9.8% and a
deductible business tax of 6%, which in the aggregate resulted in
a statutory income tax rate of approximately 42%.

Amendments to the Japanese tax regulations were enacted on

March 24, 2003. As a result of these amendments, the statutory
income tax rate was reduced from approximately 42% to 40%
effective from the year beginning January 1, 2005. Consequently,
the statutory tax rate is to be lowered to approximately 40%

applicable for deferred tax assets and liabilities expected to be
settled or realized subsequent to January 1, 2005. The
adjustments of deferred tax assets and liabilities for this change in
the tax rate are ¥3,613 million ($33,766 thousand) and have
been reflected in the consolidated statements of income for the
year ended December 31, 2003.

A reconciliation of the Japanese statutory income tax rate and

the effective income tax rate as a percentage of income before
income taxes is as follows:

Japanese statutory income tax rate
Increase (reduction) in income taxes resulting from:
Expenses not deductible for tax purposes
Tax benefits not recognized on operating losses of subsidiaries
Income of foreign subsidiaries taxed at lower than Japanese normal tax rate
Tax credit for increased research and development expenses
Effect of enacted changes in tax laws and rates on research and development expenses
Effect of enacted changes in tax laws and rates on business taxes
Other
Effective income tax rate

2003
42.0%

0.2
0.1
(2.5)
(1.4)
(2.6)
0.8
(0.3)
36.3%

2002
42.0%

0.5
0.2
(2.5)
(1.6)
—
—
2.2
40.8%

2001
42.0%

1.4
0.9
(2.0)
(2.1)
—
—
0.7
40.9%

Net deferred income tax assets and liabilities are reflected on

the accompanying consolidated balance sheets under the
following captions:

Prepaid expenses and other current assets
Other assets
Other current liabilities
Other noncurrent liabilities

Millions of yen

2003
¥ 44,198
124,706
(2,575)
(19,302)
¥ 147,027

2002
42,386
167,298
(1,213)
(16,120)
192,351

Thousands of
U.S. dollars

2003
$ 413,065
1,165,477
(24,065)
(180,393)
$ 1,374,084

CANON INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

The tax effects of temporary differences that give rise to
significant portions of the deferred tax assets and deferred tax

liabilities at December 31, 2003 and 2002 are presented below:

Deferred tax assets:

Inventories
Accrued business tax
Accrued pension and severance cost
Minimum pension liability adjustments
Research and development — costs capitalized for tax purposes
Property, plant and equipment
Net operating losses carried forward
Other

Total gross deferred tax assets
Less valuation allowance
Net deferred tax assets

Deferred tax liabilities:

Land including deferred gain on sale
Undistributed earnings of foreign subsidiaries
Net unrealized gains on securities
Other

Total gross deferred tax liabilities
Net deferred tax assets

Millions of yen
2003

2002

13,540
8,684
45,149
56,526
20,766
17,074
6,279
35,624
203,642
8,401
195,241

(2,059)
(6,424)
(4,521)
(35,210)
(48,214)
¥ 147,027

12,813
6,794
42,253
97,454
21,215
14,699
6,119
41,137
242,484
9,683
232,801

(2,540)
(10,002)
(400)
(27,508)
(40,450)
192,351

Thousands of
U.S. dollars

2003

126,542
81,159
421,953
528,280
194,075
159,570
58,682
332,935
1,903,196
78,514
1,824,682

(19,243)
(60,037)
(42,252)
(329,066)
(450,598)
$ 1,374,084

The valuation allowance for deferred tax assets as of January

1, 2002 was ¥12,875 million. The net changes in the total
valuation allowance for the years ended December 31, 2003 and
2002 were decreases of ¥1,282 million ($11,981 thousand) and
¥3,192 million, respectively.

Based upon the level of historical taxable income and
projections for future taxable income over the periods which the
net deductible temporary differences are expected to reverse,
management believes it is more likely than not that Canon will

realize the benefits of these deferred tax assets, net of the existing
valuation allowances at December 31, 2003.

At December 31, 2003, Canon had net operating losses
carried forward for income tax purposes of approximately ¥18,679
million ($174,570 thousand) which were available to reduce
future taxable income, if any. Periods available to reduce future
taxable income vary in each tax jurisdiction and range from one
year to an indefinite period as follows:

Within one year
After one year through five years
After five years through ten years
Indefinite period
Total

Millions of yen

Thousands of
U.S. dollars

816
10,566
2,771
4,526
18,679

7,626
98,748
25,897
42,299
174,570

Income taxes have not been accrued on undistributed

earnings of domestic subsidiaries as the tax law provides a means
by which the investment in a domestic subsidiary can be
recovered tax free.

