AI token and cloud costs weigh on profits; Goldman Sachs cuts Trend Micro's target price and maintains Neutral

Overview

This report updates earnings forecasts based on Trend Micro's FY12/26 first-half and 2Q results. Its core view is that cybersecurity demand will improve gradually from the second half, but AI token, cloud service, and per-employee labor costs have significantly exceeded prior expectations, meaning near-term profit pressure will outweigh revenue improvement. Goldman Sachs therefore substantially lowered its FY12/26-28 earnings forecasts and target price while maintaining its Neutral rating, as it considers the current valuation broadly fair.

Core views

Goldman Sachs lowered its FY12/26, FY12/27, and FY12/28 operating profit forecasts by 21%, 19%, and 17%, respectively, to ¥43.4bn, ¥47.0bn, and ¥51.0bn, from ¥55.0bn, ¥58.0bn, and ¥61.2bn previously. The revisions mainly reflect much higher-than-expected growth in cloud costs, particularly AI token costs, as well as concerns about the company's medium-term cost-control capabilities. Accordingly, the 12-month target price was reduced from ¥6,600 to ¥5,900, while the discount applied to the fundamental valuation relative to the industry-average P/E widened from 20% to 30%. Goldman Sachs forecasts FY12/26 revenue of ¥303.6bn, up 10% YoY but only 4% at constant currencies. A weaker-than-expected yen may push nominal revenue above company guidance, but revenue excluding currency effects may fall below guidance, primarily due to intense competition in the Americas. By region, full-year revenue is forecast to grow 1% in Japan; 9% in the Americas, or 2% in US dollar terms; 11% in Europe, or 3% in euro terms; and 21% in Asia Pacific/Middle East/Africa, or 11% at constant currencies. Overall performance remains weak outside Asia Pacific. The Americas and Europe are affected by weak business confidence and intensifying competition, while Japan is temporarily stagnating due to customers migrating to the Vision One SaaS security platform, declining demand for non-Vision One products, and the growing influence of US competitors. The report believes the proliferation of frontier AI models will increase enterprises' and governments' willingness to invest in security, particularly benefiting areas such as vulnerability management. However, recent order trends indicate that Trend Micro can capture only part of the industry's growth. Goldman Sachs expects revenue growth to improve gradually from 3Q, but only to a limited extent. 3Q revenue is forecast to grow 11% YoY and 5% at constant currencies, above the 2Q constant-currency growth rate of 3%. Japan is expected to grow 2%; the Americas and Europe are each expected to grow 3% at constant currencies; and Asia Pacific/Middle East/Africa is expected to grow 12% at constant currencies. Demand from customers such as financial institutions for AI security protection is the primary supporting factor. Costs are the main driver of the profit decline. Goldman Sachs forecasts FY12/26 operating expenses to rise 19% YoY, or ¥42.0bn, of which yen depreciation is expected to contribute approximately ¥10.5bn. Labor costs are forecast to increase 16%, or ¥16.2bn; cloud costs by 58%, or ¥17.1bn; and sales and marketing expenses by 15%, or ¥3.6bn. The company's headcount may decline slightly YoY as employees move to competitors, but per-employee labor costs are still expected to rise 11% in response to inflation. These factors will reduce the operating margin by 6.6 percentage points, from 20.9% in FY12/25 to 14.3%. AI token costs arise from both internal usage and customer-facing generative AI features. Trend Micro makes extensive use of generative AI in SaaS products such as vulnerability management and CREM, causing cloud costs to significantly exceed the initial plan. The company has recently restricted some internal AI usage, so growth in internal token costs may gradually moderate. However, external token costs are expected to continue rising as customer demand for vulnerability management increases. Because the company prioritizes acquiring new customers and market share, Goldman Sachs expects these costs will not be fully passed through in pricing, and elevated upfront investment will persist in the near term. As revenue improvement is insufficient to offset expense growth, Goldman Sachs forecasts FY12/26 operating profit of ¥43.4bn, down 25% YoY, or ¥14.4bn, and slightly below the company's revised guidance of ¥44.4bn. 3Q operating profit is forecast at ¥12.1bn, down 24% YoY. Operating expenses during the quarter are expected to rise 21% YoY and 16% at constant currencies, with labor and cloud costs remaining the main incremental contributors, while stock-option expenses will also increase by approximately ¥0.8bn YoY. The profit decline in 4Q may be larger than in 3Q because the profit benefit from yen depreciation will have largely disappeared by then. Goldman Sachs expects recovering security demand and tighter control over internal AI token usage to lift FY12/27 operating profit to ¥47.0bn, up 8% YoY, or ¥3.6bn, with growth mainly driven by Japan and Asia Pacific/Middle East/Africa. However, if the company does not implement meaningful cost-reduction measures, profit may not surpass the FY12/25 record of ¥57.8bn until around 2030. The company has missed its initial operating profit guidance in each of the five fiscal years since FY12/22, with an average deviation of -15%. Although management emphasizes maintaining medium-term innovation investment, repeated shortfalls may damage investor confidence. On valuation, Goldman Sachs calculates the target price using a weighted combination of 70% P/E-based fundamental value and 30% M&A value. For the fundamental component, it applies a target P/E of 13x to forecast FY12/27 EPS of approximately ¥257, deriving a value of ¥3,340 per share. The 13x multiple represents a 30% discount to the industry average of 18.0x, reflecting intense competition, limited medium-term profit growth, a weak cost-control track record, and higher earnings volatility. For the M&A component, it applies an EV/sales multiple of 4.0x, a 20% discount to the historical average of 5.0x for acquisitions of global endpoint security companies, deriving a value of ¥11,990 per share. The discount reflects the company's slower sales growth relative to competitors. Weighting the two components produces a target price of ¥5,900, equivalent to approximately 23.0x FY12/27 P/E. Although the share price fell 20.1% between the 2Q results announcement and August 21, compared with a 2.6% decline in TOPIX over the same period, Goldman Sachs continues to believe the earnings recovery will take time and that the current share price broadly reflects fair value; it therefore maintains its Neutral rating.

