UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 20-F

     ☐ REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR (g) OF THE SECURITIES EXCHANGE ACT OF 1934

OR

     ☑ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2019

OR

     ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

OR

     ☐ SHELL COMPANY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Date of event requiring this shell company report                     

For the transition period from                     to                    

Commission file number 001-15122

CANON KABUSHIKI KAISHA

(Exact name of Registrant in Japanese as specified in its charter)

CANON INC.

(Exact name of Registrant in English as specified in its charter)

JAPAN

(Jurisdiction of incorporation or organization)

30-2, Shimomaruko 3-chome, Ohta-ku, Tokyo 146-8501, Japan

(Address of principal executive offices)

Sachiho Tanino, +81-3-3758-2111, +81-3-5482-9680, 30-2, Shimomaruko 3-chome, Ohta-ku, Tokyo 146-8501, Japan

(Name, Telephone, Facsimile number and Address of Company Contact Person)

Securities registered or to be registered pursuant to Section 12(b) of the Act.

Title of each class	Trading Symbol(s)	Name of each exchange on which registered
(1) American Depositary Shares (“ADSs”), each of which represents one share	CAJ	New York Stock Exchange
(2) Common Stock (the “shares”)*

Securities registered or to be registered pursuant to Section 12(g) of the Act.

None

(Title of Class)

Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act.

None

(Title of Class)

* Not for trading, but only for technical purposes in connection with the registration of ADSs.

Indicate the number of outstanding shares of each of the issuer’s classes of capital or common stock as of the close of the period covered by the annual report.

As of December 31, 2019, 1,063,834,471 shares of common stock, including 15,667,622 ADSs, were outstanding.

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes  ☑    No  ☐

If this report is an annual or transition report, indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.    Yes  ☐    No  ☑

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  ☑    No  ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files)    Yes  ☑    No  ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or an emerging growth company. See definition of “large accelerated filer,” “accelerated filer,” and “emerging growth company” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer  ☑ Accelerated filer  ☐ Non-accelerated filer  ☐ Emerging growth company  ☐

If an emerging growth company that prepares its financial statements in accordance with U.S. GAAP, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards† provided pursuant to Section 13(a) of the Exchange Act.  ☐ 

† The term “new or revised financial accounting standard” refers to any update issued by the Financial Accounting Standards Board to its Accounting Standards Codification after April 5, 2012.

Indicate by check mark which basis of accounting the registrant has used to prepare the financial statements included in this filing:

U.S. GAAP  ☑ International Financial Reporting Standards as issued by the International Accounting Standards Board   ☐ Other  ☐

If “Other” has been checked in response to the previous question, indicate by check mark which financial statement item the registrant has elected to follow.    Item 17  ☐    Item 18  ☐

If this is an annual report, indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

 Yes  ☐    No  ☑

TABLE OF CONTENTS

		Page number
CERTAIN DEFINED TERMS, CONVENTIONS AND PRESENTATION OF FINANCIAL INFORMATION			1
FORWARD-LOOKING INFORMATION			1
	PART I
Item 1.	Identity of Directors, Senior Management and Advisers		2
Item 2.	Offer Statistics and Expected Timetable		2
Item 3.	Key Information		2
A.	Selected financial data		2
B.	Capitalization and indebtedness		3
C.	Reasons for the offer and use of proceeds		3
D.	Risk factors		3
Item 4.	Information on the Company		11
A.	History and development of the Company		11
B.	Business overview		11
	Products		12
	Net sales by segment		16
	Net sales by geographic area		16
	Seasonality		17
	Sources of supply		17
	Marketing and distribution		17
	Service		18
	Patents and licenses		18
	Competition		19
	Environmental regulations		20
	Other regulations		23
C.	Organizational structure		24
D.	Property, plants and equipment		24
Item 4A.	Unresolved Staff Comments		27
Item 5.	Operating and Financial Review and Prospects		27
A.	Operating results		27
	Overview		27
	Key performance indicators		29
	Critical accounting policies and estimates		30
	Consolidated results of operations		35
	2019 compared with 2018		35
	2018 compared with 2017		39
	Foreign operations and foreign currency transactions		43
B.	Liquidity and capital resources		43
	Non-GAAP financial measures		45
C.	Research and development, patents and licenses		46
D.	Trend information		47
E.	Off-balance sheet arrangements		48
F.	Contractual obligations		48

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		Page number
Item 6.	Directors, Senior Management and Employees		49
A.	Directors and senior management		49
B.	Compensation		57
C.	Board practices		70
D.	Employees		71
E.	Share ownership		71
Item 7.	Major Shareholders and Related Party Transactions		73
A.	Major shareholders		73
B.	Related party transactions		73
C.	Interests of experts and counsel		74
Item 8.	Financial Information		74
A.	Consolidated financial statements and other financial information		74
	Consolidated financial statements		74
	Legal proceedings		74
	Dividend policy		74
B.	Significant changes		75
Item 9.	The Offer and Listing		75
A.	Offer and listing details		75
	Trading in domestic markets		75
	Trading in foreign markets		75
B.	Plan of distribution		75
C.	Markets		75
D.	Selling shareholders		75
E.	Dilution		75
F.	Expenses of the issue		75
Item 10.	Additional Information		75
A.	Share capital		75
B.	Memorandum and articles of association		76
C.	Material contracts		83
D.	Exchange controls		83
E.	Taxation		85
F.	Dividends and paying agents		88
G.	Statement by experts		88
H.	Documents on display		89
I.	Subsidiary information		89
Item 11.	Quantitative and Qualitative Disclosures about Market Risk		89
	Market risk exposures		89
	Equity price risk		89
	Foreign currency exchange rate and interest rate risk		89
Item 12.	Description of Securities Other than Equity Securities		90
A.	Debt securities		90
B.	Warrants and rights		90
C.	Other securities		90
D.	American Depositary Shares		91

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		Page number
	PART II
Item 13.	Defaults, Dividend Arrearages and Delinquencies		92
Item 14.	Material Modifications to the Rights of Security Holders and Use of Proceeds		92
Item 15.	Controls and Procedures		92
Item 16A.	Audit Committee Financial Expert		93
Item 16B.	Code of Ethics		93
Item 16C.	Principal Accountant Fees and Services		93
Item 16D.	Exemptions from the Listing Standards for Audit Committees		94
Item 16E.	Purchases of Equity Securities by the Issuer and Affiliated Purchasers		95
Item 16F.	Change in Registrant’s Certifying Accountant		96
Item 16G.	Corporate Governance		97
	PART III
Item 17.	Financial Statements		100
Item 18.	Financial Statements		100
	Reports of Independent Registered Public Accounting Firm		101
	Consolidated Balance Sheets		104
	Consolidated Statements of Income		105
	Consolidated Statements of Comprehensive Income		106
	Consolidated Statements of Equity		107
	Consolidated Statements of Cash Flows		109
	Notes to Consolidated Financial Statements		110
	Schedule II—Valuation and Qualifying Accounts		155
Item 19.	Exhibits		156
SIGNATURES			157

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CERTAIN DEFINED TERMS, CONVENTIONS AND PRESENTATION OF FINANCIAL INFORMATION

All information contained in this Annual Report is as of December 31, 2019 unless otherwise specified.

References in this discussion to the “Company” are to Canon Inc. and, unless otherwise indicated, references to the financial condition or operating results of “Canon” refer to Canon Inc. and its consolidated subsidiaries.

On March 6, 2020, the noon buying rate for yen in New York City as reported by the Federal Reserve Bank of New York was ¥ 105.31= U.S.$1.

The Company’s fiscal year end is December 31. In this Annual Report “2019” refers to the Company’s fiscal year ended December 31, 2019, and other fiscal years of the Company are referred to in a corresponding manner.

FORWARD-LOOKING INFORMATION

This Annual Report contains forward-looking statements and information relating to Canon that are based on beliefs of its management as well as assumptions made by and information currently available to Canon. When used in this Annual Report, the words “anticipate,” “believe,” “estimate,” “expect,” “intend,” “may,” “plan,” “project,” “should” and similar expressions, as they relate to Canon or its management, are intended to identify forward-looking statements. Such statements, which include, but are not limited to, statements contained in “Item 3. Key Information-Risk Factors,” “Item 4. Information on the Company,” “Item 5. Operating and Financial Review and Prospects” and “Item 11. Quantitative and Qualitative Disclosures about Market Risk” reflect the current views and assumptions of the Company with respect to future events and are subject to risks and uncertainties. Many factors could cause the actual results, performance or achievements of Canon to be materially different from any future results, performance or achievements that may be expressed or implied by such forward-looking statements, including, among others, changes in general economic and business conditions, changes in currency exchange rates and interest rates, introduction of competing products by other companies, lack of acceptance of new products or services by Canon’s targeted customers, inability to meet efficiency and cost reduction objectives, changes in business strategy and various other factors, both referenced and not referenced in this Annual Report. Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual results may vary materially from those described herein as anticipated, believed, estimated, expected, intended, planned or projected. Canon Inc. does not intend or assume any obligation to update these forward-looking statements.

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PART I

Item 1. Identity of Directors, Senior Management and Advisers

Not applicable.

Item 2. Offer Statistics and Expected Timetable

Not applicable.

Item 3. Key Information

A. Selected financial data

The following information should be read in conjunction with and qualified in its entirety by reference to the Consolidated Financial Statements of Canon Inc. and subsidiaries, including the notes thereto, included in this Annual Report.

Selected financial data *1*3:	2019		2018		2017		2016		2015
	(Millions of yen, except average number of shares and per share data)
Net sales	¥	3,593,299	¥	3,951,937	¥	4,080,015	¥	3,401,487	¥	3,800,271
Operating profit		174,667		342,952		321,605		216,425		343,858
Income before income taxes		195,740		362,892		353,884		244,651		347,438
Net income attributable to Canon Inc.		125,105		252,755		241,923		150,650		220,209
Advertising expenses		46,665		58,729		61,207		58,707		80,907
Research and development expenses		298,503		315,842		333,371		306,537		332,678
Depreciation of property, plant and equipment		170,418		175,771		189,712		199,133		223,759
Increase in property, plant and equipment		178,088		159,316		147,542		171,597		195,120
Long-term debt, excluding current installments		357,340		361,962		493,238		611,289		881
Common stock		174,762		174,762		174,762		174,762		174,762
Canon Inc. shareholders’ equity		2,692,595		2,827,602		2,870,630		2,783,129		2,966,415
Total assets		4,768,351		4,899,465		5,198,291		5,138,529		4,427,773
Average number of common shares in thousands		1,069,957		1,079,753		1,085,439		1,092,071		1,092,018
Per share data:
Net income attributable to Canon Inc. shareholders per share:
Basic	¥	116.93	¥	234.09	¥	222.88	¥	137.95	¥	201.65
Diluted		116.91		234.08		222.88		137.95		201.65
Cash dividends declared		160.00		160.00		160.00		150.00		150.00
Cash dividends declared (U.S.$)*2	$	1.514	$	1.440	$	1.483	$	1.393	$	1.290

Notes:

1. The above financial data is prepared in accordance with U.S. generally accepted accounting principles.

Canon acquired Toshiba Medical Systems Corporation on December 19, 2016, which was subsequently renamed as Canon Medical Systems Corporation (“CMSC”) on January 4, 2018. CMSC’s consolidated balance sheet and operating result since the acquisition date are reflected in Canon’s consolidated financial statements.

2. Annual cash dividends declared (U.S.$) are translated from yen based on a weighted average of the noon buying rates for yen in New York City as reported by the Federal Reserve Bank of New York in effect on the date of each semiannual dividend payment or on the latest practicable date.

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3. Canon adopted ASU No. 2017-07 from the quarter beginning January 1, 2018. The adoption of the new presentation requirement of the service cost component and the other components of net benefit cost resulted in reclassification from cost of sales, and selling, general and administrative expenses, and research and development expenses into other income (deductions) for the years ended December 31, 2017, 2016, and 2015 respectively.

B. Capitalization and indebtedness

Not applicable.

C. Reasons for the offer and use of proceeds

Not applicable.

D. Risk factors

Canon is one of the world’s leading manufacturers of office multifunction devices (“MFDs”), plain paper copying machines, laser printers, cameras, inkjet printers, diagnostic equipment and lithography equipment.

Primarily because of the nature of the business and geographic areas in which Canon operates and the highly competitive nature of the industries to which it belongs, Canon is subject to a variety of risks and uncertainties, including, but not limited to, the following:

Risks Related to Economic Environment

Economic trends in Canon’s major markets may adversely affect its operating results.

Canon’s business activities are deployed globally in Japan, the United States, Europe, Asia, and in other regions. Declines in consumption and restrained investment due to economic downturn in these major markets may affect Canon’s operating results. The operating results for products such as office, diagnostic equipment and industrial equipment are affected by the financial results of its corporate customers or medical institutions, and deterioration of their financial results has caused and may continue to cause customers to limit capital investments. Demand for Canon’s consumer products, such as cameras and inkjet printers, is discretionary. Rapid price declines owing to intensifying competition and declines in levels of consumer spending and corporate investment could adversely affect Canon’s operating results and financial position.

Canon’s operating and financing activities expose it to foreign currency exchange and interest rate risks that may adversely affect its revenues and profitability.

Canon derives a significant portion of its revenue from its international operations. As a result, Canon’s operating results and financial position have been and may continue to be significantly affected by changes in the value of the yen versus foreign currencies. Sales of Canon’s products denominated in foreign currencies have been and may continue to be adversely affected by the strength of the yen against foreign currencies. Conversely, a strengthening of foreign currencies against the yen will generally be favorable to Canon’s foreign currency sales. Canon’s consolidated financial statements are presented in yen. As such, the yen value of Canon’s assets and liabilities arising from foreign currency transactions have fluctuated and may continue to fluctuate. Unpredictable fluctuations may have certain effects on Canon’s consolidated financial statements. Although Canon strives to mitigate the effects of foreign currency fluctuations arising from its international business activities, Canon’s consolidated financial statements have been and may continue to be affected by currency translations from the financial statements of Canon’s foreign subsidiaries and affiliates, which are denominated in various foreign currencies. Canon is also exposed to the risk of interest rate fluctuations, which may affect the value of Canon’s financial assets and liabilities.

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Canon may be adversely affected by fluctuations in the stock and bond markets.

Canon’s assets include investments in publicly traded securities. As a result, Canon’s operating results and general financial position may be affected by price fluctuations in the stock and bond markets. Volatility in financial markets and overall economic uncertainty create the risk that the actual amounts realized in the future on Canon’s investments could differ significantly from the fair values currently assigned to them.

High prices of raw materials could negatively impact Canon’s profitability.

Increases in prices for raw materials that Canon uses in manufacturing such as steel, non-ferrous metals and petrochemical products may lead to higher production costs and Canon may not be able to pass these increased production costs onto the sales prices of its products. Such increases in prices for raw materials could adversely affect Canon’s operating results.

Risks Related to Canon’s Industries and Business Operations

A substantial portion of Canon’s business activity is conducted outside Japan, exposing Canon to the risks in international markets.

A substantial portion of Canon’s business activity is conducted outside Japan. There are a number of risks inherent in doing business in international markets, including the following:

• unfavorable political, diplomatic or economic conditions;

• sharp fluctuations in foreign currency exchange rates;

• unexpected political, legal or regulatory changes;

• inadequate systems of intellectual property protection;

• difficulties in recruiting and retaining qualified personnel; and

• less developed production infrastructure.

Any inability to manage the risks inherent in Canon’s international activities could adversely affect its business and operating results.

Canon has invested and will continue to invest actively in next-generation technologies. If the markets for these technologies do not develop as Canon expects, or if its competitors produce these or competing technologies in a more timely or effective manner, Canon’s operating results may be materially adversely affected.

Canon has made and will continue to make investments in next-generation technology research and development initiatives. Canon’s competitors may achieve research and development breakthroughs in these technologies more quickly than Canon, or may achieve advances in competing technologies that render products under development by Canon uncompetitive. For several years, Canon has continued its investments in development and manufacturing in order to keep pace with technological evolution. If Canon’s business strategies diverge from market demands, Canon may not recover some or all of its investments, or may lose business opportunities, or both, which may have a material adverse effect on Canon’s operating results.

In addition, Canon has sought to develop production technology and equipment to accelerate the automation of its manufacturing processes and in-house production of key devices. If Canon cannot effectively implement these techniques, it may fail to realize cost advantages or product differentiation, which may adversely affect Canon’s operating results. While differentiation in technology and product development is an important part of Canon’s strategy, Canon must also accurately assess the demand for and commercial acceptance of new technologies and products that it develops. If Canon pursues technologies or develops products that are not well received by the market, its operating results could be adversely affected.

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Entering new business areas through the development of next-generation technologies is a focal point of Canon’s corporate strategy. To the extent that Canon enters into such new business areas, Canon may not be able to establish a successful business model or may face severe competition with new competitors. If such events occur, Canon’s operating results may be adversely affected.

If Canon does not effectively manage transitions in its products and services, its operating results may decline.

Many of the business areas in which Canon competes are characterized by rapid technological advances in hardware performance, software functionality and product features; frequent introduction of new products; short product life cycles; and continued qualitative improvements to current products at stable price levels. Canon has sought to invest substantial resources into introducing appealing, innovative and cost-competitive new products. There are several risks inherent in introduction of new products and services, such as delays in development or manufacturing, unsuitable product quality during the introductory period, variations in manufacturing costs, negative impact on sales of current products, uncertainty in predicting customer demand and difficulty in effectively managing inventory levels. Moreover, if Canon is unable to respond quickly to technological innovations with respect to information systems and networks, Canon’s revenue may be significantly affected as a result of delays associated with the incorporation into its products of such new information technologies.

Canon’s revenues and gross margins also may suffer adverse effects because of the timing of product or service introductions by its competitors. This risk is exacerbated when a competitor introduces a new product immediately prior to Canon’s introduction of a similar product. If any of these risks materialize, future demand for Canon’s products and services could be reduced, and its operating results could decline.

Changes in the print environment may affect Canon’s business.

In the business machines market for such products as office MFDs, copying machines and printers, customers are increasingly looking for ways to cut costs while protecting the environment. From this perspective, Managed Print Services (“MPS”), which aim to optimize printing efficiencies in the office, have become popular in recent years. This trend could lead to a decrease in business machine print volumes.

In addition, the digitalization of workflow in office could also lead to a decrease in customer print opportunities. If Canon is unable to supply products and services that respond to these types of market trends, its operating results may be adversely affected.

Canon’s digital camera business operates in a highly competitive environment.

As the market for digital cameras has been shrinking, competition in price and performance specifications is intensifying. Moreover, along with the significant improvements in the shooting capabilities of other digital devices, including smartphones, consumer preferences for shooting activities have changed and diversified. If Canon is unable to introduce new products that appeal to the needs of consumers and maintain its superiority over other digital device competitors, or provide new services for enjoying images, Canon could suffer from an erosion of the digital camera market, with a resulting adverse effect on operating results.

Canon may not be able to adequately anticipate developments related to its medical device business, including changes to the market environment and developments related to medical device approvals, certifications and health insurance coverage.

Regarding the market for Canon’s medical equipment sold to medical institutions, mainly in the area of diagnostic imaging, it takes a long time to design, research, develop and commercialize products, because it is necessary to prove the clinical effectiveness of new technologies and new products, and obtain regulatory approvals and certifications prior to sale in individual countries. The global market for medical devices is

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expanding due to developing medical infrastructure in emerging countries, but in developed countries issues such as aging populations, rising health insurance costs and pressure to cut medical device costs may adversely affect Canon’s medical device business.

Canon invests in research and development of new medical device technologies based on detailed analysis of the potential technical and business prospects for such technologies. However, despite these investments, Canon may become less competitive if it cannot anticipate whether new technologies will have the expected clinical effects or developments in the market or regulatory environment for such technologies. Canon may need to significantly modify its business plans in response to these challenges and it may not be able to generate the expected returns on its investments in research and development of medical devices.

Because the semiconductor lithography equipment and flat-panel-display (“FPD”) industry is highly cyclical, Canon may be adversely affected by any downturn in demand for semiconductor devices and FPD panels.

The semiconductor lithography equipment and FPD lithography equipment industry is characterized by fluctuating business cycles, the timing, length and volatility of which are difficult to predict. Recurring periods of oversupply of semiconductor devices and panels have at times led to significantly reduced demand for capital equipment, including the semiconductor lithography equipment and FPD lithography equipment that Canon produces. Despite this cyclicality, Canon must maintain significant levels of research and development expenditures to remain competitive. A future cyclical downturn in the lithography equipment industry and related fluctuations in the demand for capital equipment could cause cash flow from sales to fall below the level necessary to offset Canon’s expenditures, including those arising from research and development, and could consequently have a material adverse effect on Canon’s operating results and financial condition.

Canon’s business is subject to changes in the sales environment.