Canon has not recognized deferred tax liabilities of
approximately ¥36,661 million ($342,626 thousand) for the
portion of undistributed earnings of foreign subsidiaries that arose
in the year ended December 31, 2003 and prior years because

Canon currently does not expect those unremitted earnings to
reverse and become taxable to the Company in the foreseeable
future. Deferred tax liabilities will be recognized when Canon
expects that it will recover those undistributed earnings in a
taxable manner, such as through receipt of dividends or sale of
the investments. As of December 31, 2003, such undistributed
earnings of these subsidiaries were approximately ¥420,828
million ($3,932,972 thousand).

(13) Common Stock
During the years ended December 31, 2003, 2002 and 2001, the
Company issued 2,202,401 shares, 2,853,912 shares and
655,309 shares of common stock, respectively. The issuance of
243,360 shares during the year ended December 31, 2002 was
in connection with the acquisition of the outstanding minority
ownership interest of 37% of Canon Components, Inc. The
acquisition of the minority interest was consummated on May 1,
2002, whereby Canon Components Inc. became a wholly-owned

(14) Legal Reserve and Cash Dividends
The Japanese Commercial Code, amended effective on October 1,
2001, provides that an amount equal to at least 10% of
appropriations paid in cash be appropriated as a legal reserve until
an aggregated amount of additional paid-in capital and the legal
reserve equals 25% of common stock. Certain foreign subsidiaries
are also required to appropriate their earnings to legal reserves
under the laws of the respective countries. Canon’s equity in
retained earnings or deficit of affiliated companies of which it owns
20% to 50% accounted for on the equity basis aggregating positive
¥5,887 million ($55,019 thousand) at December 31, 2003 is
included in retained earnings.

Cash dividends and appropriations to the legal reserve charged

to retained earnings during the years ended December 31, 2003,
2002 and 2001 represent dividends paid out during those years
and the related appropriations to the legal reserve. Provision has
not been made in the accompanying consolidated financial
statements for the dividend for the second half year of ¥35 ($0.33)
per share, aggregating ¥30,791 million ($287,766 thousand),

(15) Noncash Financing Activities
In the years ended December 31, 2003, 2002 and 2001, common
stock and additional paid-in capital arising from conversion of
convertible debt amounted to ¥3,297 million ($30,813 thousand),
¥3,908 million and ¥981 million, respectively.

As a result of the acquisition of the outstanding minority
ownership interest of Canon Components Inc. and the issuance of
common stock in connection with the acquisition during the year

subsidiary of the Company. The remaining issuance of the shares
of the Company was in connection with conversion of convertible
debt. Conversion into common stock of convertible debt issued
subsequent to October 1, 1982 has been accounted for by
crediting one-half of the conversion price and exercise price to
each of the common stock account and the additional paid-in
capital account.

proposed subsequent to December 31, 2003 by the Board of
Directors in respect of the year ended December 31, 2003.
The amount available for dividends under the Japanese

Commercial Code is based on the amount recorded in the
Company’s nonconsolidated books of account in accordance with
financial accounting standards of Japan. The adjustments,
included in the accompanying consolidated financial statements in
order to conform them to accounting principles generally accepted
in the United States of America, but not recorded in the books of
account, have no effect on the determination of retained earnings
available for dividends under the Japanese Commercial Code. The
amount available for dividends in the Company’s nonconsolidated
books of account under the Japanese Commercial Code amounted
to ¥944,769 million ($8,829,617 thousand) at December 31,
2003.

ended December 31, 2002, goodwill classified as other assets and
additional paid-in capital increased by ¥795 million and ¥1,052
million, respectively, and minority interests decreased by ¥257
million.

