During fiscal 1998, ended March 31, 1999, the U.S. economy continued to expand and Europe held steady. Asia remained extremely weak, particularly Southeast Asia. Although concerns about Japan's financial system eased, the Japanese economy remained in an unprecedented slump due to severely depressed private-sector demand. Capital investment dropped sharply and personal consumption was weak.

Against this backdrop, Kobe Steel's consolidated net sales for the year under review declined 15.0%, to 1,305.5 billion yen. Sales volume and prices in the Iron and Steel Sector and Aluminum and Copper Sector declined. The Machinery Sector posted significantly lower sales, dragged down by the construction machinery business. An improved performance by our semiconductor operations and increased profits by our construction machinery subsidiary in the United States and an aluminum subsidiary in Southeast Asia were overshadowed by an overall decrease in profitability of the Kobe Steel group and extraordinary losses from special retirement benefits for permanent transfers of seconded employees. As a result, we recorded a consolidated net loss of 38.9 billion yen.

Performance by Sector
In the Iron and Steel Sector, domestic demand for steel decreased from the previous fiscal year due to sluggishness in the construction and manufacturing industries, reflecting a sharp drop in private-sector capital investment and weak personal consumption. In this environment, despite positive results from efforts to reduce total costs, declines in sales volume and prices resulted in sector sales falling 12.6%, to 525.4 billion yen, and operating income falling 38.4%, to 36.9 billion yen.

In the Aluminum and Copper Sector, sales declined 14.5%, to 286.0 billion yen, because of a decrease in the sales volume of rolled aluminum and copper products. Although the profits of a Southeast Asian subsidiary increased, operating income dropped 54.3%, to 7.6 billion yen, reflecting decreased sales volume and rolling margins.

The Machinery Sector, severely affected by weak demand for construction machinery and decreased orders for engineering services, posted sales of 398.0 billion yen, a 21.4% drop from the previous year. Operating income declined 55.6%, to 8.9 billion yen.

Sales in the Electronics and Information Sector declined 9.7%, to 72.5 billion yen. However, operating loss decreased 7.4 billion yen, to 9.3 billion yen, because DRAM prices rose slightly.

In the Other Businesses Sector, sales increased 18.4%, to 116.4 billion yen. Owing to a decrease in the profit ratio, however, operating income increased only 1.4%, to 6.6 billion yen.

Rebuilding for the Future
During the fiscal year, we supplemented the KOBELCO-21 midterm management plan with additional measures to more aggressively rebuild our management structure and businesses.

On April 1, 1999, we introduced an internal company system to foster more independent and efficient operations by delegating authority and responsibility to each business unit. Concurrently, we established a system of corporate officers to further clarify authority and responsibility, as well as speed up decision-making.

We are also focusing on selective consolidation. To improve capital efficiency, we are prioritizing allocation of management resources to promising businesses, as well as scrutinizing our business portfolio and withdrawing from unprofitable businesses.

In the Iron and Steel Sector, we progressed with our efforts to become an independent power producer, which we expect to be a core business in the future. After completing all environmental assessment procedures and obtaining all necessary approvals, construction of the coal-fired electric power plants at Kobe Works commenced in March 1999. The two plants will have a total capacity of 1.4GW when they are completed.

To strengthen our position as a leading supplier of high quality wire and bar products, we completed refurbishment of the wire rod mills at Kobe Works and Kakogawa Works. Our aim is to produce even better quality wire products to meet the diversifying needs of customers for more advanced products.

Overseas, Kobe Steel and USX Corporation concluded an agreement with the Blackstone Group and Veritas Group to combine the steelmaking and bar producing assets of USS/KOBE Steel Company with Republic Engineered Steels, Inc., and Bar Technologies, Inc. Consolidating the equipment and facilities of these three companies is expected to improve the operating efficiency and profitability of the new company.

In the Aluminum and Copper Sector, Kobe Steel, Mitsubishi Materials Corporation, and Mitsubishi Shindoh Co., Ltd., agreed to seek mutual opportunities to lower distribution costs, share production, and procure raw materials for copper sheet and strip products. This alliance will enable each company to strengthen its business structure and improve its international competitiveness.

In the Machinery Sector, we will merge the Construction Machinery Company (formerly called the Construction Machinery Division), Kobelco Construction Machinery Co., Ltd., and Yutani Heavy Industries, Ltd. into a single subsidiary on October 1, 1999. The aim of this reorganization is to strengthen the profitability of our construction machinery business by consolidating production and marketing and by improving management efficiency. In addition, we reorganized domestic regional sales companies and formed sales tie-ups with other domestic and overseas construction machinery manufacturers. Through these measures, we intend to raise the efficiency of our marketing and expand sales.

In our factory automation and robotics business as well, we are aiming to increase the production efficiency and competitiveness of each product line by transferring and reallocating production from Toyohashi FA & Robotics Center. Production of welding robots was transferred to Fujisawa Plant and production of painting and handling robots was shifted to Takasago Works in April 1999.

To strengthen the business structure of the group, we are realigning machinery-related businesses that have no synergy with our other businesses. Kobe Steel sold its 43.2% equity share in Osaka Chain and Machinery, Ltd., a manufacturer of gears and gear speed reducers, to Sumitomo Heavy Industries, Ltd., in May 1999. Shinko Kosan, Ltd., and Shinsho Corporation, both Kobe Steel affiliates, also sold their equity shares in Osaka Chain and Machinery. Kobe steel also decided to transfer its equity in Shinko Kobelco Tool Co., Ltd., a wholly owned cutting tool subsidiary, to Mitsubishi Materials in January 2000.

In the Electronics and Information Sector, to strengthen the profitability of the semiconductor business, we dissolved our business affiliation with Texas Instruments Incorporated in KTI Semiconductor, Ltd., in September 1998. Micron Technology Inc., which possesses world-class semiconductor technologies, became our new partner in the joint venture. Accordingly, the name of the company was changed to KMT Semiconductor, Ltd., on April 1, 1999. Also in the semiconductor business, Kobe Steel reorganized its LSI design business by transferring design to a newly formed subsidiary and marketing to an affiliate.

Looking Ahead
Although the pace of economic growth seems to be slowing down, the U.S. and European economies are expected to remain firm in fiscal 1999. In some parts of Asia there are signs of economic recovery. The outlook for Japan, however, is clouded by uncertainty because a self-sustaining recovery in private-sector demand appears unlikely in the near term.

Under the new management structure that includes the formation of internal companies and a system of corporate officers, we intend to focus on selective consolidation to boldly and rapidly achieve strategic and structural reforms. In doing so, we aim to build a strong management foundation for the 21st century.

As always, we are thankful for your understanding and ask you for your continued support.

August 1999

Koshi Mizukoshi
President and
Chief Executive Officer