IIJIY Internet Initiative Japan Inc (PK)

Internet Initiative Japan Inc. ("IIJ") (Nasdaq:IIJI) (TSE:3774) today announced its consolidated financial results for the nine months of the fiscal year ending March 31, 2014 (from April 1, 2013 to December 31, 2013, "3Q13").1

Overview of 9 months for FY2013 Financial Results and Business Outlook

"We recognize the coming several years to be remarkable period for IIJ to leap into the next level of business phase. The continuous technological innovation of network infrastructure, the ongoing development of the widely-used smart phones and other portable devises, and the evolving IT needs as seen with the growing concept of big data should promote the further adoption of network and cloud usages by Japanese enterprises and governmental organization supported by the returned demand on systems investment along with the Japanese economic recovery. To grasp these favorable growth opportunities, we're enhancing our business investments more than ever. This fiscal year, we're increasing the procurement number of employees and aggressively investing in cloud and overseas businesses in particular," said Koichi Suzuki, Founder and CEO of IIJ.

"Along with our business expansion, our operating costs, including depreciation and amortization, personnel and overseas business-related costs, have increased largely from the beginning of this fiscal year. On the other hand, we've suffered from some large customers' recurring revenues slow down and decrease than estimated this fiscal year. Certain carriers, network operators and game providers are one of our largest customers, and we had serious price down pressure for Internet connectivity and WAN services and partial cancellation of server usage from them due to their individual business conditions. Costs of our recurring revenues are mainly costs to operate and maintain network facilities and equipment such as depreciation, personnel and circuit related costs and these costs are not directly correlated with individual revenue increase or decrease in general. Thus, the increasing gap to our initial expectation quarter by quarter in recurring revenues impacts our income level significantly. We're seeing quite fine systems construction orders, yet it wouldn't be strong enough to cover their reduced volume. Considering these situations, we revised our financial target downward," said Eijiro Katsu, President and COO of IIJ.

1 Unless otherwise stated, all financial figures discussed in this announcement are prepared in accordance with U.S. GAAP. All financial figures are unaudited and consolidated. The translation of Japanese yen into U.S. dollars is solely for the convenience of readers outside of Japan. The rate used for the translation was JPY105.25 per US$1.00, which was the noon buying rate on December 31, 2013.

"We perceive this fiscal year's financial situation as a part of the course for future growth, although the sales slumps of large customers have not been expected. Sales activities have been quite fine in accumulating new orders and polishing the existing deep relationships with our core customers. It is true that our business transactions with large customers continuously become significant and our business volatility becomes large along with that. We need to implement further stronger control and management for large accounts and also increase such large customers and transactions more to reduce total business volatility. We believe our cloud strategy to capture blue-chips' core platform systems should respond this issue to grow our customers into large accounts in the middle term," continued Katsu.

"We can anticipate continuous growth of network and outsourcing demands, strong SI orders next year. As for large accounts, network carriers' traffic should continuously grow and game providers' server usage should grow in total. We are still in the middle of business investment and we continuously pursue business expansion strategy. We'll devote ourselves on network services development and the accumulation of profitable recurring revenue services. Also, with further investment and cost control, we believe we will get back to the track to strong income growth in the next fiscal year. Lastly, we'd like to pursue M&A transactions to support our business scale-up," concluded Suzuki.

3rd Quarter FY2013 Financial Results Summary

We have omitted segment analysis because most of our revenues are dominated by Network Services and Systems Integration (SI) Business.

3rd Quarter FY2013 Results of Operation

Revenues

Total revenues were JPY82,746 million, up 7.9% YoY.

Network Services revenue was JPY50,301 million, up 3.7% YoY.

Revenues for Internet connectivity services for corporate use were JPY12,499 million, up 6.1% YoY. The increase was mainly due to the increasing demands for broader bandwidth and mobile service. However, the rate of change was lower than the plan mainly due to the strong price down pressure by certain large customers.