CANON INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

(16) Other Comprehensive Income (Loss)
Change in accumulated other comprehensive income (loss) is as
follows:

Millions of yen

Thousands of
U.S. dollars

2003

2002

2001

2003

Foreign currency translation adjustments:

Balance at beginning of year
Adjustments for the year
Balance at end of year

Net unrealized gains and losses on securities:

Balance at beginning of year
Adjustments for the year
Balance at end of year

Net losses on derivative instruments:

Balance at beginning of year
Adjustments for the year
Balance at end of year

Minimum pension liability adjustments:

Balance at beginning of year
Adjustments for the year
Balance at end of year

Total accumulated other comprehensive income (loss):

Balance at beginning of year
Adjustments for the year
Balance at end of year

(68,524)
(15,277)
(83,801)

(1,168)
7,952
6,784

(334)
37
(297)

(96,441)
30,480
(65,961)

(166,467)
23,192
¥ (143,275)

(52,660)
(15,864)
(68,524)

564
(1,732)
(1,168)

(2,423)
2,089
(334)

(80,649)
(15,792)
(96,441)

(135,168)
(31,299)
(166,467)

(104,149)
51,489
(52,660)

(640,411)
(142,776)
(783,187)

14,167
(13,603)
564

—
(2,423)
(2,423)

(56,600)
(24,049)
(80,649)

(10,916)
74,318
63,402

(3,122)
346
(2,776)

(901,318)
284,860
(616,458)

(146,582)
11,414
(135,168)

(1,555,767)
216,748
$ (1,339,019)

Tax effects allocated to each component of other

comprehensive income (loss) and reclassification adjustments
are as follows:

2003:

Foreign currency translation adjustments:

Amount arising during the year
Reclassification adjustments for gains and losses realized in net income
Net change during the year

Net unrealized gains and losses on securities:

Amount arising during the year
Reclassification adjustments for gains and losses realized in net income
Net change during the year

Net losses on derivative instruments:
Amount arising during the year
Reclassification adjustments for gains and losses realized in net income
Net change during the year

Minimum pension liability adjustments
Other comprehensive income (loss)

2002:

Foreign currency translation adjustments:

Amount arising during the year
Reclassification adjustments for gains and losses realized in net income
Net change during the year

Net unrealized gains and losses on securities:

Amount arising during the year
Reclassification adjustments for gains and losses realized in net income
Net change during the year

Net losses on derivative instruments:
Amount arising during the year
Reclassification adjustments for gains and losses realized in net income
Net change during the year

Minimum pension liability adjustments
Other comprehensive income (loss)

Millions of yen

Before-tax
amount

Tax (expense)
or benefit

Net-of-tax
amount

¥ (19,115)
369
(18,746)

12,129
515
12,644

(726)
790
64
70,218
¥ 64,180

¥ (13,521)
44
(13,477)

(2,331)
(589)
(2,920)

(1,052)
4,654
3,602
(26,472)
¥ (39,267)

3,469
—
3,469

(4,477)
(215)
(4,692)

305
(332)
(27)
(39,738)
(40,988)

(2,908)
521
(2,387)

872
316
1,188

442
(1,955)
(1,513)
10,680
7,968

(15,646)
369
(15,277)

7,652
300
7,952

(421)
458
37
30,480
23,192

(16,429)
565
(15,864)

(1,459)
(273)
(1,732)

(610)
2,699
2,089
(15,792)
(31,299)

CANON INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

2001:

Foreign currency translation adjustments:

Amount arising during the year
Reclassification adjustments for gains and losses realized in net income
Net change during the year

Net unrealized gains and losses on securities:

Amount arising during the year
Reclassification adjustments for gains and losses realized in net income
Net change during the year

Net losses on derivative instruments:
Amount arising during the year
Reclassification adjustments for gains and losses realized in net income
Net change during the year

Minimum pension liability adjustments
Other comprehensive income (loss)

2003:

Foreign currency translation adjustments:

Amount arising during the year
Reclassification adjustments for gains and losses realized in net income
Net change during the year

Net unrealized gains and losses on securities:

Amount arising during the year
Reclassification adjustments for gains and losses realized in net income
Net change during the year

Net losses on derivative instruments:
Amount arising during the year
Reclassification adjustments for gains and losses realized in net income
Net change during the year

Minimum pension liability adjustments
Other comprehensive income (loss)

Millions of yen

Before-tax
amount

Tax (expense)
or benefit

Net-of-tax
amount

50,823
(18)
50,805

(8,434)
(16,861)
(25,295)

(11,146)
6,968
(4,178)
(50,641)
¥ (29,309)

684
—
684

4,535
7,157
11,692

4,681
(2,926)
1,755
26,592
40,723

51,507
(18)
51,489

(3,899)
(9,704)
(13,603)

(6,465)
4,042
(2,423)
(24,049)
11,414

Thousands of U.S. dollars

Before-tax
amount

Tax (expense)
or benefit

Net-of-tax
amount

$ (178,645)
3,448
(175,197)

113,356
4,813
118,169

(6,785)
7,383
598
656,243
$ 599,813

32,421
—
32,421

(41,842)
(2,009)
(43,851)

