Business Risks

Listed below are the principal risks among the matters described in the Annual Securities Report (only available in Japanese language) that the management recognize may have a significant impact on the financial position, operating results and cash flows of the consolidated companies. All forward-looking statements included herein reflect the judgment of the Leopalace21 Group (the "Group") management as of the end of the consolidated fiscal year ended March 2023.

(1) Revenue-related Risk

Leopalace21 (the "Company") apartments are primarily utilized by single persons, and corporate contracts typically involve short-term leases of apartments for use as temporary accommodation for business trips or as company dormitories. As a result, changes in the performance of the overall economy and corporate business results could affect employment trends or the demand for business trips, and this could impact on the use of apartment rooms. The risk came to surface by the outbreak of the novel coronavirus and adversely affect the Company's Leasing Business in a declined occupancy demand which is normally pushed by the seasonal new hiring and relocations.
The Group posts order receipt at the time of concluding contracts for apartment building construction, and therefore the availability of financial institutions' loans for the clients are important risk factors. Changes in the willingness of financial institutions to provide credit, changes in the assessed value of real estate to be used as collateral, and fluctuations in interest rates could affect the Group revenues and adversely affect the Group's business results.

(2) Cost of Sales

The Company concludes a master lease agreement with apartment owners to lease back the constructed apartment for a period of time and at a rent level that are both fixed at the time the contract is concluded. Therefore, fluctuations in the amount of rental income received from tenants during the contract period could adversely affect the Company's profitability.

(3) Risks Associated with Tangible Non-current Assets and Marketable Securities

Impairment losses or appraisal losses due to declines in the current market value of tangible non-current assets, marketable securities, or other assets could adversely affect the Company's business performance as well as its financial position.
Impairment losses have been recorded in the fiscal year ended March 2023 for the tangible non-current assets related to resort business in Guam based on the appraisal to net realizable values, for which the Company has a policy of withdrawal. The Company will continue to get appraisals on a regular basis to confirm whether or not further impairment is necessary. However, depending on future trends in the real estate market and other factors, additional losses may be recorded, which may have an impact on the Group's financial results.

(4) Reserve for Apartment Vacancy Loss

In order to prepare for a risk of losses due to an increase in apartment vacancies, the Company has established a "Reserve for apartment vacancy loss" which equals to the amount of loss that may be expected during a reasonably estimable period. The amount of this reserve is based on the rent levels set for individual leased units and occupancy rate forecasts calculated for each apartment building. Should any of these figures deteriorate against the estimated values it could lead to an increased amount of the reserve, and this could adversely affect the results of the Company's Leasing Business.
In order to deal with this risk, the Company will maintain and enhance property values through appropriate maintenance, promote sales strategies that match regional and customer needs, maintain stable occupancy rates by providing convenient customer attraction, contracting, and resident services through digitization, and work to maximize the profits from apartments through proper review of master lease rent payment to the property owners.

(5) Leasehold Deposits and Guarantee Deposits

The Company records the cost of cleaning at the time of move-out, which is deposited by the tenant at the time of signing the apartment lease, as well as the cost of future apartment maintenance and repair, which is deposited by property owners, as long-term deposits. The Company makes a concerted effort to ensure the soundness of the apartment maintenance. We also budget for cleaning costs when tenants move out and for regular maintenance and repairs based on a detailed long-term plan. However, an unexpected, large-scale repair or cleaning could have an impact on the Company's financial position and cash flows.
The Company also has deposits for Leopalace Resort memberships related to the resort business, most of them have been deposited since the opening of the resort complex in July 1993. Should there be an unexpected number of requests for reimbursement of these deposits, this could have an impact on the Company's financial position and cash flows.

(6) Impact of Defects on Apartment Buildings which Leopalace21 Constructed

It came to light that there were construction defects such as parting walls and others in our construction buildings as announced in May 2018, February and May 2019, following the announcement in April 2018 about the parting wall defects in attics. The Company took it seriously because it should not have been involved in those defects as a builder for apartments, and has been making every effort to prevent the recurrence of such a problem.
In connection with this problem, stagnant occupancy rate because of delayed repairs, and reduction in orders for building construction contracts due to damaged credibility could have an impact on the Group's consolidated results of operations.

(7) Administrative Recommendation by Ministry of the Environment and Ministry of Economy, Trade and Industry

As reported in July 2022 and January 2023, the disposal procedures for home appliances in the leasing business were found to be in violation of the Home Appliance Recycling Act, and on March 23, 2023, the Company received the administrative recommendation from the Ministry of the Environment and the Ministry of Economy, Trade and Industry based on the Act. The two Ministries have requested periodic reports on the status of the pickup and delivery of discarded home appliances and the implementation of measures to prevent recurrence for the one-year period from March 2023.
The Company has begun a new processing procedure for discarded home appliances to ensure proper operation in compliance with the Home Appliance Recycling Act and related Waste Management Act under the guidance of the two Ministries as well as other experts. Any deterioration in public reputation in connection with this matter may affect the financial position, business performance, and cash flow of the Group.

(8) Demand for Filing an Action by a Shareholder

As reported on June 27, 2023, the Company's President and CEO, and Audit & Supervisory Board Members received, on June 13 and 15, 2023, from TENZAN Co., Ltd., a corporate shareholder who used to have a business relation with the Company, a written demand for filing an action (hereinafter referred to as "Demand for Filing an Action") addressed to the Company's Audit & Supervisory Board Members to file a lawsuit against total 24 current and former Directors of the Company, and addressed to the President and CEO against 5 current and former Audit & Supervisory Board Members of the Company, for enforcing liabilities of the targeted officers.
The Board of Directors and the Audit & Supervisory Board Members have been investigating the Demand for Filing an Action with the advice of outside lawyers, and have reached a conclusion that it is unlawful. Any deterioration in public reputation in connection with this matter may affect the financial position, business performance, and cash flow of the Group.

(9) Risks Related to Information Security

The Group holds a great deal of information, including personal information obtained through the consent of, or as a result of non-disclosure agreements with client companies. To control information security, the Group has drawn up the required information security guidelines, and set up a Compliance Committee to thoroughly train the executives and employees about information security issues. Nevertheless, in the unlikely event of a cyber-attack, unauthorized access, or leakage of information by officers or employees, there is a possibility that the Group's financial position, business performance, and cash flow may be affected due to a loss of public trust, compensation for damages, and other factors.

(10) Risk Related to Climate Change

Recognizing climate change as one of the key issues affecting its management, the Group has expressed its support for the TCFD (Task Force on Climate-related Financial Disclosures) recommendations and is a member of the TCFD consortium.
Transition risks in climate change include increased operating costs due to tighter regulations such as carbon taxes, increased construction costs for new properties, avoidance of transactions by corporate clients and low evaluation by investors due to delays in environmental response, and physical risks such as damage to managed properties due to disasters. If these risks materialize, the Group's financial position, operating results, and cash flow may be affected.

(11) Other Risks

The Group is aware that it incurs a variety of risks in the course of operating its businesses, and it attempts to prevent, disperse or avoid such risks whenever possible. Nevertheless, the Group's financial position, business performance, and cash flows may be affected by the changes in economic conditions, real estate market conditions, financial and stock markets, legal regulations, natural disasters, and a variety of other factors.

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