Disruptions of relationships with large Canon distributors or acquisitions of those distributors by competitors could adversely affect Canon’s ability to meet its sales targets. In addition, the rapid proliferation of Internet-based businesses may render conventional distribution channels obsolete. These, and other changes in Canon’s sales environment, could adversely affect Canon’s operating results.

In addition, Canon depends on HP Inc. for a significant part of its business. As a result, Canon’s business and operating results may be affected by the policies, business and operating results of HP Inc. Any decision by HP Inc. management to limit or reduce the scope of its relationship with Canon would adversely affect Canon’s business and operating results.

Canon depends on specific outside suppliers for certain key components.

Canon relies on specific outside suppliers that meet Canon’s strict criteria for quality, efficiency and environmental friendliness for critical components and special materials used in its products. In some cases, Canon may be forced to discontinue production of some or all of its products if the specific outside suppliers that supply key components and special materials across Canon’s product lines experience unforeseen difficulties, or if such parts and special materials suffer from quality problems or are in short supply. Further, the prices of components and special materials purchased from specific outside suppliers may rise, triggered by the imbalance of supply and demand along with other factors. If such events occur as an outcome of the dependency on outside vendors, Canon’s operating results may be adversely affected.

Canon may be subject to antitrust-related lawsuits, investigations or proceedings, which may adversely affect its operating results or reputation.

A portion of Canon’s net sales consists of sales of supplies and the provision of services after the initial equipment placement. As these supplies and services have become more commoditized, the number of

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competitors in these markets has increased. Canon’s success in maintaining these post-placement sales will depend on its ability to compete successfully with these competitors, some of which may offer lower-priced products or services. Despite the increase in competitors, Canon currently maintains a high market share in the market for supplies. Accordingly, Canon may be subject to lawsuits, investigations or proceedings under relevant antitrust laws and regulations. Any such lawsuits, investigations or proceedings may lead to substantial costs and have an adverse effect on Canon’s operating results or reputation.

Cyclical patterns in sales of Canon’s products make planning and inventory management difficult and future financial results less predictable.

Canon generally experiences seasonal trends in the sales of its consumer-oriented products. Canon has little control over the various factors that produce these seasonal trends. Accordingly, it is difficult to predict short-term demand, placing pressure on Canon’s inventory management and logistics systems. If product supply from Canon exceeds actual demand, excess inventory will put downward pressure on selling prices and raise inefficiency in cash management, potentially reducing Canon’s revenue. Alternatively, if actual demand exceeds the supply of products, Canon’s ability to fulfill orders may be limited, which could adversely affect market share and net sales and increase the risk of unanticipated variations in its operating results.

Canon’s cooperation and alliances with, strategic investments in, and acquisitions of, third parties may not produce the anticipated improvements to its financial results.

Canon makes strategic acquisitions of other companies for the purpose of business expansion and Canon is also engaged in alliances, joint ventures, and strategic investments with other companies. These activities can help Canon to grow its business. However, weak business trends or disappointing performance by partners or acquired companies may adversely affect the success of such activities. The success of such activities may be adversely affected by the inability of Canon and its partners or acquired companies to successfully define and reach common objectives. Even if Canon and its partners or acquired companies succeed in designing a structure that allows for the definition and achievement of common objectives, synergies may not be created between the businesses of Canon and its partners or acquired companies. In addition, integration of operations may take more time than expected. In connection with its acquisitions, Canon recognizes goodwill and other intangible fixed assets on its consolidated balance sheet, and the amounts recognized may be impaired if there is a decline of future cash flow. An unexpected cancellation of a major business alliance may disrupt Canon’s overall business plans and may also result in a delayed return on, or reduced recoverability of, the investment, adversely affecting Canon’s operating results and financial position.

Canon depends on efficient logistics services to distribute its products worldwide.

Canon depends on efficient logistics services to distribute its products worldwide. Problems with Canon’s computerized logistics systems, an outbreak of war or strife within Canon’s operating regions or regional labor disputes, such as a dockworkers’ strike, could lead to a disruption of Canon’s operations and result not only in increased logistical costs, but also in the loss of sales opportunities owing to delays in delivery. Moreover, because demand for Canon’s consumer products may fluctuate throughout the year, transportation means, such as cargo vessels or air freight, and warehouse space must be appropriately managed to take such fluctuations into account. Failure to do so could result in either a loss of sales opportunities or the incurrence of unnecessary costs.

In addition, the increasing levels of precision required of semiconductor lithography equipment and FPD lithography equipment and the resulting increase in the value and size of such equipment in recent years have resulted in a concurrent increase in the need for sensitive handling and transportation of these products. Because of their precise nature, even a minor shock during the handling and transportation process can potentially cause irreparable damage to such products. If unforeseen accidents during the handling and transportation process render a significant portion of Canon’s high-end precision products unmarketable, costs will increase, and Canon may lose sales opportunities and customer confidence.

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Substantially higher crude oil prices and the supply-and-demand balance of transportation means could lead to increases in the cost of freight, which could adversely affect Canon’s operating results.

Other Risks

Canon’s facilities, information systems and information security systems are subject to damage as a result of disasters, outages or similar events.

Canon’s headquarters functions, information systems and research and development centers are located in or near Tokyo, Japan, where the possibility of damage from earthquakes is generally higher than in other parts of the world. In addition, Canon’s facilities or offices, including those for research and development, materials procurement, manufacturing, logistics, sales and services are located throughout the world and subject to the possibility of outage or similar disruption as a result of a variety of events, including natural disasters such as earthquakes or floods, as well as terrorist attacks. Although Canon continues to establish appropriate backup structures for its facilities and information systems, there can be no assurance that Canon will be able to prevent or mitigate the effect of disruptive events or developments such as the leakage of harmful substances and shutdowns of information systems. Although Canon has implemented backup plans to permit the manufacture of its products at multiple production facilities, such plans do not cover all product models. In addition, such backup arrangements may not be adequate to maintain production quantity at sufficient levels. Such factors may adversely affect Canon’s operating activities, generate expenses relating to physical or personal damage, or hurt Canon’s brand image, and its operating results may consequently be adversely affected.

In addition, the global spread of the coronavirus disease (“COVID-19”) has had disruptive effects on the supply chain and operations of manufacturers, particularly in Asia. As a result, Canon temporarily suspended operations in certain of Canon’s factories and has experienced reduced production in some of Canon’s factories. Although Canon expects the negative impact of COVID-19 on global economic and market conditions will adversely affect Canon’s business, the duration and extent of the further spread of COVID-19 remain uncertain at this time, and therefore the impact on results of operations remains unknown.

Canon’s success depends in part on the value of its brand name, and if the value of the brand is diminished, Canon’s operating results and prospects will be adversely affected.

Canon’s success depends in part on maintenance and development of the value of its brand name. The main factors which could damage its brand value are defective product quality, circulation of counterfeit and failures of its compliance regime. Although Canon works to minimize risks that may arise from product quality and liability issues, such as those triggered by the individual functionality and also from the combination of hardware and software that make up Canon’s products, there can be no assurance that Canon will be able to eliminate or limit these issues and the resulting damages. If such factors adversely affect Canon’s operating activities, generate additional expenses such as those related to product recalls, service and compensation, or otherwise hurt its brand image, Canon’s operating results or reputation for quality may be adversely affected. Canon has been implementing measures to halt the spread of counterfeit products. However, the continued manufacture and sale of such products could adversely affect Canon’s brand image as well as its operating results.

If Canon fails to maintain its overall compliance regime, especially legal and regulatory compliance, this also could result in damage to Canon’s credibility and brand value.

Canon’s business is subject to environmental laws and regulations.

Canon is subject to certain Japanese and foreign environmental laws and regulations in areas such as mitigation of climate change, resource conservation including product recycling, reduction of hazardous substances, clean air, clean water and waste disposal. Due to the laws and regulations, Canon may face liability for additional costs and alleged damages. Such costs and damages could adversely affect Canon’s business and operating results.

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Canon is subject to potential liability for the investigation and cleanup of environmental contamination at each of the properties that it owns or operates and at certain properties Canon formerly owned or operated. If Canon is held responsible for such costs in any future litigation or proceedings, such costs may not be covered by insurance and may be material.

Canon is subject to risks relating to legal proceedings.

Canon is involved in various claims and legal actions arising in the ordinary course of its business. Results of actual and potential litigation are inherently uncertain. An unfavorable result in a legal proceeding could adversely affect Canon’s reputation, financial condition and operating results.

Canon may be subject to intellectual property litigation and infringement claims, which could cause it to incur significant expenses or prevent it from selling its products.

Because of the emphasis on product innovation in the markets for Canon’s products, many of which are subject to frequent technological innovations, patents and other intellectual property are an important competitive factor. Canon relies primarily on internally developed technology, and seeks to protect such technology through a combination of patents, trademarks and other intellectual property rights.

In relation to protection of its technologies, Canon faces risks that: competitors will be able to develop similar technology independently; Canon’s pending patent applications may not be issued; the steps Canon takes to prevent misappropriation or infringement of its intellectual property may be unsuccessful; and intellectual property laws may not adequately protect Canon’s intellectual property, particularly in certain emerging markets.

In relation to third party intellectual property rights, if any third party is adjudicated to have a valid infringement claim against Canon, Canon could be required to: refrain from selling the relevant product in certain markets; pay monetary damages; pursue development of non-infringing technologies, or attempt to acquire licenses to the infringed technology and to make royalty payments, which may not be available on commercially reasonable terms, if at all.

Canon may need to litigate in order to enforce its intellectual property rights or in order to defend against claims of infringement, which can be expensive and time-consuming.

Canon also licenses its patents to third parties in exchange for payment or licensing. The terms and conditions of such licensing or changes in the renewal conditions of such licenses could affect Canon’s business.

With respect to employee inventions, Canon maintains company rules and an evaluation system and has been making adequate payments to employees for the invention rights based on these rules. However, there can be no assurance that disputes will not arise with respect to the amount of these payments to employees.

Canon’s businesses, brand image and operating results could be adversely affected by any of these developments.

Canon must attract and retain highly qualified professionals.

Canon’s future operating results depend in significant part upon the continued contributions of its employees. In addition, Canon’s future operating results depend in part on its ability to attract, train and retain qualified personnel in development, production, sales and management. The competition for human resources in the high-tech industries in which Canon operates has intensified in recent years. Moreover, owing to the accelerating pace of technological change, the importance of training new personnel in a timely manner to meet product research and development requirements will increase. Failure by Canon to recruit and train qualified personnel or the loss of key employees could delay development or slow production and could increase the risks of outflow of technologies and know-how. These factors may adversely affect Canon’s business and operating results.

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Maintaining a high level of expertise in Canon’s manufacturing technology is critical to Canon’s business. However, it is difficult to secure the requisite expertise for specialized skill areas, such as lens processing, in a short time period. While Canon engages in advance planning to obtain the expertise needed for each skill area, Canon cannot guarantee that such expertise will be acquired in a timely manner and retained, and failure to do so may adversely affect Canon’s business and operating results.

Canon is subject to risks arising from dependency on electronic data.

Canon possesses confidential electronic data relating to manufacturing, research and development, procurement, and production, as well as sensitive information obtained from its customers relating to the customers and to other individuals and parties. This electronic data is used by Canon and third party managed systems and networks. Electronic data is also used for the information service functions in various products.

There are some risks inherent in the use of the electronic data, including vulnerability to hacking, computer viruses, and cyber attacks, service failures and leakage of personal information due to infrastructure issues and issues arising from damage caused by natural disasters. Although Canon continues to make administrative and managerial improvements in order to alleviate these risks, such events may occur despite Canon’s best efforts.

The materialization of such risks could result in interruptions to essential work, leaks of confidential data and damage to the information service functions in products. The occurrence of any of these events has the potential to cause Canon to be subject to claims from affected individuals and parties and to negatively influence Canon’s brand image, the social trust it has developed, and its operations and financial conditions.

Canon’s financial results may be adversely affected if its deferred tax assets are not recoverable or if it is subject to international double taxation.

Canon currently has deferred tax assets, which are subject to periodic recoverability assessments based on projected future taxable income. The changes of future profitability due to future market conditions and tax reforms including changes in tax rates may require possible recognition of significant valuation allowances to reduce the net carrying value of deferred tax asset balances. When Canon determines that certain deferred tax assets may not be recoverable, the amounts which may not be realized are charged to income tax expense and will adversely affect net income.

In addition, recently, international corporate tax avoidance has developed into a political issue with a focus on aggressive tax planning strategies of certain multinational corporations. The OECD established the BEPS (Base Erosion and Profit Shifting) project for the purpose of increasing cooperation among countries and implementing harmonization of taxation. The BEPS action plan was published in July 2013; the OECD then conducted further study based on that plan and published its final report in October 2015. Each country has been revising or amending its domestic taxation system and tax treaties based on the final report.

Canon believes that liability of taxation is a basic and significant responsibility as a corporate citizen and that the revision or amendment will not significantly affect Canon. It is, however, possible that there will be differences in opinion between Canon and tax authorities based on new transfer pricing documentation requirements.

Canon’s retirement and severance benefit obligations are subject to certain accounting assumptions.

Canon has significant employee retirement and severance benefit obligations that are recognized based on actuarial valuations. Inherent in these valuations are key assumptions, including discount rates, expected return on plan assets, assumed rate of increase in compensation level and mortality rate. Actual results that differ from the assumptions are accumulated and amortized over future periods and, therefore any such differences would be expected to be linked to increases in actual costs, which may adversely affect net income.

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Item 4. Information on the Company

A. History and development of the Company

Canon Inc. is a joint stock corporation (kabushiki kaisha) formed under the Corporation Law of Japan. Its principal place of business is at 30-2, Shimomaruko 3-chome, Ohta-ku, Tokyo 146-8501, Japan. The telephone number is +81-3-3758-2111.

The Company was incorporated under the laws of Japan on August 10, 1937 to produce and sell Japan’s first focal plane shutter 35mm still camera, which was developed by its predecessor company, Precision Optical Research Laboratories, which was organized in 1933.

In the late 1950s, Canon entered the business machines field utilizing technology obtained through the development of photographic and optical products. With the successful introduction of electronic calculators in 1964, Canon continued to expand its operations to include plain paper copying machines, faxes, laser printers, bubble jet printers, computers, video camcorders and digital cameras. In 2016, Canon acquired Toshiba Medical Systems Corporation (“CMSC” as of January 4, 2018) and has expanded its medical business.

In 2019, 2018, and 2017, Canon’s increases in property, plant and equipment were ¥178,088 million, ¥159,316 million and ¥147,542 million, respectively. In 2019, the increases in property, plant and equipment were mainly used to expand production capabilities in both domestic and overseas regions, and to bolster Canon’s production-technology-related infrastructure. In addition, Canon has been continually investing in tools and dies for business machines, in which the amount invested is generally the same each year.

For 2020, Canon projects to invest in property, plant and equipment of approximately ¥160,000 million. This amount is expected to be spent for investments in new production plants and new facilities of Canon. Canon anticipates that the funds needed for this increase will be generated internally through operations. 

The SEC maintains a website at https://www.sec.gov that contains reports and proxy information regarding issuers that file electronically with the SEC. Some of the information may also be found on our website at https://global.canon/en.

B. Business overview

Canon is one of the world’s leading manufacturers of office MFDs, plain paper copying machines, laser printers, cameras, inkjet printers, diagnostic equipment and lithography equipment.

Canon sells its products principally under the Canon brand name and through sales subsidiaries. Each of these subsidiaries is responsible for marketing and distribution to retail dealers in an assigned territory. In 2019, 75.7% of consolidated net sales were generated outside Japan, with approximately 28.6%, 24.6% and 22.5% generated in the Americas, Europe and Asia and Oceania, respectively.

Canon’s strategy is to develop innovative, high value-added products incorporating advanced technologies.

Canon’s research and development activities range from basic research to product-oriented research directed at maintaining and increasing Canon’s technological leadership in the marketplace.

Canon will work to realize the optimized global allocation of its production assets based on changes in local conditions in each country and region. Canon has manufacturing subsidiaries in a variety of countries and regions, including the United States, Germany, France, the Netherlands, Taiwan, China, Malaysia, Thailand, Vietnam and the Philippines, other than Japan.

As a concerned member of the world community, Canon emphasizes recycling and has increased its use of clean energy sources and cleaner manufacturing processes. Canon has also launched programs to collect and recycle used Canon cartridges and to refurbish used Canon copying machines. In addition, Canon has removed virtually all environmentally unfriendly chemicals from its manufacturing processes.

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Products

Canon operates its business in four segments: the “Office Business Unit,” the “Imaging System Business Unit,” the “Medical System Business Unit”, and the “Industry and Others Business Unit”.

- Office Business Unit -

Canon manufactures, markets and services a full range of office MFDs, printers, copying machines for personal and office use and production print products for print professionals. Canon also delivers added value to customers through software, services and solutions. Canon’s offerings cater to a broad market from Small Office Home Office (“SOHO”), and Small and Midsize Business (“SMB”) to large enterprises and professional graphic arts companies.

In the industry, customer preference has been shifting from monochrome to color products and from hardware to services and solutions. Especially in the professional print market, customers are increasingly turning to short-run, print-on-demand and variable data printing. The importance of connectivity, security, mobility, integration, workflow and cloud-based web services is growing, and such added value is increasingly delivered together with hardware. Canon seeks to maintain its position as a market leader in these fast-changing markets.

In 2019, Canon expanded its hardware offerings by providing image RUNNER ADVANCE Gen3 3rd Edition with enhanced security function. Canon is also providing a new software named uniFLOW Online which enabled the new image RUNNER ADVANCE Gen 3 3rd Edition to connect to cloud services. Canon expanded our Multi-Function Printer (“MFP”) capability by using the new software solution technology.

To maintain and enhance its competitive edge and to meet increasingly sophisticated customer demands, Canon is committed to the continued reinforcement of Canon’s hardware and software offerings and solutions capability.

As for laser printers, Canon has focused on expanding sales of high value-added products from mid to high-end class, especially for MFP, which has resulted in increasing sales volume and market share in the said products category successfully. Canon, however, is experiencing fierce competition from aggressive competitors in the laser printer market and an eventual decline in sales prices of printers and consumable cartridges is becoming a major threat, in addition to concerns over lagging growth of the entire market affected by decrease in demand for printing, which is caused by change in users’ printing behavior due to the prevalence of smartphones, cloud computing, etc.

In response, Canon aims to accelerate current momentum to increase sales volume and market share by enhancing competitiveness like driving contractual business which engages with customers for a certain period, accompanied with leveraging technical innovation and so forth. Furthermore, Canon aims to maximize business efficiency through continuous efforts to reduce costs and optimize its supply chain.

- Imaging System Business Unit -

Canon manufactures and markets digital cameras, as well as lenses and various related accessories.

In 2019, Canon strengthened and expanded its product lineup, including mirrorless cameras, a growing market, by launching six new digital interchangeable-lens cameras, such as the compact and lightweight full-frame mirrorless camera, EOS RP, adopting a newly designed mount system, and the EOS M200 which realizes improved smartphone connectivity and user-friendly operation. As a result, Canon has steadily increased its market share in the field of mirrorless cameras, and maintained number one share in digital interchangeable-lens cameras in terms of volume in 2019 in the major regions/countries, such as the United States, Europe, China and Japan.

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Canon aims to expand the imaging domains of EOS, and believes there remains considerable room for future growth through development of new products based on state-of-the-art technology such as higher picture quality, small and lightweight body and versatile movie/network functions.

Canon has announced six new RF lenses for full frame mirrorless cameras. The large diameter mount and short back focus has allowed for a great increase in freedom of lens design, resulting in huge leaps in optical performance.

Canon aims to meet customer expectations through continuous introduction of high-quality and high-performance lenses developed with superior optical technology and new elemental technology.

As for compact digital cameras, while the overall market has been shrinking, the premium segment with relatively large sensors has been performing steadily. In this segment, Canon launched two new models in 2019, and aims to further strengthen its premium lineup, and improve its profitability.

In the compact photo printer market, Canon has performed well along with the increasing demand for photo printing from smart devices. With its advantages, such as easy operation, portability, and lab-quality photo print, SELPHY has gained a strong market position in each region. IVY Mini Photo Printer (Zoemini), which empowers users to share their story through print launched in 2018 has also shown high sales performance. Canon plans to tap new customer demand and to maintain its lead in this market.

Inkjet printer technology has been evolving, driving expansion of application from home use to office and commercial use such as poster printing and photo printing that require high-quality.

Canon offers a wide variety of products to meet such needs based on its core technology Full-photolithography Inkjet Nozzle Engineering (“FINE”), which enables realization of high-speed printing and high image quality at the same time.

For home use, Canon offers such printer solutions as Canon PRINT Inkjet to tighten the connection with cloud computing, smartphones and tablet PCs. Canon also offers more compact body, premium design, convenient front and rear dual paper feeder, and a larger and easy to read liquid crystal touchscreen panel. Canon believes such enhancement of function and service will increase user-friendliness and satisfaction of users.

Since 2016, Canon has launched Refillable Ink Tank Printers that achieved high productivity and cost saving by featuring built-in ink tanks, for business use in emerging market.