2,851
(3,103)
(252)
(371,383)
(383,065)

(146,224)
3,448
(142,776)

71,514
2,804
74,318

(3,934)
4,280
346
284,860
216,748

(17) Earnings per Share
A reconciliation of the numerators and denominators of basic
and diluted earnings per share for “Income before cumulative

effect of change in accounting principle” computations is as
follows:

Millions of yen

Thousands of
U.S. dollars

2003

2002

2001

2003

Income before cumulative effect of change

in accounting principle
Effect of dilutive securities:

1% Japanese yen convertible debentures,

due 2002

1-2/10% Japanese yen convertible

debentures, due 2005

1-3/10% Japanese yen convertible

debentures, due 2008

Diluted income before cumulative effect of

change in accounting principle

Average common shares outstanding
Effect of dilutive securities:

1% Japanese yen convertible debentures,

due 2002

1-2/10% Japanese yen convertible

debentures, due 2005

1-3/10% Japanese yen convertible

debentures, due 2008

Diluted common shares outstanding

Earnings per share before cumulative effect of

change in accounting principle:

Basic
Diluted

275,730

190,737

163,869

$ 2,576,916

—

336

804

275,852

190,902

164,048

$ 2,578,056

Number of shares

878,648,844

876,716,443

875,960,380

—

1,952,315

2,859,462

2,664,354

3,446,071

3,461,229

6,382,560
887,695,758

6,624,428
888,739,257

6,646,369
888,927,440

Yen

U.S. dollars

313.81
310.75

217.56
214.80

187.07
184.55

2.93
2.90

The computation of diluted net income per share for the year
ended December 31, 2001 uses diluted net income and diluted
common shares outstanding. For the computation of the diluted
net income, the same effect of dilutive securities used for the
computation of diluted income before cumulative effect of change

in accounting principle is reflected. The diluted common shares
outstanding is the same as used in the computation of the diluted
earnings per share before cumulative effect of change in
accounting principle.

CANON INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

(18) Derivatives and Hedging Activities
Risk management policy
Canon operates internationally, exposing it to the risk of changes in
foreign exchange rates and interest rates. Derivative financial
instruments are comprised principally of foreign exchange contracts
and interest rate swaps utilized by the Company and certain of its
subsidiaries to reduce these risks. Canon assesses foreign currency
exchange rate risk and interest rate risk by continually monitoring
changes in these exposures and by evaluating hedging opportunities.
Canon does not hold or issue derivative financial instruments for
trading purposes. Canon is also exposed to credit-related losses in the
event of non-performance by counterparties to derivative financial
instruments, but it is not expected that any counterparties will fail to
meet their obligations, because most of the counterparties are
internationally recognized financial institutions and contracts are
diversified across a number of major financial institutions.

Foreign currency exchange rate risk management
The major manufacturing bases of Canon are located in Japan and
Asia. The sales generated from overseas are mainly denominated in
U.S. dollar or euro. Therefore, Canon’s international operations
expose Canon to the risk of changes in foreign currency exchange
rates. Canon uses foreign exchange contracts to manage certain
foreign currency exchange exposures principally from the exchange
of U.S. dollar and euro into Japanese yen. These contracts are
primarily used to hedge the foreign currency exposure of forecasted
intercompany sales which are denominated in foreign currencies.
In accordance with Canon’s policy, a specific portion of foreign
currency exposure resulting from forecasted intercompany sales are
hedged using foreign exchange contracts which principally mature
within three months.

Interest rate risk management
Canon’s exposure to the market risk of changes in interest rates
relates primarily to its debt obligations. The fixed-rate debt
obligations expose Canon to variability in their fair values due to
changes in interest rates. To manage the variability in fair values
caused by interest rate changes, Canon enters into interest rate
swaps when it is determined to be appropriate based on market
conditions. The interest rate swaps change the fixed-rate debt
obligations to variable-rate debt obligations by entering into receive-
fixed, pay-variable interest rate swaps. The hedging relationship
between the interest rate swaps and its hedged debt obligations is
highly effective in achieving offsetting changes in fair values
resulting from interest rate risk.

Fair value hedge
Derivative financial instruments designated as fair value hedges
principally relate to interest rate swaps associated with fixed rate
debt obligations. Changes in fair values of the hedged debt

obligations and derivative instruments designated as fair value
hedges of these debt obligations are recognized in other income
(deductions). There is no hedging ineffectiveness or net gains or
losses excluded from the assessment of hedge effectiveness for the
years ended December 31, 2003 and 2002 as the critical terms of
the interest rate swaps match the terms of the hedged debt
obligations.