Revenues for Internet connectivity services for home use were JPY4,397 million, up 7.0% YoY. The revenues grew as we have continued to accumulate orders for LTE mobile data communication service. Especially, the low-priced mobile service for SIM-free mobile phones led the revenue to growth and the number of its contracts was approximately 119,000 as of December 31, 2013.

WAN services revenues were JPY18,786 million, decreased slightly compared to 3Q12. While revenues from the other general customers increased continuously, the strong price down pressure by certain large customers had an impact on the decrease of the revenues.

Outsourcing services revenues were JPY14,619 million, up 6.4% YoY. The revenue growth was mainly due to the increase of revenues in "IIJ GIO Hosting Package Services" and datacenter-related services.

SI revenues were JPY29,197 million, up 14.0% YoY.

Systems construction revenue, a one-time revenue, was JPY11,635 million, up 18.4% YoY, mainly due to the continuous accumulation of orders and the trend of large scale projects in accordance with the returned demand on systems investment along with the Japanese economic recovery. Systems operation and maintenance revenue, a recurring revenue, was JPY17,562 million, up 11.3% YoY. The increase was mainly due to the increase in revenue of "IIJ GIO Component Services."

The orders received for SI and equipment sales were JPY36,156 million, significantly increased by 21.1% YoY. In the breakdown, the orders received for systems construction and equipment sales were JPY16,236 million, up 33.2% YoY, and the orders received for systems operation and maintenance were JPY19,920 million, up 12.7% YoY.

The order backlog for SI and equipment sales as of December 31, 2013 amounted to JPY25,862 million, up 27.7% YoY. In the breakdown, the order backlog for systems construction and equipment sales was JPY7,126 million, up 33.6% YoY, and the order backlog for systems operation and maintenance was JPY18,736 million, up 25.6% YoY.

Equipment sales revenues were JPY1,178 million, up 35.8% YoY.

ATM Operation Business revenues were JPY2,070 million, up 21.3% YoY. The increase was mainly in accordance with the increase in the numbers of newly placed ATMs. 785 ATMs were placed as of February 7, 2014.

2 IP Service revenues include revenues from the Data Center Connectivity Service.

3 Revenue from mobile data communication service for home use is included in Internet Connectivity Service (Home Use).

4 Contracts of IIJ Mobile Service are of mobile data communication service for corporate use.

Cost and expense

Total cost of revenues was JPY67,228 million, up 9.9% YoY.

Cost of Network Services revenues was JPY39,764 million, up 4.7% YoY. The increase was mainly due to the increase in network operation related costs as well as circuit-related and personnel-related costs. Gross margin was JPY10,538 million, down 0.1% YoY and gross margin ratio was 20.9%, down 0.8 points YoY due to the strong price down pressure in Internet connectivity and WAN services from certain large customers.

Cost of SI revenues was JPY24,826 million, up 18.3% YoY. The increase was mainly due to the increase in purchasing costs along with the increase in systems construction revenues as well as outsourcing-related and personnel-related costs. Gross margin was JPY4,371 million, down 5.1% YoY and gross margin ratio was 15.0% due to the trend of large scale projects.

Cost of Equipment Sales revenues was JPY1,062 million, up 41.7% YoY. Gross margin was JPY 116 million and gross margin ratio was 9.8%.

Cost of ATM Operation Business revenues was JPY1,576 million, up 8.7% YoY. The increase was in accordance with the number of newly placed ATMs. Gross margin was JPY494 million and gross margin ratio was 23.8%.

SG&A and R&D expenses

SG&A and R&D expenses were JPY11,307 million, up 7.9% YoY.

Sales and Marketing expenses were JPY6,346 million, up 5.2% YoY. The increase was mainly due to the increase in personnel-related expenses along with the increase in employees, rent expenses, and sales commission expenses related to Internet connectivity services for home use.

General and Administrative expenses were JPY4,645 million, up 12.0% YoY. The increase was mainly due to the increase in personnel-related expenses along with the increase in employees, rent expenses, depreciation, and commission expenses related to the procurement of employees.