Analysis framework

Goldman Sachs first reassesses revenue and costs based on FY12/26 first-half and 2Q results, then analyzes demand and constant-currency growth trends across Japan, the Americas, Europe, and Asia Pacific/Middle East/Africa. It subsequently incorporates labor, cloud service, AI token, sales and marketing, and stock-option costs into its profit forecasts item by item, while assessing changes in currency benefits in 3Q and 4Q. Finally, the report calculates the target price using a weighted combination of P/E-based fundamental value and EV/sales-based M&A value, with valuation discounts determined by the company's historical guidance delivery and competitive position.

Methodology notes

• Valuation MethodPE/PEG valuation

  Target P/E Valuation

  The report applies a target P/E of 13x to forecast FY12/27 EPS of approximately ¥257, deriving a fundamental value of ¥3,340 per share. This multiple represents a 30% discount to the industry average of 18.0x and reflects risks related to growth, competition, and cost control.

• Valuation Method

  EV/Sales M&A Valuation

  Using the historical average EV/sales multiple of 5.0x for acquisitions of global endpoint security companies as a reference, the report applies a 20% discounted multiple of 4.0x to Trend Micro, deriving an M&A value of ¥11,990 per share.

• Event-Driven Strategy and Behavioral Finance

  M&A Probability and Target Price Weighting Framework

  Trend Micro has a Goldman Sachs M&A rank of 1, representing a potential acquisition probability of 30%-50%. The report therefore assigns a 30% weight to M&A value and a 70% weight to fundamental value in calculating the target price.

• Corporate Fundamentals and Financial Framework

  Regional Revenue and Expense Driver Forecasting

  The report separately forecasts revenue and constant-currency growth for each region, then breaks down labor, cloud service, AI token, marketing, stock-option, and currency factors to derive quarterly and annual operating profit forecasts.

Asset mapping & comparison

Structured mapping from thesis to named assets (strengths, weaknesses, peers, risks).