As large-format inkjet printers must meet the advanced photo and graphic printing needs of professionals, Canon has a lineup of graphic products that cater to all customers, starting with the imagePROGRAF PRO-1000, which supports A2-size paper, to the 60-inch flagship model, imagePROGRAF PRO-6100 with improved functionality and productivity. The color reproduction and expressiveness of dark areas of these products are improved by using 12-color LUCIA Pro ink, which features new pigment ink and Chroma Optimizer, and the new L-COA PRO image processing engine.

To meet companies’ growing demand for low-cost in-house production of large formats such as CAD and posters, Canon newly developed the five-color pigment ink LUCIA TD that realizes high-quality image printing on normal paper and does not require special paper. In addition to the imagePROGRAF TX/TM series that deliver high-speed printing, the entry version imagePROGRAF TA series were newly added to the lineup, with the best print quality and the quietness inherited from the advanced models.

Since 2012, Canon has shipped the DreamLabo 5000, the first inkjet production photo printer featuring new FINE high-density print head technology.

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Canon’s lineup also includes CanoScan LiDE, the flatbed scanners which use Contact Image Sensor (“CIS”), and a scanner with Charge-Coupled Devices (“CCD”) for high resolution. Canon has maintained high share in the scanner market by achieving stable sales results.

- Medical System Business Unit -

Canon markets diagnostic imaging systems, including Computed tomography (“CT”), Magnetic resonance imaging (“MRI”), ultrasound, and X-ray systems, as well as clinical laboratory systems and healthcare ICT solutions, and provides them to customers in more than 150 countries and regions around the world, offering technology that enables early detection and fast diagnosis. Continuing its long tradition of contributing to improvements in healthcare, Canon is making positive contributions toward hospital management and provides a range of patient-friendly healthcare systems and services.

In the CT systems business, the mainstay of medical business units, Canon kept top share in the Japanese market. New products Canon launched so far continued to enhance its presence, such as Aquilion Start in 16 slice configurations with premium technology originally developed for our high-end CT systems, Aquilion ONE™ / GENESIS Edition with Advanced intelligent Clear-IQ Engine (“AiCE”) and ultrasound systems “Aplio a-series”.

Canon pursues high-resolution imaging that helps enable more accurate diagnosis. Canon introduces spectral CT system and also MRI system designed for deep intelligence with Deep Learning Spectral Reconstruction imaging capabilities. Deep Learning can distinguish true signal from noise to deliver sharp, clear and distinct images at fast speeds.

By incorporating various strengths (such as precision mechanical design, processing technology, sensor technology, and image processing technology) and advancing synergy with Canon’s group technology among the development, manufacturing, and servicing of Canon’s medical equipment products, Canon continues to provide products with high added value that further contribute to a field of healthcare.

Canon is strategically realigning its global medical business within Canon Group and started operations under the new organization in USA and Japan from January 2020 in order to expand global business.

Canon and the Center for iPS Cell Research and Application, Kyoto University, began joint research from August, 2019, with the aim of contributing to the field of regenerative medicine through the realization of higher-quality induced pluripotent stem (“iPS”) cells1 for autograft purposes, or “my iPS cells2”.

In the component business, both the expanding demand in emerging markets and the demand to transition from Computed Radiography (“CR”) to Digital Radiography (“DR”) continue to drive steady market growth for X-ray equipment. On the other hand, technological competition with component manufacturers in Europe and the USA has been increasing for high-end products, and price competition with manufacturers in China and South Korea has been increasing for the low-end product segment where products are becoming commoditized. Under these market circumstances, Canon launched a new standard model with enhanced price competitiveness for some regions in 2019, and plans to make it available in other regions soon. In the dynamic X-ray equipment market, where high growth is expected, Canon is continuing its strong efforts to promote sales of fluoroscopy and angiography systems. With regard to our X-ray tube units, X-ray imaging devices, etc., Canon has developed competitive products for this business based on its highly reliable core technologies (high-voltage vacuum technology, hydrodynamic liquid metal bearing technology, cesium iodide deposition technology, etc.), which have contributed to strong sales. With regard to professional cameras which are mainly for medical equipment, Canon retains high competitiveness, due to its agile product development and quick adaptation to the market needs for camera miniaturization and better image quality.

In the ophthalmic equipment business, Canon continues to upgrade its Optical Coherence Tomography (“OCT”) Angiography software series which enables depiction of retinal blood vessels without using fluorescein, a substance that potentially causes strong allergic reactions, under stiffer competition in the growing OCT market.

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- Industry and Others Business Unit -

In the market for semiconductor lithography equipment, capital expenditures in memory lithography equipment were significantly restrained due to the impact of trade friction between the United States and China and the decline in memory prices. On the other hand, capital expenditures for CMOS sensors, communication devices, and other products were solid due to advances in IoT and 5G technologies. In the market for back-end lithography systems, capital expenditures in large-capacity memories such as Through-Silicon Via (“TSV”) expanded due to increasing demands for higher density integration and thinner chips.

Responding to diversified semiconductor applications, Canon has been developing a “design-in” business style, which enables customer needs to be reflected in the early stage of our product development process, and Canon has made steady progress in developing products with high added value. Canon has a wide variety of products for IoT devices and automotive semiconductors, which are rapidly becoming more widespread. Canon is ready to expand its market share further by KrF scanner “FPA-6300ES6a” which realized high productivity and the highest level of overlay for memory production, and by continuous upgrades of i-line stepper “FPA-5550iZ2.” For back-end lithography systems, Canon is going to meet the variety of market needs with releasing high-resolution optional function of “FPA-5520iV” which can be adapted to FOWLP (Fan Out Wafer Level Package) process and responds to the latest packaging. Canon is also preparing for the mass production of Nanoimprint semiconductor lithography equipment.

In the market for FPD lithography equipment, investments in high-definition organic light-emitting diode (“OLED”) panels for mobile applications, which had been very strong in past couple of years, have entered an adjustment phase, but there is an ongoing momentum of application expansion such as foldable displays. The TV market performed stable due to the continuous investments for large-sized TVs mostly in China’s market. The TV market is expected to experience a transition to high-quality TVs represented by large-sized, 4K/8K high-definition panels and OLED displays. Canon meets market needs by reinforcing its lineup with “MPAsp-H1003T” which realizes a high productivity by one shot exposure of high quality 65-inch panel on a G8 glass substrate. Also, Canon is aiming to expand its market share further by strengthening competitiveness and improving throughput of “MPAsp-E813H” to meet the diversification of OLED products.

Network cameras are recognized as the key to the social infrastructure for crime prevention and disaster monitoring, and the need for high-resolution, high-quality cameras is ever increasing. Moreover, video content analysis software contributes to the automation and man-power saving in response to the shortage of human resources due to the declining birthrate and aging population, and is widely used for production sites and marketing fields other than just for security purposes. The market for solutions that combine network cameras and video content analysis software is largely expanding.

In 2019, Canon enhanced the function of the ultra-high sensitivity network camera “ME20F-SHN” that demonstrates its outstanding performance especially at night and in the dark. Furthermore, Canon also released new outdoor network cameras that adopted its originally developed “Hydrophilic Coating II” technology. By merging products equipped with Canon’s differentiated technology with the extensive lineup of network cameras from Axis, as part of the Group, Canon is able to respond to a wide range of customer requests from general monitoring applications to important facility monitoring.

In addition, as a video content analysis software, Canon released the “Crowd People Counter for Milestone XProtect Version 1.0” that can instantly count thousands of people with high speed and high accuracy by using AI. It is expected to be utilized in various fields for such situations as accident prevention, traffic volume surveys, gauging the congestion status of sightseeing spots, event marketing and others.

Going forward, Canon aims to become a global leader in network visual solutions by providing optimal solutions through strengthening collaboration and accelerating technology fusion among the group companies such as Axis, Milestone, and BriefCam.

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Canon adopts differentiation strategy for high image quality in the digital video camera market. In the professional video camera field, Canon launched the “EOS C 500 Mark II” digital cinema camera equipped with a 5.9 K full-size sensor, and the “XA 55/45 Series” 4K professional video camera. Canon is aiming to build up a major position in the video production market by introducing a wider product lineup.

In the broadcasting lens market, demand for sports relay broadcasting in developed countries and 4K broadcasting in emerging countries are growing steadily, and Canon continues to maintain a high market share thanks to its strong product lineup. For satisfying higher demand for 2/3 inch 4K lenses mainly in Europe and Asia, Canon continues to expand the product lineup, for example, by launching the “UJ 122 x 8.2 B” outdoor relay lens and the “CJ 15 ex 4.3 B” portable lens. In the field of cinema lenses, Canon launched 7 types of single focus lens series “Sumire Prime” featuring soft depiction and bokeh in cinema photography. The series has been popular in the film and video production markets.

The market for projectors in business applications, in particular brighter, installation type projectors, enjoyed robust growth. In this market, Canon is expanding its product lineup with its advanced optical technologies. In 2019, Canon launched 4K laser projector “4K6021Z” as the flagship model. Moreover, Canon released PC application software that supports multiple projection installation, which has been growing in recent years. Canon aims to expand the projector business based on customer’s demands.

NET SALES BY SEGMENT

The following table presents our net sales by segment for each of the periods shown.

	Years ended December 31
	2019			change			2018			change			2017
	(Millions of yen, except percentage data)
Office		1,702,595			-5.8	%		1,807,301			0.1	%		1,804,782
Imaging System		807,414			-16.8			970,435			-11.7			1,099,125
Medical System		438,525			0.2			437,578			0.3			436,187
Industry and Others		737,945			-12.5			842,941			1.6			829,913
Eliminations		(93,180	)		—			(106,318	)		—			(89,992	)
Total		3,593,299			-9.1	%		3,951,937			-3.1	%		4,080,015

From the beginning of the first quarter of 2019, Canon has reclassified certain businesses from the Imaging System Business Unit to the Industry and Others Business Unit, and from the beginning of the third quarter of 2018, Canon has reclassified certain businesses from the Office Business Unit to the Industry and Others Business Unit. Sales amounts for the years ended 2018 and 2017 also have been restated.

NET SALES BY GEOGRAPHIC AREA

The following table presents our net sales by geographic area for each of the periods shown.

	Years ended December 31
	2019		change			2018		change			2017
	(Millions of yen, except percentage data)
Japan		872,534		0.3	%		869,577		-1.7	%		884,828
Americas		1,029,078		-4.4			1,076,402		-2.8			1,107,515
Europe		882,480		-13.1			1,015,428		-1.3			1,028,415
Asia and Oceania		809,207		-18.3			990,530		-6.5			1,059,257
Total		3,593,299		-9.1	%		3,951,937		-3.1	%		4,080,015

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Seasonality

Canon’s sales for the fourth quarter are typically higher than for the other three quarters, mainly due to strong demand for consumer products, such as cameras and inkjet printers, during the year-end holiday season.

In Japan, corporate demand for office products peaks in the first quarter, as many Japanese companies end their fiscal year in March. Sales also tend to increase at the start of the new school year in each region.

Sources of supply

Canon purchases materials such as glass, aluminum, plastic, steel and chemicals for use in various product components and in the manufacturing process. Canon procures raw materials from all over the world and selects suppliers based on a number of criteria, including environmental friendliness, quality, cost, supply stability and financial condition.

Prices of some raw materials fluctuate according to market trends. Although Canon is currently focusing on globalizing supplies and improving raw material resource management strategies, and believes that it will be able to continue procuring sufficient quantities of raw materials to meet its needs, there can be no assurance that supply shortages will not occur or that raw materials, such as crude oil, will be available at competitive prices, or at all, in the future.

Marketing and distribution

Canon sells its products primarily through subsidiaries organized under regional marketing subsidiaries: Canon Marketing Japan Inc. in Japan; Canon U.S.A., Inc. in North and South America; Canon Europe Ltd. and Canon Europa N.V. in Europe, Russia, Africa and the Middle East; Canon (China) Co., Ltd. in Asia outside Japan; and Canon Australia Pty. Ltd. in Oceania. Each subsidiary is responsible for its own market research and for determining its sales channels, advertising and promotional activities. Each subsidiary provides tailor-made solutions to a diverse range of unique customers and aims to advance Canon’s reputation as a highly trusted brand.

In Japan, Canon sells its products primarily through Canon Marketing Japan Inc., mainly to dealers and retail outlets.

In the Americas, Canon sells its products primarily through Canon U.S.A., Inc. and Canon Canada Inc., mainly to dealers and retail outlets.

In Europe, Canon sells its products primarily through Canon Europa N.V., which sells mainly through subsidiaries or independent distributors to dealers and retail outlets in each locality. In addition, copying machines are sold directly to end-users by several subsidiaries such as Canon (UK) Ltd. in the United Kingdom and Canon France S.A.S. in France.

In Southeast Asia and Oceania, Canon sells its products through subsidiaries located in those areas. In addition, copying machines are sold directly to end-users in Australia by Canon Australia Pty. Ltd.

For medical business, CMSC sells its products directly or through regional marketing subsidiaries and distributors.

Canon also sells laser printers on an OEM basis to HP Inc. HP Inc. resells these printers under the “HP LaserJet Printers” name. During 2019 and 2018, OEM sales to HP Inc. constituted 13.0% and 13.6%, respectively, of Canon’s consolidated net sales.

Canon continues to enhance its distribution system by promoting the continuing education of its sales personnel and by optimizing inventory levels and business planning through weekly analysis of sales data.

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Service

In Japan and overseas, product service is provided in part by independent retail outlets and designated service centers that receive technical training assistance from Canon. Canon also services its products directly.

Most of Canon’s business machines carry warranties of varying terms, depending upon the model and country of sale. Cameras and camera accessories carry warranties that vary depending upon the model and country of sale.

Canon services its copying machines, office MFDs, and printers, and supplies replacement drums, parts, toner and paper. Most customers enter into a contract under which Canon offers consumables and parts as well as break fix activities in return mainly for a fixed amount in the contract plus a per copy charge. Copying machines not covered by a service contract may be serviced from time to time by Canon or local dealers for a fee.

For diagnostic imaging systems, including CT, MRI, ultrasound, and X-ray systems, Canon provides comprehensive repairs, service, and maintenance to ensure that customers are able to use these products to their full potential at all times. Canon maintains support contracts with customers and has technical call centers. In addition, to help ensure customer satisfaction, Canon offers service training programs for engineers working in overseas medical institutions. For the service contract of medical system products, customers pay stated fixed fees for the stand ready maintenance service.

Patents and licenses

Canon holds a large number of patents, design rights and trademarks in Japan and abroad to protect proprietary technologies stemming from its research and development activities. Canon utilizes these intellectual property rights as important strategic management tools. For example, Canon leverages its intellectual property rights to expand its product lines and business operations and to form alliances and exchange technologies with other companies.

Canon has granted licenses with respect to its patents to various Japanese and foreign companies, most often with respect to electrophotography, laser printers, multifunction printers, facsimile machines and cameras.

Companies to which Canon has granted licenses include:

Kyocera Document Solutions Inc.	Electrophotography
Sharp Corporation	Electrophotography
Brother Industries, Ltd.	Electrophotography and facsimile machines

Canon has also entered into cross-licensing agreements with other major industry participants.

Companies with which Canon has entered into cross-licensing agreements include:

HP Inc.	Bubble jet printers
Xerox Corporation	Business machines
International Business Machines Corporation	Information handling systems
Eastman Kodak Company	Electrophotography and image processing technology
Seiko Epson Corporation	Information-related instruments

Canon has placed a high priority on the management of its intellectual property. Some products that are material to Canon’s operating results incorporate patented technology. Patented technology is critical to the continued success of Canon’s products, which typically incorporate technology from dozens of different patents. However, Canon does not believe that its business, as a whole, is dependent on, or that its profitability would be materially affected by the revocation, termination, expiration or infringement upon, any particular patent, copyright, license or intellectual property rights or group thereof.

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Competition

Canon encounters intense global competition in all areas of its business. Canon’s competitors range from some of the world’s major multinational corporations to smaller, highly specialized companies. Canon competes in a number of different business areas, whereas many of its competitors focus on one or more individual areas. Consequently, Canon may face significant competition from entities that apply greater financial, technological, sales and marketing or other resources than Canon to their activities in a particular market segment.

The principal elements of competition that Canon faces in each of its markets are technology, quality, reliability, performance, price and customer service and support. Canon believes that its ability to compete effectively depends in large part on conducting successful research and development activities that enable it to create new or improved products and release them on a timely basis and at commercially attractive prices. The competitive environments in which each product group operates are described below:

- Office Business Unit -

The markets for this segment are highly competitive. Canon’s primary competitors are Xerox Corporation/Fuji Xerox Co., Ltd.; Ricoh Company, Ltd.; Konica Minolta Inc.; HP Inc.; Samsung Electronics Co., Ltd.; and Lexmark International, Inc. Canon believes that it is one of the leading global manufacturers of office MFDs, copying machines and laser printers. In addition to the general elements of competition described above, Canon’s ability to compete successfully in these markets also depends significantly on whether it can provide effective, broad-based “business solutions” to its customers and respond to interrelated customer needs. In particular, the ability to provide equipment and software that connect effectively to networks (ranging in scope from local area networks to the Internet and the cloud) is often a key to Canon’s competitive strength. In the United States, Europe and Japan, Canon is one of the market leaders in all areas of the business machine market. In emerging markets, for example in China, the current market leaders for business machines are Fuji Xerox. Co., Ltd., Konica Minolta Inc. and Toshiba TEC Corporation. Canon plans to join this group by introducing products tailored to the Chinese market and by strengthening sales and service channels.

- Imaging System Business Unit -

Canon has continued to invest aggressively in competitive new products and intends to maintain its position in this market.

Canon’s primary competitors in the interchangeable-lens digital camera market are Nikon Corporation and Sony Corporation.

Average prices for compact digital cameras in the industry increased in 2019 from the previous year. Market contraction is having a major impact, resulting in severe conditions in the digital camera market. Despite these difficulties, Canon will seek to take advantage of its status as the major brand in the industry, along with its economies of scale, in order to maintain profitability.

Canon’s primary competitors in the compact digital camera market are Sony Corporation and Nikon Corporation. Canon’s primary competitors in the inkjet printer market are HP Inc., Seiko Epson Corporation and Brother Industries, Ltd.

- Medical System Business Unit -

Canon’s primary competitors in the diagnostic medical imaging market are General Electric Company, Siemens AG, Koninklijke Philips N.V., Hitachi, Ltd., and Fujifilm Corporation. Canon has also new competitors such as United Imaging Healthcare Co. Ltd., Chinese vendor.

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The markets for this segment are highly competitive. Canon has been consistently involved in the medical care business, from development to manufacturing, sales, and service. Canon believes that it provides high-resolution images that enable more accurate diagnosis. For example, we have developed several world’s-first technologies, such as an ultrahigh-resolution CT scanner with twice the spatial resolution in both the in-plane direction and the axial direction compared to a conventional CT scanner, and ultrasound technology that can perform imaging of very fine, slow-flowing bloodstreams that previously could not be visualized. Canon will continue to bring the latest diagnostic imaging systems to the market.

- Industry and Others Business Unit -

Very stiff competition continues in the markets for lithography equipment used in the production of semiconductor devices and FPD. In order to produce lithography equipment that can provide ultra-fine processing, an integration of advanced optical, control and system technologies is required, along with continuous investment in technology development. The main competitors in these markets are Nikon Corporation, in the markets for semiconductor and FPD lithography equipment, and ASML Holding N.V., in the market for semiconductor lithography equipment only.

Canon believes that it has helped its customers improve their productivity by continuously improving the cost performance of semiconductor lithography equipment using the i-line and KrF laser light sources. In particular, equipment using i-line has captured a large share of the global market, satisfying the needs by quickly providing products which correspond to the diversification of devices associated with the trend of IoT.

Canon believes its FPD lithography equipment with a common platform offers excellent productivity and reliability that has helped it capture market share of the industry-leading South Korean market. Canon’s sales and service support systems have also received high accolades from the customers in these markets. In the trend of demand expansion for 4K displays and OLED panels, Canon believes it has also been meeting the needs of panel makers by continuously offering new products with high productivity and high resolution.

As for network cameras, the market is competitive in higher functional requirement and price pressure from customers. Canon’s primary competitors are Hikvision Digital Technology Co., Ltd. and Panasonic Corporation. Canon is developing the innovative technology to continue to be a global market leader in this industry.

Environmental regulations

Canon is subject to a wide variety of laws, regulations, industry standards and global initiative relating to energy and resource conservation, recycling, global warming, pollution prevention, pollution remediation and environmental health and safety. Some of the environmental laws, regulations, industry standards and global initiative that affect Canon’s businesses are summarized below.

