Kao Corp. Annual Report 2015

Plain-text annual report

The Kao Way The Kao Way explains the essence of Kao’s unique corporate culture and spirit, which have been developed through our business activities since the founding of the company. Our mission is to strive for the wholehearted satisfaction and enrichment of the lives of people globally and to contribute to the sustainability of the world, with products and brands of excellent value that are created from the consumer’s and customer’s perspective. This commitment is embraced by all members of the Kao Group as we work together with passion to share joy with consumers and customers in our core domains of cleanliness, beauty, health and chemicals. * We deﬁ ne Yoki-Monozukuri as “a strong commitment by all members to provide products and brands of excellent value for consumer satisfaction.” This core concept distinguishes Kao from all others. ** Genba literally means “actual spot.” At Kao, Genba-ism deﬁ nes the importance of observing things “on-site,” in the actual location and environment, both internally and externally, in order to maximize our understanding of the business and optimize our performance. Further information is available at: http://www.kao.com/jp/en/corp_about/kaoway.html Contents 2 Kao’s Business Segments 4 A Message from President and CEO Michitaka Sawada 12 Research and Development 14 Corporate Governance 20 Board of Directors and Audit & Supervisory Board Members, Executive Ofﬁ cers and Executive Fellows 25 Risk and Crisis Management 27 Compliance 29 Sustainability 33 Financial Section 80 Principal Subsidiaries and Afﬁ liates 81 Investor Information Forward-Looking Statements Forward-looking statements such as earnings forecasts and other projections contained in this report are based on information available at the time of publication and assumptions that management believes to be reasonable. Actual results may differ materially from those expectations due to various factors. Profile The Kao Group’s operations consist of the Consumer Products Business and the Chemical Business. The Consumer Products Business encompasses the Beauty Care Business, in which we offer prestige cosmetics, premium skin care products and hair care products; the Human Health Care Business, with products such as functional health beverages, sanitary products and personal health products; and the Fabric and Home Care Business, which includes laundry detergents and household cleaners. In the Chemical Business, we develop chemical products that meet the various needs of industry. Financial Highlights Kao achieved all targets of Kao Group Mid-term Plan 2015 (K15) Net Sales Operating Income Overseas Sales Ratio* ¥1,471.8 billion K15 Target: ¥1,400.0 billion ¥164.4 billion K15 Target: ¥150.0 billion 35.0% K15 Target: 30% or more * Ratio of net sales to foreign customers to consolidated net sales Net Sales / Operating Income1, 2 Net Income1, 2 (Period ended December 31, 2012 and years ended December 31, 2012 to 2015) (Billions of yen) 1,500 1,401.7 1,315.2 1,220.4 164.4 1,471.8 (Billions of yen) 200 (Billions of yen) 100 1,000 1,012.6 124.7 133.3 101.6 111.8 500 0 Dec. 2012 Dec. 2012 (Restated) Dec. 2013 Dec. 2014 Dec. 2015 Net Sales (Left) Operating Income (Right) 150 100 50 0 80 60 40 20 0 98.9 79.6 64.8 52.8 53.1 Dec. 2012 Dec. 2012 (Restated) Dec. 2013 Dec. 2014 Dec. 2015 Economic Value Added (EVA) 3 (Year ended December 31, 2011 = 100) Capital Expenditures4 244 (Billions of yen) 100 250 200 150 100 50 0 165 138 100 112 Dec. 2011 Dec. 2012 Dec. 2013 Dec. 2014 Dec. 2015 80 60 40 20 0 83.4 63.7 68.5 47.2 41.9 Mar. 2012 Dec. 2012 Dec. 2013 Dec. 2014 Dec. 2015 Notes: 1. Due to a change in the ﬁ scal year end, the term of consolidation for the ﬁ scal period ended December 31, 2012 consisted of the nine months from April to December for Kao Corporation and its subsidiaries whose ﬁ scal year end was previously March 31 and the twelve months from January to December for subsidiaries whose ﬁ scal year end was December 31. 2. December 2012 (Restated) represents ﬁ gures for the year from January 1 to December 31, 2012 for Kao Group companies whose ﬁ scal year end was previously March 31. 3. EVA is a registered trademark of Stern Stewart & Co. Due to the change in the ﬁ scal year end, EVA has been restated on a calendar year basis for the period ended December 31, 2011 and 2012. 4. Year ended March 31, 2012, period ended December 31, 2012 and years ended December 31, 2013 to 2015 Kao Corporation Annual Report 2015 1 Kao’s Business Segments Beauty Care Business In order to allow every consumer to achieve their own unique beauty with leading technologies, the Beauty Care Business offers products including cosmetics, skin care products such as facial and body cleansers, and hair care products such as shampoos and conditioners. Leading Beauty Care Business brands include Kanebo, Soﬁ na and Molton Brown in cosmetics; Bioré, Curél and Jergens in skin care; John Frieda, Essential and Liese in hair care, and Goldwell for professional hair salons. Kao products offer distinctive features and functional values clearly evident to the user. Beauty Care Business products are available to consumers in Japan, Asia, Oceania, North America and Europe. Main Products Cosmetics / Skin care and hair care (mass products) / Professional hair care products Human Health Care Business The Human Health Care Business offers products that help consumers to live healthy and comfortable lives. These products include sanitary products with unique proprietary technologies, functional health beverages with innovative beneﬁ ts, and other products such as toothpaste and bath additives. Leading Human Health Care Business brands include Laurier sanitary napkins, Merries baby diapers, Healthya functional health beverages, Clearclean toothpaste and Bub bath additives. In particular, Kao’s sanitary napkins and baby diapers offer high added value, including high absorbency and gentleness on the skin, making them very popular among consumers in Japan and other major Asian markets. Main Products Main Products Beverages / Sanitary products / Peersonal health products Beverages / Sanitary products / Personal health products 2 Kao Corporation Annual Report 2015 Fabric and Home Care Business The Fabric and Home Care Business offers fabric care products such as laundry detergents and fabric softeners, as well as home care products such as dishwashing detergents and kitchen cleaners. These products are designed for quality, functionality and ease of use, allowing consumers to enjoy a clean and comfortable lifestyle. Leading Fabric and Home Care Business brands include Attack laundry detergent, Haiter laundry bleach and Magiclean household cleaner, all widely used in Japan, Asia and Oceania. As environmental awareness has grown in recent years, and social changes see more women working outside the home, Kao has continued to offer new laundry choices, including liquid detergent with powerful cleaning properties, and single-rinse options that reduce the time needed to do laundry. y Main Products Main Products Laundry detergents and fabric treatments / Products for kitchen, bath, toilet Laundry ddetetergents and fabric trereaatmente s / Products for kitchen, bath, toilet and living rrooom care and living room care Chemical Business The Chemical Business offers a broad variety of chemical products to the world, including oleo chemicals manufactured from natural fats and oils, surfactants, toners and toner binders, and fragrances and aroma chemicals. Products such as Kalcol fatty alcohol, Emal surfactant, and Mighty high performance superplasticizer (for concrete) enrich people’s lives across a broad range of industries globally, including information technology, electronics, pulp and paper, food, pharmaceuticals, civil engineering and construction. The Chemical Business supplies products to business customers around the world – both outside the Group, and internally to the Consumer Products Business. Kao’s Chemical Business is contributing to the creation of new value. Main Products Oleo chemicals / Performance chemicals / Specialty chemicals Kao Corporation Annual Report 2015 3 A Message from President and CEO Michitaka Sawada Aiming for New Heights Based on Core Beliefs and Group Dynamism to Ensure the Kao Group’s Sustainable Growth In 2015, the ﬁ nal year of Kao Group Mid- term Plan 2015 (K15), we achieved all of the plan’s targets. Rather than simply continuing our efforts to date, we will make 2016 a year of preparation for our next mid- term plan to set a high growth trajectory. Michitaka Sawada President and Chief Executive Officer A Company with a Global Presence Proﬁ table growth Contributions to the sustainability of the world 4 Kao Corporation Annual Report 2015 The Direction of the Kao Group The Kao Group aims to be a company with a global presence as it works for both sustained “proﬁ table growth” by increasing the added value of its products and “contributions to the sustainability of the world” by making proposals to resolve social issues such as the environment, health, the aging society and hygiene through its business activities and by conducting social contribution activities. The Kao Group aims to be a company with a global presence by adhering to the Kao Way, our corporate philosophy. After four years of working in this direction, I feel we are making steady progress in increasing our global presence. There are many perspectives on how to measure global presence, but I want the Kao Group to show the greatest presence through our strengths in research and development. Global recognition as a company that continually spurs innovation has deep signiﬁ cance for us. In addition to being recognized for being innovative, we want to be known for our ongoing core belief in delivering returns to our stakeholders by achieving and accomplishing the mid-term plans that we announce. No other Japanese company has increased dividends for 26 consecutive periods, and in 2015 we achieved our sixth consecutive ﬁ scal year1 of increases in consolidated net sales and proﬁ ts. As a result, our management indicator Economic Value Added (EVA)2 reached record highs in terms of both the increase from the previous year and absolute value, reﬂ ecting a double-digit increase in net operating proﬁ t after tax (NOPAT) and 1. Excluding the effect of the change in the ﬁ scal year-end in 2012 2. EVA is a registered trademark of Stern Stewart & Co. Targeted Sustainable Growth Model Proﬁ table growth Proactive investment Establish a post-deﬂ ation growth model Increase proﬁ ts Increase market share and sales, and create markets Capabilities to generate proﬁ ts Transformation to a proﬁ table structure Maximize use of Kao Group assets Kao Corporation Annual Report 2015 5 our ability to minimize the increase in capital invested by maximizing our utilization of assets. In addition, ROE increased by 2.4 points compared with the previous year to 14.8 percent. Through results like these, we aim to stand out as an exemplary global company in management direction as well. The next mid-term plan will not take the approach of simply continuing the efforts we have made so far. Rather, we will consider what is necessary to make a leap to the next stage and to pave the way to becoming a company with a truly global presence. This will require a considerable amount of preparation. We are now conducting a Group-wide review of the achievements and issues of K15. At the same time, we are methodically preparing K20, a mid-term plan that will begin in 2017 and deal with various changes in the external business environment. Summary of K15 The Kao Group has made further progress in maximizing the use of our assets in order to steadily improve our capabilities to generate proﬁ ts. As expected, the sustainable growth model is beginning to generate a positive cycle. Achievements of K15 We achieved all of the targets of K15. The fact that we achieved ¥164.4 billion in operating income in 2015, which not only exceeded our target of ¥150.0 billion but was also a 23.3 percent increase from the previous year, is proof of the effectiveness of the sustainable growth model we have been working on under K15. The essential point of this model is that through maximizing the use of Kao Group assets and the synergy generated by effective deployment of expenditures, we are transitioning to a proﬁ table structure, or in other words, improving our capabilities to generate proﬁ ts. One success of K15 is that all employees now feel personal responsibility for utilizing assets and put this approach into practice in their work. Target 1: Break previous records for consolidated net sales and proﬁ ts Target 2: Achieve numerical management targets for 2015 • Net Sales: • Operating Income: ¥1,471.8 billion Target: ¥1,400.0 billion ¥164.4 billion Target: ¥150.0 billion • Overseas Sales Ratio*: 35.0% Target: 30% or more * Ratio of net sales to foreign customers to consolidated net sales Merries baby diapers are driving growth in Asia. MegRhythm steam thermo sheets are in demand among Japanese consumers and popular among visitors from overseas as well. Efforts to convey the value of Curél for sensitive skin have led to its ongoing growth. CuCute, which is highly differentiated in the market due to essential research, has performed strongly in Japan. 6 Kao Corporation Annual Report 2015 A Message from President and CEO Michitaka Sawada Moreover, we have made substantial progress in improving the composition of net sales and operating income, which since 2012 have become signiﬁ cantly more balanced across geographic areas and business segments. As for net sales, the overseas sales ratio has increased from 27 percent to 35 percent. As for operating income, we were able to improve our balance, which was too heavily dependent on Japan and the Fabric and Home Care Business, while increasing income in every geographic area and business segment. Improved Balance of Operating Income Composition Change in geographic area balance: Increased overseas contribution 2012 6% 2% 6% 2015 6% 4% 12% 86% 78% Europe Americas Asia (excluding Japan) Japan Change in business segment balance: More dispersed among segments 2012 18% 54% 12% 16% 2015 18% 42% 22% 18% Beauty Care Fabric & Home Care Human Health Care Chemical Promoting K15’s Mid-term Growth Strategies Three growth strategies were the driving force of K15: 1) expand the Consumer Products Business globally; 2) further reinforce the Fabric and Home Care Business, and accelerate proﬁ table growth in the Beauty Care Business and the Human Health Care Business; and 3) reinforce the Chemical Business. We achieved strong results, although issues do remain. One result of these strategies was substantial growth of the Consumer Products Business in Asia. During the three-year period, sales doubled, or 1.5 times excluding the effect of currency translation. Sales increased signiﬁ cantly in China and Indonesia, markets where we have been targeting the growing middle-class consumer segment. We also achieved double-digit growth in Taiwan, Hong Kong, Thailand, Vietnam, Malaysia and Singapore. Moreover, we have been making tenacious efforts in the cosmetics business in China, where our successful structural reforms resulted in proﬁ tability in 2015. In the Chemical Business, operating income reached a record high as we gradually shifted to high- value-added products, although we need to further expand sales. On the other hand, some issues have come to the fore. One is improving the proﬁ tability of the cosmetics business in Japan. We continued working to reinforce our focal brands, but results were disappointing due to intensifying market competition. Major reforms are required for both Kao Soﬁ na and Kanebo Cosmetics. Another issue is rebuilding functional drinks. Looking back at the past three years, we were not necessarily helped along by external events. I believe that achieving K15 in this difﬁ cult, rapidly changing business environment was the result of the good fortune that is given to those who work hard and conduct themselves with integrity. Kao Corporation Annual Report 2015 7 Future Directions and Positioning in 2016 We intend to fulﬁ ll our role as a leading company, which will increase our corporate value. The Kao Group will use 2016 to prepare for K20, a mid-term plan that will begin in 2017, and the greater progress it will entail. We will act based on our core beliefs and display group dynamism. We will use 2016 to fully prepare to take our next step, which will be “discontinuous.” In other words, our next step will not be a continuation of what we have done in the past. We must look back on what we could and could not accomplish under K15 from the perspective of maximizing the use of our assets, which has been a recurring theme. Displaying Group Dynamism Under K15, we have been focusing on maximizing the use of our assets. We are now able to make quite high-level use of our assets, so taking on the further challenge of maximizing our assets to display group dynamism will be a major theme from now on. Some may feel that a focus on group dynamism will dilute the strengths of the individual. However, the group dynamism we aim for in the Kao Group entails making greater use of our potential and assets and maximizing them to boldly take on challenges that lead to the creation of new business opportunities. The Kao Group has numerous research assets with the power to generate strong synergy between the Chemical Business and the Consumer Products Business. I believe that having these two businesses that can generate synergy is a unique advantage for Kao, and a feature that separates us from our global peers. If you think only of short-term, immediate proﬁ t, one view is that it is a good idea to get rid of dormant assets and underperforming businesses. At Kao, we believe that making skillful changes in tune with the times to poorly performing products and businesses enables them to resurface. Conversely, there may be cases where products and services that are currently making good progress slow down or stall. Conducting businesses that are complementary at a high level is a strength of Japanese companies and an essential element of Kao’s style. Core Beliefs Unique to Kao Our core beliefs encompass not only our attitude toward “Yoki-Monozukuri,” or providing products and brands of excellent value created from the customer’s perspective, but also our objectives of continuously raising dividends, increasing sales and proﬁ ts, and achieving our management plans. Furthermore, I am convinced that these core beliefs will support our efforts to achieve sustainable growth. In 2016, in addition to increasing sales and proﬁ ts for the seventh consecutive year and achieving our announced forecast, we will continue to ﬁ rmly maintain our core belief in sustainable growth as we further strengthen our abilities to generate proﬁ ts by deepening our sustainable growth model and creating and offering proﬁ table new businesses. Moreover, we will engage in proactive investment for growth, including M&A. We also have a core belief in making sustainable returns to our stakeholders. We intend to be thorough in making returns to our employees (continuous increases in compensation and beneﬁ ts), returns to society (payment of taxes, providing employment, social contributions) and returns to our shareholders (continuous increases in dividends). 8 Kao Corporation Annual Report 2015 A Message from President and CEO Michitaka Sawada Core Initiatives and Areas of Focus in 2016 During 2016, we will work on three broad themes that will lead into K20. The ﬁ rst is strengthening and expanding existing businesses. We will ensure that growing businesses continue to grow even further and put poorly performing businesses on a growth trajectory. In the cosmetics business, we will put the major reforms of Kao Soﬁ na that we started in November 2015 on track, and in 2016 we will conduct major reforms at Kanebo Cosmetics as well, among other measures for rapid rebuilding. For food and beverage products in the Human Health Care Business, we will rebuild Healthya (functional drinks) and consider entering food and health-related businesses. In the Consumer Products Business in the Americas and Europe, we will focus on using our original technologies to add higher value to products for “discontinuous” growth that is more than simply an extension of our growth to date. The second theme is creating new businesses. We will display the group dynamism of the Kao Group, for example to take a new approach in the domain of hygiene, at the intersection of the business ﬁ elds of cleanliness, beauty and health. We will also focus on proactive M&A to expand and create businesses. The third theme is accelerating expansion outside Japan. We want to use our achievements in Asia as a lever for proactively expanding into new countries. Taking a bird’s eye view of the socioeconomic environment, structural changes are forecast to occur worldwide, with shifts in the center of the economy, changes in consumer preferences and other factors. By positioning 2016 as a year of preparation, we will not only acquire the ability to adapt to whatever changes may occur, but also turn the changes that do occur into opportunities for progress. Kao’s Essential Research Kao’s essential research is rooted in its knowledge of surface science. We use matrix management of R&D for innovation in each business ﬁ eld, which leads to innovative products. Research and development is the source of our ability to create products and brands of excellent value, and our foremost core belief. Based on our belief that excellent products are created in a background environment of diverse scientiﬁ c expertise and technologies, our research covers a truly broad range of ﬁ elds. I think that having expertise in and the seeds of technologies for both humans (biological science) and materials (material science) makes Kao a distinctive company, not just in Japan but worldwide. Using matrix management for research and development is also a unique feature. Both product development research and fundamental research are closely connected to each business division. This promotes linkage of technologies through cross-divisional collaboration. In addition, the pursuit of the essence of things from a scientiﬁ c standpoint, or in other words essential research, is key to Kao’s R&D. Our essential research is rooted in surface science. Surface science is at the core of Kao, and the control of surfaces opens up unlimited possibilities. For example, applying fabric softener to the surface of ﬁ bers makes them feel ﬂ uffy, while spreading an oil ﬁ lm over the surface of the skin creates a skin barrier. Adding a mechanism for breaking down a dirty surface creates Kao Corporation Annual Report 2015 9 detergent. In the ﬁ nal analysis, surface science applies to everything, even enabling precise control at the nano level. The nano surfactant control technology developed for our chemical products is being used in our consumer products research. R&D is not always immediately successful, but I regularly tell our researchers to carry on their work with conﬁ dence and peace of mind because there is no such thing as failure in developing technologies. Product development is linked to consumers, so you can fail if you do not understand their needs, but technology development may still be used for another product at some point in the future. Technologies that cannot immediately be turned into products are ﬁ led away for the time being, using methods that allow them to be shared among our researchers. Then, three years or ﬁ ve years later, when things have changed, they can be taken out of that ﬁ le and applied to a new product. Skillfully combining research assets that have been deepened through essential research can help to create new worlds. I want to use these results to create new value from the consumer’s perspective and to further stimulate markets. Securing Stakeholder Support and Trust We will promote further reform of corporate governance and conduct corporate activities that regularly refer to the Kao Way, the source of Kao’s efforts for sustainability. Ongoing Enhancement of Corporate Governance Behind the successful completion of K15 were three changes we made to our organizational management. The ﬁ rst was delegating authority and accelerating decision-making. We have implemented management improvements and the Management Committee has decided that when we are on the fence about, for example, an investment opportunity, our default stance will be action rather than hesitation. The second is enhancement of governance. In July 2015, we released a Report Concerning Corporate Governance that explains the status of implementation of the principles of the Corporate Governance Code established by the Tokyo Stock Exchange. Currently, Kao has six independent ofﬁ cers – three Outside Directors and three Outside Audit & Supervisory Board Members – to provide a framework for an exchange of opinions based on an objective view of the company. We are aware of the need for greater diversity in the composition of the Board of Directors. The third is enhancement of employee mindset. Through measures such as Top Talk, a message I post on the company intranet, and Genba Roundtable sessions, where employees engage in exchange of opinions with management, I share the direction of the Kao Group, the Kao Sustainability Statement and other matters with employees. Respecting Human Rights and Promoting Diversity in the Workplace Under the Kao Way, our corporate philosophy, the Kao Group respects diversity of culture, nationality, belief, race and gender in the workplace. In addition to providing training and promotions based on employees’ motivation and capabilities, since 1990 we have had an ongoing support system for diverse ways of working to promote active participation by women. In light of the global community’s growing interest in human rights, we held discussions with related internal divisions and outside experts that led to the 10 Kao Corporation Annual Report 2015 A Message from President and CEO Michitaka Sawada Use of Cash Flow* and Shareholder Returns Use steadily generated cash ﬂ ow effectively in order of priority shown below from an EVA standpoint toward further growth. 1 2 3 Investment for future growth (capital expenditures, M&A, etc.) Steady and continuous cash dividends Share repurchases and early repayment of interest-bearing debt including borrowings * Net cash provided by operating activities adoption of the Kao Human Rights Policy in June 2015 based on the United Nations Guiding Principles on Business and Human Rights.3 The Kao Human Rights Policy states our support and respect for international standards for human rights, and promotes measures such as human rights risk assessment and employee training. We will strive for widespread understanding of this policy as we strengthen our efforts for human rights. 3. Principles related to business and human rights proposed by UN Special Representative John Ruggie and endorsed by the UN Human Rights Council in June 2011 In Conclusion We will resolutely take on the challenge of turning global structural shifts into opportunities for growth. Our shareholders can expect the Kao Group to reach new heights. We will further strengthen our sustainable growth model to achieve profitable growth. Using EVA keeps us aware of the cost of capital and there is no change in the priorities we have set for using our steadily generated cash flow. After making investments for future growth, we emphasize steady and continuous cash dividends. We will also ﬂ exibly consider repurchases and cancellation of shares and early repayment of interest-bearing debt including borrowings in light of improving capital efﬁ ciency. Moreover, from 2016 we have voluntarily adopted International Financial Reporting Standards (IFRS) based on our decision that integrating accounting standards throughout the Kao Group will help to improve the quality of Group management. In 2016, we will establish our sustainable growth model more ﬁ rmly and invest proactively. We will also use the year to prepare for the sustainable growth we anticipate under K20, our next mid-term plan, and thereafter. Never satisfied with the status quo, we will continue to aim high and take on new challenges. I urge all our shareholders to follow the Kao Group’s activities with anticipation. Expect us to reach new heights. Cash Dividends per Share (Yen) 100 80 60 40 20 0 Increases in dividends for 26 consecutive periods 56 57 58 60 62 64 52 54 50 92 80 70 7.1 7.1 8.87 9.09 10.0 10.5 11.5 12.5 14 38 30 32 24 26 20 15 16 Mar. 1988 Mar. 1990 Mar. 1992 Mar. 1994 Mar. 1996 Mar. 1998 Mar. 2000 Mar. 2002 Mar. 2004 Mar. 2006 Mar. 2008 Mar. 2010 Mar. 2012 Dec. 2014 Dec. 2016 (Forecast) Note: Impacts of share splits are retroactively reﬂected. Kao Corporation Annual Report 2015 11 Research and Development Basic Policy Kao’s mission is to strive for the wholehearted satisfaction and enrichment of the lives of people globally and to contribute to the sustainability of the world, with products and brands of excellent value that are created from the consumer’s and customer’s perspective. Based on this mission, Kao’s research and development division combines original ideas with an understanding of the various cultures and needs of consumers in diverse countries and regions to develop innovative products and technologies that create new value and new markets. Approximately 2,800 Kao Group personnel conduct research and development. R&D expenditures for the entire Kao Group in 2015 were ¥52.0 billion, equivalent to 3.5% of net sales. Kao’s Essential Research The hallmark of Kao’s R&D, central to the creation of consumer products and chemicals, is our engagement in varied and wide-ranging essential research across a broad spectrum of scientiﬁ c ﬁ elds, which can be grouped into “humans” and “materials.” The essential properties of both Essential Research groups are explored through fundamental technology research that reveals the structure of phenomena and substances, enabling us to deepen and combine the two areas. Furthermore, we combine the two areas with product development research, which includes consumer research, product design, and applied technology research. This is key to creating products with high added value not only in terms of their functions, but also for helping to resolve environmental and other social issues. For this reason, we actively promote interactive exchange of information and technologies across research organizations. The resulting linkage and expansion of research ﬁ elds is the wellspring of new innovation. Kao is committed to Yoki-Monozukuri* with R&D at the core. We aim to contribute to addressing social issues globally in a variety of ﬁ elds including cleanliness, beauty, health and the environment. * The Kao Group deﬁ nes Yoki-Monozukuri as a strong commitment by all members to provide products and brands of excellent value for consumer satisfaction. In Japanese, Yoki literally means “good/excellent,” and Monozukuri means “development/manufacturing of products.” The Aging Society Health Hygiene The Environment 12 Kao Corporation Annual Report 2015 Topics in 2015 Selected for Asia IP Elite for the Third Year in a Row Kao was selected for the third year in a row as one of the Asia IP Elite, an honor given to Asian companies with superior intellectual property (IP) strategies. The awards are planned and held by Intellectual Asset Management, an internationally recognized periodical on IP management. Selection is based on factors including the number of patent ﬁ lings in each country, litigation to assert rights, corporate stance on the importance of IP rights, and interviews with experts in the ﬁ eld. Kao Enters into a Comprehensive Research Agreement for Industry- Academia Collaboration with Juntendo University in Japan Kao entered into a comprehensive research agreement with Juntendo University to obtain new research ﬁ ndings that will contribute to the resolution of social issues in areas including cleanliness, beauty, health, aging, the environment and hygiene. By promoting open innovation through industry-academia collaboration that encompasses shared use of research ﬁ ndings and facilities, including exchange of researchers and mutual use of research facilities, Kao will reinforce its fundamental research in the ﬁ elds of medicine and health. Beauty Care Business Basic Policy Kao conducts essential research for a deep understanding of the true nature of the skin and hair of people around the world and develops materials and formulations that give rise to new functions. By doing so, we aim to help consumers achieve healthy, beautiful skin and hair, and to offer beauty proposals tailored to diverse lifestyles. Human Health Care Business 2015 R&D expenditures: ¥23.9 billion Basic Policy Kao researches the body and mind to improve quality of life by making the most of people’s natural vitality. 2015 R&D expenditures: ¥11.9 billion Fabric and Home Care Business Basic Policy Kao’s research and development spans a wide range of ﬁ elds from household products that meet the diverse needs of consumers to products for professional use where a high level of cleanliness and hygiene is required. Chemical Business 2015 R&D expenditures: ¥7.1 billion Basic Policy Kao’s research and development strives for more substantive R&D results in areas including oils and fats, surfactants and polymers to produce chemical products distinguished by their ability to meet diverse needs in a wide range of industries. 