• Trend Micro Inc. (4704.T)

  Demand for AI security and expansion of the vulnerability management market are expected to support a revenue recovery, but rising AI token, cloud service, and labor costs will weigh on near-term profits.

  Strengths

  A leader in Japan's endpoint security software market, with an early presence in server endpoint security for cloud environments, technical expertise, and an Asian customer base; Japan accounts for 30% of sales and overseas markets for 70%.

  Weaknesses

  Its cost-control track record is weak relative to company guidance, growth in the Americas and Europe is under pressure, the Japan business is undergoing the Vision One migration, and sales growth has slowed relative to some global competitors.

  Comparison

  The fundamental valuation applies a P/E of 13x, a 30% discount to the industry average of 18.0x; the M&A valuation applies EV/sales of 4.0x, a 20% discount to the historical transaction average of 5.0x.

  Risks

  The company may lose market share due to new technologies and intensifying competition, changes in cost strategy could further increase the burden, and repeated guidance misses may also weaken investor confidence.

Key data

• 12-Month Target Price¥5,900Reduced from ¥6,600, implying potential upside of 7.8%
• FY12/26-28 Operating Profit Forecast Revisions-21%/-19%/-17%New forecasts are ¥43.4bn, ¥47.0bn, and ¥51.0bn, respectively, versus previous forecasts of ¥55.0bn, ¥58.0bn, and ¥61.2bn
• FY12/26 Revenue Forecast¥303.6bnUp 10% YoY and 4% at constant currencies
• FY12/26 Operating Profit Forecast¥43.4bnDown 25% YoY, or ¥14.4bn, and slightly below the company's revised guidance of ¥44.4bn
• FY12/26 Operating Expense Increase+19%/+¥42.0bnOf which yen depreciation is expected to add approximately ¥10.5bn in expenses
• Labor Costs+16%/+¥16.2bnHeadcount is expected to decline slightly, but per-employee labor costs are forecast to rise 11%
• Cloud Costs+58%/+¥17.1bnPrimarily driven by AI token costs for internal use and customer products
• FY12/26 Operating Margin14.3%Down 6.6 percentage points from 20.9%
• 3Q Operating Profit Forecast¥12.1bnDown 24% YoY
• 3Q Revenue Growth Forecast+11%/+5% CCConstant-currency growth is above 2Q's 3%
• FY12/27 Operating Profit Forecast¥47.0bnUp 8% YoY, or ¥3.6bn, but still below the FY12/25 record of ¥57.8bn
• Historical Delivery Against Profit GuidanceMissed initial guidance for 5 consecutive fiscal yearsAverage deviation of -15% since FY12/22
• Post-Earnings Share Price Performance-20.1%From the 2Q results announcement through August 21, 2026; TOPIX declined -2.6% over the same period
• Market Capitalization and Enterprise Value¥715.1bn/¥492.6bnEquivalent to approximately $4.5bn/$3.1bn

Impact & implications

The report believes Trend Micro's primary challenge has shifted from whether demand will recover to whether revenue improvement can cover rapidly rising AI token, cloud service, and labor costs. A gradual recovery in industry demand from 3Q could support renewed profit growth in FY12/27, but the company's priority on customer acquisition, limited ability to fully pass costs through via price increases, and weak historical delivery against guidance mean that both margin recovery and a new profit record will take longer. The target price cut and wider valuation discount reflect these medium-term cost and execution risks, while the Neutral rating balances the company's technological strengths, Asian customer base, and potential demand recovery against a slow earnings recovery.

Risks

• An increase in cyberattacks could drive security market growth above expectations, presenting upside risk to earnings and valuation.
• The emergence of new technologies and intensifying competition could cause Trend Micro to lose market share.
• Changes in cost strategy could further increase the burden of labor, cloud service, and AI token costs.
• If the company continues to miss profit guidance frequently because it maintains investment, investor confidence may be damaged.

What to watch

• Whether management can restore demand, particularly by improving growth in the Americas, Europe, and Japan.
• Whether management can implement disciplined cost management and control internal and external AI token, cloud service, and per-employee labor costs.
• Whether management can increase its focus on capital market expectations and shareholder returns.