1. UN Frameworks to Address Global Issues, which are related to the Environment including Climate Changes

The United Nations adopted the 2030 Agenda for Sustainable Development Goals (“SDGs”) on September 25, 2015, under the UN Sustainable Development Summit. SDGs cover global issues to be addressed for transforming the world toward sustainable development over the next 11 years, which are composed of 17 goals and 169 targets. The goals and targets cover a wide-range global issues, including the environmental areas such as climate change, sustainable energy, efficient use of natural resources and reduction of waste. Based upon the SDGs, member states will introduce national policies and initiatives to tackle such global environmental issues, and Canon may need to implement further actions to respond to potential national initiatives.

The Paris Agreement on climate change was adopted in 2015 and entered into force in 2016. The Agreement relates to a common future framework beyond 2020 to address climate change. In the Agreement, all

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member states of UNFCCC agreed to take countermeasures to hold Global temperature rise to well below 2 degrees Celsius above pre-industrial levels and to pursue efforts to limit the temperature rise to 1.5 degrees Celsius.

Upon the Agreement, Canon is further striving to reduce CO2 emissions toward the low-carbon society. Canon has established 2019-2021 Mid-Term Environmental Goals and monitors its progress to be reported to its Management for review on a yearly basis. Canon is implementing initiatives to achieve these goals, which focus on “Lifecycle CO2 emissions improvement index per product by average 3% improvement”, “Raw materials and usage CO2 emissions improvement index per product by average 3% improvement”, and “Improve energy consumption basic unit at operational sites by 1.2% (compared to the previous year)”. Canon has successfully reduced its “Life Cycle CO2 emission” per product, that was an average improvement of 5.0% (2008-2018) and cumulative 37.7% as compared with 2008. Also, total lifecycle CO2 emissions in 2018 were 7,043 million tons. Further, Canon continues to reduce its “Life Cycle CO2 emission” per product, that was an average improvement of 4.7% (2008-2019) and cumulative 40.0% as compared with 2008. Total lifecycle CO2 emissions in 2019 were 6,088 million tons, which were verified by a third party in March 2020.

Canon continues to pursue CO2 emission reductions both locally and globally through energy-efficient product design and improvement of logistics and factory operations.

As for the environmental information disclosure, Canon considers the disclosure items recommended by the Financial Stability Board (FSB), Task Force on Climate-related Financial Disclosures (TCFD) in the Canon Sustainability Report. Further, Canon discloses climate-related information through a platform of the CDP.

2. European Union Directive on the Restriction of the Use of Certain Hazardous Substances in Electrical and Electronic Equipment (“the RoHS Directive”)

Under RoHS Directive, from July 1, 2006, companies have been required to ensure that electrical and electronic equipment (“EEE”) sold in the European Union does not contain lead, cadmium, hexavalent chromium, mercury, polybrominated biphenyls or polybrominated diphenyl ethers. The scope of products covered was expanded to include medical and measurement equipment starting in July 2014. New subsidiary directive of RoHS Directive restricting an additional four substances, Bis (2-ethylhexyl) phthalate (“DEHP”), Butyl benzyl phthalate (“BBP”), Dibutyl phthalate (“DBP”) and Diisobutyl phthalate (“DIBP”), was published in June 2015, and these substances have been restricted starting in July, 2019. In 2018, study for more additional restricted substances was started, and the preparatory study for the next recast of RoHS was started in 2019. In parallel with these developments, all the RoHS exempted applications for which the restricted substances can be used are now under review. If these exemptions expire and/or additional substances are restricted in the future, additional design changes may be required for Canon products, and cost of changing designs may increase total compliance costs.

3. European Framework for the Management of Chemical Substances (“REACH Regulation”)

The REACH Regulation was implemented in 2007. This regulation covers almost all chemicals (products in gaseous, liquid, paste or powder form) and articles (products in solid state) manufactured in or imported into the European Union. All chemicals manufactured in or imported into the European Union that exceed specific content thresholds must be registered. If certain substances of very high concern are contained in an article, the substances must be communicated to the recipient or consumer of the article. In addition, such information will have to be registered on the new EU database under Waste Framework Directive from January 2021. Canon is now preparing a scheme which make necessary information input to the database. Furthermore, additional restrictions on the use of certain substances can be proposed at any time by the ECHA (European Chemical Agency) or member states, and, some of them have been already adopted and others are now under discussion, manufacturers such as Canon must take steps to address such new restrictions.

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Canon keeps meeting these existing and newly-added requirements under the REACH Regulation, and their implementation could increase Canon’s management costs and have adverse effects on its operating results and financial condition.

4. The European Framework for the Setting of Requirements for Energy-Related Products (“ErP Directive”)

The ErP Directive applies in Europe to all energy-using products, and implementing measures with respect to off-mode and standby mode and external power supplies were adopted in and have been applied since 2010. This measure was expanded in 2013 to include requirements for energy modes with “networked standby”. The requirements for “networked standby” were applied from 2015. The revised implementing regulation for external power supplies was published in Nov. 2019 and will be implemented from April 2020. For imaging equipment, the industry made a public commitment to attain certain targets on environmentally conscious designs from 2012 by an industrial voluntary agreement (“VA”) and began implementation in 2011. Currently the VA is under review, and commitments may become tighter than ever from 2020, because the European authorities and NGOs are expected to require a stricter VA including resource efficiency-related criteria. In addition, many new or revised implementing measures (expanded both in scope and requirements) are now considered, and some of them will cover Canon’s products. Canon is continuing to comply with requirement under the ErP Directive. However, the requirements are expected to be challenging, and achieving compliance will likely increase Canon’s costs, especially by required design changes.

5. State Legislation in the United States Concerning Recycling of Waste Electric and Electronic Products

E-waste recycling laws have been enacted or proposed in more than twenty American states. Although most such laws cover only displays or television sets, printers and other products are covered by some states, such as Illinois, Michigan and Hawaii, among others. These laws require manufacturers to bear the costs of collecting and recycling electrical and electronic equipment based on sales volume or market share by brand of covered products. Canon expects that compliance with such state requirements might increase its costs, such as recycling fees and product guarantees.

6. Chinese Administrative Measures on the Control of Pollution Caused by Electrical and Electronic Products

The Chinese Ministry of Information Industry revised Administrative Measures on the Control of Pollution Caused by Electrical and Electronic Products in January 2016, and regulates the same six substances covered by the EU RoHS in electrical and electronic products. The measures establish two stages of implementation. Stage 1 is in effect and covers all Canon products. To comply with Stage 1 requirements, a China-specific label must be placed on any covered product if any of the six regulated substances are contained therein, and use of the six regulated substances must be disclosed in each product manual. Stage 2 requires that the contents of six regulated substances in specific (as specified by the Chinese Government in the “Compliance catalog”) be restricted by limitations similar to the EU RoHS Directive. The “Compliance catalog” including printers, copying machines and facsimile machines was published on March 12, 2018. The Conformity Assessment System for products covered by the “Compliance catalog” was published on May 16, 2019, which entered into force on November 1, 2019. Canon is continuing to comply with requirement.

The requirements may increase Canon’s costs and have an adverse effect on its operating results and financial condition

7. Chinese Regulation for the Management of the Recycling and Disposal of Waste Electrical and Electronic Products

The Regulation for the Management of the Recycling and Disposal of Waste Electrical and Electronic Products was issued by the Chinese government in 2009 and implemented on January 1, 2011. Producers and importers are required to pay a fee to a government fund. The list of products falling under the waste electrical and electronic products catalogue issued on February 9, 2015 includes printers, copying machines and facsimile machines. Those payment fees are under discussion by the Chinese government.

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These requirements will likely increase Canon’s costs and could adversely affect its operating results and financial condition.

8. Soil Pollution Prevention Law of Japan

A 2010 amendment to the Soil Pollution Prevention Law of Japan tightens certain requirements to survey soil to measure certain pollution levels. If soil pollution exceeds specified limits, a prefecture governor may designate the land as a “Measure required area” if effects to human health due to soil pollution are foreseen, and the prefecture governor may order removal of pollutants. The substances designated as pollutants consist of twenty-six chemical groups, including lead, arsenic and trichloroethylene. If an investigation shows that soil contamination may affect human health, the prefecture governor may issue an order to the landowner to take designated remedial actions and may restrict the changes of the land character. Canon has commenced a detailed survey and measurement of soil and groundwater to check for pollution at all of Canon’s operational sites in Japan, and necessary procedures are being carrying out. Additional costs may arise if these investigations reveal that additional remedial measures are necessary. These factors could adversely affect Canon’s operating results and financial condition.

9. Other Environmental Regulations

In addition to the laws described above, various environmental laws and regulations may have been promulgated or enacted by European Union member states, states of the United States, emerging markets such as China, India, Russia, Vietnam, and other countries. Compliance with any such additional regulations may increase Canon’s costs and may adversely affect Canon’s operating results and financial condition.

Other regulations

Disclosure under Section 13(r) of the Securities Exchange Act of 1934

Section 219 of the Iran Threat Reduction and Syria Human Rights Act of 2012 (“ITRA”) added Section 13(r) to the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Section 13(r) requires an issuer to disclose in its annual or quarterly reports, as applicable, whether, during the reporting period, it or any of its affiliates knowingly engaged in certain activities, transactions or dealings relating to Iran or with designated natural persons or entities involved in terrorism or the proliferation of weapons of mass destruction. 

Disclosure is required even where the activities, transactions or dealings are conducted outside the U.S. by non-U.S. affiliates in compliance with applicable law, and whether or not the activities are sanctionable under U.S. law.

During the year ended December 31, 2019, the following Canon affiliates engaged in the transactions described below that are required to be disclosed pursuant to Section 13(r) of the Exchange Act. These transactions were conducted in compliance with applicable law in the respective countries.

• CMSC, a wholly-owned Japanese subsidiary of Canon Inc., had indirect sales transactions through independent distributors in Istanbul, Turkey, Sharjah, United Arab Emirates and Tehran, Iran for computed tomography, diagnostic ultrasound systems and service parts for those products with hospitals in Iran. It is our understanding that Iranian hospitals are owned or controlled by the Government of Iran (central or local government) and that their purchases are controlled through an agency of the Iranian Ministry of Health and Medical Education. Total gross sales under these contracts during the year 2019 were approximately ¥142,431 thousand. The net profit was substantially less than that.

As of the date of this report, Canon is not aware of any other activity, transaction or dealing by us or any of our affiliates during the year ended December 31, 2019 that requires disclosure in this report under Section 13(r)

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of the Exchange Act. Canon maintains policies and procedures designed to ensure that transactions, including transactions with Iranian counterparties, are conducted in accordance with applicable economic sanction laws and regulations.

In addition, CMSC has indirect sales of medical equipment to unaffiliated distributors in Japan, which distribute the equipment to hospitals in Syria and Sudan through unaffiliated third parties. Canon does not have any direct agreements, commercial arrangements, or other contacts with the governments of Syria or Sudan, or with entities controlled by those governments. Total net sales to Syria and Sudan in the year ended December 2019 was one-tenth of one percent (0.1%) or less of Canon’s total consolidated net sales for that period. Canon does not believe the transactions with Syria and Sudan are material, either individually or in the aggregate, in quantitative or in qualitative terms.

C. Organizational structure

Canon Inc. and its subsidiaries and affiliates form a group of which Canon Inc. is the parent company. As of December 31, 2019, Canon Inc. had 361 consolidated subsidiaries and 8 affiliated companies accounted for by the equity method.

The following table lists the significant subsidiaries owned by Canon, all of which are consolidated as of December 31, 2019.

Name of company	Head office location	Proportion of ownership interest owned			Proportion of voting power held
Canon Marketing Japan Inc.	Tokyo, Japan		50.1	%		58.5	%
Canon U.S.A., Inc.	New York, U.S.A.		100.0	%		100.0	%
Canon Europa N.V.	Amstelveen, The Netherlands		100.0	%		100.0	%
Canon Medical Systems Corporation	Tochigi, Japan		100.0	%		100.0	%

D. Property, plants and equipment

Canon’s manufacturing is conducted primarily at 29 plants in Japan and 14 plants in other countries. Canon owns all of the buildings and the land on which its plants are located, with the exception of certain immaterial leases of land and floor space of certain of its subsidiaries. The names and locations of Canon’s plants and other facilities, their approximate floor space and the principal activities and products manufactured therein as of December 31, 2019 are as follows:

Name and location	Floor space (including leased space)		Principal activities and products manufactured
Domestic	(Thousands of square feet)
Headquarters, Tokyo		2,564	R&D, corporate administration and other functions
Canon Global Management Institute, Tokyo		166	Training and administration
Kawasaki Office, Kanagawa		1,882	R&D and manufacturing of production equipment and semiconductor devices; R&D of laser printers and toner cartridges
Kosugi Office, Kanagawa		378	Development of medical equipment ,Human resources development training (except for technical training)

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Name and location	Floor space (including leased space)		Principal activities and products manufactured
Domestic	(Thousands of square feet)
Fuji-Susono Research Park, Shizuoka		932	R&D in electrophotographic technologies
Ayase Plant, Kanagawa		394	R&D and manufacturing of semiconductor devices
Hiratsuka Plant, Kanagawa		879	R&D of display products and manufacturing of semiconductor devices
Tamagawa Office, Kanagawa		384	Quality engineering
Oita Plant, Oita		402	Manufacturing of semiconductor devices
Yako Office, Kanagawa		906	Development of inkjet printers, inkjet chemical products
Utsunomiya Office, Tochigi		2,764	Manufacturing of lenses for cameras and other applications, R&D in optical technologies, development and sales of broadcasting equipment, R&D, manufacturing, sales and servicing of semiconductor production equipment
Toride Plant, Ibaraki		3,018	R&D in electrophotographic technologies, mass-production trials and supports; manufacturing of office imaging products, chemical products; training of manufacturing
Ami Plant, Ibaraki		971	Manufacturing of FPD production equipment
Canon Electronics Inc., Tokyo, Saitama and Gunma		1,310	Components, magnetic heads, document scanners and laser printers
Canon Finetech Nisca Inc., Saitama, Ibaraki and Yamanashi		1,104	Label printer, Card printer, Optical equipment, Motor
Canon Precision Inc., Aomori		1,587	Toner cartridges, sensors and micromotors
Canon Optron Inc., Ibaraki		144	Optical crystals (for lithography equipments, cameras, telescopes) and vapor deposition materials
Canon Chemicals Inc., Ibaraki		1,920	Toner cartridges and rubber functional components
Canon Components, Inc., Saitama		723	Contact image sensors, inkjet cartridges and medical equipment
Oita Canon Inc., Oita		2,106	Digital cameras, lenses and digital video camcorders
Nagahama Canon Inc., Shiga		1,095	Laser printers, toner cartridges and A-Si drums
Oita Canon Materials Inc., Oita		3,130	Chemical products for copying machines and printers, and inkjet cartridges
Ueno Canon Materials Inc., Mie		654	Chemical products for copying machines and printers
Fukushima Canon Inc., Fukushima		1,310	Inkjet printers and inkjet cartridges

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Name and location	Floor space (including leased space)		Principal activities and products manufactured
Domestic	(Thousands of square feet)
Canon Semiconductor Equipment Inc., Ibaraki		232	Development and production of semiconductor production-related equipment
Canon Ecology Industry Inc., Ibaraki		989	Recycling of toner cartridges, repair and recycling of business machines
Fukui Canon Materials Inc., Fukui		191	OPC raw stock, material for optics, High water-repellent material
Miyazaki Canon Inc., Miyazaki		831	Digital cameras
Canon Mold Co., Ltd., Ibaraki		220	Molds
Canon ANELVA Corporation, Kanagawa and Yamanashi		760	Production equipment for electron devices, flat panel display and semiconductors
Canon Machinery Inc., Shiga		697	Automated production equipment and semiconductor production-related equipment
Canon Tokki Corporation, Niigata, Kanagawa and Tokyo		386	Vacuum technology-related equipment
Nagasaki Canon Inc., Nagasaki		477	Digital cameras
Canon Medical Systems Corporation, Tochigi		1,423	R&D, manufacturing and sales of medical equipment
Canon Electron Tubes & Devices Corporation, Tochigi		357	R&D, manufacturing and sales of electron tubes and its application products
Overseas
Europe
Canon Giessen GmbH, Giessen, Germany		348	Remanufacturing of copying machines, repair of cameras, service and support for Canon sales companies
Canon Bretagne S.A.S., Liffre, France		505	Manufacturing and recycling of toner cartridges
Océ-Technologies B.V., Venlo, the Netherlands*1		2,189	Document management, digital sheet-fed presses and wide format printers
Americas
Canon Virginia, Inc., Virginia, U.S.		1,546	Toner cartridges, molds and remanufacturing of copying machines
Asia
Canon Inc., Taiwan, Taiwan		1,597	Lenses and digital cameras
Canon Opto (Malaysia) Sdn. Bhd., Selangor, Malaysia		611	Lenses and optical lens parts
Canon Dalian Business Machines, Inc., Dalian, China		1,721	Production and recycling of toner cartridges, production of laser printers

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Name and location	Floor space (including leased space)		Principal activities and products manufactured
Overseas	(Thousands of square feet)
Canon Zhuhai, Inc., Zhuhai, China		1,722	Digital cameras, digital video camcorders and contact image sensors
Canon Prachinburi (Thailand) Ltd., Prachinburi, Thailand		1,268	Copying machines
Canon Hi-Tech (Thailand) Ltd., Ayutthaya and Nakohon Ratchasima, Thailand		3,274	Inkjet printers, office MFDs, scanners, molds and plastic injection molded parts
Canon Zhongshan Business Machines Co., Ltd., Zhongshan, China		52	Laser printers
Canon Vietnam Co., Ltd., Hanoi, Vietnam		3,368	Inkjet printers, laser printers, office MFDs, scanners and contact image sensors
Canon (Suzhou) Inc., Suzhou, China		1,528	Copying machines
Canon Business Machines (Philippines), Inc., Batangas, Philippines		893	Laser printers

Canon considers its manufacturing and other facilities to be well maintained and believes that its plant capacity is adequate for its current requirements. None of the buildings or land are subject to any major encumbrances.

Note:

1. Océ-Technologies B.V. was renamed as Canon Production Printing Netherlands B.V. on January 1, 2020.

Main facilities under construction for establishment/expansion

Name and location	Principal activities and products manufactured
Domestic
Canon Inc., Ibaraki	New Storage (Headquarters Operations)

Item 4A. Unresolved Staff Comments

None.

Item 5. Operating and Financial Review and Prospects

A. Operating Results

The following discussion and analysis provides information that management believes to be relevant to understanding Canon’s consolidated financial condition and results of operations.

Overview

Canon is one of the world’s leading manufacturers of office MFDs, plain paper copying machines, laser printers, cameras, inkjet printers, medical equipment, semiconductor lithography equipment and FPD lithography equipment. Canon earns revenues primarily from the manufacture and sale of these products domestically and internationally. Canon’s basic management policy is to contribute to the prosperity and well-being of the world while endeavoring to become a truly excellent global corporate group targeting continued growth and development.

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Canon divides its businesses into four segments: the Office Business Unit, the Imaging System Business Unit, the Medical System Business and the Industry and Others Business Unit.

Economic environment

Looking back at the global economy in 2019, the U.S. economy continued to grow thanks to solid consumer spending based on the strong employment environment and changes in monetary policy, despite signs of a slowdown in manufacturing industries. The European economy was soft amid sluggish exports and concerns over the U.K. leaving the EU. As for the Chinese economy, despite holding discussions with the United States on trades and reaching an agreement in the first stage, the rate of economic growth dropped due to decreases in exports and capital investment caused by prolonged trade friction with the United States. As for other emerging markets, economic growth slowed due to sluggish external demand and weak pricing of natural resources. In Japan, while the employment situation remained strong, the economic recovery was modest due to a drop in manufacturing activity caused by sluggish external demand. On a global basis, the economic slowdown continued.

Market environment

Amid these conditions, in the markets in which Canon operates, demand for office MFDs was in line with the previous year, despite solid demand for color models, and due to lower demand for monochrome models. As for laser printers, demand decreased due to the impact of economic slowdowns in China and other countries. The market for cameras continued to shrink. Demand for inkjet printers continued to shrink in developed markets and remained sluggish in emerging markets due to economic slowdowns. On the other hand, although demand for medical equipment continued to recover in Japan, overall demand was in line with the previous year, mainly owing to currency depreciation and economic slowdowns in some emerging markets. While customers continued efforts to restrain capital investment in the industrial equipment market, demand for network cameras continued to expand.

The average value of the yen for the year was ¥109.03 against the U.S. dollar, a year-on-year appreciation of approximately ¥1, and ¥122.03 against the euro, a year-on-year appreciation of approximately ¥8.