Research and Development expenses were JPY316 million, up 3.9% YoY.

Operating income

Operating income was JPY4,211 million, down 16.5% YoY.

Other income (expenses)

Other income (expenses) was an income of JPY414 million (an expense of JPY97 million for 3Q12), mainly due to foreign currency gains of JPY203 million (foreign currency losses of JPY13 million for 3Q12) and net gain on other investments of JPY172 million, and interest expense of JPY194 million.

Income before income tax expense

Income before income tax expense was JPY4,625 million, down 6.5% YoY (JPY4,946 million for 3Q12) as a result of the decrease in operating income.

Net income

Income tax expense was JPY1,841 million (JPY1,954 million for 3Q12).

Equity in net income of equity method investees was JPY191 million (JPY131 million for 3Q12) mainly due to net income of Internet Revolution, Inc. and Internet Multifeed Co.

As a result of the above, net income was JPY2,975 million, down 4.8% YoY (JPY3,123 million for 3Q12).

Net income attributable to IIJ

Net income attributable to non-controlling interests was JPY51 million mainly related to net income of Trust Networks Inc. (JPY11 million for 3Q12).

Net income attributable to IIJ was JPY2,924 million, down 6.0% YoY (JPY3,112 million for 3Q12).

3rd Quarter FY2013 Financial Condition

Balance Sheets

As of December 31, 2013, the balance of total assets was JPY100,596 million, increased by JPY18,485 million from the balance as of March 31, 2013 (JPY82,111 million as of March 31, 2013).

As for current assets as of December 31, 2013, as compared to the respective balances as of March 31, 2013, cash and cash equivalents increased by JPY9,843 million mainly due to the equity finance in the previous quarter, prepaid expenses increased by JPY1,474 million, inventories increased by JPY1,216 million and accounts receivable decreased by JPY1,998 million. As for noncurrent assets, as compared to the respective balances as of March 31, 2013, other investments increased by JPY3,656 million mainly due to the increase in its fair value, property and equipment increased by JPY3,531 million by continuous capital expenditure mainly for network infrastructure including cloud-related and guarantee deposits increased by JPY672 million along with our office expansion. As for current liabilities, as compared to the respective balances as of March 31, 2013, income taxes payable decreased by 1,493 million and accounts payable decreased by JPY1,303 million.

As for the balances of capital lease obligations, as compared to the respective balances as of March 31, 2013, capital lease obligations-current portion increased by JPY144 million to JPY3,649 million and capital lease obligations-noncurrent decreased by JPY449 million to JPY4,922 million.

As of December 31, 2013, the balance of other investments was JPY7,427 million. The breakdown of other investments were JPY4,477 million in available-for-sale securities including listed stocks, JPY2,242 million in nonmarketable equity securities, and JPY708 million in other. There was a large increase in fair value in one of our stock held for business relation due to going public in Japan.

As of December 31, 2013, the breakdown of major non-amortized intangible assets were JPY5,970 million in goodwill and JPY107 million in trademark. The balance of amortized intangible assets, which was customer relationships, was JPY4,317 million.

As of December 31, 2013, the balance of total IIJ shareholders' equity was JPY58,838 million, increased by JPY21,231 million from the balance as of March 31, 2013 due to increase in common-stock and additional paid-in capital as a result of equity finance and net income in 3Q13. IIJ shareholders' equity ratio (total IIJ shareholders' equity/total assets) as of December 31, 2013 was 58.5%.

Cash Flows

Cash and cash equivalents as of December 31, 2013 were JPY22,102 million compared to JPY10,648 million as of December 31, 2012.

Net cash provided by operating activities for 3Q13 was JPY5,732 million compared to net cash provided by operating activities of JPY5,880 million for 3Q12. In YoY comparison, net income decreased, while depreciation and amortization, which are non-cash expenses, increased. There were also the changes in operating assets and liabilities; cash inflow in accounts receivable increased, while cash outflows in operating liabilities such as accounts payable, increased.