2015 R&D expenditures: ¥9.1 billion Kao Corporation Annual Report 2015 13 Corporate Governance Basic Stance and Structure Kao’s basic stance on measures related to corporate In accordance with this stance, Kao works to improve governance is to implement the necessary policies and governance as a company with an Audit & Supervisory fulfill its accountability by setting up and operating a Board by strengthening the supervisory function of the management structure and internal control system in Board of Directors and the auditing function of the Audit order to rapidly realize efficient, sound, fair and highly & Supervisory Board. An overview of Kao’s governance transparent management with the aim of continuously structure is given in the following chart. increasing corporate value and achieving the long-term targets and mid-term plan. Corporate Governance Structure Shareholders Meeting Monitoring Audit & Supervisory Board Audit Board of Directors Committee for the Examination of the Nominees for the Members of the Board of Directors Compensation Advisory Committee Supervision Audit Management Committee Audit Sustainability Committee Internal Control Committee Disclosure Committee Compliance Committee Information Security Committee Risk and Crisis Management Committee Committee for Responsible Care Promotion Quality Assurance Committee s r e y w a L e d i s t u O e c n a i l p m o C e n i l t o H n o i t a t l u s n o C Audit Department of Internal Audit Internal Audit Executing Divisions Executive Ofﬁcer Responsible for Each Division • Business Divisions • Functional Divisions s r o t i d u A g n i t n u o c c A Audit Investigation (Attendance) Accounting Auditors Certiﬁed Public Accountants Audit Conference by Audit & Supervisory Board Members of Domestic Group Companies (Attendance) Subsidiaries/Afﬁliates Audit Audit & Supervisory Board Members Note: Our policy is to ask lawyers and other experts, as necessary, when making business decisions concerning business management and daily operations. 14 Kao Corporation Annual Report 2015 Board of Directors The Board of Directors invites people from outside the Company with diverse experiences, knowledge and a high level of insight. Composed of four inside members and three outside members, it ensures lively discussions while maintaining diversity and independence. Number of Members 7 Outside Directors Included in Above 3 (approximately 42%) Independence The Company has reported all three Outside Directors to the Tokyo Stock Exchange as Independent Outside Directors who have met the qualiﬁ cations for independence in the Standards for Independence of Outside Directors/Audit & Supervisory Board Members of Kao Corporation (the “Standards”). The Standards, which have been established with reference to the Independence Tests of the New York Stock Exchange, can be found at: http://www.kao.com/jp/en/corp_imgs/ corp_info/governance_002.pdf Number of Members 5 Outside Audit & Supervisory Board Members Included in Above 3 (60%) Independence Chairman Term of Ofﬁ ce The Company has reported all three Outside Audit & Supervisory Board Members to the Tokyo Stock Exchange as Independent Outside Audit & Supervisory Board Members who have met the qualiﬁ cations in the Standards. Full-time Audit & Supervisory Board Member 4 years (statutory period: prohibited by law to shorten the period) Number of Meetings 10 times in 2015 (including extraordinary meetings) Average Attendance Rate of Outside Audit & Supervisory Board Members Board of Directors Meetings: 97% Audit & Supervisory Board Meetings: 98% Meetings to exchange opinions with Representative Directors: 100% (3 times in 2015) Chairman Independent Outside Director Term of Ofﬁ ce 1 year (voluntarily shorter than the statutory period) Number of Meetings Average Attendance Rate of Outside Directors 15 times in 2015 (including extraordinary meetings) 100% Audit & Supervisory Board Committee for the Examination of the Nominees for the Members of the Board of Directors This committee conducts advance examination of the appropriateness of nominees for election or re-election as Representative Director and Director as proposed to the General Meeting of Shareholders and the Board of Directors, and submits its opinions to the Board of Directors. In addition, the committee discusses the The Audit & Supervisory Board ensures the composition and diversity of the members of the Board effectiveness of its audits through the collaboration of of Directors, including the proportion of Inside Directors the Full-time Audit & Supervisory Board Members with and Outside Directors, and the qualities and abilities the Outside Audit & Supervisory Board Members, a required of the Chief Executive Officer and Directors of majority of whom have qualifications such as attorney-at- the Company, and reports the results of its examination law or certified public accountant, who maintain independence and expertise as outside parties. to the Board of Directors. In the course of its examination, the committee also receives reports on Executive Ofﬁ cers in charge of execution. Number of Members 6 Composition Chairman All Outside Directors and all Outside Audit & Supervisory Board Members Chosen by committee members. The chairman was an Independent Outside Director in 2015. Number of Meetings 3 times in 2015 Attendance Rate 100% Kao Corporation Annual Report 2015 15 Compensation Advisory Committee This committee examines the compensation system and remuneration levels for Directors and Executive Officers Support System for Outside Directors and Outside Audit & Supervisory Board Members and submits the results of its examinations to the Board To allow for active discussions at meetings of the Board of Directors. Number of Members 9 Composition Chairman Chairman of the Board of Directors (position currently vacant), all Representative Directors, all Outside Directors and all Outside Audit & Supervisory Board Members Chosen by committee members. The chairman was an Independent Outside Director in 2015. Number of Meetings 3 times in 2015 including preparatory discussions. Compensation System See next page of Directors, the Board of Directors Secretariat provides Outside Directors and Outside Audit & Supervisory Board Members with sufficient explanations by distributing materials on matters such as the background, purposes and content of the respective agenda items, as necessary, prior to meetings of the Board of Directors. Furthermore, under this support system, in addition to support staff, administrative divisions such as Internal Audit, the Legal and Compliance Department and the Accounting and Finance Department provide Outside Audit & Supervisory Board Members with assistance upon request. Comment from an Independent Outside Director I have been a member of Kao’s 2) Clearly working out and implementing risk Board of Directors for more management for Kanebo Cosmetics, a subsidiary that than three years, with faced the management crisis of a voluntary product expectations placed on my recall in July 2013. As the parent company of a global experience as an consumer goods business group, we put the recovery executive of a company that, and care of customers first, with an unwavering like Kao, is a manufacturer. stance of wholeheartedly providing fair and equitable During that period, I have compensation and support; and mainly been involved in discussions of: 3) Ambitious initiatives for further growth and the investment to fund them, amid strong performance 1) Ongoing consideration of consisting of six consecutive fiscal years of increases further innovations in and in sales and profits. Toru Nagashima Independent Outside Director, Senior Advisor, Teijin Limited execution of corporate governance; in other words, consideration of the corporate governance system In these discussions, I give my opinion whenever I we consider best for Kao’s sustained growth under have doubts about proposals for execution. So far, our present conditions; however, I have enthusiastically supported the decisions that have been made. 16 Kao Corporation Annual Report 2015 Corporate Governance Compensation System for Members of the Board of Directors, Audit & Supervisory Board Members and Executive Officers Kao’s compensation system for members of the Board (1) Base salary Paid as fixed monthly remuneration in an amount determined in accordance with duties as an Executive Officer and rank. of Directors, Audit & Supervisory Board Members and (2) Bonus as short-term incentive compensation Executive Officers is aimed at (1) securing and retaining When the full amount is paid, the bonus is set at 50% of diverse and excellent personnel to establish and improve base salary for the President and Chief Executive Ofﬁ cer, competitive advantages; (2) promoting prioritized 40% of base salary for the Chairman of the Board of measures for lasting increases in corporate value; and Directors and Executive Ofﬁ cers with titles other than the (3) sharing interests in common with shareholders. Chief Executive Ofﬁ cer, and 30% of base salary for other Remuneration of members of the Board of Directors, Executive Ofﬁ cers. The rate of payment of the bonus is other than Outside Directors, and Executive Ofﬁ cers set within a range of 0-200%, depending on the degree consists of base salary, a bonus as short-term incentive of achievement of targets for net sales and income (gross compensation, and stock options as long-term incentive proﬁ t less selling, general and administrative expenses), compensation, and is designed to provide an impetus for the degree of their improvement from the previous year, continuing annual improvement in business results and and the degree of achievement of the target for Economic medium-to-long-term growth. Linkage of remuneration to Value Added (EVA), the Company’s main management business results increases with rank, based on the metric, which takes capital cost into account. responsibility for duties and business results of each position. An overview of the components of remuneration (3) Stock options as long-term incentive compensation is as shown below. Set at around 30% of base salary for each position. Kao’s true value lies in its “Yoki-Monozukuri*,” the viewpoint of its markets and its customers. backed by research and technological development. Stimulating discussion at Board of Directors Therefore, I always listen to these innovative meetings is a topic that is often raised. At Kao, the proposals with excitement. For Kao’s products and President puts forth immediate and medium-to-long- brands of excellent value to be used by people term issues and regularly directs the itinerary for worldwide, I have been urging my fellow Directors to discussions are held at Board meetings throughout tell a story – in other words, to build a business the year. As a result, we Outside Officers, including model that not only creates excellent products Audit & Supervisory Board Members, are always through Yoki-Monozukuri but also conveys their aware of the progress and purposes of current excellence to the public. Last year, we started a discussions, enabling us to participate with a grasp project to communicate Kao’s value. We considered of the bigger picture. With this broad perspective, I how to accurately convey the essential value of Kao’s would like to make my next proposal to Kao as it products to our partners in the retail industry and the aims to become a company with a global presence: I consumers who actually use the products. We are suggest that the company should look beyond its now carrying out those measures. I am pleased that past successes in Japan to discover and cultivate my experience seems to have been useful in these human assets who can perform on a global level for discussions. Conversely, I would also like Kao to aim the growth that will take Kao to the next stage. for Yoki-Monozukuri and a new business model from * See note on page 12 Kao Corporation Annual Report 2015 17 Compensation for Outside Directors, who are increase its corporate value, and it will sincerely independent from the execution of business operations, implement this aim, based firmly on the intent of the consists of fixed monthly remuneration only. principles established in the Code. To ensure a better The compensation system and compensation understanding of the status of Kao’s implementation of standards for members of the Board of Directors and the principles required to be disclosed under the Code, Executive Officers are examined by the Compensation Kao’s Report Concerning Corporate Governance arranges Advisory Committee, which is chaired by an Outside its corporate governance measures to date and their Director, and determined by resolution of the Board of current status in a systematic fashion for publication, Directors from the standpoint of ensuring the objectivity rather than the order published in the Code. Moreover, and transparency of the determination process. The the Report Concerning Corporate Governance is not Compensation Advisory Committee is composed of the complete once it has been submitted. The content is Chairman of the Board of Directors, all Representative updated as necessary, earnestly incorporating advice Directors, all Outside Directors and all Outside Audit & and opinions received through dialogue with investors in Supervisory Board Members. Independent Directors Japan and overseas. Since the July 2015 revision, the and Audit & Supervisory Board Members constitute a report has been updated five times. majority of the members of the committee, which Kao will continue to further enhance corporate meets at least once a year during the remuneration governance and review it according to the business adjustment period. environment with the aim of ongoing development and Compensation for Audit & Supervisory Board maximization of corporate value from a medium-to-long- Members consists of fixed monthly remuneration. term standpoint. Compensation standards are determined at meetings of the Audit & Supervisory Board. (For Reference) The Chairman of the Board of Directors of Kao reported on the Company’s stance on corporate governance and its current status at the December 22, 2015 meeting of the Council of Experts Concerning the Follow-up of Japan’s Stewardship Code and Japan’s Corporate Governance Code (an organizational body established by the Tokyo Stock Exchange and the Financial Services Agency to follow up on the status of diffusion and establishment of Japan’s Stewardship Code and Corporate Governance Code, and to discuss and propose measures necessary to further enhance the corporate governance of listed companies). http://www.fsa.go.jp/en/refer/councils/follow-up/index.html Compensation standards for members of the Board of Directors, Executive Officers and Audit & Supervisory Board Members are determined after ascertaining standards at other major manufacturers of a similar size, industry category and business type to the Company each year using officer compensation survey data from an external survey organization. The Company has no retirement bonus system for Directors or Audit & Supervisory Board Members. Response to the Corporate Governance Code With regard to Japan’s Corporate Governance Code (the “Code”), which was established by the Tokyo Stock Exchange in June 2015, Kao released a Report Concerning Corporate Governance, which covers the status of implementation of each principle of the Code, in Japanese and English in July 2015. The stated aim of the Code is to seek “‘growth-oriented governance’ by promoting timely and decisive decision-making based upon transparent and fair decision-making.” This is in alignment with the stance on measures to improve corporate governance that Kao has been promoting to 18 Kao Corporation Annual Report 2015 Third-Party Opinion Toshiaki Oguchi Representative Director, Governance for Owners Japan KK; A member of The Council of Experts Concerning the Follow-up of Japan’s Stewardship Code and Japan’s Corporate Governance Code We at Governance for Owners Japan KK have been engaging in constructive dialogue with Kao Corporation on behalf of our global institutional investor clients for more than five years since 2010. Although there was a voluntary product recall by Kanebo Cosmetics, a subsidiary of Kao, in 2013, Kao’s clear policies and conscientious explanations minimized its downward impact, and as a result Kao’s shareholder value (stock price) has more than tripled during this period. We would summarize our impression of Kao’s corporate governance as the manifestation of the “Innovation” expressed in the Kao Way. When we began our dialogue with Kao, its Board of Directors was made up of 13 Inside Directors and two Independent Outside Directors. The composition of the Board has changed substantially, now consisting of three Inside Directors, two Independent Outside Directors and one Non-Independent Outside Director, and the position of chairman is held by an Independent Outside Director rather than an Inside Director.* We realize that these changes have been the result of ongoing reexamination, as well as trial and error. For example, we have learned about the circumstances that led to the inclusion of a non-independent bank executive as an Outside Director. This was a result of Kao’s emphasis on diversity, with Directors from the fields of manufacturing, finance and management consulting, all possessing the global experience required by the Board of Corporate Governance Directors as their common thread. We have also been told about the various methods used to enhance discussions at Board of Directors meetings, as well as the process of trial and error used in setting the scope of the Committee for the Examination of the Nominees for the Members of the Board of Directors. Hearing about these matters, we believe that because Kao has gone through such processes, it has developed unique, firmly grounded corporate governance. The results have been sustained growth and increased corporate value, which in turn have earned approbation from institutional investors outside the company. Innovation in corporate governance has no end. For example, we have discussed the necessity of diversity – in gender, nationality or otherwise – among the members of the Board of Directors, based on factors such as the nature of Kao’s businesses and its further expansion outside Japan. We also believe ongoing discussion is required to select the most appropriate form of corporate organization for Kao. Global institutional investors, including our company’s clients, will remain closely attentive to Kao’s initiatives to contribute to sustainability – including social and environmental issues – while working for profitable growth, as it has advocated. We look forward to Kao’s continued use of “Innovation” to resolve these issues. * As of April 2016, there are four Inside Directors and all Outside Directors are independent. Kao Corporation Annual Report 2015 19 Board of Directors and Audit & Supervisory Board Members (As of April 1, 2016) Board of Directors Michitaka Sawada1 Representative Director Toshiaki Takeuchi1 Representative Director Joined the Company Apr. 1981 Mar. 1999 Manager, Materials Development Research Laboratories Jul. 2003 Vice President, Sanitary Products Research Laboratories Jun. 2006 Executive Ofﬁ cer, Vice President, Global Research & Development Apr. 2007 Vice President, Global Research & Development, Human Health Care Jun. 2008 Member of the Board, Executive Ofﬁ cer Jun. 2012 Representative Director, President and Chief Executive Ofﬁ cer (current) Jan. 2014 Responsible for Product Quality Management Jan. 2016 Responsible for Corporate Strategy (current) Apr. 1981 Joined the Company Mar. 2009 Mar. 2010 May 2011 Vice President, Corporate Planning, Kao Customer Marketing Co., Ltd. Member of the Board, Executive Ofﬁ cer, Kao Customer Marketing Co., Ltd. Member of the Board, Senior Managing Executive Ofﬁ cer, Kao Customer Marketing Co., Ltd. Representative Director, Senior Managing Executive Ofﬁ cer, Kao Customer Marketing Co., Ltd. May 2012 Jun. 2012 Executive Ofﬁ cer Apr. 2013 Mar. 2014 Jan. 2016 Representative Director, Executive Vice President, Kao Customer Marketing Co., Ltd. Member of the Board, Representative Director, Managing Executive Ofﬁ cer, President, Kao Customer Marketing Co., Ltd. (current) Representative Director, Senior Managing Executive Ofﬁ cer; Representative Director, President, Kao Group Customer Marketing Co., Ltd. (current) Katsuhiko Yoshida1 Representative Director Yoshihiro Hasebe1 Director Apr. 1979 Apr. 2007 Jun. 2007 Apr. 2010 Jun. 2012 Mar. 2014 Joined the Company President, Human Health Care Business Unit Executive Ofﬁ cer President, Fabric and Home Care Business Unit Managing Executive Ofﬁ cer (current) Member of the Board, Representative Director, President, Consumer Products; Responsible for Kao Professional Services Co., Ltd. (current) Mar. 2015 Representative Director, Senior Managing Executive Ofﬁ cer (current) Apr. 1990 Joined the Company Mar. 2008 Director, Research and Development – Fabric and Home Care Research – Household Products Research Mar. 2011 Vice President, Research and Development – Beauty Research – Hair Beauty Research Jan. 2014 Vice President, Research and Development – Core Technology; Vice President, Research and Development – Eco-Innovation Research Mar. 2014 Executive Ofﬁ cer, Vice President, Research and Development Mar. 2015 Senior Vice President, Research and Development (current) Jan. 2016 Managing Executive Ofﬁ cer (current) Mar. 2016 Member of the Board (current) 20 Kao Corporation Annual Report 2015 Sonosuke Kadonaga2 Independent 3 President, Intrinsics, Dean, Department of Management, Kenichi Ohmae Graduate School of Business, Business Breakthrough University Apr. 1976 Jun. 1981 Joined Chiyoda Corporation Master of Science in Chemical Engineering, Massachusetts Institute of Technology, School of Engineering, U.S.A. Joined McKinsey & Company, Inc., Japan President, Intrinsics (current) Member of the Board, Kao Corporation (current) Aug. 1986 Jul. 2009 Jun. 2012 Mar. 2014 Chairman of the Board of Directors (current) Masayuki Oku2 Independent 3 Chairman of the Board, Sumitomo Mitsui Financial Group, Inc. Apr. 1968 Joined Sumitomo Bank May 1975 Jan. 1991 Jun. 1994 Nov. 1998 Jun. 1999 Jan. 2001 LL.M., University of Michigan Law School, U.S.A. Branch Manager, Chicago Branch, Sumitomo Bank Director, Sumitomo Bank Managing Director, Sumitomo Bank Managing Director and Managing Executive Ofﬁ cer, Sumitomo Bank Senior Managing Director and Senior Managing Executive Ofﬁ cer, Sumitomo Bank Senior Managing Director and Senior Managing Executive Ofﬁ cer, Sumitomo Mitsui Banking Corporation Senior Managing Director, Sumitomo Mitsui Financial Group, Inc. Deputy President and Executive Ofﬁ cer, Sumitomo Mitsui Banking Corporation Chairman of the Board, Sumitomo Mitsui Financial Group, Inc. (current), and President and Chief Executive Ofﬁ cer, Sumitomo Mitsui Banking Corporation Member of the Board, Kao Corporation (current) Apr. 2001 Dec. 2002 Jun. 2003 Jun. 2005 Mar. 2014 Toru Nagashima2 Independent 3 Senior Advisor, Teijin Limited Apr. 1965 Jul. 1974 Oct. 1975 Jun. 2000 Apr. 2001 Jun. 2001 Nov. 2001 Jun. 2002 Jun. 2008 Mar. 2013 Apr. 2013 Jun. 2013 Joined Teijin Limited Courses taken in the MBA Program, University of Utah, U.S.A. Seconded to Polynova S.A., Mexico Member of the Board, and CESHO (Chief Environment, Safety & Health Ofﬁ cer), Teijin Limited Member of the Board, CMO (Chief Marketing Ofﬁ cer) and General Manager of Corporate Strategy & Planning Ofﬁ ce, Teijin Limited Managing Director, CMO (Chief Marketing Ofﬁ cer) and General Manager of Corporate Strategy & Planning Ofﬁ ce, Teijin Limited President & Representative Director, COO, Teijin Limited President & Representative Director, CEO, Teijin Limited Chairman of the Board, Teijin Limited Member of the Board, Kao Corporation (current) Senior Advisor, Member of the Board, Teijin Limited Senior Advisor, Teijin Limited (current) Notes: 1. Holds the post of Executive Ofﬁ cer concurrently 2. Outside Director 3. Reported to Tokyo Stock Exchange, Inc. as Independent Director as set forth in the Regulations of Tokyo Stock Exchange, Inc. Kao Corporation Annual Report 2015 21 Audit & Supervisory Board Members Shoji Kobayashi Full-time Audit & Supervisory Board Member Apr. 1979 Jun. 2006 Apr. 2007 Jun. 2010 Mar. 2013 Joined the Company Executive Ofﬁ cer Vice President, Chemical Business Unit President, Chemical Business Unit Full-time Audit & Supervisory Board Member (current) Toshiharu Numata Full-time Audit & Supervisory Board Member Apr. 1989 Joined the Company Jun. 2005 Jun. 2006 Executive Ofﬁ cer Member of the Board, Executive Ofﬁ cer; and Senior Vice President, Research and Development Member of the Board, Executive Vice President; Senior Vice President, Research and Development; and Responsible for Chemical Business, Product Quality Management; and TCR Promotion Member of the Board, Managing Executive Ofﬁ cer; Senior Vice President, Research and Development; and Responsible for Chemical Business Unit, Product Quality Management; TCR Promotion; and China Business Senior Managing Executive Ofﬁ cer; President, Consumer Products and Chemical Business, China; Chairman of the Board and Chief Executive Ofﬁ cer, Kao (China) Holding Co., Ltd.; Chairman of the Board, Kao Commercial (Shanghai) Co., Ltd.; and Chairman of the Board, Kanebo Cosmetics (China) Co., Ltd. Full-time Audit & Supervisory Board Member (current) Jun. 2008 May 2012 Jun. 2012 Mar. 2015 22 Kao Corporation Annual Report 2015 Norio Igarashi1 Independent 2 Audit & Supervisory Board Member, Certiﬁ ed Public Accountant, Professor, Yokohama National University Apr. 1977 Registered as Certiﬁ ed Public Accountant Jul. 1988 Apr. 2007 Partner, Aoyama Audit Corporation and Price Waterhouse Professor, Graduate School of International Social Sciences, Yokohama National University (current) Audit & Supervisory Board Member, Kao Corporation (current) Mar. 2013 Yumiko Waseda1 Independent 2 Audit & Supervisory Board Member, Attorney-at-Law Apr. 1985 Apr. 2013 Jan. 2014 Mar. 2014 Registered as an attorney-at-law; Joined Masayuki Matsuda Law & Patent Ofﬁ ces (now Mori Hamada & Matsumoto, a law ﬁ rm) Joined Tokyo Roppongi Law & Patent Ofﬁ ces Partner, Tokyo Roppongi Law & Patent Ofﬁ ces (current) Audit & Supervisory Board Member, Kao Corporation (current) Board of Directors and Audit & Supervisory Board Members Toraki Inoue1 Independent 2 Audit & Supervisory Board Member, Certiﬁ ed Public Accountant, Representative Director, President, Accounting Advisory Co., Ltd. Oct. 1980 Entered Arthur Andersen Dec. 1985 Registered as Certiﬁ ed Public Accountant Jun. 1987 Resided in New York Ofﬁ ce of Arthur Andersen Oct. 1995 National Partner of Arthur Andersen Oct. 1997 Worldwide Partner of Arthur Andersen Jul. 1999 Representative Partner, Asahi & Co. Jul. 2008 Toraki Inoue Certiﬁ ed Public Accountant Ofﬁ ce (current) Jun. 2010 Representative Director, President, Accounting Advisory Co., Ltd. (current) Mar. 2016 Audit & Supervisory Board Member, Kao Corporation (current) Notes: 1. Outside Audit & Supervisory Board Member 2. Reported to Tokyo Stock Exchange, Inc. as Independent Audit & Supervisory Board Member as set forth in the Regulations of Tokyo Stock Exchange, Inc. Kao Corporation Annual Report 2015 23 Executive Officers and Executive Fellows (As of April 1, 2016) Executive Fellows Yoshinori Takema Corporate Executive Fellow Takuji Yasukawa Corporate Executive Fellow Minoru Utsumi Corporate Executive Fellow Yuji Furui Corporate Executive Fellow Doctor of Medical Science Chiaki Mukai Corporate Executive Fellow Astronaut; Doctor of Medical Science Executive Officers Michitaka Sawada President and Chief Executive Ofﬁ cer Responsible for Corporate Strategy Katsuhiko Yoshida Senior Managing Executive Ofﬁ cer President, Consumer Products Responsible for Kao Professional Services Co., Ltd. Toshiaki Takeuchi Senior Managing Executive Ofﬁ cer Representative Director, President, Kao Group Customer Marketing Co., Ltd. Representative Director, President, Kao Customer Marketing Co., Ltd. Masumi Natsusaka Managing Executive Ofﬁ cer Responsible for Beauty Care Business President, Beauty Care – Cosmetics Business Unit Representative Director, President, Kanebo Cosmetics Inc. Motohiro Morimura Managing Executive Ofﬁ cer Senior Vice President, Supply Chain Management Responsible for TCR Promotion Yasushi Aoki Managing Executive Ofﬁ cer Senior Vice President, Human Capital Development Representative Director, Chairman of the Board, Kanebo Cosmetics Inc. Senior Executive Ofﬁ cer, Senior Vice President, Human Resources and Administration, Kanebo Cosmetics Inc. President, Kao Group Corporate Pension Fund Hideko Aoki Managing Executive Ofﬁ cer Senior Vice President, Product Quality Management Kozo Saito Managing Executive Ofﬁ cer President, Consumer Products – International Business Management Chairman of the Board, Kao USA Inc. Yoshihiro Hasebe Managing Executive Ofﬁ cer Senior Vice President, Research and Development Yoshimichi Saita Senior Vice President, Media Planning and Management Vice President, Media Planning and Management – Product Public Relations Tadaaki Sugiyama Senior Vice President, Legal and Compliance Masakazu Negoro President, Chemical Business Unit Chairman of the Board, Fatty Chemical (Malaysia) Sdn. Bhd. Chairman of the Board, Pilipinas Kao, Inc. Presidente, Kao Chemicals Europe, S.L. Hideki Tanaka Senior Vice President, Procurement Takehiko Shinto Representative Director, Executive Vice President, Kao Group Customer Marketing Co., Ltd. Representative Director, President, Kanebo Cosmetics Sales Inc. Jun Shida Vice President, Research and Development – Development Research – Health Care and Household Yasushi Wada Vice President, Supply Chain Management – Demand and Supply Planning Center Tomoharu Matsuda President, Beauty Care – Skin Care and Hair Care Business Unit Masayuki Abe Senior Vice President, Enterprise Information Solutions Naoki Komoda President, Fabric and Home Care Business Unit Hitoshi Hosokawa Vice President, Research and Development – Development Research – Skin Care, Hair Care and Cosmetics Hiroyuki Yamashita Vice President, Supply Chain Management – Technology Development Center Vice President, Supply Chain Management – Demand and Supply Planning Center – Human Health Care Minoru Nakanishi Regional Executive Ofﬁ cer, President, Consumer Products, Greater China Chairman of the Board and President, Kao (China) Holding Co., Ltd. Chairman of the Board, Kao Commercial (Shanghai) Co., Ltd. Chairman of the Board, Kanebo Cosmetics (China) Co., Ltd. Akemi Ishiwata Senior Vice President, Corporate Communications Kenji Miyawaki Senior Vice President, Marketing Research and Development Satoru Tanaka President, Human Health Care Business Unit Kazuyoshi Aoki Senior Vice President, Accounting and Finance Shigeru Ueyama Senior Vice President, Corporate Strategy 24 Kao Corporation Annual Report 2015 Risk and Crisis Management Basic Policy and Organization In addition, Kao specifies major Company-wide risks as Kao regards the potential negative impact on its “corporate risks” and appoints a person to appropriately management targets and business activities as a “risk” manage each risk. and the manifestation of such risk as a “crisis,” and has When a crisis occurs, Kao responds promptly to established an organization for appropriate risk and crisis minimize injury and damage by establishing an management. organization for countermeasures centered on this Based on the Risk and Crisis Management Policy, the person in charge of corporate risks, and on departments Risk and Crisis Management Committee, chaired by the concerned with risk or subsidiaries and affiliates for member of the Board of Directors or Executive Officer in other risks. In addition, depending on the magnitude charge of risk and crisis management, ascertains the of the impact on the Kao Group as a whole, Kao also progress of cross-divisional Company-wide risk establishes a countermeasures headquarters with the management and establishes a system and operating President and Chief Executive Officer or other person plans for risk and crisis management activities. as its general manager. Based on this policy and plan, departments concerned Management of the abovementioned risks and crises is with risk or subsidiaries and affiliates appropriately manage reported to and discussed at the Meeting of the Board of risk by ascertaining and assessing risks, formulating and Directors or the Management Committee on a regular implementing necessary countermeasures. basis as well as in a timely fashion whenever necessary. Risk and Crisis Management Organization Board of Directors Management Committee Sustainability Committee Internal Control Committee Risk and Crisis Management Committee • Disclosure Committee • Compliance Committee • Information Security Committee • Risk and Crisis Management Committee • Committee for Responsible Care (RC) Promotion • Quality Assurance Committee Chair Members Executive Ofﬁcer in charge of risk and crisis management Legal and Compliance Product Quality Management Human Capital Development Accounting and Finance Kao Group Customer Marketing Kao’s Business Units Kanebo Cosmetics Inc., etc. Person in charge of corporate risk Secretariat Risk and Crisis Management, Corporate Strategy, Public Relations, Corporate Communication, etc. Divisions Kao Corporation Annual Report 2015 25 Risk and Crisis Management 2. Identifying Risks That Could Seriously Affect Achievement of Management Targets and Business Activities, and Strengthening Countermeasures For operational risks, Kao conducts risk surveys at key divisions and subsidiaries in Japan as well as at Kao Group companies outside Japan to identify events that could seriously affect Kao Group business activities, factors in their occurrence, current countermeasures and issues. Risk surveys at Kao Group companies outside Japan in 2015 ascertained the establishment of organizations to deal with emergency situations, the creation of action plans and the implementation status of education and training in order to confirm that such companies are going through the PDCA cycle in dealing with emergency situations that affect lives and business continuity. As a result, we were able to understand the differences in the response levels of Kao Group companies outside Japan with regard to their establishment of organizations to deal with social disorder caused by factors such as terrorist attacks, which have occurred in many countries in recent years, and pandemics of new types of influenza or other diseases. In 2016, we will work to enhance the level of response of the entire Kao Group to emergency situations related to social disorder or pandemics by revising global guidelines and strengthening response organizations at Kao Group companies outside Japan. 