Summary of operations

In 2019, overall unit sales of office MFDs increased slightly compared with the previous year, despite a decline in monochrome models, and thanks to market exceeding growth in color models. As for laser printers, although sales for new models were strong, overall unit sales decreased compared with the previous year, due to slowdowns in sales of low-speed models. While Canon firmly maintained the top market share position, overall unit sales of interchangeable-lens digital cameras decreased compared with the previous year, owing to the shrinking market. Looking at inkjet printers, despite expanding sales of refillable ink tank models, overall unit sales decreased compared with the previous year. With regard to medical equipment, although domestic sales remained solid thanks to a strengthened product lineup, worldwide sales grew only slightly due to a first-quarter slowdown in overseas sales. As for industrial equipment, sales of lithography equipment and OLED panels manufacturing equipment decreased compared with the previous year due to efforts to restrain capital investment in semiconductor memory and small- and medium-size display panels. On the other hand, sales of network cameras increased steadily thanks to their broadening use in various areas. Under these conditions, net sales for the year decreased by 9.1% year on year to ¥3,593,299 million. In addition, the gross profit ratio dropped by 1.6 points to 44.8%. Operating expenses decreased by 3.8% year on year to ¥1,435,366 million, thanks to the pursuit of cost efficiencies in Canon as well as positive effects of currency exchange fluctuation. As a result, operating profit decreased by 49.1% to ¥174,667 million. Other income (deductions) increased by ¥1,133 million, mainly due to currency exchange gains and losses compared with the previous year, while income before income taxes decreased by 46.1% year on year to ¥195,740 million and net income attributable to Canon Inc. decreased by 50.5% to ¥125,105 million.

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Total assets decreased by ¥131,114 million to ¥4,768,351 million at December 31, 2019, compared with the end of previous year, mainly due to a decrease of cash and cash equivalents, and accounts receivables. Total liabilities decreased by ¥5,119 million to ¥1,876,433 million at December 31, 2019, compared with the end of previous year, mainly due to a decrease of accounts payables and accrued income tax. Total equity decreased by ¥125,995 million to ¥2,891,918 million at December 31, 2019, compared with the end of previous year, mainly due to the dividend payout, the repurchasing of treasury stock and an increase of accumulated other comprehensive loss resulting from the appreciation of the yen.

Key performance indicators

The following are the key performance indicators (“KPIs”) that Canon uses in managing its business. The changes from year to year in these KPIs are set forth in the table shown below.

KEY PERFORMANCE INDICATORS

	2019			2018			2017			2016			2015
Net sales (Millions of yen)		3,593,299			3,951,937			4,080,015			3,401,487			3,800,271
Gross profit to net sales ratio		44.8	%		46.4	%		48.8	%		49.2	%		50.8	%
R&D expense to net sales ratio		8.3	%		8.0	%		8.2	%		9.0	%		8.8	%
Operating profit to net sales ratio		4.9	%		8.7	%		7.9	%		6.4	%		9.0	%
Income before income taxes to net sales ratio		5.4	%		9.2	%		8.7	%		7.2	%		9.1	%
Inventory turnover measured in days		59 days			56 days			49 days			59 days			47 days
Debt to total assets ratio		10.8	%		8.2	%		10.2	%		11.9	%		0.0	%
Canon Inc. shareholders’ equity to total assets ratio		56.5	%		57.7	%		55.2	%		54.2	%		67.0	%

Notes:

1. Inventory turnover measured in days is determined by: Inventory divided by net sales for the previous six months, multiplied by 182.5. The increase of inventory turnover in 2016 was primarily due to the acquisition of CMSC on December 19, 2016. If this factor were excluded, the inventory turnover would show 50 days.

2. The increase of the debt to total assets ratio in 2019 was primarily due to adopting new accounting standard ASU No. 2016-02, Leases (Topic 842) Section A. The company includes current operating lease liability and noncurrent operating lease liability as the debt since 2019. If this factor were excluded, the debt to total assets ratio in 2019 is 8.6%. Please refer to Note 1 (x) for more detailed information.

3. The decrease of the Canon Inc. shareholders’ equity to total assets ratio in 2019 was primarily due to adopting new accounting standard ASU No. 2016-02, Leases (Topic 842) Section A. The company includes operating lease right-of-use assets in total assets since 2019. If this factor were excluded, Canon Inc. shareholders’ equity to total assets ratio is 57.9%. Please refer to Note 1 (x) for more detailed information.

4. See notes to Item 3A “Selected Financial Data”.

Net sales and profit ratio

As Canon pursues the goal to become a truly excellent global company, one indicator upon which Canon’s management places strong emphasis is revenue. The following are some of the KPIs related to revenue that management considers to be important.

Net sales is one such KPI. Canon derives net sales primarily from the sale of products and, to a lesser extent, provision of services associated with its products. Sales vary depending on such factors as product demand, the

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number and size of transactions within the reporting period, market acceptance for new products, and changes in sales prices. Other factors involved are market share and market environment. In addition, management considers the evaluation of net sales by segment to be important for the purpose of assessing Canon’s sales performance in various segments, taking into account recent market trends.

Gross profit ratio (ratio of gross profit to net sales) is another KPI for Canon. Through its reforms of product development, Canon has been striving to shorten product development lead times in order to launch new, competitively priced products at a faster pace. Furthermore, Canon has further pursued cost reductions through enhancement of efficiency in its production. Canon believes that these approaches will cause improving Canon’s gross profit ratio, and it will continue pursuing the curtailment of product development lead times and reductions of production costs.

Operating profit ratio (ratio of operating profit to net sales), income before income taxes ratio (ratio of income before income taxes to net sales), and R&D expense to net sales ratio are considered to be KPIs by Canon. Canon is focusing on two areas for improvement. Canon is striving to control and reduce its selling, general and administrative expenses as its first key point. Secondly, Canon’s R&D policy is designed to maintain adequate spending in core technology to sustain Canon’s leading position in its current business areas and to exploit opportunities in other markets. Canon believes such investments will create the basis for future success in its business and operations.

Cash flow management

Canon also places significant emphasis on cash flow management. The following are the KPIs relating to cash flow management that Canon’s management believes to be important.

Inventory turnover measured in days is a KPI because it measures the efficiency of supply chain management. Inventories have inherent risks of becoming obsolete, physically damaged or otherwise decreasing significantly in value, which may adversely affect Canon’s operating results. To mitigate these risks, management believes that it is crucial to continue reducing work-in-process inventories by decreasing production lead times in order to promptly recover related product expenses, while balancing risks of supply chain disruptions by optimizing finished goods inventories in order to avoid losing potential sales opportunities.

The debt to total assets ratio is also one of the KPIs. For a manufacturing company like Canon, it generally takes considerable time to realize profit from a business due to lead times required for R&D, manufacturing and sales has to be followed for success. Therefore, management believes that it is important to have sufficient financial strength. Canon will continue to reduce its dependency on external funds for capital investments in favor of generating the necessary funds from its own operations.

Canon Inc. shareholders’ equity to total assets ratio is another KPI for Canon. Canon believes that its shareholders’ equity to total assets ratio measures its long-term sustainability. Canon also believes that achieving a high or rising shareholders’ equity ratio indicates that Canon has maintained a strong financial position or further improved its ability to fund debt obligations and other unexpected expenses. In the long-term, Canon’s management believes a high shareholders’ equity ratio will enable Canon to maintain a high level of stable investments for its future operations and development. As Canon puts strong emphasis on its R&D activities, management believes that it is important to maintain a stable financial base and, accordingly, a high level of its shareholders’ equity to total assets ratio.

Critical accounting policies and estimates

The consolidated financial statements are prepared in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”) and based on the selection and application of significant accounting policies which require management to make significant estimates and assumptions. These estimates and assumptions include

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future market conditions, net sales growth rate, gross margin and discount rate. Though Canon believes that the estimates and assumptions are reasonable, actual future results may differ from these estimates and assumptions. Canon believes that the following are the more critical judgment areas in the application of its accounting policies that currently affect its financial condition and results of operations.

Revenue recognition

Canon generates revenue principally through the sale of office, imaging system and medical system products, industrial equipment, supplies and related services under separate contractual arrangements. Revenue is recognized when, or as, control of promised goods or services transfers to customers in an amount that reflects the consideration to which Canon expects to be entitled in exchange for transferring these goods or services.

Revenue from sales of office products, such as office MFDs and laser printers, and imaging system products, such as digital cameras and inkjet printers, is recognized upon shipment or delivery, depending upon when the customer obtains controls of these products.

Revenue from sales of equipment that are sold with customer acceptance provisions related to their functionality including optical equipment such as semiconductor lithography equipment and FPD lithography equipment, and certain medical equipment such as CT systems and MRI systems, is recognized when the equipment is installed at the customer site and the agreed-upon specifications are objectively satisfied.

Most of Canon’s service revenue is generated from office and medical system products which is recognized over time. For the service contracts of office products, the customer typically pays a variable amount based on usage, a stated fixed fee or a stated base fee plus a variable amount which frequently include the provision of consumables as well as break fix activities. The majority portion of service revenue from the office products is recognized as billed since the invoiced amount directly correlates with the value to the customer of the underlying performance obligation to date. For the service contracts of medical system products, the customer typically pays a stated fixed fee for the stand ready maintenance service and revenue is recognized ratably over the contract period.

The majority of service arrangements for office products are executed in combination with related products. Transaction prices for products and services need to be allocated to each performance obligation on a relative standalone selling price basis where judgements are required. Canon estimates the standalone selling price using a range of prices that would meet the allocation objective based on all the information that is reasonably available including market conditions and other observable inputs. If transaction prices of the product or service contracts are not within the acceptable range then the revenue is subject to allocation based on the estimated standalone selling prices. Canon recognizes the incremental costs of obtaining a contract as an expense when related office products are sold.

The transaction prices that Canon is entitled to receive in exchange for transferring goods or services to the customer include certain forms of variable consideration, including product discounts, customer promotions and volume-based rebates mainly for imaging system products, which are sold predominantly through distributors and retailers. Canon includes estimated amounts in the transaction price only to the extent it is probable that a significant reversal of cumulative revenue recognized will not occur when the uncertainty associated with the variable consideration is resolved. Variable considerations are estimated based upon historical trends and other known factors at the time of sale, and are subsequently adjusted in each period based on current information. In addition, Canon may provide a right of return on our products for a short time period after a sale. These rights are accounted for as variable consideration when determining the transaction price, and accordingly Canon recognizes revenue based on the estimated amount to which Canon expects to be entitled after considering expected returns.

Taxes collected from customers and remitted to governmental authorities are excluded from revenues in the consolidated statements of income.

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Allowance for doubtful receivables

Allowance for doubtful receivables is determined using a combination of factors to ensure that Canon’s trade and financing receivables are not overstated due to uncollectibility. These factors include the length of time receivables are past due, the credit quality of customers, macroeconomic conditions and historical experience. Also, Canon records specific reserves for individual accounts when Canon becomes aware of a customer’s inability to meet its financial obligations to Canon, due for example to bankruptcy filings or deterioration in the customer’s operating results or financial position. If circumstances related to customers change, estimates of the recoverability of receivables are further adjusted.

Valuation of inventories

Inventories are stated at the lower of cost or net realizable value. Cost is determined by the average method for domestic inventories and principally the first-in, first-out method for overseas inventories. Net realizable value is the estimated selling price in the ordinary course of business less the estimated costs of completion and the estimated costs necessary to make a sale. Canon routinely reviews its inventories for their salability and for indications of obsolescence to determine if inventories should be written-down to market value. Judgments and estimates must be made and used in connection with establishing such allowances in any accounting period. In estimating the net realizable value of its inventories, Canon considers the age of the inventories and the likelihood of spoilage or changes in market demand for its inventories.

Impairment of long-lived assets

Long-lived assets, such as property, plant and equipment, and acquired intangibles subject to amortization, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. If the carrying amount of the asset exceeds its estimated undiscounted future cash flows, an impairment charge is recognized in the amount by which the carrying amount of the asset exceeds the fair value of the asset. Determining the fair value of the asset involves the use of estimates and assumptions.

Property, plant and equipment

Property, plant and equipment are stated at cost. Depreciation is calculated principally by the declining-balance method, except for certain assets which are depreciated by the straight-line method over the estimated useful lives of the assets.

Lease

Canon provides leasing arrangement to its customers primarily for the sales of office products. Revenue from the sale of these products under sales-type leases is recognized at the inception of the lease. Interest income on sales-type leases and direct-financing leases is recognized over the life of each respective lease using the interest method. Leases not qualifying as sales-type leases or direct-financing leases are accounted for as operating leases and related revenue is recognized ratably over the lease term. When product leases are bundled with maintenance contracts, revenue is allocated based upon the estimated standalone selling prices of the lease and non-lease components. Lease components generally include product and financing while non-lease components generally consist of maintenance contracts and supplies. Some of the contracts include options to extend or to terminate the lease. Canon takes such options into account to determine the lease term when it is reasonably certain that it will exercise these options. The majority of Canon’s lease contracts do not contain bargain purchase options for their customers.

Business combinations

Acquisitions are accounted for using the acquisition method of accounting. The acquisition method of accounting requires the identification and measurement of all acquired tangible and intangible assets and

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assumed liabilities at their respective fair values, as of the acquisition date. The determination of the fair value of net assets acquired involves significant judgment and estimates, such as future cash flow projections, appropriate discount and capitalization rates and other estimates based on available market information. Estimates of future cash flows are based on a number of factors including operating results, known and anticipated trends, as well as market and economic conditions.

Goodwill and other intangible assets

Goodwill and other intangible assets with indefinite useful lives are not amortized, but are instead tested for impairment annually in the fourth quarter of each year, or more frequently if indicators of potential impairment exist. All goodwill is assigned to the reporting unit or units that benefit from the synergies arising from each business combination. If the carrying amount assigned to the reporting unit exceeds the fair value of the reporting unit, Canon recognizes an impairment charge in an amount equal to that excess, limited to the total amount of goodwill allocated to that reporting unit. Fair value of a reporting unit is determined primarily based on the discounted cash flow analysis which involves estimates of projected future cash flows and discount rates. Estimates of projected future cash flows are primarily based on Canon’s forecast of future growth rates. Estimates of discount rates are determined based on the weighted average cost of capital, which considers primarily market and industry data as well as specific risk factors. Canon has completed its impairment test in the fourth quarter of 2019 and determined that there were no reporting units that were at risk of failing the impairment test as the fair value of each reporting unit exceeded its respective carrying amount. However, with regard to goodwill attributed to commercial printing business included in the Office Business Unit for which the impairment charge of ¥33,912 million was recognized for the year ended December 31, 2017 and goodwill attributed to the Medical System Business Unit, fair values in excess of reported carrying values as a percentage are lower than other reporting units. As a result, a future reduction in cash flows of the related business, could trigger an impairment. The goodwill related to these reporting units as of December 31, 2019 are ¥27,205 million and ¥508,907 million, respectively. Intangible assets with finite useful lives consist primarily of software, trademarks, patents and developed technology, license fees and customer relationships, which are amortized using the straight-line method. The estimated useful lives of software are from 3 years to 8 years, trademarks are 15 years, patents and developed technology are from 7 years to 17 years, license fees are 7 years, and customer relationships are from 8 years to 15 years, respectively.

Income tax uncertainties

Canon considers many factors when evaluating and estimating income tax uncertainties. These factors include an evaluation of the technical merits of the tax positions as well as the amounts and probabilities of the outcomes that could be realized upon settlement. The actual resolutions of those uncertainties will inevitably differ from those estimates, and such differences may be material to the financial statements.

Valuation of deferred tax assets

Canon currently has significant deferred tax assets, which are subject to periodic recoverability assessments. Realization of Canon’s deferred tax assets is principally dependent upon its achievement of projected future taxable income. Canon’s judgments regarding future profitability may change due to future market conditions, its ability to continue to successfully execute its operating restructuring activities and other factors. Any changes in these factors may require possible recognition of significant valuation allowances to reduce the net carrying value of these deferred tax asset balances. When Canon determines that certain deferred tax assets may not be recoverable, the amounts, which may not be realized, are charged to income tax expense and will adversely affect net income.

Employee retirement and severance benefit plans

Canon has significant employee retirement and severance benefit obligations that are recognized based on actuarial valuations. Inherent in these valuations are key assumptions, including discount rates and expected

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return on plan assets. Management must consider current market conditions, including changes in interest rates, in selecting these assumptions. Other assumptions include assumed rate of increase in compensation levels, mortality rate, and withdrawal rate. Changes in assumptions inherent in the valuation are reasonably likely to occur from period to period. Actual results that differ from the assumptions are accumulated and amortized over future periods and, therefore, generally affect future pension expenses. While management believes that the assumptions used are appropriate, the differences may affect employee retirement and severance benefit costs in the future.

In preparing its financial statements for 2019, Canon estimated a weighted-average discount rate used to determine benefit obligations of 0.5% for Japanese plans and 1.6% for foreign plans and a weighted-average expected long-term rate of return on plan assets of 3.0% for Japanese plans and 5.2% for foreign plans. In estimating the discount rate, Canon uses available information about rates of return on high-quality fixed-income government and corporate bonds currently available and expected to be available during the period to the maturity of the pension benefits. Canon establishes the expected long-term rate of return on plan assets based on management’s expectations of the long-term return of the various plan asset categories in which it invests. Management develops expectations with respect to each plan asset category based on actual historical returns and its current expectations for future returns.

Decreases in discount rates lead to increases in actuarial pension benefit obligations which, in turn, could lead to an increase in service cost and amortization cost through amortization of actuarial gain or loss, a decrease in interest cost, and vice versa. For 2019, a decrease of 50 basis points in the discount rate increases the projected benefit obligation by approximately ¥97,614 million. The net effect of changes in the discount rate, as well as the net effect of other changes in actuarial assumptions and experience, is deferred until subsequent periods.

Decreases in expected returns on plan assets may increase net periodic benefit cost by decreasing the expected return amounts, while differences between expected value and actual fair value of those assets could affect pension expense in the following years, and vice versa. For 2019, a change of 50 basis points in the expected long-term rate of return on plan assets would cause a change of approximately ¥4,995 million in net periodic benefit cost. Canon multiplies management’s expected long-term rate of return on plan assets by the value of its plan assets to arrive at the expected return on plan assets that is included in pension expense. Canon defers recognition of the difference between this expected return on plan assets and the actual return on plan assets. The net deferral affects future pension expense.

Canon recognizes the funded status (i.e., the difference between the fair value of plan assets and the projected benefit obligations) of its pension plans in its consolidated balance sheets, with a corresponding adjustment to an accumulated other comprehensive income (loss), net of tax.

Recently Issued Accounting Guidance

Please refer to Note 1 of the Notes to Consolidated Financial Statements.

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Consolidated results of operations

2019 compared with 2018

Summarized results of operations for 2019 and 2018 are as follows:

	2019		Change			2018
	(Millions of yen, except per share
	amounts and percentage data)
Net sales
Products and Equipment		2,835,428		-11.2	%		3,194,724
Services		757,871		+0.1			757,213
		3,593,299		-9.1			3,951,937
Operating profit		174,667		-49.1			342,952
Income before income taxes		195,740		-46.1			362,892
Net income attributable to Canon Inc.		125,105		-50.5			252,755
Net income attributable to Canon Inc. shareholders per share:
Basic		116.93		-50.0			234.09
Diluted		116.91		-50.1			234.08

Note: See notes to Item 3A “Selected Financial Data”.

Sales

In the current business term, on a global basis, the economic slowdown continued. In such an environment, although each of Canon Group’s businesses endeavored to expand sales particularly with respect to new products, Canon’s consolidated net sales in 2019 totaled ¥3,593,299 million, a decrease of 9.1% from the previous year largely due to adverse effect of a shrinking market as well as unfavorable currency effects of foreign exchange rate fluctuation. Net sales of products and equipment totaled ¥2,835,428 million, a year-on-year decrease of 11.2%, while net sales of services totaled ¥757,871 million, a year-on-year increase of 0.1%.

Overseas operations are significant to Canon’s operating results and generated 75.7% of total net sales in 2019. Such sales are denominated in the applicable local currency and are subject to fluctuations in the value of the yen relative to those currencies. Despite efforts to reduce the impact of currency fluctuations on operating results, including localization of manufacturing in some regions along with procuring parts and materials from overseas suppliers, Canon believes such fluctuations have had and will continue to have a significant effect on its results of operations.

The average value of the yen during the year was ¥109.03 against the U.S. dollar, a year-on-year appreciation of approximately ¥1, and ¥122.03 against the euro, a year-on-year appreciation of approximately ¥8. The effects of foreign exchange rate fluctuations negatively affected net sales by approximately ¥90,729 million in 2019. This unfavorable impact consisted of approximately ¥19,828 million of unfavorable impact for the U.S. dollar denominated sales and unfavorable impact of ¥52,368 million for the euro denominated sales, and unfavorable impact of ¥18,533 million for other foreign currency denominated sales.

Cost of sales

Cost of sales principally reflects the cost of raw materials, parts and labor used by Canon in the manufacture of its products. A portion of the raw materials used by Canon is imported or includes imported materials. Many of these raw materials are subject to fluctuations in world market prices accompanied by fluctuations in foreign exchange rates that may affect Canon’s cost of sales. Other components of cost of sales include depreciation expenses, maintenance expenses, light and fuel expenses, and rent expenses. The ratios of cost of sales to net sales for 2019 and 2018 were 55.2% and 53.6%, respectively.