Net cash used in investing activities for 3Q13 was JPY8,480 million compared to net cash used in investing activities of JPY4,704 million for 3Q12, mainly due to payments for purchase of property and equipment of JPY7,228 million (JPY4,410 million for 3Q12), payments for purchase of other investments of JPY1,128 million (JPY407 million for 3Q12) and payments for guarantee deposits of JPY681 million (JPY87 million for 3Q12).

Net cash provided by financing activities for 3Q13 was JPY12,408 million compared to net cash used in financing activities of JPY4,057 million for 3Q12, mainly due to proceeds from issuance of common stock of JPY17,271 million, principal payments under capital leases of JPY2,942 million (JPY2,741 million for 3Q12), net repayments of borrowings of JPY1,010 million (JPY610 million for 3Q12), JPY911 million in total for FY2012 year-end dividends and FY2013 interim dividends payments (JPY709 million for 3Q12).

FY2013 Financial Targets (revised on February 7, 2014)

We revised the target of consolidated financial results for the fiscal year ending March 31, 2014 announced on May 15, 2013. The table below shown is the summary of the revision.

Please refer to page 25 and 26 of this press release for more details.

Reconciliation of Non-GAAP Financial Measures

The following table summarizes the reconciliation of adjusted EBITDA to net income attributable to IIJ in our consolidated statements of income that are prepared in accordance with U.S. GAAP.

5 Depreciation and amortization includes impairment loss on other intangible assets. (See IIJ's consolidated financial statements for details).

Presentation

Presentation materials will be posted on our web site (http://www.iij.ad.jp/en/ir/) on February 7, 2014.

About Internet Initiative Japan Inc.

Founded in 1992, Internet Initiative Japan Inc. is one of Japan's leading Internet-access and comprehensive network solutions providers. IIJ and its group companies provide total network solutions that mainly cater to high-end corporate customers. IIJ's services include high-quality systems integration, security services, Internet access, and cloud computing. Moreover, IIJ has built one of the largest Internet backbone networks in Japan that is connected to the United States and the United Kingdom. IIJ listed on NASDAQ in 1999 and on the First Section of the Tokyo Stock Exchange in 2006. For more information about IIJ, visit the IIJ Web site at http://www.iij.ad.jp/en/.

Statements made in this press release regarding IIJ's or managements' intentions, beliefs, expectations, or predictions for the future are forward-looking statements that are based on IIJ's and managements' current expectations, assumptions, estimates and projections about its business and the industry. These forward-looking statements, such as statements regarding revenues, operating and net profitability are subject to various risks, uncertainties and other factors that could cause IIJ's actual results to differ materially from those contained in any forward-looking statement. These risks, uncertainties and other factors include but not limited to: a decrease of corporate spending or capital expenditure due to depression in the Japanese economy and/or corporate earnings decreased, an inability to achieve anticipated results and cause negative impact on profitability, a possibility that less of reliability for our services and loss of business chances due to interrupt or suspend of our services, an excess increase in network rerated cost and outsourcing cost, personnel cost etc, a possibility to lose business opportunity due to our inadequate resources in personnel and others, an increase in competition and strong pricing pressure, the recording of an impairment loss as a results of an impairment test on the non-amortized intangible assets such as goodwill, a decline in value and trending value of our holding securities. Please refer to IIJ's filings on Form 20-F of its annual report and other filings with the United States Securities and Exchange Commission ("SEC") for other risks.

3rd Quarter FY2013 Consolidated Financial Results (3 months)

The following tables are highlight data of 3rd Quarter FY2013 consolidated financial results (unaudited, from October 1, 2013 to December 31, 2013).

Reconciliation of Non-GAAP Financial Measures (3rd Quarter FY2013 (3 months))

The following table summarizes the reconciliation of adjusted EBITDA to net income in our consolidated statements of income that are prepared in accordance with U.S. GAAP.