Cash flow hedge
Changes in the fair value of derivative financial instruments
designated and qualifying as cash flow hedges, including foreign
exchange contracts associated with forecasted intercompany sales
and interest rate swaps associated with variable rate debt obligation,
are reported in accumulated other comprehensive income (loss).
These amounts are subsequently reclassified into earnings through
other income (deductions) in the same period as the hedged items
affect earnings. Substantially all accumulated other comprehensive
income (loss) at year end is expected to be recognized in earnings
over the next twelve months. Canon excludes the time value
component of the hedging instruments from the assessment of
hedge effectiveness.

The effective portions of changes in the fair value of foreign
exchange contracts designated as cash flow hedges and reported in
accumulated other comprehensive income (loss), net of the related
tax effect, are losses of ¥445 million ($4,158 thousand), ¥610
million and ¥6,465 million for the years ended December 31, 2003,
2002 and 2001. The amounts which were reclassified out of
accumulated other comprehensive income (loss) into other income
(deductions), net of the related tax effect, are net losses of ¥674
million ($6,299 thousand), ¥2,699 million and ¥4,042 million for
the years ended December 31, 2003, 2002 and 2001. The amounts
of the hedging ineffectiveness is not material for the years ended
December 31, 2003, 2002 and 2001. The sum of the amount of net
gains or losses excluded from the assessment of hedge
effectiveness which are also recorded in other income (deductions),
net of the related tax effect, are net gains of ¥490 million ($4,579
thousand), ¥668 million and ¥1,907 million for the years ended
December 31, 2003, 2002 and 2001.

Canon has entered into certain foreign exchange contracts
which do not meet the hedging criteria of SFAS 133 and 138. Canon
records these foreign exchange contracts on the balance sheet at fair
value. The changes in fair values are recorded in earnings
immediately. The notional amounts of those foreign exchange
contracts were ¥408,540 million ($3,818,131 thousand) and
¥362,276 million at December 31, 2003 and 2002.

The effective portions of changes in the fair value of interest rate

swap contracts designated as cash flow hedges and reported in
accumulated other comprehensive income (loss), net of the related
tax effect, is a gain of ¥24 million ($224 thousand) for the year ended
December 31, 2003. The amount which was reclassified out of

accumulated other comprehensive income (loss) into other income
(deductions), net of the related tax effect, is a net gain of ¥216 million
($2,019 thousand) for the year ended December 31, 2003. The
amounts of the hedging ineffectiveness is not material for the year
ended December 31, 2003. The sum of the amount of net gains or
losses excluded from the assessment of hedge effectiveness which
are also recorded in other income (deductions), net of the related tax
effect, is not material for the year ended December 31, 2003.

Canon has entered into certain interest rate swap agreements
which do not meet the hedging criteria of SFAS 133 and 138. Canon
records these interest rate swap agreements on the balance sheet at

fair value. The changes in fair values are recorded in earnings
immediately. The notional amount of those interest rate swap
agreements was ¥57,270 million at December 31, 2002. Canon
recognized net losses related to those interest rate swaps in the
amount of ¥94 million ($879 thousand), ¥1,738 million and ¥2,521
million for the years ended December 31, 2003, 2002 and 2001,
respectively, and classified such amount in other income
(deductions).

Contract amounts of foreign exchange contracts and interest rate

swaps at December 31, 2003 and 2002 are set forth below:

2003:

To sell foreign currencies
To buy foreign currencies
Receive-fixed interest rate swaps
Pay-fixed interest rate swaps

2002:

To sell foreign currencies
To buy foreign currencies
Receive-fixed interest rate swaps
Pay-fixed interest rate swaps

2003:

To sell foreign currencies
To buy foreign currencies
Receive-fixed interest rate swaps
Pay-fixed interest rate swaps

U.S.$

euro

Others

Total

Millions of yen

¥ 232,013
11,151
—
—

¥ 262,408
3,586
—
56,019

191,537
3,261
1,337
21,227

138,631
2,307
—
1,251

23,993
7,972
—
—

21,757
759
180
—

U.S.$

Thousands of U.S. dollars
euro

Others

447,543
22,384
1,337
21,227

422,796
6,652
180
57,270

Total

$ 2,168,346
104,215
—
—

1,790,065
30,476
12,495
198,383

224,234
74,505
—
—

4,182,645
209,196
12,495
198,383

(19) Commitments and Contingent Liabilities
In November 2002, the Financial Accounting Standards Board
issued FASB Interpretation No. 45 (“FIN 45”), “Guarantor’s
Accounting and Disclosure Requirements for Guarantees,
Including Indirect Guarantees of Indebtedness of Others, as
interpretation of FASB Statements No. 5, 57, and 107 and
rescission of FASB Interpretation No. 34”. FIN 45 requires that a
liability be recorded in the guarantor’s balance sheet upon
issuance of a guarantee. The initial recognition and measurement
provisions of FIN 45 were applicable to guarantees issued or
modified after December 31, 2002.