3. Strengthening the Business Continuity Plan (BCP)* We have been working to strengthen our supply chain to ensure delivery of products to customers by revising our raw materials procurement, production and logistics systems assuming a large-scale earthquake that may strike in the future. In 2015, we considered alternate locations for continuing the functions of headquarters, assuming a situation in which we were unable to secure key personnel or use main locations due to an earthquake with an epicenter in the Tokyo metropolitan area. In addition, we identified issues such as a response organization and standards for business continuity assuming a pandemic of a new type of influenza or other disease, and made revisions. In 2016, we will deal with these issues in greater depth to strengthen the BCP. * A plan for continuing key corporate activities through procedures to decide in advance which operations and functions should be continued, and which methods should be applied to continue activities, assuming various situations that cause the interruption and/or shutdown of business activities due to various events and the factors in their occurrence Priority Themes 1. Building a New Risk and Crisis Management Organization The globalization of our business increases the uncertainty and complexity of the management environment, as well as the scale and speed of the impact on business activities when a risk becomes manifest. In light of this situation, Kao worked as follows in 2015 to build a new risk and crisis management organization. (1) Expanding the Scope for Strengthening Risk Management The scope for strengthening risk management was expanded to include not only the former operational risks such as accidents and disasters, product problems and issues with compliance, but also strategy risks that would hinder the achievement of short-term and mid-term plans as well as risks involving trust in the Company, which are closely related to these risks. (2) Clarifying Major Risks to Be Handled by Management and Building an Organization for Response Kao has specified major Company-wide risks as “corporate risks,” appointed an Executive Officer in charge of managing such risks, and built a new organization to promote risk management. Corporate risks include not only risks that have an impact on business continuity, such as an earthquake with an epicenter in the Tokyo metropolitan area, for which Kao has been enhancing countermeasures, but also other risks such as those related to management strategy. (3) Strengthening the Organization and Initial Response When a Crisis Occurs Previously, dealing with risks has mainly been consideration of risk reduction activities to prevent the manifestation of risks and activities to minimize their impact. For major risks, in addition to these risk reduction activities, we have decided to strengthen the organization and our initial response when a crisis occurs, assuming the manifestation of such risks. In 2016, we will further strengthen our risk reduction activities and implement speedy and appropriate responses under our new risk and crisis management organization when a crisis occurs. 26 Kao Corporation Annual Report 2015 Compliance Basic Policy Kao upholds the principle of integrity, passed down from its founder, as one of the “Values” of its corporate philosophy, the Kao Way. “Integrity” means to behave lawfully and ethically and conduct fair and honest business activities. Kao regards integrity as the starting point of compliance and promotes it as a foundation for earning the respect and trust of all stakeholders. Structure Kao has established a Compliance Committee, chaired by a Senior Managing Executive Officer and comprised of representatives of relevant divisions and affiliates. Once every six months, the committee (1) discusses the establishment and revision of Kao’s code of conduct, the Kao Business Conduct Guidelines (BCG), and other internal compliance-related guidelines; (2) implements educational activities to promote the spread and establishment of corporate ethics both in Japan and overseas; and (3) monitors the operation of and responses to the compliance hotlines. The committee then reports important matters, provides an overview of activities and makes proposals to the Board of Directors as appropriate. Verifying the Validity and Appropriateness of Compliance Activities Based on its medium-to-long-term and annual action plans, Kao conducts compliance promotion activities including regular revision of the BCG, maintenance and operation of compliance hotlines, and Integrity Workshops. To confirm the validity and appropriateness of the activities being conducted so that they lead to more effective compliance activities, Kao has decided to ask the opinions of compliance promoters and general staff in all departments within the Company, through activities to collect employee opinions and a Compliance Roundtable, and to obtain verification from a consulting firm outside the Company from 2015 onward in order to establish action plans for subsequent years. Compliance Awareness Month In its activities to listen to employee opinions, Kao has received a lot of calls from employees to make compliance activities more relevant to their daily work. In response, Kao has set October as Compliance Awareness Month for all Kao Group companies in Japan, to coincide with the Corporate Ethics Awareness Month designated by Keidanren (The Japan Business Federation). Activities conducted have included posting a message from the Compliance Committee Chairman on the intranet and posters, disseminating compliance messages to each department from Executive Officers, an event to choose a PDCA Cycle for Compliance Activities The Kao Group’s Compliance Activities (Evaluation processes are in red) Plan • Plan introduction and/or revision of BCG and compliance-related guidelines • Plan establishment of Kao Group compliance hotlines (in new entities) • Plan new educational measures • Plan new measures based on employee opinions and third-party evaluation Do • Introduce and revise BCG and compliance-related guidelines • Establish and operate Kao Group compliance hotlines • Implement training based on plans • Implement new educational measures based on employee opinions I • Implement training based on execution of new m measures planned in line with third-party evaluation Proactive improvement Act • Address issues that require improvement based on division self-diagnoses and third-party evaluation Check • Self-check of activities (Division self-diagnoses, audit by Internal Audit, etc.) • Ask employee opinions • Third-party evaluation Kao Corporation Annual Report 2015 27 Compliance selected at the end of 2014, bringing the cumulative participation rate to 85% (9,360 of 11,000 employees). Integrity Workshops will continue to be conducted in 2016, mainly in areas where they have not yet been held. Establishing and Operating Compliance Hotlines In accordance with the needs of each country or region, the Kao Group either sets up both internal and external hotlines or operates only an external hotline. After properly confirming the caller’s needs, the company will investigate the matter while taking steps to protect the caller’s privacy to the fullest extent possible. The company will obtain consent from the caller when third-party confirmation is necessary. The company will also ensure that the caller suffers no disadvantage as a result of a report or consultation made in good faith. In 2015, there were 196 calls to the hotlines in the Kao Group, including companies outside Japan, none of which concerned serious matters. About 70% of the calls were consultations about workplace communication. Selected as One of the World’s Most Ethical Companies for Ten Consecutive Years Kao has been selected as one of the 2016 World’s Most Ethical Companies, as announced by the U.S. think tank Ethisphere Institute in March 2016. The company has been on this list since the inception of the list in 2007. Among both Japanese companies and global manufacturers of daily consumer goods and chemicals, Kao is the only company to be chosen for ten consecutive years. This year, 131 companies worldwide were selected. This recognition reflects that the spirit of integrity passed down from Kao’s founding continues to be implemented by all Kao Group members through practice of the Kao Way and the BCG. World’s Most Ethical Companies presentation compliance logo through intranet voting, sharing case studies, and a test to review the BCG. Employees expressed opinions that the vote on the logo enhanced a feeling of unity among the Group companies, and that the month offered a novel opportunity to reflect on compliance once each year. In 2016, Compliance Awareness Month will be held throughout the entire Kao Group, including Group companies outside Japan. Implementing Guidelines for Compliance In the BCG, Kao has made clear its strong stance against bribery by specifying that bribes shall not be given to or received from any party, regardless of affiliation. Furthermore, the BCG prohibits “facilitation payments,” which are small payments to government officials. In addition, the Kao Group has introduced the Kao Anti- Bribery Guidelines, which include detailed anti-bribery rules applicable Group-wide as well as operating procedures for entertainment, giving and receiving gifts, and other matters geared to the business, country or region. The Kao Group has also introduced the Kao Guidelines for Avoiding Conflicts of Interest, which set forth requirements for approval and notification to deal with specific circumstances where a conflict of interest may arise such as competitive activities, transactions, monetary loans and personal investments by executives and employees. In 2015, the Kao Business Conduct Guidelines Casebook, a collection of case studies in a question-and- answer format that was previously issued in Japanese and English, was made available in local versions in 17 languages and distributed to employees in each country or region. Moreover, the BCG was revised in April 2016 with updated content to incorporate the Kao Group’s measures since 2013 and its approach to its operating environment. Accelerating the Spread of Integrity Workshops To deepen understanding of the BCG and other compliance-related rules, group training is conducted for new employees, newly appointed managers, executives in Japan and employees of Group companies outside Japan. A BCG refresher test is also conducted every year so that employees review its content (participation rate: 95.2% (33,508 of 35,175 employees)). Moreover, Integrity Workshops for BCG training have been held since 2008. In 2015, workshops were held at Group companies in Europe, mainly conducted by 16 instructors 28 Kao Corporation Annual Report 2015 Sustainability Basic Policy Based on its corporate philosophy, the Kao Way, the Kao Group contributes to realizing a sustainable society by working to find solutions to social issues through Yoki-Monozukuri tailored to the needs of the times and the community. On July 1, 2013, we announced the Kao Sustainability Statement to share with stakeholders inside and outside the Kao Group our policy for achieving both corporate growth and a sustainable society as our business expands globally. With this statement as our point of reference, the Kao Group proactively seeks the trust and support of its stakeholders, aiming to enhance its contributions to a sustainable society. Kao Sustainability Statement Three Key Areas Conservation Community Culture Day-to-day Work / Basic Activities Topics Respect for Human Rights: Adoption of Kao Human Rights Policy In 2005, Kao joined the United Nations Global Compact, which deﬁ nes 10 principles in the four areas of human rights, labor, the environment and anti-corruption. In addition, Kao has implemented initiatives for respecting human rights, making its stance clear in the Kao Business Conduct Guidelines, the Guidelines for Supplier’s Assessment and other internal rules. In light of growing interest from the international community, Kao adopted the Kao Human Rights Policy in June 2015 based on the United Nations Guiding Principles on Business and Human Rights. In this policy, Kao sets forth its respect for international principles on human rights, its efforts for human rights due diligence, employee education and other matters. Since adopting the policy, we have been working to disseminate it among employees through measures such as an explanatory meeting and an introduction in the company newsletter. To prepare for human rights due diligence, we have been considering methods for human rights risk assessment in Kao Group companies and establishing the structure for promotion. In addition, Kao has begun requesting its suppliers to register with Sedex, a global platform for sharing ethical data on corporations, in addition to the current supplier self-assessments conducted by Kao itself. SRI Indexes and External CSR Evaluations (As of March 25, 2016) SRI indexes for which Kao has been selected CSR-related evaluations from external organizations Kao Corporation also received Gold Class 2016 and Industry Mover 2016 Kao Corporation named for ten consecutive years SRI: Socially Responsible Investment CSR: Corporate Social Responsibility Kao Corporation Annual Report 2015 29 Environment Basic Policy In a society confronted with a range of global environmental challenges, such as the depletion of natural resources and global warming, Kao has adopted the mission of striving for the enrichment of the lives of people globally. In 2009, we announced the Kao Environmental Statement and medium- term objectives for 2020. The entire Kao Group has been focusing on manufacturing that reduces environmental impact and on ecology-centered management as it continues meeting its responsibilities as a user of chemicals. We recognize CO2, water, chemical substances and biodiversity as four priority areas for taking action. In addition, we conduct “eco together” activities to promote cooperation with our diverse stakeholders, including consumers, business partners and society, throughout the product lifecycle, from raw material procurement to production, distribution, sales, use and disposal. Outside Japan, we promote nationwide cleanliness and water-saving activities in China jointly with the Center for Environmental Education and Communications of the Ministry of Environmental Protection of China. Activities are focused on the theme of “aiming to save 10,000 liters annually per household.” Initiatives in 2015 1. Reducing Water Consumption during Product Use For household laundering, which consumes a large amount of water, Kao launched the concentrated liquid laundry Water Use during Product Use* (Millions m3) 3,000 0 2,500 2,000 1,500 1,000 500 0 -21 -20 -21 -22 -24 1,828 1,860 1,871 1,937 1,912 1,763 2005 2011 2012 2013 2014 2015 Water use during product use (Left) Per unit (of sales) reduction rate (The value for 2005 equals 0) (Right) (%) 0 -20 -40 detergent Attack Neo in 2009. The use of ultra-concentration technology that requires only one laundry rinse cycle saves not only water but also electricity and time. In August 2013, we launched Ultra Attack Neo, which uses a new cleaning ingredient for high-performance, speedy laundering that powerfully removes dirt and odors with just five minutes of washing time. We have also introduced water-saving laundry detergents in China, Australia, Singapore, Hong Kong, Thailand and Indonesia. For dishwashing, another activity that consumes a large amount of water, in August 2014 we launched an improved version of CuCute dishwashing detergent with higher cleaning power and faster rinsing. Water consumption in the bath is even higher. We launched improved versions of Merit Shampoo, which cuts rinse water by approximately 20 percent compared with the original version, in 2010 and Bath Magiclean bathroom cleaner, which offers improved cleaning power and easier rinsing, in August 2015. 2. Activities to Conserve Biodiversity Kao works to conserve biodiversity in line with the Kao Basic Policy on Biodiversity Conservation, which was announced in 2011. Each Kao plant conducts its business activities in consideration of regional ecosystems. In June 2015, Pilipinas Kao, Inc. received the PEZA (Philippine Economic Zone Authority) Environmental Performance Award from the government of the Philippines in recognition of mangrove planting, beach cleanup and other activities it has been conducting since 2010. In October 2015, Kao Corporation’s Kashima Plant received an award from the Minister of the Environment of Japan in a contest for corporate activities to promote a vibrant ecosystem, in recognition of its activities to create a forest for employees on its grounds. * Water use during product use is defined as the amount of water during the product use stage mainly of individual consumer products in Japan, multiplied by their annual sales quantity. Some data entries through 2005 have been retroactively modified. Pilipinas Kao environmental protection team Receiving an award from President Aquino 30 Kao Corporation Annual Report 2015 Sustainability Supply Chain Basic Policy Kao is further enhancing its competitiveness in global markets with the aim of becoming a company with a global presence. We conduct procurement of raw materials that is not only fair and impartial, based on legal compliance and the highest ethics, but that also contributes to corporate growth, with attention to product quality and stable procurement. With the aim of contributing to the sustainability of the world, which we have adopted as part of the mission of the Kao Way, we give full consideration to preservation of natural resources, conservation, safety and human rights as we strive to fulfill our corporate social responsibilities. Initiatives Sustainable Procurement of Raw Materials In recognition of the risks to sustainable development from scarcity of resources, degradation of biodiversity, climate change and other environmental problems, as well as human rights issues such as forced labor, Kao strives for sustainable procurement of raw materials. These initiatives require comprehensive engagement of the supply chain. In particular, we work toward climate change mitigation and conservation of water resources by participating in the CDP 1 Supply Chain Project 2 and requiring major suppliers to disclose and reduce greenhouse gas emissions and use water resources appropriately. We also conduct activities to conserve forest resources. In addition, in cooperation with our suppliers, we are streamlining distribution and reducing the environmental impact of procured products. In particular, based on its awareness of the dependence of its businesses on natural capital, Kao is committed to zero deforestation at the source in its procurement of raw materials including palm oil and paper. Over the medium-to-long term, Kao strives to reduce its use of natural capital by reducing the amount of raw materials used in its business and shifting to alternative raw materials such as algae or other non-edible biomass sources. Moreover, in consideration of human rights and ethical issues that have emerged due to globalization, Kao Traceability of Paper and Pulp Amount purchased (tons) Traceability rate 2013* 100 3% 2014 127 2015 147 78% 96% * The value for amount purchased in 2013 equals 100. will promote measures such as confirmation of supply chain risks using Sedex.3 Specific activities are as follows. 1. Procurement of Sustainable Raw Materials Under its procurement guidelines, Kao has declared a goal of switching to procurement of sustainable raw materials for palm oil, paper and pulp by 2020 as an initiative toward zero deforestation. Kao has joined the Roundtable on Sustainable Palm Oil and received supply chain certification at its related plants for procurement of certified palm oil and palm kernel oil. By 2020, Kao aims to purchase only sustainable palm oil and palm kernel oil that is traceable to the plantation. As of the end of 2015, Kao has confirmed traceability to the mill, and efforts for confirmation to the plantation are continuing. As for procurement of paper and pulp, by 2020 Kao aims to purchase only recycled paper or sustainably sourced paper and pulp for use in its consumer products, packaging and office paper, and has achieved a progress rate of 96% toward that goal as of the end of 2015. In particular, by 2020 Kao aims to purchase only pulp for raw materials that is traceable to the source. 2. Sustainable Sourcing of Plant Resources In recognition of the problems of the scarcity of plant resources and plunder of resources, Kao purchases plant resources in consideration of ABS 4 and continues initiatives to diversify sourcing routes and to convert from natural to cultivated plants, considering the natural environment and local communities at their source 3. Initiatives to Reduce Dependence on Petrochemical Resources in Packaging Kao continues efforts to reduce total volume of plastics used through minimization of container size and development of refill containers, while promoting use of biomass materials such as plant-based polyethylene in containers and packaging. Notes: 1. CDP (Carbon Disclosure Project) refers to cooperation between institutional investors and major corporations in natural capital initiatives and promotion of disclosure of greenhouse gas emissions, and water and forest conservation activities. 2. The CDP Supply Chain Project refers to cooperation between the CDP and corporations, with corporations requesting their suppliers to disclose information regarding natural capital initiatives; this project affects the entire supply chain. 3. Sedex (Supplier Ethical Data Exchange) is a large-scale, global platform for the sharing of information relating to labor standards, health and safety, environmental protection and business practices, aimed at promoting the adoption and maintenance of ethical business practices in global supply chains. 4. ABS (Access and Benefit Sharing) refers to access to genetic resources and the fair and equitable sharing of benefits arising from their utilization, as defined by the Convention on Biological Diversity. Kao Corporation Annual Report 2015 31 Sustainability Human Capital Development Basic Policy The efforts of each and every employee to pursue individual achievements by exercising his or her own abilities and characteristics to the utmost can contribute to the success of the employer. Based on this concept, Kao has established Guidelines for Human Capital Development with the aim of creating such an environment and corporate culture. We provide various opportunities and support for employees to develop their skills and capabilities in accordance with their own level of motivation, individual characteristics and organizational goals. Promoting Diversity and Inclusion We fairly evaluate the performance of each employee to find, develop and promote human capital with motivation and capabilities. In addition, we work for detailed communication with workplaces by exploring issues through employee opinion surveys and Genba Roundtable sessions in which President Sawada has the opportunity to communicate his vision directly to employees, and for employees to freely share ideas and exchange opinions. We also promote the development of an organizational culture and working environment in which both individuals and the company achieve growth. Cultivating Employees Who Can Act Globally Employees’ personal growth is vital to the growth of the company as a whole. Kao implements a wide range of different training programs, providing Kao employees all over the world with learning opportunities. Training is designed to meet a wide range of different needs, and incorporates common elements based on a global perspective as well as elements tailored to meet the specific needs of particular regions, companies or positions. The Global Leadership Development Program (GLDP) is a global program in which members selected from companies in the Kao Group study Kao’s business challenges from a broader perspective, engage in vigorous discussions and make proposals to executive management. Networking among participants and overseas sessions also provide opportunities to learn about diverse cultures. At the same time, in-house trainers are cultivated at individual Kao business locations around the world, working with speed and attention to detail to ensure that all Kao employees absorb the Kao Way and Kao’s emphasis on integrity. Active Participation by Women Evaluating and promoting employees based on their motivation and capabilities leads to expanded roles for female employees. At Kao Corporation, the Kao Group’s headquarters, three female officers have been appointed to the positions of Managing Executive Officer, Executive Officer and Audit & Supervisory Board Member. As of December 31, 2015, the percentage of female managers in the Kao Group is 27.5% worldwide and 10.4% in Japan. Composition of Kao Group Employees and Managers (As of December 31, 2015) Change in Percentage of Female Managers Employees Japan 22,105 Asia (excluding Japan) 7,091 Americas and Europe 3,830 Total 33,026 Female employees (%) 12,124 (54.8%) 3,412 (48.1%) 1,804 (47.1%) 17,340 (52.5%) Managers 2,557 1,032 1,142 4,731 Female managers (%) 267 (10.4%) 492 (47.7%) 542 (47.5%) 1,301 (27.5%) (%) 50 40 30 20 10 0 32 Kao Corporation Annual Report 2015 23.2 23.6 27.7 27.6 27.5 2011 2012 2013 2014 2015 Financial Section 11-Year Summary Management Discussion and Analysis Consolidated Financial Statements Notes to Consolidated Financial Statements Independent Auditor’s Report 34 36 46 52 79 Kao Corporation Annual Report 2015 33 11-Year Summary Kao Corporation and Consolidated Subsidiaries Years ended December 31, 2015 to 2012, period ended December 31, 2012, and years ended March 31, 2012 to 2006. For the year: Net sales ............................................................................... Business Segments Beauty Care Business .................................................... Human Health Care Business ......................................... Fabric and Home Care Business ..................................... Consumer Products Business ..................................... Chemical Business ......................................................... Eliminations .................................................................... Former Segments Consumer Products ........................................................ Prestige Cosmetics ........................................................ Chemical Products ......................................................... Eliminations .................................................................... Geographic Area Japan ............................................................................. Asia ................................................................................ Asia and Oceania ............................................................ Americas ........................................................................ North America ................................................................ Europe ........................................................................... Eliminations .................................................................... Operating income ................................................................. Net income ........................................................................... Capital expenditures ............................................................. Depreciation and amortization ............................................... Cash flows ............................................................................ Research and development expenditures.............................. (% of sales) ....................................................................... Advertising expenditures ...................................................... (% of sales) ....................................................................... At year end: Total assets .......................................................................... Net worth ............................................................................. Millions of yen Dec. 2015 Dec. 2014 Dec. 2013 Dec. 2012 (Restated) ¥1,471,791 ¥1,401,707 ¥1,315,217 ¥1,220,359 607,692 280,723 334,416 1,222,831 288,456 (39,496) 589,907 240,077 324,505 1,154,489 288,022 (40,804) 570,268 210,628 311,023 1,091,919 261,192 (37,894) 537,814 189,614 291,988 1,019,416 236,473 (35,530) — — — — 1,019,016 281,533 — 137,827 — 154,350 (120,935) 164,380 98,862 83,414 73,623 135,394 51,987 3.5% 94,496 6.4% — — — — 997,309 244,903 — 124,216 — 152,056 (116,777) 133,270 79,590 68,484 79,660 125,436 51,739 3.7% 92,410 6.6% — — — — 959,405 199,655 — 108,599 — 134,168 (86,610) 124,656 64,764 63,687 77,297 109,497 49,650 3.8% 86,406 6.6% 1,281,869 675,608 1,198,233 658,232 1,133,276 628,709 — — — — 933,767 160,005 — 89,998 — 110,519 (73,930) 111,791 53,107 — — — — — — — — — — Number of employees........................................................... 33,026 32,707 33,054 Per share: Net income ........................................................................... Cash dividends ...................................................................... Net worth ............................................................................. Weighted average number of shares Yen ¥ 197.19 80.00 1,347.29 ¥ 156.46 70.00 1,313.63 ¥ 126.03 64.00 1,227.54 ¥101.77 — — outstanding during the period (in thousands) ........................ 501,352 508,687 513,880 — Key financial ratios: Return on sales ..................................................................... Return on equity ................................................................... Net worth ratio ...................................................................... 6.7% 14.8 52.7 5.7% 12.4 54.9 4.9% 10.7 55.5 4.4% 9.5 — % Notes: 1. Due to a change in the fiscal year end, the term of consolidation for the fiscal period ended December 31, 2012 consists of the nine months from April to December for Kao Corporation and its subsidiaries whose fiscal year end was previously March 31 and the twelve months from January to December for subsidiaries whose fiscal year end was December 31. 2. December 2012 (Restated) represents figures for the year from January 1 to December 31, 2012, for Kao Group companies whose fiscal year end was previously March 31. 3. As of January 2014, certain changes have been made in inter-company transactions among subsidiaries in the Consumer Products Business in the Americas and Europe. 4. Australia and New Zealand, which had been included in Asia and Oceania until the fiscal year ended March 31, 2012, have been reclassified under Americas from the fiscal period ended December 31, 2012. 5. Kao reorganized its operations effective April 2007 by integrating the former consumer products business and prestige cosmetics business into the Consumer Products Business, which is divided into three businesses (the Beauty Care Business, the Human Health Care Business and the Fabric and Home Care Business). Together with the Chemical Business, Kao’s business operations now consist of four segments. Figures for March 2007 have been restated to reflect the change. 6. Net sales by segment include intersegment sales. Under the former segments, net sales of Chemical Products include intersegment sales to Consumer Products and Prestige Cosmetics. Under the current segments, net sales of the Chemical Business include intersegment sales to the Beauty Care Business, the Human Health Care Business and the Fabric and Home Care Business. 34 Kao Corporation Annual Report 2015 Dec. 2012 Mar. 2012 Mar. 2011 Mar. 2010 Mar. 2009 Mar. 2008 Mar. 2007 Mar. 2006 Millions of yen ¥1,012,595 ¥1,216,096 ¥1,186,831 ¥1,184,385 ¥1,276,316 ¥1,318,514 ¥1,231,808 ¥ 971,230 537,938 181,758 285,645 1,005,341 247,635 (36,880) 533,514 175,761 279,008 988,283 231,997 (33,449) 547,944 183,151 276,918 1,008,013 207,834 (31,462) 588,330 191,319 274,202 1,053,851 262,058 (39,593) 627,914 191,300 274,657 1,093,871 258,674 (34,031) 584,284 183,608 269,519 1,037,411 223,609 (29,212) — — — — 912,443 — 152,361 — 80,328 112,123 (70,424) 104,591 46,738 49,101 81,380 97,028 45,516 3.8% 81,082 6.8% — — — — 918,499 — 131,699 — 79,200 111,158 (56,171) 94,034 40,507 44,868 84,778 95,269 44,911 3.8% 86,359 7.3% — — — — 953,369 — 161,927 — 98,999 140,623 (78,602) 96,800 64,463 44,624 87,463 122,441 46,126 3.6% 90,258 7.1% — — — — 968,594 — 158,295 — 111,017 154,648 (74,040) 116,253 66,562 49,045 93,444 131,114 45,070 3.4% 99,176 7.5% 744,748 292,663 223,609 (29,212) 924,196 — 125,989 — 106,731 135,918 (61,026) 120,858 70,528 70,143 92,171 134,906 44,389 3.6% 96,892 7.9% — — — — — — 704,034 85,247 208,890 (26,941) 708,056 — 110,898 — 95,168 109,486 (52,378) 120,135 71,140 203,595 60,758 107,943 40,262 4.1% 83,770 8.6% 444,425 151,977 236,748 833,150 208,071 (28,626) — — — — 720,789 159,857 — 89,998 — 110,519 (68,568) 101,567 52,765 41,929 59,788 80,200 37,493 3.7% 67,045 6.6% 1,030,347 582,699 33,350 — — — — 925,339 — 173,588 — 85,397 117,005 (85,233) 108,590 52,435 47,178 79,798 101,960 48,171 4.0% 82,209 6.8% 991,272 538,030 34,069 1,022,799 528,895 1,065,751 565,133 1,119,676 545,230 1,232,601 574,038 1,247,797 564,532 1,220,564 509,676 34,743 34,913 33,745 32,900 32,175 29,908 Yen ¥ 101.12 62.00 1,116.61 ¥ 100.46 60.00 1,031.08 ¥ 87.69 58.00 1,013.05 ¥ 75.57 57.00 1,054.31 ¥ 120.25 56.00 1,017.19 ¥ 122.53 54.00 1,070.67 ¥ 129.41 52.00 1,035.66 ¥ 130.58 50.00 935.11 521,824 521,936 532,980 536,009 536,085 543,228 544,996 544,127 % 5.2% 9.4 56.6 4.3% 9.8 54.3 3.9% 8.5 51.7 3.4% 7.3 53.0 5.1% 11.5 48.7 5.0% 11.7 46.6 5.7% 13.1 45.2 7.3% 14.9 41.8 7. Kanebo Cosmetics Inc. and its consolidated subsidiaries are included in the consolidated statements of income from the year ended March 31, 2007, and in the consolidated balance sheets as of March 31, 2006. The results of Kanebo Cosmetics Inc., which had a fiscal year ended December 31, are included for the eleven months starting in February 2006, after the company was added to the Kao Group. 