The following table summarizes the reconciliation of capital expenditures to the purchase of property and equipment in our consolidated statements of cash flows that are prepared and presented in accordance with U.S. GAAP.

Note: The following information is provided to disclose Internet Initiative Japan Inc. ("IIJ") financial results (unaudited) for the nine months ended December 31, 2013 in the form defined by the Tokyo Stock Exchange.

(Note1) Total comprehensive income attributable to IIJ

Nine Months Ended December 31, 2013: JPY4,832 million (up 51.6% YoY)          

Nine Months Ended December 31, 2012: JPY3,188 million (up 33.9% YoY)

(Note2) Income before income tax expense represents income from operations before income tax expense and equity in net income of equity method investees in IIJ's consolidated financial statements.

(Note) IIJ conducted a 1:200 stock split on common stock with an effective date of October 1, 2012. Accordingly, basic net income attributable to IIJ per share and diluted net income attributable to IIJ per share have been adjusted as if the stock split were conducted on April 1, 2012, at the beginning of the fiscal year ended March 31, 2013.

* Notes

(1) Changes in significant subsidiaries for the nine months ended December 31, 2013

(Changes in significant subsidiaries for the nine months ended December 31, 2013 which resulted in changes in scope of consolidation): None

(2) Application of simplified or exceptional accounting: None

(3) Changes in significant accounting and reporting policies for the quarterly consolidated financial statements

1) Changes due to the revision of accounting standards: None

2) Others: None

(4) Number of shares outstanding (shares of common stock)

1) The number of shares outstanding (inclusive of treasury stock):

As of December 31, 2013: 46,697,800 shares

As of March 31, 2013: 41,295,600 shares

2) The number of treasury stock:

As of December 31, 2013: 758,813 shares

As of March 31, 2013: 758,800 shares

3) The weighted average number of shares outstanding:

For the nine months ended December 31, 2013: 43,772,437 shares

For the nine months ended December 31, 2012: 40,536,800 shares

(Note) IIJ conducted a 1:200 stock split on common stock with an effective date of October 1, 2012. The number of shares outstanding (shares of common stock) in the above have been adjusted as if the stock split were conducted on April 1, 2012, at the beginning of the fiscal year ended March 31, 2013.

[English Translation]

February 7, 2014 Company address: 1-105 Kanda Jimbo-cho, Chiyoda-ku, Tokyo Company name: Internet Initiative Japan Inc. Company representative: Eijiro Katsu, President and Representative Director (Stock Code Number: 3774 The First Section of the Tokyo Stock Exchange) Contact: Akihisa Watai, Managing Director and CFO TEL: 03-5259-6500

IIJ Revises its Full-Year Financial Target for the Fiscal Year ending March 31, 2014

TOKYO-- February 7, 2014 - Internet Initiative Japan Inc. ("IIJ") (Nasdaq:IIJI) (TSE1:3774) announced today that given the current business situation, IIJ has revised its financial targets for the fiscal year ending March 31, 2014 ("FY2013") from the targets announced on May 15, 2013, when released the consolidated full year financial results for the fiscal year ended March 31, 2013.

1.      Revision for the Consolidated Financial Targets for full FY2013

(Note) IIJ conducted a 1:200 stock split on common stock with an effective date of October 1, 2012. Accordingly, basic net income per share for the fiscal year ended March 31, 2013 ("FY2012") has been adjusted as if the stock split were conducted on April 1, 2012, at the beginning of FY2012.

The year-end dividend target remains unchanged from JPY11.00 announced on May 15, 2013.

2.      Reason for Revision

We believe that the business growth opportunities for IIJ group should be greater than ever for the middle term, considering the current overall market situation. The continuous technological innovation of network infrastructure, the ongoing development of the widely-used smart phones and other portable devises, and the evolving IT needs as seen with the growing concept of big data should promote the further adoption of network and cloud usages by Japanese enterprises and governmental organization supported by the returned demand on systems investment along with the Japanese economic recovery. Realizing the coming few years would be a critical period for IIJ business growth, we have been quite aggressive in business investment from the beginning of this fiscal year. Such business investment includes the enhanced procurement of employees, the continued expansion of network infrastructure, the continued service development, and the reinforcement of new business investment such as overseas business.

