Toyota 2005 Annual Report Download - page 56

54 >MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
to specific assets and liabilities on Toyota’s consolidated
balance sheet are recognized currently. As a result, earnings
are impacted by these non-designated derivatives. The
impact of recognizing these realized and unrealized gains
and losses attributed to non-designated derivatives resulted
in a loss, gain and gain to net income for fiscal 2003, 2004
and 2005, respectively. Toyota does not use any derivative
instruments for trading purposes. See discussion in the
Critical Accounting Estimates section regarding “Deriva-
tives and Other Contracts at Fair Value”, and further
discussion in the Market Risk Disclosures section.
In addition, aggregated funding costs can affect the
profitability of Toyota’s financial services operations.
Funding costs are affected by a number of factors, some of
which are not in Toyota’s control. These factors include
general economic conditions, prevailing interest rates
and Toyota’s financial strength. Funding costs decreased
during fiscal 2004 as a result of lower interest rates
primarily in the United States and increased during fiscal
2005 as a result of higher interest rates and an increase in
borrowings, primarily in the United States.
Toyota launched its credit card business in Japan at the
beginning of fiscal 2002. As of March 31, 2004, Toyota had
4.2 million cardholders, an increase of 0.6 million
cardholders compared with March 31, 2003, and as of
March 31, 2005, Toyota had 4.7 million cardholders, an
increase of 0.5 million cardholders compared with March
31, 2004. Corresponding to the increase in cardholders,
the credit card receivables at March 31, 2004 increased by
¥21.8 billion from March 31, 2003 to ¥117.2 billion. The
credit card receivables at March 31, 2005 increased by
¥27.0 billion from March 31, 2004 to ¥144.2 billion.
Other Business Operations
Toyota’s other business operations consist of housing
including the manufacture and sale of prefabricated homes;
information technology related businesses including
information technology and telecommunications, intelligent
transport systems, GAZOO; marine, biotechnology and
afforestation.
Toyota does not expect its other business operations to
materially contribute to Toyota’s consolidated results of
operations.
Currency Fluctuations
Toyota is sensitive to fluctuations in foreign currency
exchange rates. In addition to the Japanese yen, Toyota is
principally exposed to fluctuations in the value of the U.S.
dollar and the euro, and to a lesser extent the British
pound and the Australian dollar. Toyota’s consolidated
financial statements, which are presented in Japanese yen,
are affected by foreign currency exchange fluctuations
through both translation risk and transaction risk.
Changes in foreign currency exchange rates may positively
or negatively affect Toyota’s revenues, operating costs and
expenses, gross margins, operating income, net income
and retained earnings.
Translation risk is the risk that Toyota’s consolidated
financial statements for a particular period or for a
particular date will be affected by changes in the prevailing
exchange rates of the currencies in those countries in
which Toyota does business compared with the Japanese
yen. Even though the fluctuations of currency exchange
rates to the Japanese yen can be substantial, and, therefore,
significantly impact comparisons with prior periods and
amongst the various geographic markets, the translation
effect is a reporting consideration and does not reflect
Toyota’s underlying results of operations. Toyota does not
hedge against translation risk.
Transaction risk is the risk that the currency structure of
Toyota’s costs and liabilities will deviate from the currency
structure of sales proceeds and assets. Transaction risk
relates primarily to sales proceeds from Toyota’s non-
domestic operations from vehicles produced in Japan.
Toyota believes that the location of its production
facilities in different parts of the world has significantly
reduced the level of transaction risk. As part of its
globalization strategy, Toyota has continued to localize
production by constructing production facilities in the
major markets in which it sells its vehicles. In calendar
2003 and 2004, Toyota produced 60.9% and 62.9% of
Toyota’s non-domestic sales outside Japan, respectively.
In North America, 61.7% and 63.7% of vehicles sold in
calendar 2003 and 2004 were produced locally, respec-
tively. In Europe, 52.6% and 56.7% of vehicles sold in
calendar 2003 and 2004 were produced locally, respec-
tively. Localizing production enables Toyota to purchase
many of the supplies and resources used in the production
process, which allows for a better match of local currency
revenues with local currency expenses.
Toyota also enters into foreign currency transactions and
other hedging instruments to address a portion of its
transaction risk. This has reduced, but not eliminated, the
effects of foreign currency exchange rate fluctuations, which
in some years can be significant. See notes 20 and 21 to the
consolidated financial statements for additional information
regarding the extent of Toyota’s use of derivative financial
instruments to hedge foreign currency exchange rate risks.
Generally, a weakening of the Japanese yen against other
currencies has a positive effect on Toyota’s revenues,
operating income and net income. A strengthening of the