8. Net sales by geographic area including interregion sales are classified based on the location of Kao Group companies. 9. Cash flows are defined as net income plus depreciation and amortization minus cash dividends. 10. Net income per share is computed based on the weighted average number of shares outstanding during the respective years. The portion of net income unavailable to common shareholders, such as preferred dividends, which should be included in the appropriation of retained earnings, is deducted from net income for the calculation of net income per share. The same method is applied to the calculation of net worth per share. 11. Cash dividends per share are the amounts applicable to the respective years, including dividends to be paid after the end of the year. 12. Net worth is equity, excluding minority interests and stock acquisition rights. 13. In calculating return on equity, equity excludes minority interests and stock acquisition rights. Kao Corporation Annual Report 2015 35 Management Discussion and Analysis Overview of Consolidated Results Japan, a key market for the Kao Group, grew by 3 percent on a value basis and consumer purchase prices rose compared The Kao Group has been working to carry out Kao Group Mid- with the previous fiscal year. Excluding inbound demand term Plan 2015 (K15), which started in fiscal 2013, with the (demand from visitors to Japan), the cosmetics market in aim of becoming a company with a global presence as it Japan contracted by 2 percent on a value basis due to a tough works for both sustained “profitable growth” by increasing year-on-year comparison associated with the impact of an the added value of its products and “contributions to the increase in the consumption tax rate on April 1, 2014. sustainability of the world” by making proposals to resolve Under these circumstances, the Kao Group has been social issues and conducting social contribution activities working to launch and nurture products with high added value through its business activities. As a result, the Kao Group has in response to changes in consumer needs based on its been able to achieve all of the targets of K15 as of fiscal 2015, concept of Yoki-Monozukuri (see note on page 12), which which was the final year of the plan. emphasizes research and development geared to customers and consumers. The Kao Group has also been conducting cost (For Reference) reduction activities and other measures. Kao Group Mid-term Plan 2015 (K15) Net sales increased 5.0 percent compared with the Target 1: Break previous records for consolidated net previous fiscal year to ¥1,471.8 billion (US$12,217.1 million). sales and profits Target 2: Achieve numerical management targets for fiscal 2015 Consolidated net sales ¥1,400.0 billion Consolidated operating income ¥150.0 billion Overseas sales ratio* 30 percent or more Operating income was ¥164.4 billion (US$1,364.5 million), an increase of ¥31.1 billion compared with the previous fiscal year. Net income increased ¥19.3 billion compared with the previous fiscal year to ¥98.9 billion (US$820.6 million). * Ratio of net sales to foreign customers to consolidated net sales Analysis of Income Statement During the fiscal year ended December 31, 2015, the global Net sales increased 5.0 percent compared with the previous economy recovered moderately, although weakness was fiscal year to ¥1,471.8 billion (US$12,217.1 million). Excluding apparent in emerging nations in Asia and elsewhere. The the effect of currency translation, net sales would have Japanese economy also continued on a moderate recovery increased 2.8 percent. In the Consumer Products Business in track. The household and personal care products market in Japan, market share grew and sales increased due to factors (Year ended March 31, 2012, period ended December 31, 2012 and years ended December 31, 2012 to 2015) Net Sales / Gross Proﬁt Ratio Net Sales (Left) Gross Proﬁt Ratio (Right) Operating Income / Operating Income Ratio Operating Income (Left) Operating Income Ratio (Right) (Billions of yen) 1,500 1,216.1 1,220.4 1,000 1,012.6 56.8 56.3 1,471.8 1,401.7 1,315.2 56.5 54.9 55.3 500 0 Mar. 2012 Dec. 2012 Dec. 2012 (Restated) Dec. 2013 Dec. 2014 Dec. 2015 (%) 100 80 60 40 20 0 (Billions of yen) 180 120 108.6 8.9 111.8 9.2 101.6 10.0 164.4 11.2 133.3 124.7 9.5 9.5 60 0 Mar. 2012 Dec. 2012 Dec. 2012 (Restated) Dec. 2013 Dec. 2014 Dec. 2015 (%) 20 15 10 5 0 Note: The gross proﬁt ratio has not been disclosed for the year ended December 31, 2012. 36 Kao Corporation Annual Report 2015 Costs, Expenses and Income as Percentages of Net Sales Years ended December 31, 2015, 2014 and 2013 Cost of sales .................................................................................. Gross profit .................................................................................... Selling, general and administrative expenses ................................ Operating income .......................................................................... Income before income taxes and minority interests ..................... Net income .................................................................................... Dec. 2015 44.7% 55.3 44.1 11.2 11.0 6.7 Dec. 2014 45.1% 54.9 45.4 9.5 9.0 5.7 Dec. 2013 43.5% 56.5 47.0 9.5 8.7 4.9 including market growth, new product launches and further Information by Segment enhancement of sales promotion activities. Outside Japan, sales in Asia grew substantially. In the Chemical Business, Consumer Products Business sales decreased excluding the effect of currency translation Sales increased 5.9 percent compared with the previous fiscal due to selling price adjustments associated with fluctuations year to ¥1,222.8 billion (US$10,150.5 million). Excluding the effect in raw material prices and the impact of a decline in demand of currency translation, sales would have increased 3.8 percent. in some customer industries. In Japan, sales increased 2.6 percent compared with the Profits increased due to the effect of increased sales, previous fiscal year to ¥923.0 billion (US$7,661.6 million). mainly in the Human Health Care Business in Japan and the Excluding the effect of the revision of the sales system for Consumer Products Business in Asia, and lower prices of raw Kao Sofina, sales would have increased 3.4 percent. The Kao materials, mainly natural fats and oils and petrochemicals, Group made efforts that included responding to changing among other factors. Operating income was ¥164.4 billion consumer lifestyles and social issues such as the environment, (US$1,364.5 million), an increase of ¥31.1 billion compared health, the aging society and hygiene, launching numerous with the previous fiscal year. Net income increased ¥19.3 high-value-added products and enhancing proposal-oriented billion compared with the previous fiscal year to ¥98.9 billion sales activities. Sales grew, mainly of sanitary products, (US$820.6 million). although sales of cosmetics decreased compared with the Net income per share was ¥197.19 (US$1.64), an increase of previous fiscal year. ¥40.73, or 26.0 percent, from ¥156.46 in the previous fiscal year. In Asia, sales increased 27.7 percent to ¥179.5 billion (US$1,489.6 million). Excluding the effect of currency (Year ended March 31, 2012, period ended December 31, 2012 and years ended December 31, 2012 to 2015) Net Income / Return on Sales Net Income (Left) Return on Sales (Right) Net Income per Share (Billions of yen) 100 98.9 80 60 40 20 0 79.6 64.8 52.4 52.8 53.1 4.3 5.2 4.4 4.9 6.7 5.7 Mar. 2012 Dec. 2012 Dec. 2012 (Restated) Dec. 2013 Dec. 2014 Dec. 2015 (%) 15 10 5 0 (Yen) 200 150 100 50 00 197.19 156.46 126.03 100.46 101.12 101.77 Mar. 2012 Dec. 2012 Dec. 2012 (Restated) Dec. 2013 Dec. 2014 Dec. 2015 Kao Corporation Annual Report 2015 37 translation, sales would have increased 18.1 percent. Growth decreased 3.0 percent. Excluding the effect of the revision of continued as the Kao Group worked in areas such as launching the sales system for Kao Sofina, sales would have increased and nurturing products targeting the middle-class consumer 0.6 percent, or decreased 0.2 percent excluding the effect of segment, collaborating with retailers, utilizing wholesale currency translation. In Japan, the Kao Group continued to channels and expanding sales regions. work to reinforce focal brands, but sales decreased compared In the Americas, sales increased 12.4 percent to ¥89.7 with the previous fiscal year due to the impact of severe billion (US$744.9 million). Excluding the effect of currency market competition. The Kao Group began its reform of the translation, sales would have decreased 0.1 percent. Sales of Kao Sofina brand in November, with advance sales at a skin care products and professional hair care products grew, flagship store in Ginza, Tokyo of new SOFINA iP products for but sales of hair care products decreased compared with the women in the “quest for long-lasting beauty,” even under previous fiscal year. harsh conditions such as fatigue and stress. In self-selection In Europe, sales increased 6.7 percent to ¥89.9 billion brands, sales of KATE TOKYO makeup grew and the suisai (US$746.2 million). Excluding the effect of currency skin care brand performed well due to inbound demand. translation, sales would have increased 5.7 percent. Sales of Outside Japan, sales increased from the previous fiscal year hair care products and professional hair care products grew. excluding the effect of currency translation due to strong Operating income increased ¥22.9 billion compared with the performance in China, where structural reforms have been previous fiscal year to ¥134.2 billion (US$1,114.0 million) due to completed, and the rest of Asia, with strong performance by factors including the effect of increased sales in the Human KATE TOKYO in particular. Health Care Business in Japan and increased sales in Asia. Sales of skin care products increased compared with the Note: The Kao Group’s Consumer Products Business consists of the Beauty Care Business, the Human Health Care Business, and the Fabric and Home Care Business. previous fiscal year. In Japan, sales increased with strong performance by Bioré UV care products and facial cleanser Beauty Care Business and Curél for sensitive skin. In Asia, Bioré performed steadily and sales grew excluding the effect of currency translation. Sales increased 3.0 percent compared with the previous fiscal Sales in the Americas grew excluding the effect of currency year to ¥607.7 billion (US$5,044.3 million). Excluding the effect translation, with steady performance by Bioré due to the of currency translation, sales would have increased 0.5 percent. addition of items based on new proposals. Sales of cosmetics decreased 2.3 percent compared with Sales of hair care products increased compared with the the previous fiscal year to ¥254.7 billion (US$2,114.2 million). previous fiscal year. In Japan, sales increased as new Excluding the effect of currency translation, sales would have shampoo and conditioner products performed steadily and (Year ended March 31, 2012, period ended December 31, 2012 and years ended December 31, 2012 to 2015) Consumer Products Business Net Sales / Operating Income Net Sales (Left) Operating Income (Right) Beauty Care Business Net Sales / Operating Income 1,091.9 1,154.5 (Billions of yen) 150 1,222.8 134.2 100 103.0 111.3 (Billions of yen) 750 537.9 500 444.4 1,005.3 1,019.4 833.2 85.6 84.7 93.4 Net Sales (Left) Operating Income (Right) (Billions of yen) 50 537.8 570.3 589.9 607.7 28.4 29.4 21.8 20.1 23.9 250 15.4 0 Mar. 2012 Dec. 2012 Dec. 2012 (Restated) Dec. 2013 Dec. 2014 Dec. 2015 40 30 20 10 0 Mar. 2012 Dec. 2012 Dec. 2012 (Restated) Dec. 2013 Dec. 2014 Dec. 2015 50 0 38 Kao Corporation Annual Report 2015 (Billions of yen) 1,400 1,200 1,000 800 600 400 200 0 Management Discussion and Analysis increased market share. In Asia, sales excluding the effect of Japan due to growth in sales of high-value-added products such currency translation decreased because the Kao Group narrowed as Laurier F, which wicks moisture away to be gentle on the down its brands. In the Americas, sales were basically unchanged skin, and Laurier Slim Guard, which offers both high absorbency excluding the effect of currency translation. In Europe, sales and comfort. Sales of Laurier also increased steadily in Asia. increased excluding the effect of currency translation, due to firm Merries baby diapers continued to sell strongly in Japan, and performance by John Frieda and professional hair care products. the Kao Group is expanding production capacity. In China, sales Operating income increased ¥1.0 billion compared with the of both imports from Japan and locally produced products previous fiscal year to ¥29.4 billion (US$244.2 million), mainly targeting the middle-class consumer segment grew. In due to the effect of increased sales and more efficient Indonesia, locally produced products launched in September management of expenses. Operating income before amortization 2014 targeting the middle-class consumer segment sold of goodwill and other items related to acquisitions (EBITA) steadily, including the expansion of distribution channels. decreased ¥1.5 billion compared with the previous fiscal year Sales of personal health products increased compared with to ¥55.8 billion (US$463.0 million), which is equivalent to 9.2 the previous fiscal year. Sales of oral care products increased percent of sales. as the Kao Group launched high-value-added products. Sales of bath additives were steady. Sales of MegRhythm steam thermo Human Health Care Business sheets increased substantially as the Kao Group captured Sales increased 16.9 percent compared with the previous fiscal inbound demand, mainly for MegRhythm Steam Eye Masks. year to ¥280.7 billion (US$2,330.2 million). Excluding the effect Operating income increased ¥13.7 billion compared with of currency translation, sales would have increased 14.3 percent. the previous fiscal year to ¥35.5 billion (US$295.1 million), Sales of food and beverage products decreased compared mainly due to the effect of the increase in sales. with the previous fiscal year. For the Healthya brand of functional drinks that promote body fat utilization, the Kao Fabric and Home Care Business Group strengthened its promotion of the function of highly Sales increased 3.1 percent compared with the previous concentrated tea catechins in increasing the fat-burning ability fiscal year to ¥334.4 billion (US$2,775.9 million). Excluding of its green tea. However, Healthya products, which include the effect of currency translation, sales would have increased coffee drinks as well as green tea, were impacted by 2.1 percent. intensifying market competition. Sales of fabric care products increased compared with the Sales of sanitary products increased substantially. The previous fiscal year. Sales in Japan were basically unchanged Laurier brand of sanitary napkins increased its market share in from the previous fiscal year due to the contraction of the (Year ended March 31, 2012, period ended December 31, 2012 and years ended December 31, 2012 to 2015) Human Health Care Business Net Sales / Operating Income Net Sales (Left) Operating Income (Right) Fabric and Home Care Business Net Sales / Operating Income Net Sales (Left) Operating Income (Right) (Billions of yen) 40 280.7 35.5 (Billions of yen) 350 300 285.6 311.0 324.5 62.2 61.0 292.0 59.6 (Billions of yen) 80 334.4 69.2 55.5 236.7 51.4 240.1 210.6 189.6 21.9 16.9 181.8 152.0 14.6 13.6 11.5 (Billions of yen) 300 250 200 150 100 50 0 30 20 10 0 250 200 150 100 50 0 60 40 20 0 Mar. 2012 Dec. 2012 Dec. 2012 (Restated) Dec. 2013 Dec. 2014 Dec. 2015 Mar. 2012 Dec. 2012 Dec. 2012 (Restated) Dec. 2013 Dec. 2014 Dec. 2015 Kao Corporation Annual Report 2015 39 powder laundry detergent market and the impact of market the effect of an increase in sales of high-value added products competition. The Kao Group improved Ultra Attack Neo ultra- and lower raw material prices. concentrated liquid laundry detergent with a combination of surfactants and citric acid for previously unattainable whiteness Chemical Business and launched Attack Antibacterial EX Super Clear Gel liquid Sales increased 0.2 percent compared with the previous fiscal laundry detergent, a blend of clear antibacterial components. year to ¥288.5 billion (US$2,394.4 million). Excluding the effect In fabric softeners, Humming was renewed to enable both of currency translation, sales would have decreased 2.3 percent. softness and quick water absorbency. For Humming Fine, the Demand remained weak in some customer industries in Kao Group made improvements to add the first drying effect Japan. Outside Japan, although there was a decrease in to its 24-hour deodorant. In addition, market share increased demand in customer industries and a decline in public works for Flair Fragrance fabric softener featuring about twice the investment in some sectors, growth was apparent in export fragrance release capability when sensing moisture or demand with the depreciation of the euro. perspiration. In Asia, sales increased compared with the Sales of oleo chemicals were impacted by adjustments in previous fiscal year. Sales of Attack laundry detergent grew, selling prices in connection with fluctuations in raw material due in part to the contribution of Attack Jaz1, a powder prices and by a decrease in demand in customer industries. In detergent for hand washing targeting the middle-class performance chemicals, amid stagnant demand associated consumer segment launched in Indonesia in June 2014. with decreased public investment and other factors, the Kao Sales of home care products increased compared with the Group worked to develop and expand sales of high-value- previous fiscal year. In Japan, CuCute dishwashing detergent added products with reduced environmental impact. Specialty continued to perform strongly. Magiclean household cleaners, chemicals were impacted by structural changes in the which underwent a complete renewal, and Quickle household personal computer market, but sales of high-value-added cleaning sheets sold well. The renewed Resesh fabric refresher products grew as the Kao Group provided products that meet stimulated the market and sales were strong. In fabric care customer needs. and home care products, the Kao Group also gained support Operating income increased ¥8.1 billion compared with the from consumers with the launch of the Deodorizing Strong previous fiscal year to ¥30.1 billion (US$250.0 million) due to range, which aims to address concerns about odors at nursing the effect of increased sales of high-value-added products and care sites and improve quality of life. cost reduction activities. Operating income increased ¥8.3 billion compared with the previous fiscal year to ¥69.2 billion (US$574.7 million) due to (Year ended March 31, 2012, period ended December 31, 2012 and years ended December 31, 2012 to 2015) (Year ended March 31, 2012, period ended December 31, 2012 and years ended December 31, 2013 to 2015) Chemical Business Net Sales / Operating Income Net Sales (Left) Operating Income (Right) 288.0 (Billions of yen) 288.5 40 (Billions of yen) 300 247.6 200 100 0 208.1 23.0 261.2 236.5 30.1 21.5 22.1 16.8 18.1 Mar. 2012 Dec. 2012 Dec. 2012 (Restated) Dec. 2013 Dec. 2014 Dec. 2015 Note: Net sales include intersegment sales. 30 20 10 0 40 Kao Corporation Annual Report 2015 Total Assets / Net Worth* Total Assets Net Worth (Billions of yen) 1,500 1,000 991.3 1,030.3 1,133.3 1,198.2 1,281.9 538.0 582.7 628.7 658.2 675.6 500 0 Mar. 2012 Dec. 2012 Dec. 2013 Dec. 2014 Dec. 2015 * Net worth is equity, excluding minority interests and stock acquisition rights. Management Discussion and Analysis Financial Structure As a result of the above factors, the net worth ratio (defined as net worth divided by total assets) was 52.7 Total assets increased ¥83.6 billion from the end of the previous percent compared with 54.9 percent at the end of the fiscal year to ¥1,281.9 billion (US$10,640.6 million). The previous fiscal year. principal increases in assets were a ¥17.7 billion increase in cash and time deposits, a ¥64.9 billion increase in short-term investments, a ¥9.9 billion increase in other current assets, Cash Flows and a ¥20.1 billion increase in property, plant and equipment. The principal decrease in assets was a ¥24.2 billion decrease in intangible assets due to the progress of amortization of The balance of cash and cash equivalents as of December 31, 2015 increased ¥80.8 billion from a year earlier to ¥309.4 trademarks and other intellectual property rights and goodwill. billion (US$2,568.6 million). Total liabilities increased ¥68.9 billion from the end of the previous fiscal year to ¥594.7 billion (US$4,936.8 million). The principal increases in liabilities were a ¥39.4 billion increase in long-term debt, a ¥31.8 billion increase in liability for retirement benefits, which includes an increase due to the adoption of an accounting standard for retirement benefits, and a ¥10.0 billion increase in notes and accounts payable – other. The principal decrease in liabilities was a ¥20.0 billion decrease in current portion of long-term debt. Cash Flows from Operating Activities Net cash provided by operating activities totaled ¥180.9 billion (US$1,501.3 million). The principal increases in net cash were income before income taxes and minority interests of ¥161.6 billion, depreciation and amortization of ¥73.6 billion and change in notes and accounts payable – other and accrued expenses of ¥8.6 billion. The principal decreases in net cash were income taxes paid of ¥46.2 billion and change in trade Total equity increased ¥14.7 billion from the end of the receivables of ¥8.4 billion. previous fiscal year to ¥687.1 billion (US$5,703.8 million). The principal increase in equity was net income totaling ¥98.9 billion. The principal decreases in net assets were foreign currency translation adjustments of ¥14.5 billion and payments Cash Flows from Investing Activities Net cash used in investing activities totaled ¥74.0 billion (US$614.4 million). This primarily consisted of purchase of of dividends from retained earnings totaling ¥37.1 billion. property, plant and equipment of ¥64.1 billion. Due to the adoption of an accounting standard for retirement benefits, the balance of retained earnings at the beginning of the period decreased by ¥27.9 billion. (Year ended March 31, 2012, period ended December 31, 2012 and years ended December 31, 2013 to 2015) Cash Flows* / Capital Expenditures Cash Flows Capital Expenditures Cash Dividends per Share / Payout Ratio Cash Dividends per Share (Left) Payout Ratio (Right) (Billions of yen) 150 102.0 100 135.4 125.4 109.5 80.2 83.4 63.7 68.5 47.2 41.9 Mar. 2012 Dec. 2012 Dec. 2013 Dec. 2014 Dec. 2015 50 0 (Yen) 90 60 30 0 60.00 59.7 62.00 61.3 64.00 50.8 80.00 70.00 44.7 40.6 Mar. 2012 Dec. 2012 Dec. 2013 Dec. 2014 Dec. 2015 (%) 100 80 60 40 20 0 * Cash ﬂows are deﬁned as net income plus depreciation and amortization minus cash dividends. Kao Corporation Annual Report 2015 41 Cash Flows from Financing Activities business. We believe EVA indicates “true” profit. Continuously Net cash used in financing activities totaled ¥20.6 billion increasing EVA raises corporate value, which is consistent (US$171.0 million). This primarily consisted of ¥38.4 billion for with the long-term interest of not only shareholders but other payments of cash dividends, including to minority shareholders. stakeholders as well. The Kao Group aims to conduct business In March 2015, the Kao Group repaid loans totaling ¥20.0 activities that expand the scale of its business while also billion but borrowed ¥40.0 billion with the objective of increasing EVA, and uses EVA for business performance maintaining an appropriate capital cost ratio and reinforcing evaluation, performance-based compensation and strategic its financial base to invest for growth. decision-making. During the fiscal year ended December 31, 2015, EVA increased to 244 from 165 in the previous year due to double-digit growth in NOPAT and the Kao Group’s ability to Basic Policies Regarding Distribution of Profits and Dividends for the Period minimize the increase in invested capital by maximizing the use of its assets. As a result, EVA for the year set new record highs in terms of both the amount of improvement and the In order to achieve profitable growth, Kao Corporation secures absolute value. EVA is expressed as an index with the year an internal reserve for capital investment and acquisitions ended December 31, 2011 as 100. The Kao Group conducted from a medium-to-long-term management perspective and the following EVA-related activities during the fiscal year. places priority on providing shareholders with steady and continuous dividends. In addition, Kao Corporation flexibly Investing for Growth: During the fiscal year ended December considers share repurchase and retirement of treasury stock 31, 2015, the Kao Group invested aggressively for future from the standpoint of improving capital efficiency. growth. The Kao Group expanded the capacity of production In accordance with these policies, Kao Corporation announced lines inside and outside Japan, mainly for sanitary products, a year-end dividend for fiscal 2015 of ¥42.00 (US$0.35) per share, and a new factory in China for the Chemical Business was an increase of ¥6.00 per share compared with the previous completed and started production. The Kao Group also fiscal year. Consequently, cash dividends for the fiscal year relocated its Odawara Research Laboratories and invested in increased ¥10.00 per share compared with the previous fiscal reform of cosmetics business. Research and development year, resulting in a total of ¥80.00 (US$0.66) per share. The expenditures were ¥52.0 billion (US$431.5 million), which was consolidated payout ratio was 40.6 percent. the equivalent of 3.5 percent of net sales, remaining at a high For the fiscal year ending December 31, 2016, Kao Corporation level relative to net sales. plans to pay total cash dividends of ¥92.00 per share, an increase of ¥12.00 per share compared with the fiscal year ended Increasing Profit: During the fiscal year ended December 31, December 31, 2015. Although the operating environment is 2015, the Consumer Products Business in Japan, excluding challenging, this plan is in accordance with Kao Corporation’s cosmetics, continued to increase its market share, and the basic policies regarding distribution of profits, and free cash Consumer Products Business performed well in Asia. As a flow and other factors have also been taken into consideration. result, sales grew substantially, leading to an increase in As a result, Kao Corporation is aiming for its 27th consecutive profit. In addition, cost reduction activities and the benefits fiscal year of increases in dividends. from the stabilization of raw material prices at a low level EVA contributed significantly to improvement in NOPAT. Financial Improvement: Free cash flow* increased ¥25.5 billion to ¥106.8 billion (US$886.9 million) for the fiscal year Economic Value Added (EVA®) is the Kao Group’s main ended December 31, 2015. The Kao Group has set priorities management metric, defined as net operating profit after tax for how it will deploy this free cash flow. Investments for (NOPAT) less a charge for the cost of capital employed in the mergers and acquisitions and additional capital expenditures 42 Kao Corporation Annual Report 2015 Management Discussion and Analysis for future growth are the top priorities, followed by stable and 2. Response to Changes in Retailing continuous dividends. Kao Corporation increased cash dividends The Kao Group’s Consumer Products Business is affected by per share for the fiscal year by ¥10.00 to ¥80.00 (US$0.66) for changes in the structure of retailing, including progress in the the 26th consecutive year of growth in cash dividends. creation of new corporate groups through retail industry * Free cash flow: Net cash provided by operating activities + Net cash used in investing activities Business Risks and Other Risks Various risks arise in the course of a company’s business. The Kao Group takes reasonable measures to mitigate risks by preventing the occurrence of, diversifying and hedging them. In the event a risk manifests itself, the Kao Group responds appropriately and works to minimize its impact. However, unanticipated situations may occur that exert a significant impact on the Kao Group’s business results and financial condition. The risks described below are not a comprehensive list of risks the Kao Group faces. Other risks exist and may have an impact on investment decisions. Any statements below concerning the future are judgments made by Kao Corporation as of the submission of its securities report to the Ministry of Finance on March 25, 2016. (1) Consumer Products Business 1. Response to Changes in Consumer Needs The Kao Group’s Consumer Products Business is affected by business cycles and changes in consumers’ values in the market of each country. The Consumer Products Business maintains and improves brand value by understanding changes in consumer needs and using the comprehensive strength of the Kao Group’s product development and manufacturing in working to create high-value-added products and provide services through approaches in areas including the environment, health, the aging society and hygiene. However, as a consequence of uncertainties in these business activities due to various factors, the Consumer Products Business may be unable to provide products and services that respond to changes in consumer needs and brand value could decrease. This could have an impact on the Kao Group’s business results and financial condition. mergers and integration in the market and the emergence of new retail channels. The Consumer Products Business conducts sales activities and makes new offerings that respond to these structural changes. However, as a consequence of uncertainties in these business activities due to various factors, the Consumer Products Business may be unable to conduct sales activities or make new offerings that respond to these structural changes. This could have an impact on the Kao Group’s business results and financial condition. (2) Chemical Business The Kao Group’s Chemical Business is affected by factors including trends in customer demand and fluctuations in raw material prices. The Chemical Business promotes creation of high-value added products that match customer needs, conducts research and development of products in consideration of the environment, and provides such products while working to reduce costs and deal with product prices. However, as a consequence of uncertainties in these business activities due to various factors, the Chemical Business may be unable to provide products that match customer needs or respond to matters such as fluctuations in raw material prices. This could have an impact on the Kao Group’s business results and financial condition. (3) Business Acquisitions, Business Alliances and Mergers The Kao Group may implement business acquisitions, business alliances, mergers or other such measures. When implementing them, the Kao Group makes decisions after thoroughly assessing economic value and its partner companies. However, due to various unforeseeable uncertainties in its business activities, the Kao Group may be unable to produce the results it initially expected. This could have an impact on the Kao Group’s business results and financial condition. (4) Overseas Business Expansion As one of its growth strategies, the Kao Group is conducting operations in markets in Asia, the Americas, Europe and elsewhere, with a particular emphasis on strengthening its Kao Corporation Annual Report 2015 43 operations in countries where higher economic growth rates (7) Response to Natural Disasters, Accidents and and market expansion are forecast. However, the Kao Group Other Incidents may be unable to strengthen its operations as a consequence To deal with earthquakes and other natural disasters, the of uncertainties due to various factors in the course of business Kao Group has formulated disaster countermeasures for its including the occurrence of a slowdown in economic growth production facilities and primary offices and a business or uncertain political or social conditions, intensifying competition, continuity plan (BCP), and will continue to strengthen and the inability to conduct sufficient cost management or the reinforce them in the future. However, the occurrence and emergence of problems in relationships with retail outlets, sales consequent damage of an earthquake on a scale exceeding agents or other trading partners. This could have an impact on assumptions that hinder the supply of products to the market the Kao Group’s business results and financial condition. due to problems in areas such as securing raw materials and maintaining production, among other impediments, could (5) Procurement of Raw Materials have a serious impact on the Kao Group’s business results Market prices for natural fats and oils and petroleum-related and financial condition. In addition, the emergence of major materials used as raw materials for products of the Kao Group changes in demand trends due to a worsening economic are affected by factors including geopolitical risks, the balance environment associated with the earthquake could have a between supply and demand, abnormal weather and exchange serious impact on the Kao Group’s business results and rate fluctuations. The Kao Group has moved to reduce the financial condition. Furthermore, the occurrence of an effect of increases in raw material prices through measures explosion or fire at production facilities, information system including cost reductions and passing on increases in raw malfunction, problems at a supplier of raw materials, material costs into product prices. In addition, the Kao Group is dysfunction of social infrastructures such as electric power conducting development of substitute raw materials for natural and water, environmental pollution from harmful substances, fats and oils through research into advanced effective utilization the spread of infectious disease, terrorism, political change, of non-edible raw materials. However, unexpectedly radical riots and other incidents could hinder the supply of products changes in market conditions and pricing could have an impact to the market. This could have a serious impact on the Kao on the Kao Group’s business results and financial condition. Group’s reputation, business results and financial condition. (6) Product Quality (8) Currency Exchange Rate Fluctuations The Kao Group designs and manufactures products from the Foreign currency-denominated transactions are affected by viewpoint of consumers, in compliance with related laws and changes in currency exchange rates. The Kao Group hedges regulations and voluntary standards. In the development foreign exchange risk through various measures such as stage prior to market launch, the Kao Group conducts settlement of transactions through foreign currency accounts, thorough safety testing and survey research to confirm the foreign exchange contracts, and currency swaps to mitigate safety of products. After market launch, the Kao Group works the effect on business results. The Kao Group does not engage to further improve quality by incorporating the opinions and in derivative transactions for the purpose of speculation. desires of consumers through its consumer communication However, because items on the financial statements of centers. However, the unanticipated occurrence of a serious overseas consolidated subsidiaries are translated into quality problem or concerns about product safety or reliability Japanese yen, substantial variance in the exchange rate from resulting from new scientific knowledge would not only cause the expected rate at the time of conversion will have an impact difficulties for the relevant brand, but would also have a major on the Kao Group’s business results and financial condition. impact on the reputation of all of the Kao Group’s products. This could have an impact on the Kao Group’s business results and financial condition. 