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Gross profit

Canon’s gross profit in 2019 decreased by 12.3% to ¥1,610,033 million from 2018. The gross profit ratio also dropped by 1.6 points to 44.8%.The decrease in the gross profit and gross profit ratio were mainly due to a decrease in sales and the negative effect of appreciation of the yen against other foreign currencies such as U.S. dollar and the euro.

Operating expenses

The major components of operating expenses are payroll, R&D, advertising expenses and other marketing expenses. Operating expenses decreased by 3.8% year on year to ¥1,435,366 million, thanks to the pursuit of cost efficiencies in Canon as well as positive effects of currency exchange fluctuation.

Operating profit

Operating profit in 2019 decreased by 49.1% from 2018 to a total of ¥174,667 million. The ratio of operating profit to net sales decreased by 3.8 points to 4.9% from 2018.

Other income (deductions)

Other income (deductions) for 2019 was ¥21,073 million, an increase of ¥1,133 million from 2018 mainly due to a decrease in foreign currency exchange losses.

Income before income taxes

Income before income taxes in 2019 was ¥195,740 million, a decrease of 46.1% from 2018, and constituted 5.4% of net sales.

Income taxes

Income taxes in 2019 decreased by ¥39,927 million from 2018. The effective tax rate for 2019 was 28.7%, which was lower than the statutory tax rate in Japan. This was mainly due to the tax credit for R&D expense.

Net income attributable to Canon Inc.

As a result, net income attributable to Canon Inc. in 2019 decreased by 50.5% to ¥125,105 million, which represents 3.5% of net sales.

Segment information

Canon operates four segments: the Office Business Unit, the Imaging System Business Unit, the Medical System Business Unit and the Industry and Others Business Unit.

• The Office Business Unit mainly includes office MFDs, laser MFPs, laser printers, digital continuous feed presses, digital sheet-fed presses, wide-format printers and document solutions.

• The Imaging System Business Unit mainly includes interchangeable-lens digital cameras, digital compact cameras, interchangeable lenses, Compact photo printers, inkjet printers, large format inkjet printers, commercial photo printers, image scanners and calculators.

• The Medical System Business Unit mainly includes digital radiography systems, diagnostic X-ray systems, CT systems, MRI systems, diagnostic ultrasound systems, clinical chemistry analyzers and ophthalmic equipment.

• The Industry and Others Business Unit mainly includes semiconductor lithography equipment, FPD lithography equipment, vacuum thin-film deposition equipment, OLED panel manufacturing equipment, die bonders, network cameras, digital camcorders, digital cinema cameras, multimedia projectors, broadcast equipment, micromotors, handy terminals and document scanners.

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Sales by segment

Please refer to the table of sales by segment in Note 22 of the Notes to Consolidated Financial Statements.

Canon’s sales by segment are summarized as follows:

	2019			Change			2018
	(Millions of yen, except percentage data)
Office		1,702,595			-5.8	%		1,807,301
Imaging System		807,414			-16.8			970,435
Medical System		438,525			+0.2			437,578
Industry and Others		737,945			-12.5			842,941
Eliminations		(93,180	)		—			(106,318	)
Total		3,593,299			-9.1	%		3,951,937

Note: From the beginning of the first quarter of 2019, Canon has reclassified certain businesses from the Imaging System Business Unit to the Industry and Others Business Unit. Sales amount for the year ended 2018 also has been restated.

Within the Office Business Unit, demand for office MFDs was strong for new next-generation color models that feature enhanced security functions. Sales of monochrome models, however, declined due to the impact of economic slowdowns in emerging markets. In the production printing market, sales of a new compact model offering high-speed and high-volume printing steadily increased. As a result, overall unit sales of MFDs increased slightly compared with the previous year. As for laser printers, despite strong demand for new models that offer low energy consumption, compact body designs, and high productivity, overall unit sales decreased compared with the previous year due to decreasing sales of low-speed models, mainly in China where the economic slowdown continued. Sales of consumables decreased, mainly due to the economic slowdown in Europe. These factors resulted in total sales for the business unit of ¥1,702,595 million, a year-on-year decrease of 5.8%, while income before income taxes decreased by 23.9% year on year to ¥174,297 million.

Within the Imaging System Business Unit, sales of the new interchangeable-lens digital cameras for advanced amateur DSLRs enjoyed solid growth. Also, in the growing full-frame mirrorless camera market, Canon benefited from sales of new models launched in the second half of the previous year and the beginning of this year. However, the interchangeable-lens digital cameras market continued to shrink mainly for entry-level models and overall unit sales decreased compared with the previous year. As for inkjet printers, despite efforts to enhance the lineup in refillable ink tank models, overall unit sales decreased compared with the previous year, mainly affected by the sluggish economy in emerging markets. As a result, sales for the business unit decreased by 16.8% year on year to ¥807,414 million, while income before income taxes decreased by 62.1% year on year to ¥49,666 million.

Within the Medical System Business Unit, despite domestic sales increased steadily thanks to a recovery of demand and a series of newly launched products, sales in Europe remained sluggish in the first quarter. As a result, sales for the business unit increased by 0.2% year on year to ¥438,525 million, while income before income taxes decreased by 7.4% year on year to ¥27,283 million due to effects of currency exchange fluctuation.

In the Industry and Others Business Unit, although capital investment towards semiconductor devices relevant to IoT business remained solid, capital investment towards memory devices was restrained because of the deterioration in the market. Additionally, as for FPD lithography equipment and OLED panels manufacturing equipment, sales decreased compared with the previous year as capital investment for small- and medium-size panels entered into a phase of adjustment. On the other hand, sales of network cameras increased reflecting the growth of Axis and the contribution of relevant software, driven by the market’s continued expansion based on diversifying market needs and replacement demand. Consequently, sales for the business unit decreased by

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12.5% year on year to ¥737,945 million, while income before income taxes decreased by 73.1% year on year to ¥15,563 million.

Intersegment sales of ¥93,180 million are eliminated from total sales for the four segments, and are described as “Eliminations”.

Sales by geographic area

Please refer to the table of sales by geographic area in Note 22 of the Notes to Consolidated Financial Statements.

A summary of net sales by geographic area in 2019 and 2018 is provided below:

	2019		Change			2018
	(Millions of yen, except percentage data)
Japan		872,534		+0.3	%		869,577
Americas		1,029,078		-4.4			1,076,402
Europe		882,480		-13.1			1,015,428
Asia and Oceania		809,207		-18.3			990,530
Total		3,593,299		-9.1	%		3,951,937

Note: This summary of net sales by geographic area is determined by the location where the product is shipped to the customers.

A geographical analysis indicates that net sales in 2019 are summarized as follows.

In Japan, net sales increased by 0.3% from the previous year mainly owing to an increase in sales of medical equipment.

In the Americas, despite solid sales of network cameras, net sales decreased by 4.4% from the previous year mainly owing to a decline in sales of interchangeable-lens digital cameras and compact digital cameras.

In Europe, net sales decreased by 13.1% from the previous year mainly owing to a decline in sales of consumables, interchangeable-lens digital cameras and compact digital cameras.

In Asia and Oceania, net sales decreased by 18.3% from the previous year mainly owing to a decline in sales of interchangeable-lens digital cameras, compact digital cameras, OLED panels manufacturing equipment which was supplied by Canon Tokki, and semiconductor lithography equipment.

Income before income taxes by segment

Please refer to the table of segment information in Note 22 of the Notes to Consolidated Financial Statements.

Income before income taxes for the Office Business Unit in 2019 decreased by 23.9% from the previous year to ¥174,297 million, mainly due to a decline in sales of consumables.

Income before income taxes for the Imaging System Business Unit in 2019 decreased by 62.1% from the previous year to ¥49,666 million, owing to shrinking market for interchangeable-lens digital cameras on a global basis.

Income before income taxes for the Medical System Business Unit in 2019 decreased by 7.4% from the previous year to ¥27,283 million, mainly due to a decrease of sales in Europe in the first quarter.

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Income before income taxes for the Industry and Others Business Unit in 2019 decreased by 73.1% from the previous year to ¥15,563 million, due to a decrease in sales of semiconductor lithography equipment and OLED panels manufacturing equipment.

2018 compared with 2017

Summarized results of operations for 2018 and 2017 are as follows:

	2018		Change			2017
	(Millions of yen, except per share amounts and percentage data)
Net sales
Products and Equipment		3,194,724		-9.3	%		3,521,156
Services		757,213		+35.5			558,859
		3,951,937		-3.1			4,080,015
Operating profit		342,952		+6.6			321,605
Income before income taxes		362,892		+2.5			353,884
Net income attributable to Canon Inc.		252,755		+4.5			241,923
Net income attributable to Canon Inc. shareholders per share:
Basic		234.09		+5.0			222.88
Diluted		234.08		+5.0			222.88

Note: See notes to Item 3A “Selected Financial Data”.

Sales

In the current business term, the world economy seemingly mounted a gradual recovery on the whole, yet decelerated in the latter half largely due to adverse effects of trade friction. In such an environment, although each of Canon Group’s businesses endeavored to expand sales particularly with respect to new products, Canon’s consolidated net sales in 2018 totaled ¥3,951,937 million, a decrease of 3.1% from the previous year largely due to adverse effect of a shrinking market. The adoption of the new revenue standard required the reconsideration of the scope of performance obligations related to service contracts, which has resulted in a change in classification of revenues between the products and service revenues. As a result, net sales of products and equipment totaled ¥3,194,724 million, a year-on-year decrease of 9.3%, while net sales of services totaled ¥757,213 million, a year-on-year increase of 35.5%. For further information, please refer to Note 15 of the Notes to Consolidated Financial Statements.

Overseas operations are significant to Canon’s operating results and generated 78.0% of total net sales in 2018. Such sales are denominated in the applicable local currency and are subject to fluctuations in the value of the yen relative to those currencies. Despite efforts to reduce the impact of currency fluctuations on operating results, including localization of manufacturing in some regions along with procuring parts and materials from overseas suppliers, Canon believes such fluctuations have had and will continue to have a significant effect on its results of operations.

The average value of the yen during the year was ¥110.43 against the U.S. dollar, a year-on-year appreciation of approximately ¥2, and ¥130.29 against the euro, a year-on-year depreciation of approximately ¥4. The effects of foreign exchange rate fluctuations positively affected net sales by approximately ¥1,024 million in 2018. This favorable impact consisted of approximately ¥17,800 million of unfavorable impact for the U.S. dollar denominated sales and favorable impact of ¥22,534 million for the euro denominated sales, and unfavorable impact of ¥3,710 million for other foreign currency denominated sales.

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Cost of sales

Cost of sales principally reflects the cost of raw materials, parts and labor used by Canon in the manufacture of its products. A portion of the raw materials used by Canon is imported or includes imported materials. Many of these raw materials are subject to fluctuations in world market prices accompanied by fluctuations in foreign exchange rates that may affect Canon’s cost of sales. Other components of cost of sales include depreciation expenses, maintenance expenses, light and fuel expenses, and rent expenses. The ratios of cost of sales to net sales for 2018 and 2017 were 53.6% and 51.2%, respectively.

Gross profit

Canon’s gross profit in 2018 decreased by 7.8% to ¥1,835,554 million from 2017. The gross profit ratio also dropped by 2.4 points to 46.4%. This was mainly due to the fact that certain costs that were under operating expenses have been reclassified under cost of sales following the adoption of new accounting standards related to revenue recognitions as described in Note 15 of the Notes to Consolidated Financial Statements. The reclassified amount for the year ended December 31, 2018 was ¥115,700 million. Excluding the impact of this reclassification, the gross profit ratio increased by 0.6 points to 49.4%.

Operating expenses

The major components of operating expenses are payroll, R&D, advertising expenses and other marketing expenses. Operating expenses decreased by 10.6% year on year to ¥1,492,602 million, thanks to Group-wide efforts to thoroughly manage expenses as well as impairment loss on goodwill of commercial printing business during the previous year in addition to the impact of the aforementioned reclassification of figures related to the adoption of new accounting standards.

Operating profit

Operating profit in 2018 increased by 6.6% from 2017 to a total of ¥342,952 million. The ratio of operating profit to net sales increased by 0.8 points to 8.7% from 2017.

Other income (deductions)

Other income (deductions) for 2018 was ¥19,940 million, a decrease of ¥12,339 million from 2017 mainly due to gain on securities contributed to the retirement benefit trust during the previous year.

Income before income taxes

Income before income taxes in 2018 was ¥362,892 million, an increase of 2.5% from 2017, and constituted 9.2% of net sales.

Income taxes

Income taxes in 2018 decreased by ¥1,874 million from 2017. The effective tax rate for 2018 was 26.5%, which was lower than the statutory tax rate in Japan. This was mainly due to the tax credit for R&D expenses.

Net income attributable to Canon Inc.

As a result, net income attributable to Canon Inc. in 2018 increased by 4.5% to ¥252,755 million, which represents 6.4% of net sales.

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Segment information

Canon divides its businesses into four segments: the Office Business Unit, the Imaging System Business Unit, the Medical System Business Unit and the Industry and Others Business Unit.

• The Office Business Unit mainly includes office MFDs, laser MFPs, laser printers, digital continuous feed presses, digital sheet-fed presses, wide-format printers and document solutions.

• The Imaging System Business Unit mainly includes interchangeable-lens digital cameras, digital compact cameras, interchangeable lenses, Compact photo printers, inkjet printers, large format inkjet printers, commercial photo printers, image scanners and calculators.

• The Medical System Business Unit mainly includes digital radiography systems, diagnostic X-ray systems, CT systems, MRI systems, diagnostic ultrasound systems, clinical chemistry analyzers and ophthalmic equipment.

• The Industry and Others Business Unit mainly includes semiconductor lithography equipment, FPD lithography equipment, vacuum thin-film deposition equipment, OLED panel manufacturing equipment, die bonders, network cameras, digital camcorders, digital cinema cameras, multimedia projectors, broadcast equipment, micromotors, handy terminals and document scanners.

Sales by segment

Please refer to the table of sales by segment in Note 22 of the Notes to Consolidated Financial Statements.

Canon’s sales by segment are summarized as follows:

	2018			Change			2017
	(Millions of yen, except percentage data)
Office		1,807,301			+0.1	%		1,804,782
Imaging System		970,435			-11.7			1,099,125
Medical System		437,578			+0.3			436,187
Industry and Others		842,941			+1.6			829,913
Eliminations		(106,318	)		—			(89,992	)
Total		3,951,937			-3.1	%		4,080,015

Note: From the beginning of the first quarter of 2019, Canon has reclassified certain businesses from the Imaging System Business Unit to the Industry and Others Business Unit. Sales amounts for the years ended 2018 and 2017 also have been restated.

Within the Office Business Unit, unit sales of office MFDs increased from the previous year, thanks to expanded sales of such color models as the imageRUNNER ADVANCE Gen3 2nd Edition series, which enhances convenience through compatibility with external cloud services, and the imageRUNNER C3020 series of strategic models for emerging markets. As for laser printers, sales of hardware increased from the previous year, supported by steady sales mainly of new models that achieve low power consumption, compact body designs and high productivity. Sales of consumables remained at the same level as the previous year. These factors resulted in total sales for the business unit of ¥1,807,301 million, a year-on-year increase of 0.1%, while income before income taxes increased by 17.3% year on year to ¥229,187 million partly due to impairment loss on goodwill during the previous year.

Within the Imaging System Business Unit, although unit sales of interchangeable-lens digital cameras decreased overall compared with the previous year due to shrinking market, Canon maintained the top share of the overall interchangeable-lens digital cameras market, mainly in key countries in Europe and the Americas as well as in Japan and China. In mirrorless cameras, sales were strong for such new models as the EOS R, Canon’s first mirrorless camera equipped with a full-frame sensor, and the entry-class EOS Kiss M. As for digital compact cameras, although unit sales decreased compared with the previous year amid the shrinking market,

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sales of such high-value-added models as the PowerShot G-series enjoyed solid demand. For inkjet printers, unit sales of refillable ink tank models increased significantly in emerging markets. However, unit sales decreased overall compared with the previous year, mainly due to the shrinking market in developed economies. For large format inkjet printers, the imagePROGRAF TX series, which is suitable for outputting CAD drawings and poster designs, garnered high praise from the market and enjoyed solid sales. As a result, sales for the business unit decreased by 11.7% year on year to ¥970,435 million, while income before income taxes decreased by 26.7% year on year to ¥131,015 million.

Within the Medical System Business Unit, sales increased due to such newly launched products as the Alphenix-series of next-generation diagnostic X-ray systems and the Vantage Orian, a high-image-quality MRI system incorporating leading-edge technology. As a result, sales for the business unit increased by 0.3% year on year to ¥437,578 million, while income before income taxes increased by 31.0% year on year to ¥29,479 million.

In the Industry and Others Business Unit, unit sales of semiconductor lithography equipment increased from the previous year due to increasing demand for memory devices used in data centers. However, for FPD lithography equipment and OLED panel manufacturing equipment, sales decreased compared with the previous year mainly due to a temporary slowdown in investment in OLED panels. As for network cameras, Axis enjoyed solid sales amid increasing market demand. Consequently, sales for the business unit increased by 1.6% year on year to ¥842,941 million, while income before income taxes increased by 47.9% year on year to ¥57,846 million.

Intersegment sales of ¥106,318 million are eliminated from total sales for the four segments, and are described as “Eliminations”.

Sales by geographic area

Please refer to the table of sales by geographic area in Note 22 of the Notes to Consolidated Financial Statements.

A summary of net sales by geographic area in 2018 and 2017 is provided below:

	2018		Change			2017
	(Millions of yen, except percentage data)
Japan		869,577		-1.7	%		884,828
Americas		1,076,402		-2.8			1,107,515
Europe		1,015,428		-1.3			1,028,415
Asia and Oceania		990,530		-6.5			1,059,257
Total		3,951,937		-3.1	%		4,080,015

Note: This summary of net sales by geographic area is determined by the location where the product is shipped to the customers.

A geographical analysis indicates that net sales in 2018 are summarized as follows.

In Japan, net sales decreased by 1.7% from the previous year mainly owing to the decline in sales of interchangeable-lens digital cameras and compact digital cameras.

In the Americas, despite solid sales of network cameras, net sales decreased by 2.8% from the previous year mainly owing to the negative effect of the yen’s appreciation and the decline in sales of interchangeable-lens digital cameras and compact digital cameras.

In Europe, net sales decreased by 1.3% from the previous year mainly owing to the decline in sales of interchangeable-lens digital cameras and compact digital cameras.

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In Asia and Oceania, net sales decreased by 6.5% from the previous year mainly owing to the decline in sales of interchangeable-lens digital cameras, compact digital cameras, manufacturing equipment for OLED panels which is sold by Canon Tokki, and manufacturing equipment for FPD.

Income before income taxes by segment

Please refer to the table of segment information in Note 22 of the Notes to Consolidated Financial Statements.

Income before income taxes for the Office Business Unit in 2018 increased by 17.3% from the previous year to ¥229,187 million, as impairment loss on goodwill incurred during the previous year.

Income before income taxes for the Imaging System Business Unit in 2018 decreased by 26.7% from the previous year to ¥131,015 million, owing to shrinking market for interchangeable-lens digital cameras.

Income before income taxes for the Medical System Business Unit in 2018 increased by 31.0% from the previous year to ¥29,479 million, mainly due to cost reduction and favorable sales of diagnostic X-ray systems and MRI systems.

Income before income taxes for the Industry and Others Business Unit in 2018 increased by 47.9% from the previous year to ¥57,846 million, thanks to strong sales of semiconductor lithography equipment and network cameras.

Foreign operations and foreign currency transactions

Canon’s marketing activities are performed by subsidiaries in various regions in local currencies, while the cost of sales is generally in yen. Given Canon’s current operating structure, appreciation of the yen has a negative impact on net sales and the gross profit ratio. To reduce the financial risks from changes in foreign exchange rates, Canon utilizes derivative financial instruments, which consist principally of forward currency exchange contracts.

The operating profit on foreign operation sales is usually lower than that from domestic operations because foreign operations consist mainly of marketing activities. Marketing activities are generally less profitable than production activities, which are mainly conducted by the Company and its domestic subsidiaries. Please refer to the table of geographic information in Note 22 of the Notes to Consolidated Financial Statements.

B. Liquidity and capital resources

Cash and cash equivalents decreased by ¥107,831 million to ¥412,814 million in fiscal 2019 compared to the previous year. Canon’s cash and cash equivalents are primarily denominated in Japanese yen and in U.S. dollars, with the remainder denominated in other currencies.

Net cash provided by operating activities decreased by ¥6,832 million to ¥358,461 million in fiscal 2019 compared to the previous year due to a decrease in profit, despite improving working capital mainly through inventory reduction. The major component of Canon’s cash inflow is cash received from customers, and the major components of Canon’s cash outflow are payments for parts and materials, selling, general and administrative expenses, R&D expenses and income taxes.