Canon provides guarantees to third parties of bank loans of its
employees, affiliates and other companies. The guarantees for the
employees are principally made for their housing loans. The
guarantees of loans of its affiliates and other companies are made
to ensure that those companies operate with less risk of finance.

For each guarantee provided, Canon would have to perform under
a guarantee, if the borrower defaults on a payment within the
contract periods of 1 year to 30 years, in the case of employees with
housing loans, and of 1 year to 10 years, in the case of affiliates and
other companies. The maximum amount of undiscounted
payments Canon would have had to make in the event of default is
¥58,299 million ($544,850 thousand) at December 31, 2003. The
carrying amounts of the liabilities recognized for Canon’s obligations
as a guarantor under those guarantees at December 31, 2003 were
insignificant. Certain of those guarantees secured by guarantees
issued to Canon by other parties amounted to ¥950 million ($8,879
thousand) at December 31, 2003.

Canon Inc. and its consolidated subsidiaries provide guarantees

to third parties of certain obligations of their consolidated
subsidiaries. At December 31, 2003, these guarantees amounted to

CANON INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

Canon also issues contractual product warranties under
which it generally guarantees the performance of products
delivered and services rendered for a certain period or term.
Changes in accrued product warranty cost for the year ended
December 31, 2003 and 2002 are summarized as follows:

Balance at beginning of year
Addition
Utilization
Other
Balance at end of year

Millions of yen
2003
¥ 7,516
10,919
(7,834)
(89)
¥10,512

2002
7,038
8,351
(7,763)
(110)
7,516

Thousands of
U.S. dollars
2003
$ 70,243
102,047
(73,215)
(832)
$ 98,243

¥55,730 million ($520,842 thousand). To a lesser extent,
consolidated subsidiaries provide guarantees to third parties of
obligations of other consolidated subsidiaries. All intercompany
guarantees are eliminated in consolidation and therefore are not
reflected in the above figure.

At December 31, 2003, commitments outstanding for the
purchase of property, plant and equipment approximated ¥54,947
million ($513,523 thousand).

Canon occupies sales offices and other facilities under lease
arrangements accounted for as operating leases. Deposits made
under such arrangements aggregated ¥15,092 million ($141,047
thousand) and ¥18,133 million at December 31, 2003 and 2002,
respectively, and are reflected in noncurrent receivables on the
accompanying consolidated balance sheets.

Canon is involved in various other claims and legal actions

arising in the ordinary course of business. In the opinion of
management, the ultimate disposition of these matters will not have
a material adverse effect on Canon’s consolidated financial position,
results of operations, or cash flows.

Future minimum lease payments required under capital and
noncancellable operating leases that have initial or remaining lease
terms in excess of one year as of December 31, 2003 are as follows:

Year ending December 31:

Millions of yen

Capital
Leases
¥ 5,200
3,986
1,244
561
204
72

Operating
Leases
11,769
8,591
6,713
5,129
3,926
7,302

Thousands of U.S.dollars
Operating
Capital
Leases
Leases
109,991
$ 48,598
80,290
37,252
62,738
11,626
47,934
5,243
36,692
1,907
68,243
673

¥11,267

43,430

$105,299

405,888

2004
2005
2006
2007
2008
Later years
Total future minimum
lease payments

(20) Disclosures about the Fair Value of Financial

Instruments

Cash and cash equivalents, Trade receivables, Short-term loans,
Trade payables, Accrued expenses
The carrying amount approximates fair value because of the short
maturity of these instruments.

discounted using estimated market discount rates. Their carrying
amounts at December 31, 2003 and 2002 totaled ¥16,543 million
($154,607 thousand) and ¥20,568 million, respectively, which
approximate fair values because of their short duration.

Marketable securities and Investments
The fair values of Canon’s marketable securities and investments
are based on quoted market prices.