44 Kao Corporation Annual Report 2015 Management Discussion and Analysis (9) Impact of Deferred Tax Assets and Impairment numerous customers used for product development, sales The Kao Group records various tangible and intangible fixed promotion and other purposes. The Kao Group conducts assets and deferred tax assets including assets used in the thorough information management using guidelines for course of business and goodwill incurred in corporate handling information and implements appropriate security acquisitions. The Kao Group may not generate the expected cash measures for its information systems, including both flow due to divergence from planned future business results, a hardware and software. However, a leak of confidential or decline in market value or other factors. This could have an impact personal information held by the Kao Group resulting from an on the Kao Group’s business results and financial condition. attack on its server, unlawful access, a computer virus or (10) Securing Human Capital on the Kao Group’s reputation, business results and financial other factor that exceeds expectations could have an impact The Kao Group strives to secure diverse, superior human condition. capital to achieve its business goals globally. Human capital with advanced expertise in areas such as research and (13) Litigation development, production technologies, marketing and sales The Kao Group conducts diverse businesses globally, and activities are indispensable in aiming for the Yoki-Monozukuri various types of litigation may be brought against it. The result (see note on page 12) that consumers support. However, an of such litigation could have an impact on the Kao Group’s inability to secure the necessary human capital due to business results and financial condition. changes in employment conditions or other factors could have an impact on the Kao Group’s business results and financial condition. (11) Compliance with Laws and Regulations In the course of its business activities, the Kao Group must comply with a variety of laws and regulations concerning areas such as standards for product quality and safety, the environment and chemical substances, as well as accounting standards, tax law and regulations related to labor and transactions. The Kao Group has constructed a compliance system and strives to comply with all related laws and regulations. However, a serious legal violation by the Kao Group or by a consignee or other party could have an impact on the Kao Group’s reputation, business results and financial condition. Moreover, a change in current laws and regulations, or new laws and regulations could restrict the Kao Group’s business activities, require investment for compliance, or otherwise affect the Kao Group. This could have an impact on the Kao Group’s business results and financial condition. (12) Information Management The Kao Group possesses confidential information related to matters including research and development, production, marketing and sales, as well as the personal information of Kao Corporation Annual Report 2015 45 Consolidated Balance Sheet Kao Corporation and Consolidated Subsidiaries December 31, 2015 and 2014 Assets Current assets: Cash and time deposits (Notes 3 and 17) ................................................... Short-term investments (Notes 3, 4 and 17)............................................... Notes and accounts receivable (Note 17): Trade ...................................................................................................... Nonconsolidated subsidiaries and affiliates ............................................ Other ...................................................................................................... Inventories: Finished goods ....................................................................................... Work in process and raw materials ........................................................ Deferred tax assets (Note 7) ...................................................................... Other current assets .................................................................................. Allowance for doubtful receivables (Note 17) ............................................. Total current assets ............................................................................. Millions of yen Dec. 2015 Dec. 2014 Thousands of U.S. dollars (Note 2) Dec. 2015 ¥ 125,159 188,551 ¥ 107,412 123,639 $ 1,038,923 1,565,128 204,734 1,999 4,126 112,329 45,805 20,763 31,393 (1,626) 733,233 203,396 1,835 7,604 111,831 45,956 20,232 21,477 (1,648) 641,734 Property, plant and equipment (Note 5): Land........................................................................................................... Buildings and structures ………………………………………………………… Machinery, equipment and other ……………………………………………… Lease assets (Note 8) …………………………………………………………… Construction in progress ............................................................................ Total .................................................................................................... Accumulated depreciation ……………………………………………………… Net property, plant and equipment ……………………………………… 64,715 376,714 799,266 11,212 18,734 1,270,641 (942,911) 327,730 69,445 361,223 782,794 11,261 27,381 1,252,104 (944,489) 307,615 Intangible assets: Goodwill …………………………………………………………………………… Trademarks ................................................................................................ Other intangible assets .............................................................................. Total intangible assets ……………………………………………………… 127,099 1,791 14,832 143,722 139,941 15,145 12,844 167,930 Investments and other assets: Investment securities (Notes 4 and 17)………………………………………… Investments in and advances to nonconsolidated subsidiaries and affiliates ........................................................................ Deferred tax assets (Note 7) ....................................................................... Asset for retirement benefits (Note 9) ......................................................... Other assets ............................................................................................... Total investments and other assets ........................................................ See Notes to Consolidated Financial Statements. 12,945 11,655 107,454 9,385 23,896 1,027 29,931 77,184 9,329 20,630 9,692 29,648 80,954 77,903 198,357 8,525 248,452 640,691 ¥1,281,869 ¥1,198,233 $10,640,566 46 Kao Corporation Annual Report 2015 1,699,460 16,593 34,249 932,423 380,219 172,350 260,588 (13,497) 6,086,436 537,187 3,127,036 6,634,565 93,069 155,507 10,547,364 (7,826,936) 2,720,428 1,055,026 14,867 123,118 1,193,011 Liabilities and Equity Current liabilities: Short-term debt (Notes 6 and 17) ................................................................... Current portion of long-term debt (Notes 6 and 17) ........................................ Notes and accounts payable (Note 17): Trade ........................................................................................................... Nonconsolidated subsidiaries and affiliates ................................................. Other ........................................................................................................... Income taxes payable (Note 17) ...................................................................... Accrued expenses .......................................................................................... Liability for loss related to cosmetics .............................................................. Other current liabilities (Notes 6 and 7) .......................................................... Total current liabilities .............................................................................. Long-term liabilities: Long-term debt (Notes 6 and 17) ................................................................... Liability for retirement benefits (Note 9) ......................................................... Liability for loss related to cosmetics .............................................................. Other long-term liabilities (Notes 6 and 7) ...................................................... Total long-term liabilities .......................................................................... Commitments and contingent liabilities (Notes 8, 10 and 18) Equity (Notes 11 and 12): Common stock: Authorized-1,000,000,000 shares in 2015 and 2014 Issued-504,000,000 shares in 2015 and 2014 ............................................. Capital surplus ................................................................................................. Stock acquisition rights ................................................................................... Retained earnings ........................................................................................... Treasury stock, at cost (2,541,816 shares in 2015 and 2,921,992 shares in 2014) ............................. Accumulated other comprehensive income Unrealized gain on available-for-sale securities ............................................ Deferred gain (loss) on derivatives under hedge accounting ....................... Foreign currency translation adjustments ................................................... Remeasurements of defined benefit plans ................................................. Total ......................................................................................................... Minority interests ............................................................................................ Total equity .............................................................................................. Millions of yen Dec. 2015 Dec. 2014 Thousands of U.S. dollars (Note 2) Dec. 2015 ¥ 47 748 ¥ 1,137 20,776 $ 390 6,209 128,650 8,628 71,794 32,073 99,003 2,891 33,659 377,493 123,536 74,178 2,474 17,055 217,243 124,979 8,433 61,766 28,108 94,584 8,220 32,533 380,536 84,152 42,414 — 18,738 145,304 1,067,901 71,619 595,950 266,232 821,806 23,998 279,397 3,133,502 1,025,450 615,738 20,536 141,571 1,803,295 85,424 108,659 889 502,134 85,424 109,561 944 468,684 709,089 901,959 7,379 4,168,125 (8,202) (9,719) (68,083) 7,063 (3) (19,315) (152) 676,497 10,636 687,133 ¥1,281,869 5,507 8 (4,853) 3,619 659,175 13,218 672,393 ¥1,198,233 58,629 (25) (160,330) (1,262) 5,615,481 88,288 5,703,769 $10,640,566 Kao Corporation Annual Report 2015 47 Consolidated Statement of Income Kao Corporation and Consolidated Subsidiaries Years ended December 31, 2015 and 2014 Net sales (Note 14) ........................................................................................... Cost of sales ..................................................................................................... Gross profit..................................................................................................... Selling, general and administrative expenses (Note 15) ............................. Operating income (Note 14) .......................................................................... Other income (expenses): Interest and dividend income ........................................................................ Interest expense ............................................................................................ Foreign currency exchange gain (loss) .......................................................... Equity in earnings (losses) of nonconsolidated subsidiaries and affiliates .. Impairment loss (Notes 5 and 14) ................................................................. Other, net (Note 16) ....................................................................................... Other income (expenses), net ................................................................... Millions of yen Dec. 2015 ¥1,471,791 Dec. 2014 ¥1,401,707 Thousands of U.S. dollars (Note 2) Dec. 2015 $12,217,075 658,221 813,570 649,190 164,380 1,261 (1,486) (472) 2,656 (4,014) (746) (2,801) 632,205 769,502 636,232 133,270 1,014 (1,295) 1,171 2,225 (132) (9,492) (6,509) 5,463,775 6,753,300 5,388,811 1,364,489 10,467 (12,335) (3,918) 22,047 (33,319) (6,193) (23,251) Income before income taxes and minority interests .................................. 161,579 126,761 1,341,238 Income taxes (Note 7): Current ............................................................................................................ Deferred.......................................................................................................... Total income taxes...................................................................................... 49,574 12,525 62,099 44,316 2,023 46,339 411,504 103,968 515,472 Income before minority interests .................................................................. 99,480 80,422 825,766 Minority interests in earnings of consolidated subsidiaries ........................ 618 832 5,130 Net income ....................................................................................................... ¥ 98,862 ¥ 79,590 $ 820,636 Per share of common stock (Notes 1.v and 19): Basic net income ............................................................................................ Diluted net income ......................................................................................... Cash dividends applicable to the year ........................................................... Yen U.S. dollars (Note 2) ¥197.19 196.92 80.00 ¥156.46 156.24 70.00 $1.64 1.63 0.66 See Notes to Consolidated Financial Statements. 48 Kao Corporation Annual Report 2015 Consolidated Statement of Comprehensive Income Kao Corporation and Consolidated Subsidiaries Years ended December 31, 2015 and 2014 Income before minority interests .................................................................... Millions of yen Dec. 2015 ¥ 99,480 Dec. 2014 ¥ 80,422 Thousands of U.S. dollars (Note 2) Dec. 2015 $ 825,766 Other comprehensive income (Note 13) Unrealized gain (loss) on available-for-sale securities ...................................... Foreign currency translation adjustments ....................................................... Share of other comprehensive income in affiliates ......................................... Remeasurements of defined benefit plans ..................................................... Total other comprehensive income ............................................................. 1,310 (15,793) (9) (3,712) (18,204) 639 24,709 222 (3,725) 21,845 10,874 (131,094) (75) (30,813) (151,108) Comprehensive income ................................................................................... ¥ 81,276 ¥102,267 $ 674,658 Comprehensive income attributable to: Shareholders of Kao Corporation .................................................................... Minority interests ............................................................................................ See Notes to Consolidated Financial Statements. ¥ 82,173 (897) ¥100,250 2,017 $ 682,104 (7,446) Kao Corporation Annual Report 2015 49 Consolidated Statement of Changes in Equity Kao Corporation and Consolidated Subsidiaries Years ended December 31, 2015 and 2014 Thousands Outstanding number of shares of common stock Common stock Capital surplus Stock acquisition rights Retained earnings Treasury stock, at cost Millions of yen Unrealized gain on available- for-sale securities Deferred gain (loss) on derivatives under hedge accounting Foreign currency translation adjustments Post retirement liability adjustments for foreign consolidated subsidiaries Remeasurements of defined benefit plans Total Minority interests Total equity 512,170 ¥85,424 ¥109,561 ¥1,120 ¥471,383 79,590 (33,814) ¥ (9,397) ¥ 4,733 ¥ 12 ¥(28,416) ¥(4,590) ¥ — (11,527) 435 (50,041) (79) 1,323 (48,396) 48,396 (176) 774 (4) 23,563 4,590 3,619 ¥12,810 ¥629,830 79,590 ¥642,640 79,590 (33,814) (50,041) 1,244 — 32,366 (33,814) (50,041) 1,244 — 32,774 408 501,078 85,424 109,561 944 468,684 (9,719) 5,507 8 (4,853) — 3,619 659,175 13,218 672,393 501,078 85,424 109,561 944 (27,931) 440,753 98,862 (37,091) (9,719) 5,507 8 (4,853) — 3,619 (9) 389 (54) (390) 1,571 (902) (55) 1,556 (11) (14,462) (3,771) (27,931) 631,244 98,862 (37,091) (54) 1,181 (902) (16,743) 13,218 (27,931) 644,462 98,862 (37,091) (54) 1,181 (902) (19,325) (2,582) 501,458 ¥85,424 ¥108,659 ¥ 889 ¥502,134 ¥ (8,202) ¥ 7,063 ¥ (3) ¥(19,315) ¥ — ¥ (152) ¥676,497 ¥10,636 ¥687,133 Thousands Outstanding number of shares of common stock Common stock Capital surplus Stock acquisition rights Retained earnings Treasury stock, at cost Thousands of U.S. dollars (Note 2) Post retirement liability adjustments for foreign consolidated subsidiaries Deferred gain (loss) on derivatives under hedge accounting Unrealized gain on available- for-sale securities Foreign currency translation adjustments Remeasurements of defined benefit plans Total Minority interests Total equity 501,078 $709,089 $909,446 $7,836 $3,890,462 $(80,675) $45,713 $ 67 $(40,284) $— $ 30,040 $5,471,694 $109,720 $5,581,414 501,078 709,089 909,446 7,836 (231,850) 3,658,612 820,636 (307,886) (80,675) 45,713 67 (40,284) 30,040 (9) 389 (448) (3,237) 13,040 109,720 (231,850) 5,239,844 820,636 (307,886) (448) 9,803 (231,850) 5,349,564 820,636 (307,886) (448) 9,803 (7,487) (457) 12,916 (92) (120,046) (31,302) (7,487) (138,981) (21,432) (7,487) (160,413) 501,458 $709,089 $901,959 $7,379 $4,168,125 $(68,083) $58,629 $(25) $(160,330) $— $ (1,262) $5,615,481 $ 88,288 $5,703,769 Balance at January 1, 2014 .............. Net income ..................... Cash dividends, ¥66.00 per share .......... Purchase of treasury stock ............... Disposal of treasury stock ............... Retirement of treasury stock ............... Net change in the year ... Balance at December 31, 2014 (January 1, 2015, as previously reported) ... Cumulative effect of accounting change (Notes 1.n and 9) .......... Balance at January 1, 2015 (as restated) ........... Net income ..................... Cash dividends, ¥74.00 per share .......... Purchase of treasury stock ............... Disposal of treasury stock ............... Change due to purchase of shares of consolidated subsidiaries ..................... Net change in the year ... Balance at December 31, 2015 ........ Balance at December 31, 2014 (January 1, 2015, as previously reported) ... Cumulative effect of accounting change (Notes 1.n and 9) .......... Balance at January 1, 2015 (as restated) ........... Net income ..................... Cash dividends, US$0.61 per share ....... Purchase of treasury stock ............... Disposal of treasury stock ............... Change due to purchase of shares of consolidated subsidiaries ..................... Net change in the year ... Balance at December 31, 2015 ........ See Notes to Consolidated Financial Statements. 50 Kao Corporation Annual Report 2015 Consolidated Statement of Cash Flows Kao Corporation and Consolidated Subsidiaries Years ended December 31, 2015 and 2014 Millions of yen Dec. 2015 Dec. 2014 Thousands of U.S. dollars (Note 2) Dec. 2015 Operating activities: Income before income taxes and minority interests ...................................... ¥161,579 ¥126,761 $1,341,238 Adjustments for: Income taxes paid ....................................................................................... Depreciation and amortization ..................................................................... Impairment loss (Note 5) ............................................................................. (Gain) loss on sales or disposals of property, plant and equipment, and intangible assets, net ............................................................................... Equity in (earnings) losses of nonconsolidated subsidiaries and affiliates ........ Unrealized foreign currency exchange (gain) loss ....................................... Change in trade receivables ....................................................................... Change in inventories .................................................................................. Change in trade payables ............................................................................ Change in notes and accounts payable - other and accrued expenses ...... Change in accrued consumption taxes ....................................................... Other, net .................................................................................................... Net cash provided by operating activities ................................................ Investing activities: Payments into time deposits ......................................................................... Proceeds from withdrawal of time deposits ................................................... Purchase of property, plant and equipment .................................................... Purchase of intangible assets ......................................................................... Increase in investments in and advances to nonconsolidated subsidiaries and affiliates ............................................................................................... Other, net ....................................................................................................... Net cash used in investing activities ........................................................ Financing activities: Increase (decrease) in short-term debt ........................................................... Proceeds from long-term loans ....................................................................... Repayments of long-term loans ...................................................................... Purchase of treasury stock ............................................................................. Payments of cash dividends ........................................................................... Other, net ........................................................................................................ Net cash used in financing activities ........................................................ Translation adjustments on cash and cash equivalents ................................ Net increase (decrease) in cash and cash equivalents .................................. Cash and cash equivalents, beginning of year (Note 3)................................. Cash and cash equivalents, end of year (Note 3) ........................................... See Notes to Consolidated Financial Statements. (46,234) 73,623 4,014 3,499 (2,656) (768) (8,410) (4,745) 7,334 8,581 (2,535) (12,418) 180,864 (2,669) 1,355 (64,056) (5,619) — (3,031) (74,020) (1,128) 40,000 (20,012) (55) (38,375) (1,031) (20,601) (5,466) 80,777 228,662 ¥309,439 (49,294) 79,660 132 2,706 (2,225) (1,220) (10,953) (12,397) 6,715 2,048 6,576 (3,391) 145,118 (2,125) 88 (51,151) (4,507) (1,358) (4,755) (63,808) (273) 20,001 (20,009) (50,044) (34,963) 266 (85,022) (383,780) 611,131 33,319 29,045 (22,047) (6,375) (69,810) (39,387) 60,878 71,229 (21,043) (103,078) 1,501,320 (22,155) 11,248 (531,717) (46,642) — (25,161) (614,427) (9,363) 332,033 (166,116) (457) (318,544) (8,558) (171,005) 4,776 1,064 227,598 ¥228,662 (45,373) 670,515 1,898,083 $2,568,598 Kao Corporation Annual Report 2015 51 Notes to Consolidated Financial Statements Kao Corporation and Consolidated Subsidiaries Years ended December 31, 2015 and 2014 1 Summary of Significant Accounting Policies a) Basis of presenting consolidated financial statements The accompanying consolidated financial statements have been prepared in accordance with the provisions set forth in the Japanese Financial Instruments and Exchange Law and its related accounting regulations, and in accordance with accounting principles generally accepted in Japan (“Japanese GAAP”), which are different in certain respects as to application and disclosure requirements of International Financial Reporting Standards. In preparing the consolidated financial statements, certain reclassifications and rearrangements have been made to the consolidated financial statements issued in Japan in order to present them in a form that is more familiar to readers outside Japan. Certain financial statement items of the previous fiscal year were reclassified to conform to the presentation for the current fiscal year. The preparation of financial statements in accordance with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from these estimates. b) Consolidation and accounting for investments in nonconsolidated subsidiaries and affiliates The accompanying consolidated financial statements include the accounts of Kao Corporation (the “Company”) and its significant subsidiaries (collectively, the “Companies"). Investments in most of the nonconsolidated subsidiaries and affiliates over which the Companies have the ability to exercise significant influence (mainly 20-50 percent owned companies) are accounted for using the equity method. Under the control and influence concepts, companies in which the parent company and/or its consolidated subsidiaries, directly or indirectly, are able to exercise control over operations are fully consolidated, and other companies over which the Company and/ or its consolidated subsidiaries have the ability to exercise significant influence are accounted for using the equity method. Investments in the remaining subsidiaries and affiliates are stated at cost except for write-downs recorded for the value of investments that have been permanently impaired. If the equity method of accounting had been applied to these investments, the effect on the accompanying consolidated financial statements would not be material. All significant intercompany balances and transactions have been eliminated in consolidation. All material unrealized profit included in assets resulting from transactions within the Companies is eliminated. The excess of cost of investments in the subsidiaries and affiliates over the fair value of the net assets of the acquired subsidiary and affiliate at the dates of acquisition, consolidation goodwill, is being amortized over an estimated period not exceeding 20 years. transactions and events under similar circumstances should, in principle, be unified for the preparation of the consolidated financial statements, (2) financial statements prepared by foreign subsidiaries in accordance with either International Financial Reporting Standards or the generally accepted accounting principles in the United States of America tentatively may be used for the consolidation process, (3) however, the following items should be adjusted in the consolidation process so that net income is accounted for in accordance with Japanese GAAP, unless they are not material: 1) Amortization of goodwill 2) Scheduled amortization of actuarial gain or loss of pensions that has been recorded in equity through other comprehensive income 3) Expensing capitalized development costs of R&D 4) Cancellation of the fair value model of accounting for property, plant, and equipment and investment properties and incorporation of the cost model of accounting 5) Exclusion of minority interests from net income, if contained in net income d) Unification of accounting policies applied to foreign affiliated companies for the equity method The accounting standard requires adjustments to be made to conform the affiliate’s accounting policies for similar transactions and events under similar circumstances to those of the parent company when the affiliate’s financial statements are used in applying the equity method unless it is impracticable to determine such adjustments. In addition, financial statements prepared by foreign affiliated companies in accordance with either International Financial Reporting Standards or the generally accepted accounting principles in the United States of America tentatively may be used in applying the equity method if the following items are adjusted so that net income is accounted for in accordance with Japanese GAAP, unless they are not material: 1) Amortization of goodwill 2) Scheduled amortization of actuarial gain or loss on pensions that has been recorded in equity through other comprehensive income 3) Expensing capitalized development costs of R&D 4) Cancellation of the fair value model of accounting for property, plant, and equipment and investment properties and incorporation of the cost model of accounting 5) Exclusion of minority interests from net income, if contained in net income e) Business combinations The accounting standard for business combinations requires companies to account for business combinations in accordance with the following policies: 1) Business combinations should be accounted for by the purchase method except combinations of entities under common control and joint ventures. 2) In-process research and development (IPR&D) acquired in the c) Unification of accounting policies applied to foreign subsidiaries for the consolidated financial statements The accounting standard for unification of accounting policies applied to foreign subsidiaries for the consolidated financial statements requires: (1) the accounting policies and procedures applied to a parent company and its subsidiaries for similar business combination should be capitalized as an intangible asset. 3) The acquirer should recognize a bargain purchase gain in profit or loss immediately on the acquisition date after reassessing and confirming that all of the assets acquired and all of the liabilities assumed have been identified after a review of the procedures used in the purchase price allocation. 