For fiscal 2019, cash inflow from cash received from customers decreased due to sales deterioration. There were no significant changes in Canon’s collection rates. Cash outflow for payments for parts and materials decreased due to a decrease of inventory compared with the inventory in fiscal 2018. Cash outflow for payments for income taxes decreased due to a decrease in taxable income in fiscal 2018 compared with taxable income in fiscal 2017.

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Net cash used in investing activities increased by ¥32,953 million to ¥228,568 million in fiscal 2019 mainly due to an increase in payment for purchases of fixed assets.

Canon defines “free cash flow” as cash flows from operating activities less cash flows from investing activities. For fiscal 2019, free cash flow decreased by ¥39,785 million to ¥129,893 million as compared with ¥169,678 million for fiscal 2018.

Note: “Free cash flow” is non-GAAP measure. Refer to “Non-GAAP Financial Measures” section for the explanation and the reconciliation to the reported GAAP measure.

Canon’s management places importance on cash flow management and frequently monitors this indicator. Furthermore, Canon’s management believes that this indicator is significant in understanding Canon’s current liquidity and the alternatives of use in financing activities because it takes into consideration its operating and investing activities and believes that such indicator is beneficial to an investor’s understanding. Canon refers to this indicator together with relevant U.S. GAAP financial measures shown in its consolidated statements of cash flows and consolidated balance sheets for cash availability analysis.

Net cash used in financing activities totaled ¥232,590 million in fiscal 2019, mainly resulting from the dividend payout of ¥171,487 million, the repurchases and reissuance of treasury stock of ¥50,012 million. The Company paid dividends in fiscal 2019 of ¥160.00 per share.

To the extent Canon relies on external funding for its liquidity and capital requirements, it generally has access to various funding sources, including the issuance of additional share capital, issuance of corporate bond or loans. While Canon has been able to obtain funding from its traditional financing sources and from the capital markets, and believes it will continue to be able to do so in the future, there can be no assurance that adverse economic or other conditions will not affect Canon’s liquidity or long-term funding in the future.

Short-term loans (including the current portion of long-term debt) increased by ¥3,507 million to ¥42,034 million at December 31, 2019 compared with ¥38,527 million at December 31, 2018. Long-term debt (excluding the current portion) decreased by ¥4,622 million to ¥357,340 million at December 31, 2019 compared with ¥361,962 million at December 31, 2018 thanks to the repayment for long-term loans.

Canon’s long-term debt mainly consists of bank borrowings and finance lease obligations.

In order to facilitate access to global capital markets, Canon obtains credit ratings from two rating agencies: Moody’s Investors Services, Inc. (“Moody’s”) and Standard and Poor’s Ratings Services (“S&P”). In addition, Canon maintains a rating from Rating and Investment Information, Inc. (“R&I”), a rating agency in Japan, for access to the Japanese capital market.

As of February 29, 2020, Canon’s debt ratings are: Moody’s: A3 (long-term); S&P: A+ (long-term), A-1 (short-term); and R&I: AA+ (long-term). Canon does not have any rating downgrade triggers that would accelerate the maturity of a material amount of its debt. A downgrade in Canon’s credit ratings or outlook could, however, increase the cost of its borrowings.

Canon’s management policy in recent periods to optimize inventory levels is intended to maintain an appropriate balance among relevant imperatives, including minimizing working capital, avoiding undue exposure to the risk of inventory obsolescence, and maintaining the ability to sustain sales despite the occurrence of unexpected disasters.

Canon’s total inventory turnover ratios were 59, 56, and 49 days at the end of the fiscal years 2019, 2018, and 2017, respectively. The inventory turnover in 2019 increased due to sales decline.

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Increase in property, plant and equipment on an accrual basis in 2019 amounted to ¥178,088 million compared with ¥159,316 million in 2018 and ¥147,542 million in 2017. For 2020, Canon projects its increase in property, plant and equipment will be approximately ¥160,000 million.

Employer contributions to Canon’s worldwide defined benefit pension plans were ¥30,383 million in 2019, ¥35,044 million in 2018 and ¥50,628 million in 2017. Employer contributions to Canon’s worldwide defined contribution pension plans were ¥17,414 million in 2019, ¥19,570 million in 2018, and ¥18,979 million in 2017. In addition, employer contributions to the multiemployer pension plan of certain subsidiaries were ¥4,321 million in 2019, ¥4,452 million in 2018 and ¥4,165 million in 2017.

Working capital in 2019 decreased by ¥135,060 million to ¥885,467 million, compared with ¥1,020,527 million in 2018 and ¥1,123,169 million in 2017. Canon believes its working capital will be sufficient for its requirements for the foreseeable future. Canon’s capital requirements are primarily dependent on management’s business plans regarding the levels and timing of purchases of fixed assets and investments. The working capital ratio (ratio of current assets to current liabilities) for 2019 was 1.92 compared to 1.99 for 2018 and to 2.01 for 2017.

Return on assets (net income attributable to Canon Inc. divided by the average of total assets) was 2.6% in 2019, compared to 5.0% in 2018 and 4.7% in 2017.

Return on Canon Inc. shareholders’ equity (net income attributable to Canon Inc. divided by the average of total Canon Inc. shareholders’ equity) was 4.5% in 2019 compared with 8.9% in 2018 and 8.6% in 2017.

The debt to total assets ratios were 10.8%, 8.2% and 10.2% as of December 31, 2019, 2018 and 2017, respectively. Canon had short-term loans, current operating lease liabilities, long-term debt, and noncurrent operating lease liabilities of ¥514,946 million as of December 31, 2019, ¥400,489 million as of December 31, 2018 and ¥532,566 million as of December 31, 2017. The company includes current operating lease liability and noncurrent operating lease liability as debt since 2019 due to adopting new accounting standard ASU No. 2016-02, Leases (Topic 842) Section A. Please refer to Note 1 (x) for more detailed information.

Non-GAAP Financial Measures

We have reported our financial results in accordance with U.S. GAAP. In addition, we have discussed our results using the combination of two GAAP cash flow measures, Net cash provided by operating activities and Net cash used for investing activities, which we refer to as “Free Cash Flow” which is non-GAAP measure. We believe this measure is beneficial to an investor’s understanding on Canon’s current liquidity and the alternatives of use in financing activities because it takes into consideration its operating and investing activities.

A reconciliation of this non-GAAP financial measure and the most directly comparable measure calculated and presented in accordance with GAAP is set forth on the following table.

Free Cash Flow

	Years ended December 31
	2019			2018
	(Millions of yen)
Net cash provided by operating activities		358,461			365,293
Net cash used in investing activities		(228,568	)		(195,615	)
Free cash flow		129,893			169,678

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C. Research and development, patents and licenses

Canon has started its 5-year management plan, the Excellent Global Corporation Plan Phase V (“Phase V”) from the year 2016. In Phase V, our slogan is “Embrace the challenge of new growth through a grand strategic transformation” and there are three key strategies related to R&D:

• Establish a new production system to achieve a cost-of-sales ratio of 45%;

• Reinforce and expand new businesses while creating future businesses; and

• Enhance R&D capabilities through open innovation.

Canon has been striving to implement the three R&D related strategies as follows:

• Establish a new production system to achieve a cost-of-sales ratio of 45%:

Strengthen domestic mother factories by integrating design, procurement, production engineering and manufacturing technology operations while pursuing total cost reduction by advancing production engineering capabilities with more sophisticated robots and next-generation technologies such as the IoT, big data and artificial intelligence.

• Reinforce and expand new businesses while creating future businesses:

Create and expand new businesses by accelerating the horizontal expansion of existing business with the exploration of new application possibility of Canon’s technologies into new fields. Also, invest intensively on the R&D of promising businesses areas such as commercial printing, network cameras and healthcare while actively taking advantage of mergers and acquisitions (M&A) to accelerate the early expansion of these businesses.

• Enhance R&D capabilities through open innovation:

Construct a more open R&D system that proactively leverages external technologies and knowledge to accelerate and improve efficiency of the R&D. Especially in our fundamental research and development, Canon is promoting joint and contract research with various partners including universities, research institutes, and startups around the world.

Canon is currently working on collaborative research with Massachusetts General Hospital and Brigham and Women’s Hospital to commercialize the products such as needle-guiding system which is consisted of ultra-miniature endoscope, image-guided navigation software and robot for needle insertion at the Healthcare Optics Research Laboratory in Boston. Also, CMSC is currently working on collaborative research on Deep Learning Reconstruction in MRI systems, together with Kumamoto University and the University of Bordeaux. Moreover, Canon started collaborative research with the Center for iPS Cell Research and Application, Kyoto University, to realize high-quality autologous iPS cells.

Canon has developed simulation systems covering comprehensive image processing including optical design, mechanical noise analysis, and thermal air flow analysis. With these simulation systems, Canon has succeeded in further reducing the need for prototypes, lowering costs and shortening product development lead times.

Canon believes that new products protected by the robust patent portfolio will not easily allow competitors to compete with them, and will give them an advantage in establishing standards in the market and industry.

Canon obtained the third greatest number of patents in the United States in 2019, according to the annual ranking list, released by IFI CLAIMS® Patent Services.

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D. Trend information

Under the corporate philosophy of kyosei—living and working together for the common good—Canon’s basic management policy is to contribute to the prosperity and well-being of the world while endeavoring to become a truly excellent global corporation targeting continued growth and development.

Based on this basic management policy, Canon launched the Excellent Global Corporation Plan in 1996 and, from Phase I through to Phase IV, has worked to strengthen its management base and improve corporate value. In 2016, under the slogan “Embracing the challenge of new growth through a grand strategic transformation,” Canon embarked on a new five-year initiative: Phase V of the Excellent Global Corporation Plan. Under this plan, Canon aims to facilitate growth through structural transformation by reinforcing existing businesses and taking steps to cultivate and strengthen new businesses.

The global economy in 2020, while a modest recovery is expected, uncertainty is increasing due to growing geopolitical risks and concerns of a relapse in U.S.-China trade friction. In addition,uncertainty about the effects of the global spread of COVID-19, which has already affected the global economy, has continued to increase.

In the businesses in which Canon is involved, overall demand of office MFDs is expected to increase slightly thanks to solid demand for color models. Demand for laser printers, however, is expected to be below that of last year as only a modest economic recovery is expected. As for interchangeable-lens digital cameras, although demand for entry-level models is expected to continue to shrink, demand for mirrorless cameras is expected to remain firm, particularly for advanced amateur models, including models with full-frame sensors. Demand for inkjet printers is expected to recover moderately, mainly in emerging markets. As for medical equipment, solid demand is expected thanks, in part, to expanding demand in emerging markets to improve medical infrastructure. With regard to semiconductor lithography equipment, capital investment is recovering because the price of memory devices has bottomed out. As for FPD lithography equipment and OLED panels manufacturing equipment, a gradual rise in capital investment in small- and medium-size display panels is expected, as is continued solid investment into high-resolution, large-size display panels. As for network cameras, continued market expansion is expected due to growing demand for security and diversification in the way network cameras are being used.

In 2020, while securing and maintaining a high market share by investing into new competitive products in our existing businesses in a timely manner, and securing high profit margin, even amid market shrinkage, we will endeavor to accelerate the great strategic transformation by implementing the following priority measures in our new businesses to realize their early expansion in terms of both sales and profit.

(1) Commercial printing and industrial printing

Taking advantage of the trend that drives the transition from offset printing to digital printing, we will continue to expand and strengthen the business through the enhancement of our product portfolio and service structure. We will also push forward with product development targeting the areas of package printing and label printing, which are expected to grow going forward, based on our original technologies

(2) Network cameras

By bringing together all our group strengths, we will endeavor to expand and strengthen our solution business through the integrations of cameras, video management software, and video analysis software.

(3) Medical systems

In the diagnostic imaging systems segment, which is our core business field, we will endeavor to strengthen the sales capability in overseas markets, particularly in the U.S. We will also aim to expand into business fields with high growth potential, such as healthcare IT and bioscience.

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(4) Industrial equipment

We have an overwhelming share in the market of OLED panel manufacturing equipment for smartphones and will aim to increase its competitiveness further and apply it to the segment of large-size displays for televisions.

For a discussion of the trend by business segments, see “Item 4 B. Business overview” and “Item 5 A. Operating Results”.

E. Off-balance sheet arrangements

As part of its ongoing business, Canon does not participate in transactions that generate relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes.

Canon provides guarantees for its employees, affiliates and other companies. The guarantees for the employees are principally made for their housing loans. The guarantees for affiliates and other companies are made for their lease obligations and bank loans to ensure that those companies operate with less financial risk.

Canon would have to perform under a guarantee if the borrower defaults on a payment within the contract terms. The contract terms are 1 year to 15 years in case of employees with housing loans, and 1 year to 5 years in case of affiliates and other companies with lease obligations and bank loans. The maximum amount of undiscounted payments Canon would have had to make in the event of default is ¥2,987 million at December 31, 2019. The carrying amounts of the liabilities recognized for Canon’s obligations as a guarantor under those guarantees at December 31, 2019 were not significant.

F. Contractual obligations

The following summarizes Canon’s contractual obligations at December 31, 2019.

			Payments Due By Period
	Total		Less than 1 year		1-3 years		3-5 years		More than 5 years
	(Millions of yen)
Contractual obligations:
Long-Term Debt:
Loan from the banks		354,000		—		354,000		—		—
Other debt		4,574		1,234		2,020		690		630
Operating Lease Obligations		122,673		34,317		45,018		24,230		19,108
Purchase commitments for :
Property, Plant and Equipment		36,241		36,241		—		—		—
Parts and Raw Materials		112,831		112,831		—		—		—
Other long-term liabilities
Contribution to Defined Benefit Pension Plans		32,242		32,242		—		—		—
Total		662,561		216,865		401,038		24,920		19,738

Note: The table does not include provisions for uncertain tax positions and related accrued interest and penalties, as the specific timing of future payments related to these obligations cannot be projected with reasonable certainty. See Note 11, Income Taxes in the Notes to Consolidated Financial Statements for further details.

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Contribution to defined benefit pension plans reflects the expected amount only for the next fiscal year, since contributions beyond the next fiscal year are not currently determinable due to uncertainties related to changes in actuarial assumptions, returns on plan assets and changes to plan membership.

Canon provides warranties of generally less than one year against defects in materials and workmanship on most of its consumer products. Estimated product warranty related costs are recorded at the time revenue is recognized and are included in selling, general and administrative expenses. Estimates for accrued product warranty costs are primarily based on historical experience, and are affected by ongoing product failure rates, specific product class failures outside of the baseline experience, material usage and service delivery costs incurred in correcting a product failure. As of December 31, 2019 accrued product warranty costs are included in accrued expenses and amounted to ¥15,846 million.

At December 31, 2019, commitments outstanding for the purchase of property, plant and equipment were approximately ¥36,241 million, and commitments outstanding for the purchase of parts and raw materials were approximately ¥112,831 million, both for use in the ordinary course of its business. Canon anticipates that funds needed to fulfill these commitments will be generated internally through operations.

During 2019, Canon expects to contribute ¥13,257 million to its Japanese defined benefit pension plans and ¥18,985 million to its foreign defined benefit pension plans.

Canon’s management believes that current financial resources, cash generated from operations and Canon’s potential capacity for additional debt and/or equity financing will be sufficient to fund current and future capital requirements.

Item 6. Directors, Senior Management and Employees

A. Directors and senior management

Directors and Audit & Supervisory Board Members of the Company as of March 27, 2020 and their respective business experience are listed below.

Name (Date of birth)	Position (Group executive/function)	Date of commencement		Business experience (*current position/function)
Fujio Mitarai	Chairman & CEO		4/1961	Entered the Company
(Sep. 23, 1935)			1/1979	President of Canon U.S.A., Inc.
			3/1981	Director
			3/1985	Managing Director
			1/1989	In charge of HQ administration
			3/1989	Senior Managing Director
			3/1993	Executive Vice President
			9/1995	President & CEO
			3/2006	Chairman of the Board & President & CEO
			5/2006	Chairman & CEO*
Masaya Maeda	President & COO		4/1975	Entered the Company
(Oct. 17, 1952)			1/2006	Group Executive of Digital Imaging Business Group
			3/2007	Director
			4/2007	Chief Executive of Image Communication Products Operations
			3/2010	Managing Director
			3/2014	Senior Managing Director
			3/2016	President & COO*

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Name (Date of birth)	Position (Group executive/function)	Date of commencement		Business experience (*current position/function)
Toshizo Tanaka	Executive Vice President & CFO (Group Executive of Finance & Accounting HQ, Group Executive of Public Affairs HQ, Group Executive of Facilities Management HQ, Group Executive of Corporate Planning HQ)		4/1964	Entered the Company
(Oct. 8, 1940)			1/1992	Deputy Group Executive of Finance & Accounting HQ
			3/1995	Director
			4/1995	Group Executive of Finance & Accounting HQ
			3/1997	Managing Director
			3/2001	Senior Managing Director
			1/2007	Group Executive of Policy and Economy Research HQ
			3/2007	Executive Vice President & Director
			3/2008	Executive Vice President & CFO*
			1/2010	Group Executive of General Affairs HQ
			3/2010	Group Executive of External Relations HQ
			4/2011	Group Executive of Finance & Accounting HQ
			4/2012	Group Executive of Facilities Management HQ
			3/2014	Group Executive of Human Resources Management & Organization HQ
			4/2017	Group Executive of Facilities Management HQ*
			3/2018	Group Executive of Public Affairs HQ*
			4/2018	Group Executive of Finance & Accounting HQ*
			3/2020	Group Executive of Corporate Planning HQ*
Toshio Homma	Executive Vice President & CTO & In charge of Office Business (Chief Executive of Office Imaging Products Operations)		4/1972	Entered the Company
(Mar. 10, 1949)			4/2001	Deputy Chief Executive of i Printer Products Operations
			3/2003	Director
			4/2003	Group Executive of Business Promotion HQ
			7/2003	Group Executive of L Printer Business Promotion HQ
			1/2007	Chief Executive of L Printer Products Operations
			3/2008	Managing Director
			3/2012	Senior Managing Director Group Executive of Procurement HQ
			3/2016	Executive Vice President
			4/2016	Chief Executive of Office Imaging Products Operations*
			3/2017	Executive Vice President in charge of Office Business*
			3/2019	CTO*

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Name (Date of birth)	Position (Group executive/function)	Date of commencement		Business experience (*current position/function)
Kunitaro Saida	Director		5/2006	Qualified for attorney*
(May 4, 1943)			6/2007	Audit & Supervisory Board Member of NICHIREI CORPORATION
			6/2008	Director of Sumitomo Osaka Cement Co., Ltd.*
			6/2010	Director of HEIWA REAL ESTATE CO., LTD.*
			3/2014	Director*
Haruhiko Kato (Jul. 21, 1952)	Director		7/2009	Commissioner of National Tax Agency
			1/2011	Senior Managing Director of Japan Securities Depository Center, Incorporated
			6/2011	President & CEO of Japan Securities Depository Center, Incorporated
			6/2013	Director of Toyota Motor Corporation
			3/2014	Director*
			6/2019	Audit & Supervisory Board Member of Toyota Motor Corporation*
Ryuichi Ebinuma	Audit & Supervisory Board Member		4/1983	Entered the Company
(Nov. 1, 1958)			7/2002	Senior General Manager of Research Laboratory of Printing Technologies, Core Technology Development Headquarters
			1/2009	Group Executive of Core Technology Development Group, Corporate R&D Headquarters
			4/2011	Executive Officer
			1/2013	Deputy Group Executive of Corporate R&D Headquarters
			4/2016	Managing Executive Officer
			4/2018	Group Executive of Corporate Planning HQ
			3/2020	Audit & Supervisory Board Member*

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Name (Date of birth)	Position (Group executive/function)	Date of commencement		Business experience (*current position/function)
Hiroaki Sato	Audit & Supervisory Board Member		4/1982	Entered the Company
(Jan. 29, 1960)			2/2004	Senior General Manager of MR Systems Laboratory
			7/2014	Deputy Group Executive of Advanced Information & Real-world Technology Development Group, Digital System Technology Development HQ
			7/2015	Deputy Group Executive of Digital System Technology Development HQ
			4/2018	Principal Staff Engineer of Digital Bussiness Platform Development HQ
			3/2019	Audit & Supervisory Board Member*
Yutaka Tanaka (Mar. 11, 1949)	Audit & Supervisory Board Member		4/1975	Assistant Judge of the Tokyo District Court
			4/1986	Judge of the Tokyo District Court
			4/1987	Instructor of the Legal Training & Research Institute, the Supreme Court of Japan
			4/1992	Judicial Research Official, the Supreme Court of Japan
			4/1996	Registered as an attorney*
			10/2014	Guest Professor of Keio University Law School
			3/2019	Audit & Supervisory Board Member*
Hiroshi Yoshida	Audit & Supervisory Board Member		10/1980	Joined Tohmatsu Awoki & Co.
(Sep. 5, 1954)			4/1984	Registered as Certified Public Accountant*
			7/1993	Partner of Tohmatsu & Co.
			6/2000	Representative Partner of Tohmatsu & Co.
			5/2007	Managing Partner, Finance & Administration of Deloitte Touche Tohmatsu The Board Member of Deloitte Touche Tohmatsu
			11/2011	CFO of Deloitte Touche Tohmatsu LLC
			3/2017	Audit & Supervisory Board Member*

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Name (Date of birth)	Position (Group executive/function)	Date of commencement		Business experience (*current position/function)
Koichi Kashimoto (Jul. 2, 1961)	Audit & Supervisory Board Member		4/1984	Entered The Dai-ichi Life Insurance Company, Limited (formerly The Dai-ichi Mutual Life Insurance Co.)
			4/1997	Manager of Government Relations Department of The Dai-ichi Life Insurance Company, Limited
			4/2005	General Manager of Corporate Administration Center of The Dai-ichi Life Insurance Company, Limited
			4/2009	Managing Director of Dai-ichi Life International (Europe), Limited
			4/2012	General Manager of Secretarial Department of The Dai-ichi Life Insurance Company, Limited
			4/2016	Senior General Manager of Secretarial Department (in charge of Secretarial Department and General Affairs Department), and Senior General Manager of Group General Affairs Unit of The Dai-ichi Life Insurance Company, Limited
			10/2016	Senior General Manager of Secretarial Department (in charge of Secretarial Department and General Affairs Department) of The Dai-ichi Life Insurance Company, Limited, and Senior General Manager and Chief of General Affairs Unit of Dai-ichi Life Holdings, Inc.
			3/2018	Audit & Supervisory Board Member*

Term

All directors and Audit & Supervisory Board Members are elected by the shareholders at their general meeting.