Noncurrent receivables
The fair values of Canon’s noncurrent receivables are based on the
present value of future cash flows through estimated maturity,

Long-term debt
The fair values of Canon’s long-term debt instruments are based
on the quoted price in the most active market or the present value
of future cash flows associated with each instrument discounted
using Canon’s current borrowing rate for similar debt instruments
of comparable maturity.

Derivative financial instruments
The fair values of derivative financial instruments, consisting
principally of foreign exchange contracts and interest rate swaps,
all of which are used for purposes other than trading, are
estimated by obtaining quotes from brokers.

The estimated fair values of Canon’s financial instruments at

December 31, 2003 and 2002 are summarized as follows:

Nonderivatives:

Assets:

Marketable securities and

Investments

Liabilities:

Millions of yen

2003

2002

Thousands of
U.S. dollars
2003

Carrying
Amount

Estimated
Fair Value

Carrying
Amount

Estimated
Fair Value

Carrying
Amount

Estimated
Fair Value

55,430

41,285

518,037

Long-term debt, including current installments

(95,455)

(123,700)

(100,355)

(132,574)

(892,103)

(1,156,075)

Derivatives relating to:

Forecasted intercompany
sales transactions:

Assets
Liabilities
Trade receivables:
Assets
Liabilities
Long-term debt,

including current installments:

Interest rate swaps:
Assets
Liabilities

347
(1,093)

3,413
(6,604)

347
(1,093)

3,413
(6,604)

808
(622)

3,851
(2,938)

3,243
(10,215)

31,897
(61,720)

3,243
(10,215)

31,897
(61,720)

—
(55)

1
(1,149)

—
(514)

Limitations
Fair value estimates are made at a specific point in time, based on
relevant market information and information about the financial
instruments. These estimates are subjective in nature and involve

uncertainties and matters of significant judgment and therefore
cannot be determined with precision. Changes in assumptions
could significantly affect the estimates.

(21) Supplementary Expense Information

Research and development
Depreciation of property, plant and equipment
Rent
Advertising
Exchange losses

2003
¥ 259,140
168,636
42,131
100,278
20,311

Millions of yen
2002
233,669
158,469
44,195
71,725
23,468

2001
218,616
147,286
47,558
66,837
14,801

Thousands of
U.S. dollars

2003
$ 2,421,869
1,576,037
393,748
937,178
189,822

INDEPENDENT AUDITORS’ REPORT

The Board of Directors and Stockholders
Canon Inc.:

We have audited the accompanying consolidated balance sheets (expressed in yen) of Canon Inc. and subsidiaries as of
December 31, 2003 and 2002, and the related consolidated statements of income, stockholders’ equity and cash flows
for each of the years in the three-year period ended December 31, 2003. These consolidated financial statements are the
responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial
statements based on our audits.

We conducted our audits in accordance with auditing standards generally accepted in the United States of America.
Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the
amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe
that our audits provide a reasonable basis for our opinion.

The Company’s consolidated financial statements do not disclose certain information required by Statement of Financial
Accounting Standards No. 131, “Disclosures about Segments of an Enterprise and Related Information”. In our opinion,
disclosure of this information is required by accounting principles generally accepted in the United States of America.

In our opinion, except for the omission of the segment information as discussed in the preceding paragraph, the
consolidated financial statements referred to above present fairly, in all material respects, the financial position of Canon
Inc. and subsidiaries at December 31, 2003 and 2002, and the results of their operations and their cash flows for each of
the years in the three-year period ended December 31, 2003, in conformity with accounting principles generally accepted
in the United States of America.

The accompanying consolidated financial statements have been translated into United States dollars solely for the
convenience of the reader. We have recomputed the translation and, in our opinion, the consolidated financial statements
expressed in yen have been translated into United States dollars on the basis set forth in note 2 of the notes to
consolidated financial statements.

Tokyo, Japan
January 28, 2004

MAJOR CONSOLIDATED SUBSIDIARIES
(As of December 31, 2003)