52 Kao Corporation Annual Report 2015 Under the accounting standard for business divestitures, in a business divestiture where the interests of the investor no longer continue and the investment is settled, the difference between the fair value of the consideration received for the transferred business and the book value of net assets transferred to the separated business is recognized as a gain or loss on business divestiture in the statement of income. In a business divestiture where the interests of the investor continue and the investment is not settled, no such gain or loss on business divestiture is recognized. The “Accounting Standard for Business Combinations” (ASBJ Statement No. 21 issued by the Accounting Standards Board of Japan (ASBJ), in September 2013, hereinafter “Business Combinations Accounting Standard”), “Accounting Standard for Consolidated Financial Statements” (ASBJ Statement No. 22 issued in September 2013, hereinafter “Consolidation Accounting Standard”) and “Accounting Standard for Business Divestitures” (ASBJ Statement No. 7 issued in September 2013, hereinafter “Business Divestitures Accounting Standard”) could be adopted as of the beginning of fiscal years starting on or after April 1, 2014. Accordingly, the Company has early adopted these accounting standards (except as provided in Article 39 of the Consolidation Accounting Standard) as of the fiscal year ended December 31, 2015. Under these accounting standards, the Company records the difference caused by changes in the Company’s equity shares in subsidiaries that it continues to control as capital surplus and records acquisition-related expenses as expenses during the fiscal year in which the expenses were incurred. With regard to business combinations conducted on or after the beginning of the fiscal year ended December 31, 2015, the Company has changed its accounting method to reflect the revised allocation of acquisition costs arising from settlement of provisional accounting treatment in the quarterly consolidated financial statement in which the business combination occurs. The Company has adopted these accounting standards as of the beginning of the fiscal year ended December 31, 2015 and has applied them thereafter in accordance with the transitional handling set forth in Article 58-2 (4) of the Business Combinations Accounting Standard, Article 44-5 (4) of the Consolidation Accounting Standard and Article 57-4 (4) of the Business Divestitures Accounting Standard. The impact of these changes on the consolidated financial statements was immaterial. f) Cash equivalents For purposes of the consolidated statement of cash flows, cash equivalents are short-term investments that are readily convertible into cash and that are exposed to insignificant risk of changes in value. Cash equivalents include time deposits, commercial paper, investment trusts in bonds and receivables that are represented as short-term investments, all of which mature or become due within three months of the date of acquisition. g) Allowance for doubtful receivables To provide for potential loss on trade receivables, loans and other receivables, the Company and its domestic consolidated subsidiaries provide an allowance for the expected amount of unrecoverable receivables. Allowances for ordinary debt are computed based on the historical rate of default. For specified receivables, such as those where recovery is doubtful, the Company and its domestic consolidated subsidiaries consider the likelihood of recovery on an individual basis and record an allowance for the amount of debt expected to be unrecoverable. Foreign consolidated subsidiaries mainly record an allowance for the amount of specified receivables expected to be unrecoverable. h) Inventories The accounting standard for measurement of inventories requires that inventories held for sale in the ordinary course of business be measured at the lower of cost or net selling value, which is defined as the selling price less additional estimated manufacturing costs and estimated direct selling expenses. The replacement cost may be used in place of the net selling value, if appropriate. Cost of inventories is determined principally by the average method. The cost of inventories held by certain foreign consolidated subsidiaries is determined by the first-in, first-out method. i) Short-term investments and investment securities Short-term investments and investment securities are classified and accounted for, depending on management's intent, as follows: i) held-to-maturity debt securities, which are expected to be held to maturity with the positive intent and ability to hold to maturity, are reported at amortized cost and ii) available-for-sale securities, which are not classified as the aforementioned securities, are reported at fair value, with unrealized gains and losses, net of applicable taxes, reported in a separate component of equity. Non-marketable available-for-sale securities are stated at cost determined by the moving-average method. For other than temporary declines in fair value, investment securities are reduced to net realizable value by a charge to income. j) Property, plant and equipment Property, plant and equipment are stated at cost. Depreciation of property, plant and equipment is computed under the straight-line method over the estimated useful lives, principally ranging from 21 to 35 years for buildings and structures and 7 or 9 years for machinery and equipment. k) Intangible assets Goodwill and trademarks are amortized on a straight-line basis over 15 or 20 years, and 10 years, respectively. l) Long-lived assets The Companies review their long-lived assets for impairment whenever events or changes in circumstances indicate the carrying amount of an asset or asset group may not be recoverable. An impairment loss would be recognized if the carrying amount of an asset or asset group exceeds the sum of the undiscounted future cash flows expected to result from the continued use and eventual disposition of the asset or asset group. The impairment loss would be measured as the amount by which the carrying amount of the asset exceeds its recoverable amount, which is the higher of the discounted cash flows from the continued use and eventual disposition of the asset or the net selling price at disposition. Kao Corporation Annual Report 2015 53 m) Liability for loss related to cosmetics To provide for payment of compensation-related and other expenses, the estimated substantive amount of actual loss related to cosmetics as of the end of the fiscal year is recorded. (c) The revised accounting standard also made certain amendments relating to the method of attributing expected benefit to periods and relating to the discount rate and expected future salary increases. n) Retirement and pension plans The Company and most domestic consolidated subsidiaries have a cash balance plan and a defined contribution pension plan covering substantially all of their employees. The cash balance plan is linked to market interest rates and treated as a defined benefit plan. The pension plan also covers employees of certain nonconsolidated subsidiaries and affiliates in Japan. In addition, these companies may pay an early retirement allowance to employees who retire early. Certain domestic consolidated subsidiaries have a defined benefit plan that provides for a lump-sum payment to terminated employees. The subsidiaries may pay an additional lump-sum payment that is not subject to actuarial calculations under the accounting standard for retirement benefits. Certain foreign subsidiaries have defined contribution plans and/ or defined benefit plans. Some of these foreign subsidiaries apply the “corridor approach” in calculating actuarial gain or loss. Certain foreign subsidiaries also have local employees’ retirement benefit plans and provide for the amount to recognize the liability for these employees’ retirement benefits, primarily determined on an actuarial basis. The unrecognized transitional obligation, the unrecognized net actuarial gain or loss and the unrecognized prior service cost are being amortized over 15, 10 and 15 years, respectively. These amortizations are recognized in cost of sales and selling, general and administrative expenses in the consolidated statement of income. In May 2012, the ASBJ issued ASBJ Statement No. 26, “Accounting Standard for Retirement Benefits” and ASBJ Guidance No. 25, “Guidance on Accounting Standard for Retirement Benefits”, which replaced the accounting standard for retirement benefits that had been issued by the Business Accounting Council in 1998 with an effective date of April 1, 2000, and the other related practical guidance, and were followed by partial amendments from time to time through 2009. Major changes are as follows: (a) Under the revised accounting standard, actuarial gains and losses and past service costs that are yet to be recognized in profit or loss are recognized within equity (accumulated other comprehensive income), after adjusting for tax effects, and any resulting deficit or surplus is recognized as a liability (liability for retirement benefits) or asset (asset for retirement benefits). (b) The revised accounting standard does not change how to recognize actuarial gains and losses and past service costs in profit or loss. Those amounts are recognized in profit or loss over a certain period no longer than the expected average remaining service period of the employees. However, actuarial gains and losses and past service costs that arose in the current period and have not yet been recognized in profit or loss are included in other comprehensive income, and actuarial gains and losses and past service costs that were recognized in other comprehensive income in prior periods and then recognized in profit or loss in the current period shall be treated as reclassification adjustments. 54 Kao Corporation Annual Report 2015 The revised accounting standard and guidance for (a) and (b) above are effective for the end of annual periods beginning on or after April 1, 2013, and for (c) above are effective for the beginning of annual periods beginning on or after April 1, 2014, or for the beginning of annual periods beginning on or after April 1, 2015, subject to certain disclosure in March 2015, both with earlier application being permitted from the beginning of annual periods beginning on or after April 1, 2013. However, no retrospective application of this accounting standard to consolidated financial statements in prior periods is required. The Company applied the revised accounting standard and the guidance for (a) and (b) above from the fiscal year ended December 31, 2014. Furthermore, the Company applied the revised accounting standard and guidance for (c) above from the beginning of the fiscal year ended December 31, 2015, as provided in the main clause of Article 35 of the Retirement Benefits Accounting Standard and the main clause of Article 67 of the Retirement Benefits Guidance, and revised the methods for calculating retirement benefit obligations and service costs as follows. The method for attributing projected benefits to periods changed from the straight-line basis to the benefit formula basis. In addition, determination of the discount rate changed from a method based on the number of years for the underlying obligations approximating the average remaining years of service of the eligible employees to a method that uses several discount rates that are set for each expected retirement benefit payment period. In accordance with the transitional handling set forth in Article 37 of the Retirement Benefits Accounting Standard, the effect associated with the change in the method of calculating retirement benefit obligations and service costs was recognized by adjusting retained earnings at the beginning of the fiscal year ended December 31, 2015. As a result, liability for retirement benefits increased by ¥32,906 million (US$273,146 thousand), asset for retirement benefits decreased by ¥9,692 million (US$80,452 thousand) and retained earnings decreased by ¥27,931 million (US$231,850 thousand) at the beginning of the fiscal year ended December 31, 2015. The effect of this change on operating income and income before income taxes and minority interests for the fiscal year was immaterial. Net worth per share increased by ¥55.70 (US$0.46). The effect of this change on net income per share and diluted net income per share for the fiscal year was immaterial. o) Asset retirement obligations The accounting standard for asset retirement obligations defines an asset retirement obligation as a legal obligation imposed either by law or contract that results from the acquisition, construction, development and the normal operation of a tangible fixed asset and is associated with the retirement of such tangible fixed asset. The asset retirement obligation is recognized as the sum of the discounted cash flows required for the future asset retirement and is recorded in the period in which the obligation is incurred if a reasonable estimate can be made. If a reasonable estimate of the asset retirement obligation cannot be made in the period the Notes to Consolidated Financial Statements asset retirement obligation is incurred, the liability should be recognized when a reasonable estimate of asset retirement obligation can be made. Upon initial recognition of a liability for an asset retirement obligation, an asset retirement cost is capitalized by increasing the carrying amount of the related fixed asset by the amount of the liability. The asset retirement cost is subsequently allocated to expense through depreciation over the remaining useful life of the asset. Over time, the liability is accreted to its present value each period. Any subsequent revisions to the timing or the amount of the original estimate of undiscounted cash flows are reflected as an increase or a decrease in the carrying amount of the liability and the capitalized amount of the related asset retirement cost. p) Stock options The accounting standard for stock options requires companies to recognize compensation expense for employee stock options based on the fair value at the date of grant and over the vesting period as consideration for receiving goods or services. The standard also requires companies to account for stock options granted to non- employees based on the fair value of either the stock option or the goods or services received. In the balance sheet, the stock option is presented as a stock acquisition right as a separate component of equity until exercised. The standard covers equity-settled, share- based payment transactions, but does not cover cash-settled, share-based payment transactions. In addition, the standard allows unlisted companies to measure options at their intrinsic value if they cannot reliably estimate fair value. q) Leases The accounting standard for lease transactions requires that all finance lease transactions should be capitalized to recognize lease assets and lease obligations in the balance sheet. All other leases are accounted for as operating leases. r) Income taxes The Companies provide for income taxes applicable to all items included in the consolidated statement of income regardless of when such taxes are payable. Income taxes based on temporary differences between tax and financial reporting purposes are reflected as deferred income taxes in the consolidated financial statements using the asset and liability method. The Company and certain subsidiaries file tax returns under the consolidated taxation system, which allows tax payments to be based on the consolidated profits or losses. s) Foreign currency transactions All short-term and long-term monetary receivables and payables denominated in foreign currencies are translated into Japanese yen at the exchange rates at the balance sheet date. The foreign exchange gains and losses from translation are recognized in the consolidated statement of income to the extent that they are not hedged by foreign exchange derivatives. t) Foreign currency financial statements The balance sheet accounts of the consolidated foreign subsidiaries are translated into Japanese yen at the current exchange rate as of the balance sheet date except for equity, which is translated at the historical rate. Differences arising from such translation are shown as “Foreign currency translation adjustments” in a separate component of equity. Revenue and expense accounts of the consolidated foreign subsidiaries are translated into Japanese yen at the average exchange rate. u) Derivatives and hedging activities The Companies use derivative financial instruments to manage their exposures to fluctuations in foreign exchange and interest rates. Foreign exchange forward contracts, foreign currency swaps and interest rate swaps are utilized by the Companies to reduce foreign currency exchange and interest rate risks. The Companies do not enter into derivatives for trading purposes or speculative purposes. Derivative financial instruments and foreign currency transactions are classified and accounted for as follows: a) all derivatives are recognized as either assets or liabilities and measured at fair value, and gains or losses on derivative transactions are recognized in the consolidated statement of income, and b) for derivatives used for hedging purposes, if derivatives qualify for hedge accounting because of high correlation and effectiveness between the hedging instruments and the hedged items, gains or losses on derivatives are deferred until maturity of the hedged transactions. Short-term and long-term loan receivables denominated in foreign currencies, for which foreign exchange forward contracts or foreign currency swaps are used to hedge the foreign currency fluctuations, are translated at the contracted rate if the forward contracts or the swap contracts qualify for specific hedge accounting. The interest rate swaps which qualify for hedge accounting and meet specific matching criteria are not remeasured at market value but the differential paid or received under the swap agreements is recognized and included in interest expense or income as incurred. v) Per share information Basic net income per share is computed by dividing net income available to common shareholders by the weighted-average number of common shares outstanding for the period, retroactively adjusted for stock splits. Diluted net income per share of common stock reflects the potential dilution that could occur if securities or other contracts to issue common stock were converted or exercised into common stock or resulted in the issuance of common stock. Cash dividends per share presented in the accompanying consolidated statement of income are dividends applicable to the respective years including dividends to be paid after the end of the year. w) Accounting changes and error corrections The accounting standard for accounting changes and error corrections requires the following: 1) Changes in Accounting Policies When a new accounting policy is applied following revision of an accounting standard, the new policy is applied retrospectively unless the revised accounting standard includes specific transitional provisions, in which case the entity shall comply with the specific transitional provisions. 2) Changes in Presentation When the presentation of financial statements is changed, prior period financial statements are reclassified in accordance with the new presentation. Kao Corporation Annual Report 2015 55 Consolidated Statement of Cash Flows “Impairment loss” and “Change in accrued consumption taxes”, which were included in “Other, net” under “Operating activities” in the previous fiscal year, are presented separately from the fiscal year ended December 31, 2015 due to their increased materiality. The consolidated financial statements for the previous fiscal year have been reclassified to reflect the change in presentation. As a result, ¥3,317 million of “Other, net” under “Operating activities” on the consolidated statement of cash flows for the previous fiscal year has been reclassified as ¥132 million for “Impairment loss”, ¥6,576 million for “Change in accrued consumption taxes” and negative ¥3,391 million for “Other, net.” 3) Changes in Accounting Estimates A change in an accounting estimate is accounted for in the period of the change if the change affects that period only, and is accounted for prospectively if the change affects both the period of the change and future periods. 4) Corrections of Prior Period Errors When an error in prior period financial statements is discovered, those statements are restated. x) Changes in presentation Consolidated Statement of Income “Impairment loss,” which was included in “Other, net” under “Other income (expenses)” in the previous fiscal year, is presented separately from the fiscal year ended December 31, 2015 due to its increased materiality. The consolidated financial statements for the previous fiscal year have been reclassified to reflect the change in presentation. As a result, ¥132 million included in “Other” under “Other income (expenses)” on the consolidated statement of income for the previous fiscal year has been reclassified as “Impairment loss.” 2 Translation into United States Dollars The Companies’ accounts are maintained in or translated into Japanese yen. The United States dollar (US$) amounts included herein represent translations using the approximate exchange rate at December 31, 2015 of ¥120.47=US$1, solely for convenience. The translations should not be construed as representations that Japanese yen amounts have been, could have been, or could in the future be, converted into United States dollars at that or any other rate. 3 Cash and Cash Equivalents Cash and cash equivalents at December 31, 2015 and 2014 consisted of the following: Cash and time deposits ............................................................................................ Short-term investments ............................................................................................ Less: time deposits and short-term investments which mature or become due over three months after the date of acquisition ......................... Cash and cash equivalents ....................................................................................... Millions of yen Dec. 2015 ¥125,159 188,551 Dec. 2014 ¥107,412 123,639 Thousands of U.S. dollars Dec. 2015 $1,038,923 1,565,128 (4,271) ¥309,439 (2,389) ¥228,662 (35,453) $2,568,598 4 Short-Term Investments and Investment Securities Short-term investments and investment securities as of December 31, 2015 and 2014 consisted of the following: Millions of yen Dec. 2015 Dec. 2014 Short-term investments: Investment trust funds and other ..................................................................... Total .............................................................................................................. ¥188,551 ¥188,551 ¥123,639 ¥123,639 Investment securities: Marketable equity securities ............................................................................ Investment trust funds and other ..................................................................... Total .............................................................................................................. ¥ 11,772 1,173 ¥ 12,945 ¥ 10,473 1,182 ¥ 11,655 Thousands of U.S. dollars Dec. 2015 $1,565,128 $1,565,128 $ 97,717 9,737 $ 107,454 56 Kao Corporation Annual Report 2015 Notes to Consolidated Financial Statements The carrying amount and aggregate fair value of the securities classified as available-for-sale and held-to-maturity at December 31, 2015 and 2014 were as follows: Millions of yen Dec. 2015 Cost Unrealized gains Unrealized losses Fair value Securities classified as: Available-for-sale: Equity securities ................................................................... Debt securities and other ...................................................... ¥ 2,397 69,559 ¥9,377 — ¥ (2) — ¥ 11,772 69,559 Held-to-maturity: Debt securities and other ...................................................... 118,992 — — 118,992 Millions of yen Dec. 2014 Cost Unrealized gains Unrealized losses Fair value Securities classified as: Available-for-sale: Equity securities ................................................................... Debt securities and other ...................................................... ¥ 2,641 47,644 ¥7,853 — ¥(21) — ¥ 10,473 47,644 Held-to-maturity: Debt securities and other ...................................................... 75,995 — — 75,995 Thousands of U.S. dollars Dec. 2015 Cost Unrealized gains Unrealized losses Fair value Securities classified as: Available-for-sale: Equity securities ................................................................... Debt securities and other ...................................................... $ 19,897 577,397 $77,837 — $(17) — $ 97,717 577,397 Held-to-maturity: Debt securities and other ...................................................... 987,731 — — 987,731 Available-for-sale securities whose fair values are not readily determinable as of December 31, 2015 and 2014 were as follows: Available-for-sale: Equity securities ....................................................................................... Total ...................................................................................................... ¥1,173 ¥1,173 Dec. 2015 Dec. 2014 ¥1,182 ¥1,182 Carrying amount Millions of yen Thousands of U.S. dollars Dec. 2015 $9,737 $9,737 Proceeds from sales of available-for-sale securities for the years ended December 31, 2015 and 2014 were ¥641 million (US$5,321 thousand) and ¥47 million, respectively. Gross realized gains and losses on these sales, computed on the moving-average cost basis, for the year ended December 31, 2015 were ¥375 million (US$3,113 thousand) and ¥8 million (US$66 thousand), respectively. Additionally, gross realized gains and losses for the year ended 2014 were ¥18 million and ¥1 million, respectively. The carrying values of debt securities by contractual maturities for securities classified as held-to-maturity at December 31, 2015 are included in Note 17. Kao Corporation Annual Report 2015 57 5 Long-lived Assets The Companies reviewed their long-lived assets for impairment as of the years ended December 31, 2015 and 2014. As a result, the Companies recognized impairment losses of ¥4,014 million (US$33,319 thousand) and ¥132 million as other expense for the years ended December 31, 2015 and 2014, respectively. The details were as follows: (Year ended December 31, 2015) The Companies recorded impairment losses for the following asset groups. Use Assets for business Assets to be disposed of Idle assets Classification Machinery, equipment and other, etc. Land, etc. Land, etc. Location Spain Japan and other Japan and other Millions of yen Dec. 2015 ¥ 174 2,557 1,283 ¥4,014 Thousands of U.S. dollars Dec. 2015 $ 1,444 21,225 10,650 $33,319 The Companies categorize assets for business mainly based on business units. Assets to be disposed of and idle assets are grouped on an individual basis. In the fiscal year ended December 31, 2015, the Companies recorded impairment losses totaling ¥4,014 million (US$33,319 thousand) as other expense by reducing the net book value to the recoverable value of each asset because they did not expect to recover the investment amount due to a decline in profitability and a decrease in market price. This total consisted of ¥3,583 million (US$29,742 thousand) for land, ¥288 million (US$2,391 thousand) for buildings and structures, and ¥143 million (US$1,186 thousand) for machinery, equipment and other. The recoverable amounts of assets for business were measured at value in use, which was considered zero because future cash flows were not expected. The recoverable amounts of assets to be disposed of and idle assets were measured at the net selling price, estimated based on appraisal value and other items. (Year ended December 31, 2014) The details of impairment loss are not disclosed because the amount was immaterial. 6 Short-Term and Long-Term Debt Short-term debt at December 31, 2015 and 2014 consisted of the following: Unsecured loans principally from financial institutions ............................................. Total .................................................................................................................. Millions of yen Dec. 2015 ¥47 ¥47 Dec. 2014 ¥1,137 ¥1,137 Thousands of U.S. dollars Dec. 2015 $390 $390 The weighted average interest rates applicable to the above loans were 4.33% and 1.49% at December 31, 2015 and 2014, respectively. In addition to the above short-term debt, deposits payable to affiliates, included in other current liabilities, were ¥10,388 million (US$86,229 thousand) and ¥9,074 million at December 31, 2015 and 2014, respectively, and the applicable interest rates were 0.45% and 0.48% at December 31, 2015 and 2014, respectively. Long-term debt at December 31, 2015 and 2014 consisted of the following: Unsecured bonds due 2018, 0.39% ......................................................................... Unsecured bonds due 2020, 0.62% ......................................................................... Unsecured loans principally from financial institutions, weighted average rate of 0.19% in Dec. 2015, 0.31% in Dec. 2014 .................. Lease obligations ...................................................................................................... Less current portion .............................................................................................. Total .................................................................................................................. 58 Kao Corporation Annual Report 2015 Millions of yen Dec. 2015 ¥ 25,000 25,000 70,075 4,209 ¥124,284 (748) ¥123,536 Dec. 2014 ¥ 25,000 25,000 50,096 4,832 ¥104,928 (20,776) ¥ 84,152 Thousands of U.S. dollars Dec. 2015 $ 207,521 207,521 581,680 34,937 $1,031,659 (6,209) $1,025,450 Notes to Consolidated Financial Statements In addition to the above long-term debt, deposits payable to customers, included in other long-term liabilities, were ¥6,186 million (US$51,349 thousand) and ¥6,066 million at December 31, 2015 and 2014, respectively, and the applicable interest rates were 0.10% and 0.11% at December 31, 2015 and 2014, respectively. The aggregate annual maturities of long-term debt as of December 31, 2015 were as follows: Years ending December 31 2016 ............................................................................................................................................ 2017 ............................................................................................................................................ 2018 ............................................................................................................................................ 2019 ............................................................................................................................................ 2020 ............................................................................................................................................ 2021 and thereafter…… .............................................................................................................. Total ........................................................................................................................................ Millions of yen ¥ 748 30,685 25,604 40,514 25,515 1,218 ¥124,284 Thousands of U.S. dollars $ 6,209 254,710 212,534 336,301 211,795 10,110 $1,031,659 7 Income Taxes The Company and its domestic subsidiaries are subject to Japanese national and local taxes based on income, which in the aggregate resulted in a normal statutory tax rate of approximately 36% for the years ended December 31, 2015 and 2014. Foreign subsidiaries are subject to income taxes of the countries in which they operate. Tax effects of significant temporary differences and tax loss carryforwards that resulted in deferred tax assets or liabilities at December 31, 2015 and 2014 were as follows: Millions of yen Dec. 2015 Dec. 2014 Deferred tax assets: Depreciation and amortization .......................................................................... Liability for retirement benefits ........................................................................ Accrued expenses ............................................................................................ Enterprise taxes ............................................................................................... Tax loss carryforwards ..................................................................................... Other ................................................................................................................ Less valuation allowance .................................................................................. Deferred tax assets ............................................................................................. Deferred tax liabilities: Unrealized gain on available-for-sale securities ................................................. Undistributed foreign earnings ......................................................................... Deferred gains on sales of property ................................................................. Asset for retirement benefits ........................................................................... Other ................................................................................................................ Deferred tax liabilities ......................................................................................... ¥ 21,454 21,567 12,766 1,729 15,516 16,968 (19,542) ¥ 70,458 ¥ (2,989) (12,867) (3,140) (0) (8,955) ¥(27,951) ¥ 22,644 13,920 13,290 1,780 20,826 19,100 (21,096) ¥ 70,464 ¥ (2,765) (12,747) (3,495) (5,133) (8,883) ¥(33,023) Net deferred tax assets ....................................................................................... ¥ 42,507 ¥ 37,441 Thousands of U.S. dollars Dec. 2015 $ 178,086 179,024 105,968 14,352 128,796 140,848 (162,215) $ 584,859 $ (24,811) (106,807) (26,065) (0) (74,333) $(232,016) $ 352,843 Reconciliation between the normal effective statutory tax rates and the actual effective tax rates reflected in the accompanying consolidated statement of income was as follows: Normal effective statutory tax rate ........................................................................... Tax credit for research and development costs and other .................................... Valuation allowance ............................................................................................... Amortization expenses not deductible for income tax purposes .......................... Effect of change in corporate income tax rate ...................................................... Tax rate difference of consolidated subsidiaries ................................................... Other – net ........................................................................................................... Actual effective tax rate ............................................................................................ Dec. 2015 35.64% (2.74) 1.26 2.83 3.15 (2.12) 0.41 38.43% For the year ended December 31, 2014, the reconciliation is not disclosed because the difference is less than 5% of the normal effective statutory tax rate. Kao Corporation Annual Report 2015 59 The “Act for Partial Revision of the Income Tax Act, etc.” (Act No. 9 of 2015) and the “Act for Partial Revision of the Local Tax Act, etc.” (Act No. 2 of 2015) were promulgated on March 31, 2015 in Japan, resulting in a reduction in the rates of corporate income taxes from fiscal years beginning on or after April 1, 2015. Accordingly, the effective statutory tax rate used to measure deferred tax assets and liabilities will change from the former 35.64% to 33.06% for temporary differences expected to be reversed in the fiscal year beginning January 1, 2016, and to 32.26% for temporary differences expected to be reversed in fiscal years beginning January 1, 2017. As a result of these changes, deferred tax assets (the net amount deducting deferred tax liabilities) decreased by ¥4,465 million (US$37,063 thousand), deferred income taxes increased by ¥5,091 million (US$42,260 thousand), unrealized gain on available-for-sale securities increased by ¥308 million (US$2,557 thousand), and remeasurements of defined benefit plans increased by ¥318 million (US$2,640 thousand). 8 Leases (a) Finance leases: The Companies lease certain buildings, machinery, computer equipment and other assets. (b) Operating leases: The minimum rental commitments under noncancellable operating leases as of December 31, 2015 and 2014 were as follows: Due within one year ................................................................................................... Due after one year ..................................................................................................... Total ........................................................................................................................ Millions of yen Dec. 2015 ¥ 7,909 20,767 ¥28,676 Dec. 2014 ¥ 9,868 23,110 ¥32,978 Thousands of U.S. dollars Dec. 2015 $ 65,651 172,383 $238,034 9 Retirement Benefits The Company and most domestic consolidated subsidiaries have a cash balance plan and a defined contribution pension plan. The cash balance plan is linked to market interest rates and treated as a defined benefit pension plan. These companies may pay an early retirement allowance to early retired employees. Certain foreign consolidated subsidiaries have defined contribution plans and/or defined benefit plans. (1) Changes in defined benefit obligation The changes in defined benefit obligation for the years ended December 31, 2015 and 2014 were as follows: Balance at beginning of year (as previously reported) ................................................ Cumulative effect of accounting change ................................................................ Balance at beginning of year (as restated) .................................................................. Current service cost................................................................................................ Interest cost............................................................................................................ Actuarial gain and loss ............................................................................................ Benefits paid ........................................................................................................... Past service cost..................................................................................................... Other ...................................................................................................................... Balance at end of year ................................................................................................ Millions of yen Dec. 2015 ¥283,672 42,598 326,270 8,897 3,620 (990) (10,879) 9 (1,361) ¥325,566 Dec. 2014 ¥272,497 — 272,497 9,641 5,112 3,546 (10,421) (483) 3,780 ¥283,672 Thousands of U.S. dollars Dec. 2015 $2,354,711 353,598 2,708,309 73,852 30,049 (8,218) (90,305) 75 (11,297) $2,702,465 60 Kao Corporation Annual Report 2015 Notes to Consolidated Financial Statements (2) Changes in plan assets The changes in plan assets for the years ended December 31, 2015 and 2014 were as follows: Balance at beginning of year....................................................................................... Expected return on plan assets .............................................................................. Actuarial gain and loss ............................................................................................ Contribution by the employer ................................................................................. Benefits paid ........................................................................................................... Other ...................................................................................................................... Balance at end of year ................................................................................................ Millions of yen Dec. 2015 ¥250,950 8,149 (6,866) 10,548 (9,929) (437) ¥252,415 Dec. 2014 ¥230,352 5,329 12,681 10,551 (9,630) 1,667 ¥250,950 Thousands of U.S. dollars Dec. 2015 $2,083,091 67,643 (56,993) 87,557 (82,419) (3,627) $2,095,252 (3) Reconciliation between the liability recorded in the consolidated balance sheet and the balances of defined benefit obligation and plan assets Reconciliations at December 31, 2015 and 2014 were as follows: Funded defined benefit obligation .............................................................................. Plan assets ................................................................................................................. Total ........................................................................................................................ Unfunded defined benefit obligation ......................................................................... Net liability for defined benefit obligation ............................................................... Liability for retirement benefits .................................................................................. Asset for retirement benefits .................................................................................... Net liability for defined benefit obligation ............................................................... Millions of yen Dec. 2015 ¥ 323,147 (252,415) 70,732 2,419 ¥ 73,151 Dec. 2014 ¥ 281,199 (250,950) 30,249 2,473 ¥ 32,722 Millions of yen Dec. 2015 ¥74,178 (1,027) ¥73,151 Dec. 2014 ¥42,414 (9,692) ¥32,722 (4) Benefit costs Components of net periodic benefit costs for the years ended December 31, 2015 and 2014 were as follows: Current service cost ................................................................................................... Interest cost ............................................................................................................... Expected return on plan assets .................................................................................. Amortization of actuarial gain and loss ....................................................................... Amortization of past service cost ............................................................................... Other .......................................................................................................................... Net periodic benefit costs ....................................................................................... Millions of yen Dec. 2015 ¥ 8,897 3,620 (8,149) 426 (2,213) 413 ¥ 2,994 Dec. 2014 ¥ 9,641 5,112 (5,329) (892) (4,077) 1,651 ¥ 6,106 Thousands of U.S. dollars Dec. 2015 $ 2,682,386 (2,095,252) 587,134 20,079 $ 607,213 Thousands of U.S. dollars Dec. 2015 $615,738 (8,525) $607,213 Thousands of U.S. dollars Dec. 2015 $ 73,852 30,049 (67,643) 3,536 (18,370) 3,429 $ 24,853 In addition to the above net periodic benefit costs, the costs for the defined contribution plan were ¥3,593 million (US$29,825 thousand) and ¥3,382 million for the years ended December 31, 2015 and 2014, respectively. Kao Corporation Annual Report 2015 61 (5) Amounts recognized in other comprehensive income Amounts recognized in other comprehensive income (before income tax effect) in respect of defined retirement benefit plans for the years ended December 31, 2015 and 2014 were as follows: Prior service cost ........................................................................................................ Actuarial (gains) losses ............................................................................................... Other .......................................................................................................................... Total ........................................................................................................................ Millions of yen Dec. 2015 ¥(2,256) (4,674) 454 ¥(6,476) Dec. 2014 ¥ — — — ¥ — Thousands of U.S. dollars Dec. 2015 $(18,727) (38,798) 3,769 $(53,756) (6) Amounts recognized in accumulated other comprehensive income Amounts recognized in accumulated other comprehensive income (before income tax effect) in respect of defined retirement benefit plans as of December 31, 2015 and 2014 were as follows: Millions of yen Unrecognized past service costs ................................................................................ Unrecognized actuarial gain and loss .......................................................................... Other .......................................................................................................................... Total ........................................................................................................................ (7) Plan assets Components of plan assets at December 31, 2015 and 2014 were as follows: Dec. 2015 ¥ 1,533 (2,127) — ¥ (594) Debt securities ............................................................................................................................. Equity securities ........................................................................................................................... Cash and deposits ........................................................................................................................ Other ............................................................................................................................................... Total ............................................................................................................................................. Dec. 2014 ¥3,789 2,547 (454) ¥5,882 Dec. 2015 73% 20 1 6 100% Thousands of U.S. dollars Dec. 2015 $ 12,725 (17,656) — $ (4,931) Dec. 2014 77% 17 1 5 100% The expected rate of return on plan assets is determined considering components of plan assets, actual return on plan assets, policy on plan asset management, market trends and other factors. (8) Actuarial assumptions Assumptions used for the years ended December 31, 2015 and 2014 were as follows: Discount rate .................................................................................................................................. Expected rate of return on plan assets .............................................................................................. Dec. 2015 Primarily 1.3% Primarily 3.0% Dec. 2014 Primarily 1.6% Primarily 2.0% 10 Contingent Liabilities At December 31, 2015, the Companies had the following contingent liabilities: Trade notes discounted ..................................................................................................................... Guarantees of borrowings of employees .......................................................................................... Millions of yen ¥46 52 Thousands of U.S. dollars $382 432 The Companies are parties to pending litigation arising in the normal course of business. While it is not possible to predict the outcome of pending litigation, the Company believes, after consultation with counsel, that the results of such proceedings will not have a material adverse effect upon the Company's consolidated financial position and the results of its operations and its cash flows. 62 Kao Corporation Annual Report 2015 Notes to Consolidated Financial Statements 11 Equity Significant provisions in the Companies Act of Japan (the “Companies Act”) that affect financial and accounting matters are summarized below: (a) Dividends Under the Companies Act, companies can pay dividends at any time during the fiscal year in addition to the year-end dividend upon resolution at the shareholders’ meeting. For companies that meet certain criteria such as having: (1) a board of directors, (2) independent auditors, (3) an audit & supervisory board, and (4) terms of service of directors prescribed as one year under the articles of incorporation rather than the normal term of two years, the boards of directors of such companies may declare dividends (except for dividends in kind) at any time during the fiscal year if the companies have prescribed so in their articles of incorporation. The Company meets all four criteria, but has not made the said prescription in its articles of incorporation. The Company pays the dividends semiannually as a year-end dividend and an interim dividend. Semiannual interim dividends may also be paid once a year upon resolution by the board of directors if the articles of incorporation of the company so stipulate. The Company pays semiannual interim dividends upon the resolution by the Board of Directors because the articles of incorporation of the Company so stipulate. The Companies Act permits companies to distribute dividends- in-kind (non-cash assets) to shareholders subject to a certain limitation and additional requirements. The Companies Act provides certain limitations on the amounts available for dividends or the purchase of own stock. The limitation is defined as the amount available for distribution to the shareholders, but the amount of net assets after dividends must be maintained at no less than ¥3 million. (b) Increases / decreases and transfer of common stock, reserve and surplus The Companies Act requires that an amount equal to 10% of dividends must be appropriated as a legal reserve (a component of retained earnings) or as additional paid-in capital (a component of capital surplus) depending on the equity account charged upon the payment of such dividends until the total of aggregate amount of legal reserve and additional paid-in capital equals 25% of the common stock. Under the Companies Act, the total amount of additional paid-in capital and legal reserve may be reversed without limitation. The Companies Act also provides that common stock, legal reserve, additional paid-in capital, other capital surplus and retained earnings can be transferred among the accounts under certain conditions upon resolution at the shareholders’ meeting. The Company’s legal reserve amount, which is included in retained earnings, totaled ¥14,117 million (US$117,183 thousand) at both December 31, 2015 and 2014. The Company’s additional paid-in capital amount, which is included in capital surplus, totaled ¥108,889 million (US$903,868 thousand) at both December 31, 2015 and 2014. The accompanying consolidated financial statements do not include any provision for the year-end dividend of ¥42.0 (US$0.35) per share, aggregating ¥21,085 million (US$175,023 thousand) which the Company will subsequently propose at the 110th Annual General Meeting of Shareholders to be held on March 25, 2016 as an appropriation of retained earnings in respect of the year ended December 31, 2015. (c) Treasury stock and treasury stock acquisition rights The Companies Act also provides for companies to purchase their own stock and retire treasury stock by resolution of the board of directors. The amount of own stock purchased cannot exceed the amount available for distribution to the shareholders which is determined by a specific formula. Under the Companies Act, stock acquisition rights are presented as a separate component of equity. The Companies Act also provides that companies can purchase both their own stock and stock acquisition rights in their own companies. Such treasury stock is presented as a separate component of equity. Such stock acquisition rights are presented as a separate component of equity or deducted directly from stock acquisition rights. Kao Corporation Annual Report 2015 63 12 Stock-Based Compensation Plans The stock options for the year ended December 31, 2015 were as follows: Name Persons originally granted Number of options originally granted Date of grant Exercise price (Yen) Exercise price (U.S. dollars) Stock option 2008 I 14 Directors of the Company 24,000 shares* August 29, 2008 Stock option 2008 II 12 Executive Officers of the Company** 12,000 shares* August 29, 2008 ¥1 ¥1 $0.01 $0.01 Stock option 2008 III Stock option 2009 I 81 Employees of the Company 4 Directors of subsidiaries of the Company 13 Directors of the Company 36,000 shares* August 28, 2009 447,000 shares* August 29, 2008 ¥3,100 $25.73 ¥1 ¥1 $0.01 $0.01 Stock option 2009 II 12 Executive Officers of the Company*** 24,000 shares* August 28, 2009 Stock option 2009 III 74 Employees of the Company 8 Directors of subsidiaries of the Company 430,000 shares* August 28, 2009 ¥2,355 $19.55 Stock option 2010 I 14 Directors of the Company 38,000 shares* August 25, 2010 Stock option 2010 II 12 Executive Officers of the Company**** 24,000 shares* August 25, 2010 ¥1 ¥1 $0.01 $0.01 Stock option 2010 III 81 Employees of the Company 2 Directors of subsidiaries of the Company 435,000 shares* August 25, 2010 ¥2,190 $18.18 Stock option 2011 I 13 Directors of the Company 36,000 shares* August 25, 2011 Stock option 2011 II 13 Executive Officers of the Company***** 26,000 shares* August 25, 2011 ¥1 ¥1 $0.01 $0.01 Stock option 2011 III Stock option 2012 I 81 Employees of the Company 1 Director of subsidiary of the Company 1 Employee of subsidiary of the Company 9 Directors of the Company 30,000 shares* August 23, 2012 435,000 shares* August 25, 2011 ¥2,254 $18.71 ¥1 ¥1 ¥1 ¥1 ¥1 ¥1 ¥1 ¥1 $0.01 $0.01 $0.01 $0.01 $0.01 $0.01 $0.01 $0.01 Stock option 2012 II 22 Executive Officers of the Company****** 49,000 shares* August 23, 2012 Stock option 2013 I 10 Directors of the Company 22,000 shares* May 23, 2013 Stock option 2013 II 22 Executive Officers of the Company******* 27,000 shares* May 23, 2013 Stock option 2014 I 6 Directors of the Company 12,000 shares* May 22, 2014 Stock option 2014 II 23 Executive Officers of the Company******** 28,000 shares* May 22, 2014 Stock option 2015 I 6 Directors of the Company 13,000 shares* May 21, 2015 Stock option 2015 II 23 Executive Officers of the Company********* 27,000 shares* May 21, 2015 * The number of options originally granted converts into the number of shares of common stock. ** The 12 Executive Officers were not members of the Board of Directors of the Company at the date of grant. *** The 12 Executive Officers were not members of the Board of Directors of the Company at the date of grant. **** The 12 Executive Officers were not members of the Board of Directors of the Company at the date of grant. ***** The 13 Executive Officers were not members of the Board of Directors of the Company at the date of grant. ****** The 22 Executive Officers were not members of the Board of Directors of the Company at the date of grant. ******* The 22 Executive Officers were not members of the Board of Directors of the Company at the date of grant. ******** The 23 Executive Officers were not members of the Board of Directors of the Company at the date of grant. ********* The 23 Executive Officers were not members of the Board of Directors of the Company at the date of grant. 64 Kao Corporation Annual Report 2015 Exercise period July 1, 2010 through June 30, 2015 July 1, 2010 through June 30, 2015 September 1, 2010 through August 31, 2015 July 1, 2011 through June 30, 2016 July 1, 2011 through June 30, 2016 September 1, 2011 through August 31, 2016 July 1, 2012 through June 30, 2017 July 1, 2012 through June 30, 2017 September 1, 2012 through August 31, 2017 July 1, 2013 through June 29, 2018 July 1, 2013 through June 29, 2018 September 1, 2013 through August 31, 2018 July 1, 2014 through June 28, 2019 July 1, 2014 through June 28, 2019 July 1, 2015 through June 30, 2020 July 1, 2015 through June 30, 2020 July 1, 2016 through June 30, 2021 July 1, 2016 through June 30, 2021 July 1, 2017 through June 30, 2022 July 1, 2017 through June 30, 2022 Notes to Consolidated Financial Statements Stock option activity was as follows: (Number of shares) Stock option 2008 I Stock option 2008 II Stock option 2008 III Stock option 2009 I Stock option 2009 II Stock option 2009 III Stock option 2010 I Stock option 2010 II Stock option 2010 III Stock option 2011 I For the year ended December 31, 2015 Non-vested Outstanding at December 31, 2014 .... Granted ....................................... Expired ........................................ Vested ......................................... Outstanding at December 31, 2015 .... Vested Outstanding at December 31, 2014 .... Vested ......................................... Exercised ..................................... Expired ........................................ Outstanding at December 31, 2015 .... Exercise price — — — — — — — — — — — — — — — 4,000 — 4,000 — — 1,000 — 1,000 345,000 — 197,000 — 148,000 — — Yen ................................................... U.S. dollars ...................................... ¥1 $0.01 ¥1 $0.01 ¥3,100 $25.73 Average stock price at exercise — — — — — 8,000 — 1,000 — 7,000 ¥1 $0.01 — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — 5,000 — — — 5,000 274,000 — 62,000 — 212,000 16,000 — 7,000 — 9,000 8,000 — 1,000 — 7,000 164,000 — 33,000 — 131,000 19,000 — 3,000 — 16,000 ¥1 $0.01 ¥2,355 $19.55 ¥1 $0.01 ¥1 $0.01 ¥2,190 $18.18 ¥1 $0.01 Yen ................................................... U.S. dollars ...................................... ¥6,088 $50.54 ¥5,134 $42.62 ¥5,362 $44.51 ¥5,553 $46.09 — ¥5,472 — $45.42 ¥5,631 $46.74 ¥6,152 $51.07 ¥5,641 $46.82 ¥6,064 $50.34 Fair value price at grant date Yen ................................................... U.S. dollars ...................................... ¥2,865 $23.78 ¥2,865 $23.78 ¥426 $3.54 ¥2,115 $17.56 ¥2,115 $17.56 ¥394 $3.27 ¥1,749 $14.52 ¥1,749 $14.52 ¥245 $2.03 ¥1,718 $14.26 For the year ended December 31, 2015 Non-vested Outstanding at December 31, 2014 .... Granted ....................................... Expired ........................................ Vested ......................................... Outstanding at December 31, 2015 .... Vested Outstanding at December 31, 2014 .... Vested ......................................... Exercised ..................................... Expired ........................................ Outstanding at December 31, 2015 .... Exercise price Stock option 2011 II Stock option 2011 III Stock option 2012 I Stock option 2012 II Stock option 2013 I Stock option 2013 II Stock option 2014 I Stock option 2014 II Stock option 2015 I Stock option 2015 II (Number of shares) — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — — 14,000 — — — 14,000 331,000 — 59,000 — 272,000 23,000 — 2,000 — 21,000 42,000 — 10,000 — 32,000 22,000 — 4,000 — 18,000 27,000 — 5,000 — 22,000 12,000 — — — 12,000 28,000 — — — 28,000 — 13,000 — 13,000 — — 13,000 — — 13,000 — 27,000 — 27,000 — — 27,000 — — 27,000 Yen ................................................... U.S. dollars ...................................... ¥1 $0.01 ¥2,254 $18.71 ¥1 $0.01 ¥1 $0.01 ¥1 $0.01 ¥1 $0.01 ¥1 $0.01 ¥1 $0.01 ¥1 $0.01 ¥1 $0.01 Average stock price at exercise Yen ................................................... U.S. dollars ...................................... — — ¥5,451 $45.25 ¥5,778 $47.96 ¥5,437 $45.13 ¥5,439 $45.15 ¥5,511 $45.75 — — — — — — — — Fair value price at grant date Yen ................................................... U.S. dollars ...................................... ¥1,718 $14.26 ¥211 $1.75 ¥2,119 $17.59 ¥2,119 $17.59 ¥3,027 $25.13 ¥3,027 $25.13 ¥3,808 $31.61 ¥3,808 $31.61 ¥5,630 $46.73 ¥5,630 $46.73 The fair value prices for 2015 stock options were estimated using the Black-Scholes Option Pricing Model with the following assumptions: Stock option 2015 II Stock option 2015 I Volatility of stock price ......................................................................................................................... Estimated remaining outstanding period ............................................................................................. Estimated dividend per share 21.458% 3.5 years Yen ................................................................................................................................................... U.S. dollars ....................................................................................................................................... Risk-free interest rate .......................................................................................................................... ¥70 $0.58 0.018% 21.458% 3.5 years ¥70 $0.58 0.018% Kao Corporation Annual Report 2015 65 13 Comprehensive Income Each component of other comprehensive income for the years ended December 31, 2015 and 2014 was as follows: Millions of yen Dec. 2015 Dec. 2014 Unrealized gain (loss) on available-for-sale securities Gains (losses) arising during the year ................................................................... Reclassification adjustments to profit or loss ....................................................... Amount before income tax effect ......................................................................... Income tax effect .................................................................................................. Total ...................................................................................................................... Foreign currency translation adjustments Adjustments arising during the year ..................................................................... Reclassification adjustments to profit or loss ....................................................... Amount before income tax effect ......................................................................... Income tax effect .................................................................................................. Total ...................................................................................................................... Share of other comprehensive income in affiliates Gains (losses) arising during the year ................................................................... Reclassification adjustments to profit or loss ....................................................... Total ...................................................................................................................... Remeasurements of defined benefit plans Adjustments arising during the year ..................................................................... Reclassification adjustments to profit or loss ....................................................... Amount before income tax effect ......................................................................... Income tax effect .................................................................................................. Total ...................................................................................................................... ¥ 1,915 (367) 1,548 (238) ¥ 1,310 ¥(13,498) (2,295) (15,793) — ¥(15,793) ¥ 17 (26) ¥ (9) ¥ (5,132) (1,344) (6,476) 2,764 ¥ (3,712) ¥ 1,005 (11) 994 (355) ¥ 639 ¥24,709 — 24,709 — ¥24,709 ¥ 226 (4) ¥ 222 ¥ (5,127) (460) (5,587) 1,862 ¥ (3,725) Thousands of U.S. dollars Dec. 2015 $ 15,896 (3,046) 12,850 (1,976) $ 10,874 $(112,044) (19,050) (131,094) — $(131,094) $ 141 (216) $ (75) $ (42,600) (11,156) (53,756) 22,943 $ (30,813) Total other comprehensive income .......................................................................... ¥(18,204) ¥21,845 $(151,108) 66 Kao Corporation Annual Report 2015 Notes to Consolidated Financial Statements 14 Segment Information (1) Description of reportable segments The Companies’ reportable segments are components for which separate financial information is available, and whose operating results are reviewed regularly by the chief operating decision maker in order to determine allocation of resources and assess segment performance. The Companies are organized into four business operating units, the Beauty Care Business, the Human Health Care Business and the Fabric and Home Care Business (collectively, the Consumer Products Business) and the Chemical Business. Each business operating unit plans comprehensive strategies for business in Japan and other countries, and conducts its own business activities. Therefore, the Companies have four reportable segments: the Beauty Care Business, the Human Health Care Business, the Fabric and Home Care Business and the Chemical Business. The Beauty Care Business segment manufactures and sells cosmetics, skin care and hair care products. The Human Health Care Business segment manufactures and sells food and beverage, sanitary and personal health products. The Fabric and Home Care Business segment manufactures and sells fabric care and home care products. The Chemical Business segment manufactures and sells oleo chemicals, performance chemicals and specialty chemicals. (2) Methods of measurement for sales, profit (loss), assets, and other items for reportable segments The amount of segment profit corresponds to that of operating income. Intersegment sales and transfer prices are calculated mainly based on market value or manufacturing cost. (a) Information related to sales, profit (loss), assets, and other items Information by reportable segment of the Companies for the years ended December 31, 2015 and 2014 was as follows: Millions of yen Dec. 2015 Reportable segment Consumer Products Business Beauty Care Business Human Health Care Business Fabric and Home Care Business Total Chemical Business Reconciliations* Consolidated Sales to customers ............................... ¥607,692 ¥280,723 ¥334,416 ¥1,222,831 ¥248,960 ¥ — ¥1,471,791 Intersegment sales ............................... — — — — 39,496 Total sales ............................................. 607,692 280,723 334,416 1,222,831 288,456 Segment profit (Operating income) ...... ¥ 29,420 ¥ 35,546 ¥ 69,233 ¥ 134,199 ¥ 30,115 Segment assets ** ............................... ¥459,880 ¥195,368 ¥160,745 ¥ 815,993 ¥271,879 (39,496) (39,496) ¥ 66 ¥193,997 — 1,471,791 ¥ 164,380 ¥1,281,869 Other Depreciation and amortization*** .... ¥ 29,514 ¥ 10,458 ¥ 7,972 ¥ 47,944 ¥ 12,801 ¥ — ¥ 60,745 Investments in equity method affiliates** ......................... Increase in property, plant and equipment and intangible assets .... 3,686 1,020 1,184 5,890 3,495 20,643 31,173 15,297 67,113 16,301 — — 9,385 83,414 * Reconciliation of segment profit includes elimination of intersegment transactions of inventory. Reconciliation of assets includes ¥228,295 million of the Company’s financial assets and negative ¥34,298 million of elimination of receivables among reportable segments. ** Balances as of December 31, 2015 *** Depreciation and amortization excludes amortization of goodwill. Kao Corporation Annual Report 2015 67 Millions of yen Dec. 2014 Reportable segment Consumer Products Business Beauty Care Business Human Health Care Business Fabric and Home Care Business Total Chemical Business Reconciliations* Consolidated Sales to customers ............................... ¥589,907 ¥240,077 ¥324,505 ¥1,154,489 ¥247,218 ¥ — ¥1,401,707 Intersegment sales ............................... — — — — 40,804 Total sales ............................................. 589,907 240,077 324,505 1,154,489 288,022 (40,804) (40,804) — 1,401,707 Segment profit (Operating income) ...... ¥ 28,437 ¥ 21,880 ¥ 60,952 ¥ 111,269 ¥ 22,060 ¥ (59) ¥ 133,270 Segment assets ** ............................... ¥466,128 ¥161,280 ¥158,552 ¥ 785,960 ¥273,397 ¥138,876 ¥1,198,233 Other Depreciation and amortization*** ........ ¥ 30,302 ¥ 10,618 ¥ 9,541 ¥ 50,461 ¥ 14,101 ¥ — ¥ 64,562 Investments in equity method affiliates** ............................... Increase in property, plant and equipment and intangible assets .......... 3,782 1,122 1,328 6,232 3,032 17,042 22,956 13,781 53,779 14,705 — — 9,264 68,484 * Reconciliation of segment profit includes elimination of intersegment transactions of inventory. Reconciliation of assets includes¥163,750 million of the Company’s financial assets and negative ¥24,874 million of elimination of receivables among reportable segments. ** Balances as of December 31, 2014 *** Depreciation and amortization excludes amortization of goodwill. Thousands of U.S. dollars Dec. 2015 Reportable segment Consumer Products Business Beauty Care Business Human Health Care Business Fabric and Home Care Business Total Chemical Business Reconciliations* Consolidated Sales to customers ............................... $5,044,343 $2,330,231 $2,775,928 $10,150,502 $2,066,573 $ — $12,217,075 Intersegment sales ............................... — — — — 327,849 (327,849) — Total sales ............................................. 5,044,343 2,330,231 2,775,928 10,150,502 2,394,422 (327,849) 12,217,075 Segment profit (Operating income) ...... $ 244,210 $ 295,061 $ 574,691 $ 1,113,962 $ 249,979 $ 548 $ 1,364,489 Segment assets** ................................ $3,817,382 $1,621,715 $1,334,315 $ 6,773,412 $2,256,819 $1,610,335 $10,640,566 Other Depreciation and amortization*** ........ $ 244,990 $ 86,810 $ 66,174 $ 397,974 $ 106,259 $ — $ 504,233 Investments in equity method affiliates** ............................................ Increase in property, plant and equipment and intangible assets .......... 30,597 8,467 9,828 48,892 29,011 — 77,903 171,353 258,762 126,978 557,093 135,312 — 692,405 * Reconciliation of segment profit includes elimination of intersegment transactions of inventory. Reconciliation of assets includes $1,895,036 thousand of the Company’s financial assets and negative $284,702 thousand of elimination of receivables among reportable segments. ** Balances as of December 31, 2015 *** Depreciation and amortization excludes amortization of goodwill. 68 Kao Corporation Annual Report 2015 Notes to Consolidated Financial Statements (b) Information related to reportable segments Sales by geographic area for the years ended December 31, 2015 and 2014 were as follows: Sales to customers ................................................... ¥956,073 ¥247,860 Japan Asia Sales to customers ................................................... ¥937,696 ¥203,174 Japan Asia Millions of yen Dec. 2015 Americas* ¥134,189 Millions of yen Dec. 2014 Americas* ¥125,324 Europe** ¥133,669 Consolidated ¥1,471,791 Europe** ¥135,513 Consolidated ¥1,401,707 Thousands of U.S. dollars Dec. 2015 Sales to customers ................................................... $7,936,192 $2,057,442 $1,113,879 $1,109,562 $12,217,075 Japan Asia Americas* Europe** Consolidated Note: Sales are classified by country or region based on the location of customers. Property, plant and equipment by geographic area at December 31, 2015 and 2014 was as follows: Property, plant and equipment ................................. ¥216,495 ¥80,039 Japan Asia Property, plant and equipment ................................. ¥199,484 ¥75,294 Japan Asia Millions of yen Dec. 2015 Americas* ¥14,586 Millions of yen Dec. 2014 Americas* ¥13,721 Europe** ¥16,610 Consolidated ¥327,730 Europe** ¥19,116 Consolidated ¥307,615 Thousands of U.S. dollars Dec. 2015 Property, plant and equipment .................................... $1,797,086 $664,389 *Americas: North America, South America, and Oceania **Europe: Europe and South Africa Japan Asia Americas* $121,076 Europe** $137,877 Consolidated $2,720,428 Kao Corporation Annual Report 2015 69 (c) Impairment losses by reportable segment Impairment losses by reportable segment for the years ended December 31, 2015 and 2014 were as follows: Millions of yen Dec. 2015 Reportable segment Consumer Products Business Beauty Care Business Human Health Fabric and Home Care Business Care Business Impairment losses of assets .............. ¥2,459 ¥510 ¥657 Total ¥3,626 Chemical Business ¥388 Reconciliations Consolidated ¥— ¥4,014 Reportable segment Consumer Products Business Beauty Care Business Human Health Fabric and Home Care Business Care Business Impairment losses of assets .............. ¥62 ¥28 ¥42 Total ¥132 Chemical Business ¥— Reconciliations Consolidated ¥— ¥132 Millions of yen Dec. 2014 Reportable segment Consumer Products Business Beauty Care Business Human Health Fabric and Home Care Business Care Business Total Impairment losses of assets .............. $20,412 $4,233 $ 5,454 $30,099 Chemical Business $3,220 Reconciliations Consolidated $— $33,319 Thousands of U.S. dollars Dec. 2015 (d) Amortization and balance of goodwill by reportable segment Amortization and balance of goodwill by reportable segment for the years ended December 31, 2015 and 2014 were as follows: Millions of yen Dec. 2015 Amortization of goodwill ................... Goodwill at December 31, 2015 ....... Reportable segment Beauty Care Business ¥ 12,879 127,099 Consumer Products Business Human Health Fabric and Home Care Business Care Business ¥— — ¥— — Total ¥ 12,879 127,099 Chemical Business ¥— — Reconciliations ¥— — Consolidated ¥ 12,879 127,099 Amortization of goodwill ................... Goodwill at December 31, 2014 ....... Reportable segment Beauty Care Business ¥ 15,098 139,941 Consumer Products Business Human Health Fabric and Home Care Business Care Business ¥— — ¥— — Total ¥ 15,098 139,941 Chemical Business ¥— — Reconciliations ¥— — Consolidated ¥ 15,098 139,941 Millions of yen Dec. 2014 70 Kao Corporation Annual Report 2015 Notes to Consolidated Financial Statements Thousands of U.S. dollars Dec. 2015 Beauty Care Business Amortization of goodwill .................... $ 106,906 1,055,026 Goodwill at December 31, 2015 ........ Reportable segment Consumer Products Business Human Health Fabric and Home Care Business Care Business $— — $— — Total $ 106,906 1,055,026 Chemical Business $— — Reconciliations $— — Consolidated $ 106,906 1,055,026 15 Selling, General and Administrative Expenses Selling, general and administrative expenses principally consisted of the following: Freight/warehouse .................................................................................................... Advertising ................................................................................................................ Sales promotion ........................................................................................................ Salaries and bonuses ................................................................................................ Research and development ...................................................................................... Millions of yen Dec. 2015 ¥ 85,609 94,496 78,264 133,310 51,987 Dec. 2014 ¥ 81,391 92,410 73,072 130,974 51,739 16 Other Income (Expenses) “Other, net” consisted of the following: Millions of yen Gain on sales of investment securities ..................................................................... Gain on liquidation of subsidiaries ............................................................................ Dec. 2015 ¥ 375 299 Loss related to cosmetics ........................................................................................ (1,035) Loss on sales or disposals of property, plant and equipment, and intangible assets, net .................................................... Other, net ................................................................................................................. (3,499) 3,114 Total ...................................................................................................................... ¥ (746) Dec. 2014 ¥ 18 — (8,896) (2,706) 2,092 ¥(9,492) Thousands of U.S. dollars Dec. 2015 $ 710,625 784,394 649,656 1,106,583 431,535 Thousands of U.S. dollars Dec. 2015 $ 3,113 2,482 (8,591) (29,045) 25,848 $ (6,193) 17 Financial Instruments (1) Group policy for financial instruments The Companies position excess cash as standby funds until investing them in business activities, and manage them by investment only in short-term, low-risk financial instruments. The Companies have a policy to finance by debt from financial institutions and issuance of corporate bonds and other instruments in capital markets. The Companies use derivatives to hedge risk and do not use derivatives for the purpose of speculation. (2) Nature and extent of risks arising from financial instruments and risk management Receivables, such as trade notes and trade accounts are exposed to customer credit risk. The Companies manage this risk by ensuring that internal deliberations and approval processes, in which customer credit standing is reviewed, are conducted before entering into transactions with new customers. In addition, the Companies secure guarantee deposits or collateral as necessary. Furthermore, the Companies monitor due dates and manage balances of receivables by customer and periodically check the credit risk of key customers. Marketable securities, which consist of commercial paper of highly-rated companies, bond investment trusts and others, are highly safe and liquid financial instruments. Investment securities are mainly cross-shareholdings, and the Companies hold the shares in cases where they consider such shareholdings, including the number of shares held, to be reasonable in consideration of their necessity in terms of business activities, such as maintaining and strengthening business Kao Corporation Annual Report 2015 71 alliances and transactions, trends in the issuing companies’ stock, and other matters. These cross-shareholdings are subject to the impact of trends in stock markets and the business environment in which the Companies operate. However, each year the Companies ascertain the reasonableness of cross-shareholdings and review their continuance and the number of shares held. Payment terms of payables, such as trade notes and trade accounts, are mostly less than one year. Loans, principally from financial institutions, in short-term debt are mainly for financing related to operating activities. Bonds and loans, principally from financial institutions, in long-term debt are for financing related to maintenance of appropriate capital cost ratio and investment in property, plant and equipment. Certain loans with floating interest rates are exposed to interest rate volatility risk. The Companies use interest rate swaps for the purpose of hedging the interest rate volatility risk by converting the floating rates into fixed rates. Derivative transactions entered into and managed by the Companies are made in accordance with internal policies that regulate objectives, credit limit amount, scope, organization and others. The Companies do not use derivatives for the purpose of speculation. All derivative transactions are entered into to meet requirements for hedging risk incorporated in the Companies’ business. The Companies limit the counterparties to these derivative transactions to major international financial institutions to reduce their credit risk. With regard to payables, such as trade notes, trade accounts and loans, the Companies monitor and manage liquidity risk by preparing monthly forecast statements of cash flows of each company. (3) Fair values of financial instruments Fair values of financial instruments are based on the quoted prices in active markets. If a quoted price is not available, other rational valuation techniques are used. Also, see Note 18 for details of the fair values of derivatives. The contract amounts of derivatives which are shown in Note 18 do not represent the amounts exchanged by the parties and do not measure the Companies’ exposure to credit or market risk. The carrying amount, fair value and unrealized gain or loss of financial instruments as of December 31, 2015 and 2014 consisted of the following: Cash and time deposits ......................................................................................................... Short-term investments ........................................................................................................ Notes and accounts receivable .............................................................................................. Allowance for doubtful receivables .................................................................................... Notes and accounts receivable, net ................................................................................... Investment securities ........................................................................................................... Total ................................................................................................................................... Short-term debt ..................................................................................................................... Current portion of long-term debt ......................................................................................... Notes and accounts payable .................................................................................................. Income taxes payable ............................................................................................................ Long-term debt ...................................................................................................................... Total ................................................................................................................................... Millions of yen Dec. 2015 Fair value ¥125,159 188,551 Unrealized gain/(loss) ¥ — — 209,514 11,772 ¥534,996 ¥ 47 752 209,072 32,073 124,516 ¥366,460 — — ¥ — ¥ — 4 — — 980 ¥984 Carrying amount ¥125,159 188,551 210,859 (1,345) 209,514 11,772 ¥534,996 ¥ 47 748 209,072 32,073 123,536 ¥365,476 Derivatives ............................................................................................................................. ¥ 1,413 ¥ 1,413 ¥ — 72 Kao Corporation Annual Report 2015 Notes to Consolidated Financial Statements Cash and time deposits ......................................................................................................... Short-term investments ........................................................................................................ Notes and accounts receivable .............................................................................................. Allowance for doubtful receivables .................................................................................... Notes and accounts receivable, net ................................................................................... Investment securities ........................................................................................................... Total ................................................................................................................................... Short-term debt ..................................................................................................................... Current portion of long-term debt ......................................................................................... Notes and accounts payable .................................................................................................. Income taxes payable ............................................................................................................ Long-term debt ...................................................................................................................... Total ................................................................................................................................... Millions of yen Dec. 2014 Fair value Unrealized gain/(loss) ¥ 107,412 123,639 ¥ — — 211,464 10,473 ¥ 452,988 ¥ 1,137 20,810 195,178 28,108 85,258 ¥ 330,491 — — ¥ — ¥ — 34 — — 1,106 ¥ 1,140 Carrying amount ¥ 107,412 123,639 212,835 (1,371) 211,464 10,473 ¥ 452,988 ¥ 1,137 20,776 195,178 28,108 84,152 ¥ 329,351 Derivatives ............................................................................................................................. ¥ (412) ¥ (412) ¥ — Thousands of U.S. dollars Dec. 2015 Fair value Unrealized gain/(loss) Carrying amount Cash and time deposits ......................................................................................................... Short-term investments ........................................................................................................ Notes and accounts receivable .............................................................................................. Allowance for doubtful receivables .................................................................................... Notes and accounts receivable, net ................................................................................... Investment securities ........................................................................................................... Total ................................................................................................................................... $ 1,038,923 1,565,128 1,750,302 (11,165) 1,739,137 97,717 $ 4,440,905 Short-term debt ..................................................................................................................... Current portion of long-term debt ......................................................................................... Notes and accounts payable .................................................................................................. Income taxes payable ............................................................................................................ Long-term debt ...................................................................................................................... Total ................................................................................................................................... $ 390 6,209 1,735,470 266,232 1,025,450 $ 3,033,751 $ 1,038,923 1,565,128 $ — — 1,739,137 97,717 $ 4,440,905 $ 390 6,242 1,735,470 266,232 1,033,585 $ 3,041,919 — — $ — $ — 33 — — 8,135 $ 8,168 Derivatives ............................................................................................................................. $ 11,729 $ 11,729 $ — Cash and time deposits The carrying values of cash and time deposits approximate fair value because of their short maturities. information on the fair value of short-term investments and investment securities by classification. Short-term investments and investment securities The fair value of marketable equity securities is measured at the quoted market prices of the stock exchange. The fair value of marketable debt securities is measured at the quoted market prices of the stock exchange or at the quoted prices obtained from the financial institutions if there is no quoted market prices. The carrying values of other marketable securities, such as commercial paper, investment trust funds and others, approximate fair value because of their short maturities. See Note 4 for Notes and accounts receivable The carrying values of notes and accounts receivable approximate fair value because of their short maturities. Short-term debt The carrying values of short-term debt approximate fair value because of their short maturities. Current portion of long-term debt The fair value of fixed interest loans is measured at the present Kao Corporation Annual Report 2015 73 value by discounting expected repayments of principal and interest in the remaining period using an assumed interest rate on an equivalent new loan. Notes and accounts payable, and income taxes payable The carrying values of notes and accounts payable, and income taxes payable approximate fair value because of their short maturities. Long-term debt The fair value of bonds issued by the Company is measured at the quoted market price. The fair value of fixed interest loans is measured at the present value by discounting expected repayments of principal and interest in the remaining period using an assumed interest rate on an equivalent new loan. The long-term debt of various interest loans is the fair value of long-term loans subject to a special accounting method for interest rate swaps which qualify for hedge accounting and meet specific matching criteria. The fair value of this is measured at the present value by discounting expected repayments of principal and interest together with the interest rate swaps in the remaining period using an assumed interest rate on an equivalent new loan. The fair value of lease obligations is measured at the present value by discounting expected repayments of lease obligations including interest in the remaining period using an assumed interest rate on equivalent new lease obligations. Derivatives Information on fair value of derivatives is included in Note 18. The carrying amount of financial instruments whose fair value cannot be reliably determined as of December 31, 2015 and 2014 consisted of the following: Investment securities that do not have a quoted market price in an active market Millions of yen Dec. 2015 ¥1,173 Dec. 2014 ¥1,182 Thousands of U.S. dollars Dec. 2015 $9,737 (4) Maturity analysis for financial assets and securities with contractual maturities The maturity analysis for financial assets and securities with contractual maturities as of December 31, 2015 was as follows: Cash and time deposits ............................................................ Short-term investments and investment securities: Held-to-maturity debt securities ........................................... Available-for-sale other securities with contractual maturities ............................................... Notes and accounts receivable ................................................. Total ...................................................................................... Cash and time deposits ............................................................ Short-term investments and investment securities: Held-to-maturity debt securities ........................................... Available-for-sale other securities with contractual maturities ................................................ Notes and accounts receivable ................................................. Total ...................................................................................... Please see Note 6 for annual maturities of long-term debt. Due within one year ¥125,159 119,006 — 210,859 ¥455,024 Due within one year $1,038,923 987,848 — 1,750,302 $3,777,073 Millions of yen Due after one year through five years Due after five years through ten years Due after ten years ¥— — — — ¥— ¥— — — — ¥— ¥— — — — ¥— Thousands of U.S. dollars Due after one year through five years Due after five years through ten years Due after ten years $— — — — $— $— — — — $— $— — — — $— 74 Kao Corporation Annual Report 2015 Notes to Consolidated Financial Statements 18 Derivatives (a) Derivative transactions to which hedge accounting is not applied The Company had the following derivative contracts outstanding to which hedge accounting was not applied at December 31, 2015 and 2014: Currency-related Foreign exchange forward contracts: ....................................... Buying U.S. Dollar ................................................................. Buying Japanese Yen ........................................................... Buying other currencies ........................................................ Selling U.S. Dollar ................................................................. Selling Chinese Yuan ............................................................ Selling other currencies ....................................................... Foreign currency swaps: Receiving Japanese Yen, paying Chinese Yuan .................. Receiving U.S. Dollar, paying Indonesian Rupiah ................. Other currencies ................................................................... Foreign exchange forward contracts: Buying U.S. Dollar …………………………………………… Buying Japanese Yen ............................................................ Buying other currencies ........................................................ Selling U.S. Dollar ................................................................. Selling Chinese Yuan ............................................................. Selling other currencies ....................................................... Foreign currency swaps: Receiving Japanese Yen, paying Chinese Yuan …………… Receiving U.S. Dollar, paying Indonesian Rupiah .................. Millions of yen Dec. 2015 Contract amount Contract amount due after one year Fair value Unrealized gain / (loss) ¥ 4,400 822 87 22,521 4,578 1,457 2,279 10,280 143 Contract amount ¥3,652 863 27 6,285 3,053 1,368 2,279 7,750 ¥ 2,856 778 — 9,729 3,379 — 2,279 10,280 143 ¥ 314 (99) 0 (99) 110 2 (417) 1,636 3 ¥ 314 (99) 0 (99) 110 2 (417) 1,636 3 Millions of yen Dec. 2014 Contract amount due after one year Fair value Unrealized gain / (loss) ¥2,980 808 — — 3,053 — 2,279 7,750 ¥ 154 (115) (0) (162) (67) 36 (602) 405 ¥ 154 (115) (0) (162) (67) 36 (602) 405 Thousands of U.S. dollars Dec. 2015 Contract amount Contract amount due after one year Fair value Unrealized gain / (loss) Foreign exchange forward contracts: Buying U.S. Dollar …………………………………………… Buying Japanese Yen ............................................................ Buying other currencies ........................................................ Selling U.S. Dollar ................................................................. Selling Chinese Yuan ............................................................. Selling other currencies ....................................................... Foreign currency swaps: Receiving Japanese Yen, paying Chinese Yuan …………… Receiving U.S. Dollar, paying Indonesian Rupiah .................. Other currencies ................................................................... $ 36,524 6,823 722 186,943 38,001 12,094 18,918 85,332 1,187 $ 23,707 6,458 — 80,759 28,048 — 18,918 85,332 1,187 $ 2,606 (822) 0 (822) 913 17 (3,461) 13,580 25 $ 2,606 (822) 0 (822) 913 17 (3,461) 13,580 25 Kao Corporation Annual Report 2015 75 Interest-related Millions of yen Dec. 2015 Contract amount Contract amount due after one year Fair value Unrealized gain / (loss) Interest rate swaps: Receiving floating rate, paying fixed rate …………………… ¥2,652 ¥2,652 ¥(37) ¥(37) Millions of yen Dec. 2014 Contract amount Contract amount due after one year Fair value Unrealized gain / (loss) Interest rate swaps: Receiving floating rate, paying fixed rate .............................. ¥2,637 ¥2,637 ¥(61) ¥(61) Thousands of U.S. dollars Dec. 2015 Contract amount Contract amount due after one year Fair value Unrealized gain / (loss) Interest rate swaps: Receiving floating rate, paying fixed rate …………………… $22,014 $22,014 $(307) $(307) (b) Derivative transactions to which hedge accounting is applied The Companies had the following derivative contracts outstanding to which hedge accounting was applied at December 31, 2014: Millions of yen Dec. 2014 Hedged item Contract amount Contract amount due after one year Fair value Interest rate swaps: (Fixed rate payment, Floating rate receipt) ........................... Long-term debt ¥20,000 — — The interest rate swaps which qualify for hedge accounting and recognized and included in interest expense or income. In addition, meet specific matching criteria are not remeasured at market value the fair value of the interest rate swaps is included in that of the but the differentials paid or received under the swap agreements are hedged item, long-term debt, in Note 17. 76 Kao Corporation Annual Report 2015 Notes to Consolidated Financial Statements 19 Net Income per Share A reconciliation of the differences between basic and diluted net income per share (“EPS”) for the years ended December 31, 2015 and 2014 was as follows: Millions of yen Net income Thousands of shares Weighted average shares Yen U.S. dollars EPS For the year ended December 31, 2015: Basic EPS Net income available to common shareholders ................ ¥98,862 501,352 ¥197.19 $1.64 Effect of dilutive securities Warrants ............................................................................ — 701 Diluted EPS Net income for computation ............................................ ¥98,862 502,053 ¥196.92 $1.63 For the year ended December 31, 2014: Basic EPS Net income available to common shareholders ................ ¥79,590 508,687 ¥156.46 Effect of dilutive securities Warrants ............................................................................ — 710 Diluted EPS Net income for computation ............................................. ¥79,590 509,397 ¥156.24 Kao Corporation Annual Report 2015 77 20 Subsequent Event Transaction under Common Control At the meeting of the Board of Directors of the Company held on Kao Customer Marketing Co., Ltd., Kanebo Cosmetics Sales Inc. and November 19, 2015, it was resolved to conduct an absorption-type Kao Field Marketing Co., Ltd. to Kao Group Customer Marketing company split in which the Company will transfer all the shares of Preparation Co., Ltd., a consolidated subsidiary of the Company. a) Summary of the Transaction 1) Names and Business Content of Companies Involved in the Combination Combining company: Kao Corporation Business content: Manufacturing and sales of consumer products, chemical products, etc. Combined company: Kao Group Customer Marketing Preparation Co., Ltd. Business content: Sales of consumer products, etc. 2) Date of Business Combination January 1, 2016 3) Legal Form of the Business Combination Simplified absorption-type company split with Kao Group Customer Marketing Preparation Co., Ltd. as the successor company 4) Name of Company after the Combination Kao Group Customer Marketing Co., Ltd. (Kao Group Customer Marketing Preparation Co., Ltd. changed its name as of January 1, 2016) 5) Other Items Related to the Summary of the Transaction The Company will conduct the absorption-type company split to leverage the “comprehensive strength of the Kao Group” to strengthen the Companies’ ability to provide products and services by promoting integrated management of the sales functions of the Kao Group. b) Summary of Accounting Treatment Used The Company plans to treat the transaction as a transaction for Business Combinations and Accounting Standard for Business under common control based on the “Accounting Standard for Divestitures” (ASBJ Guidance No. 10 issued on September 13, 2013). Business Combinations” (ASBJ Statement No. 21 issued on September 13, 2013) and “Guidance on Accounting Standard 78 Kao Corporation Annual Report 2015 Independent Auditor’s Report Kao Corporation Annual Report 2015 79 Principal Subsidiaries and Affiliates (As of March 25, 2016) Country/Area Business Company Country/Area Business Company ● ● ● ● ● ● ● ● ● ● ● ● ● Kao Australia Pty. Limited ● ● ● Kao Canada Inc. Kao USA Inc. Kao America Inc. Kao Specialties Americas LLC Quimi-Kao, S.A. de C.V. Kao Germany GmbH Guhl Ikebana GmbH Kao Manufacturing Germany GmbH ● Kao Chemicals GmbH Kao Netherlands B.V. Kao (UK) Limited KPSS (UK) Limited Molton Brown Limited Kao Switzerland AG Kanebo Cosmetics (Europe) Ltd. ● ● Kao Chemicals Europe, S.L. Kao Corporation S.A. Consumer Products Business ● Beauty Care Business ● Human Health Care Business ● Fabric and Home Care Business Chemical Business ● Chemical Business Japan China Taiwan Vietnam Philippines Thailand Malaysia ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● Kao Group Customer Marketing Co., Ltd. Australia Kao Customer Marketing Co., Ltd. Canada Kanebo Cosmetics Inc. United States Kanebo Cosmetics Sales Inc. E'quipe, Ltd. Kanebo Cosmillion Ltd. Mexico Kao Cosmetic Products Odawara Co., Ltd. Germany ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● Nivea-Kao Co., Ltd. Kao Sanitary Products Ehime Co., Ltd. Kao Professional Services Co., Ltd. Kao-Quaker Co., Ltd. Kao (China) Holding Co., Ltd. Kao Corporation Shanghai Kao (Hefei) Co., Ltd. Netherlands United Kingdom Kao Commercial (Shanghai) Co., Ltd. Switzerland Kanebo Cosmetics (China) Co., Ltd. Shanghai Kanebo Cosmetics Co., Ltd. Spain Kao Chemical Corporation Shanghai Kao Trading Corporation Shanghai Kao (Shanghai) Chemical Industries Co., Ltd. ● ● ● ● ● Kao (Hong Kong) Ltd. ● Kao (Taiwan) Corporation ● ● Kao Vietnam Co., Ltd. Pilipinas Kao, Inc. Kao Industrial (Thailand) Co., Ltd. Kao Commercial (Thailand) Co., Ltd. Kao Soap (Malaysia) Sdn. Bhd. ● ● Kao (Malaysia) Sdn. Bhd. ● ● ● ● Fatty Chemical (Malaysia) Sdn. Bhd. Kao Plasticizer (Malaysia) Sdn. Bhd. Kao Oleochemical (Malaysia) Sdn. Bhd. Kao Singapore Private Limited PT Kao Indonesia ● PT. Kao Indonesia Chemicals Singapore Indonesia ● ● ● ● ● ● 80 Kao Corporation Annual Report 2015 Investor Information (As of December 31, 2015) Kao Corporation Head Office 14-10, Nihonbashi Kayabacho 1-chome, Chuo-ku, Tokyo 103-8210, Japan Telephone: 81-3-3660-7111 Founded June 19, 1887 Common Stock Authorized: 1,000,000,000 shares Issued: 504,000,000 shares Outstanding (excluding treasury stock): 502,014,676 shares Number of Shareholders: 53,272 Stock Listing Tokyo Stock Exchange Ticker Symbol Number 4452 Administrator of Shareholder Register Sumitomo Mitsui Trust Bank, Limited 8-4, Izumi 2-chome, Suginami-ku, Tokyo 168-0063, Japan Depositary and Registration for American Depositary Receipts (ADR Ticker Symbol: KCRPY) JPMorgan Chase Bank, N.A. 1 Chase Manhattan Plaza, Floor 58, New York, NY 10005, U.S.A. Top Ten Shareholders Name of Shareholder Number of Shares (thousand shares) Ratio of Shareholding (percentage) Japan Trustee Services Bank, Ltd. (Trust Account) The Master Trust Bank of Japan, Ltd. (Trust Account) JPMorgan Chase Bank 380055 State Street Bank and Trust Company 505223 Tokio Marine & Nichido Fire Insurance Co., Ltd. State Street Bank West Client – Treaty 505234 The Bank of New York Mellon SA/NV 10 State Street Bank and Trust Company 505225 Nippon Life Insurance Company National Mutual Insurance Federation of Agricultural Cooperatives 34,018 32,957 22,183 16,207 8,442 8,153 7,603 7,190 6,691 6,524 6.78 6.56 4.42 3.23 1.68 1.62 1.51 1.43 1.33 1.30 Notes: 1. The number of shares in the list above may include the number of shares held in trusts or subject to share administration. 2. The ratio of shareholding for each shareholder above has been calculated based on the number of issued shares excluding treasury shares. Composition of Shareholders Securities Companies 2.44% Other Japanese Companies 3.95% Individuals and Others 11.49% Financial Institutions 33.57% Treasury Stock 0.39% Companies and Individuals in Foreign Countries 48.16% For the Kao Sustainability Report and Kao Group Profile, please refer to the Kao Group website at http://www.kao.com/group/en/group/reports.html Investor Relations Telephone: 81-3-3660-7101 Facsimile: 81-3-3660-8978 E-mail: ir@kao.co.jp Website: http://www.kao.com/jp/en/corp_ir/investors.html Stock Price Range and Trading Volume (Tokyo Stock Exchange) Stock Price Range (Yen) Common Stock Price Range Tokyo Price Index Close Monthly Trading Volume (Million Shares) 7,000 6,000 5,000 4,000 3,000 2,000 1,000 0 80 60 40 20 0 Apr. 2011 Mar. 2012 Dec. 2012 Dec. 2013 Dec. 2014 Dec. 2015 Kao Corporation Annual Report 2015 81

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