The operating costs and expenses for the nine months in FY2013 (from April 1, 2013 to December 31, 2013, "3Q13") increased significantly by JPY6,888 million, up 9.6% compared with the same period of the previous fiscal year ("YoY") mainly due to the above described business investment. The table below shows the breakdown of year over year difference in revenue, cost and SG&A and R&D expenses. The increase in the costs of systems integration revenues is principally purchasing costs, outsourcing-related and personnel-related costs in accordance with its revenue increase. The increase in the costs of network services revenues and SG&A and R&D expenses was mainly related to the business expansion operation including the increased number of employees, the expansion of network infrastructure including cloud-related, and the reinforcement of overseas business. The breakdown by items is as follows: the total personnel-related costs increased by JPY1,281 million, up 11.1% YoY, the outsourcing-related costs increased by JPY1,882 million, up 12.7%, the rent-related costs increased by JPY362 million, up 22.2% YoY, the depreciation and amortization increased by JPY814 million, up 14.8% YoY, and the purchasing costs increased by JPY1,339 million, up 24.1% YoY. 

On the other hand, the total revenues for 3Q13 fell short of the initial plan. The gap was primarily due to the recurring revenues which consist of network services revenues (Internet connectivity services, outsourcing services, and WAN services) and operation and maintenance revenues of systems integration revenues. One of the most critical factors affecting the gap of recurring revenues was the slowing down and/or decrease of revenue from certain large customers of carriers, network operators and game providers who led FY2012 revenue growth. Because of these large customers' individual business conditions, the strong price down pressure in Internet connectivity and WAN services and the reduced server usage in cloud services and systems operation and maintenance have been taken place. Those gaps in the recurring revenue have been increasing quarter by quarter and it is estimated to become even greater in the fourth quarter. The recurring revenues from these certain large customers are estimated to be approximately JPY2.0 billion short of the initial target. While the systems construction revenues are expected to be strong based on the favorable order situation, the accumulation of the recurring revenues from the other general customers has not been as strong as the initial plan due to factors such as the postponement of new services launch. Because of all these relevant reasons, we revised FY2013 total revenues target from JPY117.0 billion to JPY114.0 billion, down 2.6% compared with the target.

The operating income for 3Q13 decreased by 16.5% YoY. The decrease in profit has been widening - the operating income for the first half of FY2013 decreased by 7.8% YoY. The developing decrease in profit is primarily because the recurring revenue has not been accumulating as planned. Also, the above described business expansion strategies have been resulted in the increase in the cost and expenses. The costs of the recurring revenues are mainly costs to operate and maintain the network facilities and equipment such as circuit costs, depreciation, personnel-related and outsourcing-related costs, and these costs are not directly correlated with individual revenue increase or decrease. Thus, the fluctuations in the recurring revenues tend to have a significant impact on operating income in general. The widening of the operating income gap is estimated to continue in the fourth quarter. In regards to the favorable order situation of systems construction, its gross margin ratio is to be lower than the plan as the trend of large scale projects is observed. Considering these relevant factors, we revised FY2013 operating income target from JPY9.4 billion to JPY6.0 billion, down 36.2% compared with the previous target.

The targets for income before income tax expense and net income attributable to IIJ have also been revised in accordance with the above described revisions respectively.

(*) The above targets for FY2013 consolidated financial results are based on information available at the time of the announcement and the actual results may differ from the targets due to various factors.

CONTACT: For inquiries, contact:
         IIJ Investor Relations
         Tel: +81-3-5259-6500 E-mail: ir@iij.ad.jp
         URL: http://www.iij.ad.jp/en/ir

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