MANUFACTURING
Canon Electronics Inc.
Canon Finetech Inc.
Nisca Corporation
Canon N.T.C., Inc.
Canon Chemicals Inc.
Canon Components, Inc.
Canon Precision Inc.
Oita Canon Inc.
Nagahama Canon Inc.
Oita Canon Materials Inc.
Ueno Canon Materials Inc.
Fukushima Canon Inc.
Optron, Inc.
Canon Virginia, Inc.
Custom Integrated Technology, Inc.
Industrial Resource Technologies, Inc.
Canon Giessen GmbH
Canon Bretagne S.A.S.
Canon Inc., Taiwan
Canon Dalian Business Machines, Inc.
Canon Zhuhai, Inc.
Canon Zhongshan Business Machines Co., Ltd.
Guang-Dong United Optical Instrument Co., Ltd.
Tianjin Canon Co., Ltd.
Canon (Suzhou) Inc.
Canon Opto (Malaysia) Sdn. Bhd.
Canon Hi-Tech (Thailand) Ltd.
Canon Engineering (Thailand) Ltd.
Canon Vietnam Co., Ltd.
Canon Electronic Business Machines (H.K.) Co., Ltd.
Canon Engineering Singapore Pte. Ltd.
Canon Engineering Hong Kong Co., Ltd.

RESEARCH & DEVELOPMENT
Canon Development Americas, Inc.
Canon Research Centre Europe Ltd.
Canon Research Centre France S.A.S.
Canon Information Systems Research Australia Pty. Ltd.
Beijing PeCan Information System Co., Ltd.

MARKETING & OTHER
Canon Sales Co., Inc.
Canon System and Support Inc.
Canon System Solutions Inc.
Canon Software Inc.
Canon U.S.A., Inc.
Canon Canada, Inc.
Canon Mexicana, S. de R.L. de C.V.
Canon Latin America, Inc.
Canon do Brasil Indústria e Comércio Limitada
Canon Chile, S.A.
Canon Panama, S.A.
Canon Argentina, S.A.
Canon Business Solutions-Central, Inc.
Canon Business Solutions-West, Inc.
Canon Business Solutions-East, Inc.
Canon Financial Services, Inc.
Canon Information Technology Services, Inc.
Canon Europa N.V.
Canon Europe Ltd.
Canon (UK) Ltd.
Canon Deutschland GmbH
Canon France S.A.
Canon Italia S.p.A.
Canon España S.A.
Canon Nederland N.V.
Canon Danmark A/S
Canon Belgium N.V./S.A.
Canon (Schweiz) AG
Canon Gesellschaft m.b.H.
Canon Svenska AB
Canon Oy
Canon North-East Oy
Canon Norge A.S.
Canon CEE GmbH
Canon Middle East FZ-LIC
Canon South Africa Pty. Ltd.
Canon Australia Pty. Ltd.
Canon New Zealand Ltd.
Canon Finance Australia Ltd.
Canon Finance New Zealand Ltd.
Canon (China) Co., Ltd.
Canon Singapore Pte. Ltd.
Canon Hongkong Co., Ltd.
Canon Marketing (Singapore) Pte. Ltd.
Canon Marketing (Malaysia) Sdn. Bhd.
Canon Marketing (Philippines), Inc.
Canon Marketing (Thailand) Co., Ltd.
Canon Semiconductor Engineering Korea Inc.
Canon Semiconductor Equipment Taiwan Inc.

TRANSFER OFFICE AND REGISTRARS

SHAREHOLDERS’ INFORMATION

Canon Inc.

30-2, Shimomaruko 3-chome, Ohta-ku, Tokyo 146-8501, Japan

Stock exchange listings:
Tokyo, Osaka, Nagoya, Fukuoka, Sapporo, New York and
Frankfurt stock exchanges

Transfer Office for Common Stock in Japan
Mizuho Trust & Banking Co., Ltd.

2-1, Yaesu 1-chome, Chuo-ku, Tokyo 103-8670, Japan

Depositary and Agent with Respect to American Depositary

Receipts for Common Shares

JPMorgan Chase Bank

1 Chase Manhattan Plaza, New York, N.Y. 10081, U.S.A.

Depositaries and Agents with Respect to Global Bearer

Certificates for Common Shares

Deutsche Börse Clearing AG Börsenplatz 7-11

60313 Frankfurt am Main, Germany

Deutsche Bank AG, U+I/Emissionsfolgegeschäfte, Taunusanlage12,

60325 Frankfurt am Main, Germany

American Depositary Receipts (ADRs) are traded on the New York
Stock Exchange.

Shareholders’ annual general meeting:
March 30, 2004, in Tokyo

Other information:
For publications or information, please contact the Corporate
Communications Center, Canon Inc., Tokyo, or access
Canon’s Website at
www.canon.com

This publication was printed on 70% recycled paper by an
ISO 14001-accredited printer. The inks used, containing
neither VOCs (volatile organic compounds) nor mineral oils,
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CANON INC. 30-2, Shimomaruko 3-chome, Ohta-ku, Tokyo 146-8501, Japan