Yutaka Tanaka, Hiroshi Yoshida and Koichi Kashimoto, are outside Audit & Supervisory Board Members as stipulated in Item16, Article 2 of the Corporation Law of Japan. Kunitaro Saida and Haruhiko Kato are outside directors. The term of office of directors is one year. The current term of all directors expires in March 2021. The term of office of Audit & Supervisory Board Members is four years, however, the term of office of an Audit & Supervisory Board Member elected to fill a vacancy expires with the expiration of the remaining term of office of the retired Audit & Supervisory Board Member under the Company’s Articles of Incorporation. The current term for Hiroshi Yoshida who was elected in the general meeting of shareholders in March 2017, expires in March 2021, the current term for Koichi Kashimoto who was elected in the general meeting of shareholders in March 2018, expires in March 2022, the current term for Hiroaki Sato and Yutaka Tanaka who were elected in

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the general meeting of shareholders in March 2019, expires in March 2023. Meanwhile, the current term for Ryuichi Ebinuma who was elected to fill a vacancy in the general meeting of shareholders in March 2020, expires in March 2022 when his predecessor’s term of office expires.

Board members and Audit & Supervisory Board Members may serve any number of consecutive terms.

There is no arrangement or understanding between any director or Audit & Supervisory Board Member and any major shareholder, customer, supplier or other material stakeholders in connection with the selection of such director or Audit & Supervisory Board Member.

Board of Directors and Audit & Supervisory Board Members

The Company’s articles of incorporation provide for a board of directors of not more than 30 members and for not more than five Audit & Supervisory Board Members. Currently the number of board members is six and the number of Audit & Supervisory Board Members is five. There is no maximum age limit for members of the board. Board members and Audit & Supervisory Board Members may be removed from office at any time by a resolution of a general meeting of shareholders.

The board of directors has ultimate responsibility for the administration of the Company’s affairs. By resolution, the board of directors designates, from among its members, representative directors who have authority individually to represent the Company generally in the conduct of its affairs.

Under the Corporation Law of Japan, board members must refrain from engaging in any business competing with the Company unless approved by a board resolution, and no board member may vote on a proposal, arrangement or contract in which that board member is deemed to be materially interested.

The Corporation Law of Japan requires a resolution of the board of directors for a company to acquire or dispose of material assets, to borrow substantial amounts of money, to employ or discharge important employees such as corporate officers, and to establish, change or abolish material corporate organizations such as a branch office.

The Audit & Supervisory Board Members are not required to be certified public accountants, although Hiroshi Yoshida is a certified public accountant. At least half of the Audit & Supervisory Board Members must be persons who have not been either board members or employees of the Company or any of its subsidiaries. An Audit & Supervisory Board Member may not at the same time be a board member or an employee of the Company or any of its subsidiaries. The Audit & Supervisory Board Members have the statutory duty of examining the Company’s financial statements and the Company’s business reports to be submitted annually by the board of directors at the general meetings of shareholders and of reporting their opinions to the shareholders. They also have the statutory duty of supervising the administration by the board members of the Company’s affairs. They shall participate in the meetings of the board of directors but are not entitled to vote.

The Audit & Supervisory Board Members constitute the Audit & Supervisory Board. Under the Corporation Law of Japan, the Audit & Supervisory Board has a statutory duty to prepare and submit its audit report to the board of directors each year. An Audit & Supervisory Board Member may note an opinion in the auditor report if an Audit & Supervisory Board member’s opinion is different from the opinion expressed in the audit report. The Audit & Supervisory Board is empowered to establish audit principles, the method of examination by Audit & Supervisory Board Members of the Company’s affairs and financial position and other matters concerning the performance of the Audit & Supervisory Board Members’ duties. The Company does not have an audit committee.

The amount of remuneration payable to the Company’s board members as a group and that of the Company’s Audit & Supervisory Board Members as a group in respect of a fiscal year is subject to approval by a

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general meeting of shareholders. Within those authorized amounts, the compensation for each board member and Audit & Supervisory Board Member is determined by the board of directors and a consultation with the Audit & Supervisory Board Members, respectively. The Company does not have a remuneration committee.

Under the Corporation Law of Japan and the Company’s articles of incorporation, the board of directors may, by resolution, release current and former directors and Audit & Supervisory Board Members from liability for damages resulting from negligence in the fulfillment of their respective duties to the extent permitted by law. In addition, the Company may enter into contracts with outside directors limiting their liability for damages resulting from negligence in the fulfillment of their respective duties in an amount consistent with the limitation stipulated by law. Furthermore, the Company may enter into contracts with outside Audit & Supervisory Board Members limiting their liability for damages resulting from negligence in the fulfillment of their respective duties in an amount consistent with the limitation stipulated by law.

Canon established a standing committee, the Internal Control Committee in 2004, with the president appointed as chairman of the group. The Internal Control Committee has built a highly effective internal control system unique to Canon, which not only serves to ensure the reliability of the Company’s financial reporting, but also aims to ensure the effectiveness and efficiency of its business operations, as well as compliance with related laws, regulations and internal controls. In 2015, with the aim of managing financial, compliance, and business risks from a comprehensive perspective, the Internal Control Committee was reorganized and renamed the Risk Management Committee which is tasked with performing this duty. Established under the Risk Management Committee are the following three subcommittees: the Financial Risk Management Subcommittee, which is in charge of improving systems to ensure the reliability of financial reporting, the Compliance Subcommittee, which is in charge of improving systems to ensure compliance of corporate ethics and major laws and regulations, and the Business Risk Management Subcommittee, which is in charge of improving systems to manage quality risks, information leakage risks and other significant business risks. The Risk Management Committee shall develop various measures with regard to improving the risk management system. These measures include the system for grasping any significant risks (violation of laws and regulations, inappropriate financial reporting, quality issues, work-related injuries, disasters, etc.) that the Canon Group may face in the course of business. Additionally, in accordance with any action plan that is approved by the Board of Directors, the Risk Management Committee shall evaluate the status of improvement and implementation of the risk management system and report its findings to the CEO and the Board of Directors.

The Disclosure Committee was established with the president appointed as chairman in 2005. This committee was formed to ensure that Canon is not only in compliance with applicable laws, rules and regulations, but also to ensure that information disclosed to shareholders and capital markets is both correct and comprehensive.

Executive Officer System

Canon adopted an Executive Officer System effective April 1, 2008. Executive Officers are appointed and discharged by the Board of Directors and have a term of office of one year. Taking into consideration growth in the scope of its business activities, Canon recognizes the need to bolster its management execution structure. By promoting capable human resources with accumulated executive knowledge across specific business areas, the Company is endeavoring to realize more flexible and efficient management operations. To this end, Canon intends to gradually increase the number of Executive Officers and further solidify its management systems.

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Executive Officers of the Company whom are expected to take the assignment on April 1, 2020, are listed below.

Name	Position	(Group executive/function)
Hideki Ozawa	Executive Vice President	President of Canon (China) Co., Ltd.
Seymour Liebman	Senior Managing Executive Officer	Executive Vice President of Canon U.S.A., Inc.
Toshio Takiguchi	Senior Managing Executive Officer	Chief Executive of Medical Systems and Components Operations, President of Canon Medical Systems Corporation
Kenichi Nagasawa	Managing Executive Officer	Group Executive of Corporate Intellectual Property & Legal HQ
Masanori Yamada	Managing Executive Officer	Group Executive of Image Solutions Business Operations, Chief of Olympic and Paralympic Project, Chief of IR/MICE Business project
Aitake Wakiya	Managing Executive Officer	Executive Vice President of Canon Europe Ltd.
Eiji Osanai	Managing Executive Officer	Group Executive of Production Engineering HQ
Yuichi Ishizuka	Managing Executive Officer	President of Canon Europa N.V., President of Canon Europe Ltd.
Kazuto Ogawa	Managing Executive Officer	President of Canon U.S.A.,Inc.
Shunsuke Inoue	Managing Executive Officer	Group Executive of R&D HQ
Takayuki Miyamoto	Managing Executive Officer	Chief Executive of Peripheral Products Operations, Chief of Canon EXPO Project
Katsumi Iijima	Managing Executive Officer	Group Executive of Digital Business Platform Development HQ
Hiroaki Takeishi	Managing Executive Officer	Chief Executive of Optical Products Operations
Soichi Hiramatsu	Managing Executive Officer	Group Executive of Procurement HQ
Takashi Takeya	Managing Executive Officer	Senior General Manager of Global Logistics Management Center
Go Tokura	Managing Executive Officer	Chief Executive of Image Communication Business Operations
Hisahiro Minokawa	Managing Executive Officer	Group Executive of Human Resources Management & Organization HQ
Ritsuo Mashiko	Managing Executive Officer	President of Oita Canon Inc., President of Miyazaki Canon Inc.
Minoru Asada	Managing Executive Officer	President of Canon Production Printing Holding B.V.
Kazuhiko Nagashima	Managing Executive Officer	Deputy Group Executive of Finance & Accounting HQ
Nobutoshi Mizusawa	Executive Officer	Deputy Chief Executive of Medical Systems and Components Operations
Yoichi Iwabuchi	Executive Officer	Group Executive of Information & Communication Systems HQ
Nobuyuki Tainaka	Executive Officer	Senior General Manager of Global Legal Administration Center
Takanobu Nakamasu	Executive Officer	Executive Vice President of Canon Europe Ltd.
Toshihiko Kusumoto	Executive Officer	Deputy Chief Executive of Office Imaging Products Operations
Akiko Tanaka	Executive Officer	Deputy Group Executive of Corporate Planning HQ
Noriko Gunji	Executive Officer	President of Canon Singapore Pte. Ltd.
Hideki Sanatake	Executive Officer	Deputy Group Executive of Corporate Intellectual Property and Legal HQ
Tamaki Hashimoto	Executive Officer	Group Executive of Consumer Inkjet Products Group
Hideto Kohtani	Executive Officer	Deputy Group Executive of Image Solutions Business Group 1

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Name	Position	(Group executive/function)
Katsuhiko Shinjo	Executive Officer	Deputy Group Executive of R&D HQ
Katsuyoshi Soma	Executive Officer	President of Fukushima Canon Inc.
Masaki Omori	Executive Officer	Deputy Group Executive of Production Engineering HQ
Saijiro Endo	Executive Officer	Senior General Manager of Office Imaging Products Development Planning & Management Center
Toshiyuki Matsuda	Executive Officer	Group Executive of Peripherals Marketing Group
Takeshi Ichikawa	Executive Officer	Group Executive of Device Technology Development HQ
Hiroto Okawara	Executive Officer	Deputy Group Executive of Image Solutions Business Group 2, Chief of Smart Mobility Business Promotion Project
Yoshiyuki Koshimizu	Executive Officer	Senior General Manager of Office Imaging Products Development Center

B. Compensation

In the fiscal year ended December 31, 2019, Canon paid an aggregate of approximately ¥1,038 million to its directors and Audit & Supervisory Board Members. This amount includes bonuses.

Beginning from the fiscal year ended December 31, 2010, the Company is required to disclose the compensation of any director who receives total aggregate annual compensation exceeding ¥100 million in accordance with the Financial Instruments and Exchange Act of Japan and related ordinances. The following table sets forth the amount of compensation paid or planned to be paid directors whose aggregate compensation exceeded ¥100 million in 2019.

Name (Position)			Category of remuneration
	Company		Basic Remuneration		Bonus		Stock-Type Compensation Stock Options		Total
			(Millions of yen)
Fujio Mitarai (Director)		Canon Inc.		305		21		67		393
Masaya Maeda (Director)		Canon Inc.		140		12		14		166
Toshizo Tanaka (Director)		Canon Inc.		132		12		21		165
Toshio Homma (Director)		Canon Inc.		112		9		13		134

Notes:

(1) Items that relate to policies which determine the amount of director and audit & supervisory board member remuneration or its calculation method:

(i) Basic Policy of Remuneration

The Company, for the health and sustainable growth of the Canon Group, is working to design a director remuneration system that effectively encourages directors and audit & supervisory board members to fully demonstrate their abilities and fulfill their roles and responsibilities. Moreover, the total value of director and audit & supervisory board member remuneration is based on an appropriate standard, taking into consideration the recruiting and holding on to top-class people that can effectively meet the Company’s expectations.

(ii) Details of Each Element of the Remuneration System

a. Representative Directors and Executive Directors

The remuneration of Representative Directors and Executive Directors consists of a basic remuneration, a bonus, and a stock-type compensation stock option.

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Basic Remuneration

As compensation for the performance of duties, directors receive a fixed monthly remuneration. The remuneration is a predetermined amount based on the director’s position and the degree to which they contribute in this role. The total amount of director remuneration is not more than ¥1.5 billion a year, which was approved at the Company’s Ordinary General Meeting of Shareholders for the 117th Business Term held on March 2018. (Note: the total amount includes remuneration for outside directors.)

Bonus

As a reward for directors’ service over their one-year term, directors receive a bonus for which consolidated income before income taxes is used as a financial indicator to measure the results of annual group-wide corporate activities. The total amount of the director’s bonus is determined by multiplying such consolidated income with a given predetermined coefficient that corresponds with the director’s position. It is also determined through individual assessment based on the degree to which the director has contributed in this role.

Bonuses along with dividend and internal reserves are essentially subjects of corporate profit distribution. As such, matters including whether a payment is allowed or the total amount of bonus as calculated above, are deliberated during the general meeting of shareholders every year.

Stock-type Compensation Stock Option

The granting of stock acquisition rights for the Company’s shares is to further raise the motivation of these directors to improve performance from a medium- to long-term perspective as well as raise corporate value by sharing the benefits and risks of share price fluctuations with the Company’s shareholders. The total amount of stock acquisition rights of not more than ¥300 million a year, was approved at the Company’s Ordinary General Meeting of Shareholders for the 117 Business Term held on March 29, 2018. The number of stock acquisition rights allotted to a director is calculated based on the amount determined by the director’s position, the consolidated income before income taxes in the previous year as well as the degree to which the director has contributed in this role (The amount contributed as consideration for granted stock acquisition rights), and the stock price level at the time of grant. As remuneration is linked to the achievements throughout one’s term in office, the Company has a system in place that allows the exercising of acquisition rights at the time of retirement due to the expiration of one’s term. As for the grantee, if the Company recognizes any misconduct of duty, act conflicting with the duty of due care, etc., the Company may limit the exercise of all or a portion of the stock acquisition rights.

Managing from a medium- to long-term perspective is important. Based on this, the Company places emphasis on providing a certain level of basic remuneration in a stable manner. In addition to this, consideration is also given to improved performance in a single year and the pursuit of shareholder interest when determining the breakdown between basic remuneration, bonus, and stock-type compensation stock options. The maximum amount of director remuneration accounted for by the bonus and stock-type compensation stock options on average by position is set around 50% and 30% of the basic remuneration, respectively. As for consolidated income before income taxes which is the financial indicators linked to the bonus, in 2019 (the 119th Business Term), although the Company’s outlook was for ¥347.5 billion at the beginning of the year, actual results were ¥195.7 billion.

b. Outside Directors and Audit & Supervisory Board Members

As for the remuneration of outside directors and audit & supervisory board members which perform duties that are independent from a business execution standpoint, their remuneration is made up of a fixed monthly amount, namely a basic remuneration, as compensation for their service. As for outside directors, their basic remuneration is decided within a predetermined range that takes into consideration levels that are considered standard and

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within the specified yearly range that was approved at the Company’s general meeting of shareholders as described in Basic Remuneration above. As for audit & supervisory board members, within the yearly limit of ¥200 million that was approved at the Ordinary General Meeting of Shareholders for the 103rd Business Term held on March 30, 2004, distribution is determined through consultation between Audit & Supervisory Board Members.

Stock Options

The descriptions of the stock option plans are below.

The Stock Option Plan Approved on March 29, 2018

1. Grantees of share options

The Company’s 5 directors (excluding outside directors) and 28 executive officers.

2. Number of share options

The number of share options that the Board of Directors are authorized to issue is 695.

3. Number of shares acquired upon exercise of a share option

The number of shares acquired upon exercise of one share option (the “Allotted Number of Shares”) is 100 common shares, and the total number of shares to be delivered due to the exercise of share options is 69,500 common shares. However, in the case that the Company conducts a share split (including an allotment without consideration (musho-wariate) of shares of common stock of the Company; the same shall apply to all references to the share split herein) or share consolidation on and after the date of shareholders’ resolution adopting the proposal at the above-mentioned General Meeting of Shareholders (the “Allotment Date”), the number of shares acquired shall be adjusted in accordance with the following formula, rounding down any fraction of less than one share resulting from such adjustment.

Number of shares acquired after adjustment = Number of shares acquired before adjustment × Ratio of share split or share consolidation

In addition to the above, in any event that makes it necessary to adjust the number of shares acquired, including a merger and company split, on and after the Allotment Date, the Company may make appropriate adjustment to the Number of Shares Acquired within a reasonable range.

4. Cash payment for share options (yen)

The cash payment required for each stock acquisition right shall be ¥1 per share to be acquired upon exercise of each stock acquisition right, multiplied by the number of shares acquired.

5. Period during which share options are exercisable

From May 2, 2018 to May 1, 2048.

6. Issue price and amount of increased stated capital (yen)

The issue price and amount of increased stated capital per share is ¥2,949 and ¥1,475, respectively. The issue price is total amount of the exercise price of each stock acquisition (¥1 per share) and the fair value of the stock

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acquisition rights at the allotment date (¥2,948 per share). In addition, the amount of capital to be increased due to the issuance of shares upon exercise of the stock acquisition rights shall be a half of the maximum amount of capital increase, etc, which is calculated in accordance with the Article 17, Paragraph 1 of the Company Accounting Regulations (Kaisha Keisan Kisoku), and any fraction less than ¥1 arising therefrom shall be rounded up to the nearest ¥1.

7. Other conditions for exercise of share options

(i) Those to whom stock acquisition rights are allotted (the “Holder(s)”) shall be entitled to exercise all the stock acquisition rights together within 10 days (in case the last day is not a business day, the following business day) from the day immediately following the day when they cease to hold any position as a director or an executive officer of the Company.

(ii) In the event that the Company recognizes any violation of laws and regulations, misconduct of the duties, act conflicting with the duty of due care or duty of loyalty, or any other act equivalent thereto of the Holder, the Company may limit, subject to a resolution by the Board of Directors of the Company, the number of offered stock acquisition rights that may be exercised by such Holder.

8. Restriction on acquisition of share options by transfer

An acquisition of share options by way of transfer requires the approval of the Board of Directors.

9. Treatment of the stock acquisition rights upon restructuring transaction

If the Company conducts a merger (limited to the case where the Company is dissolved due to the merger), or a share exchange or transfer (both, limited to the case where the Company becomes a wholly-owned subsidiary) (collectively, the “Structural Reorganization”), the Company shall, in each of the above cases, allot stock acquisition rights of any of the relevant companies listed in “a” through “e” of Article 236, Paragraph 1, Item 8 of the Company Law (the “Reorganized Company”) to the Holders holding the stock acquisition rights remaining at the time immediately preceding the effective date of the relevant Structural Reorganization (the “Remaining Stock Acquisition Rights”) (the effective date of the relevant Structural Reorganization shall mean, in the case of a merger, the date on which the merger becomes effective; in the case of a consolidation; the date of establishment of a newly-incorporated company through consolidation; in the case of a share exchange, the date on which the share exchange becomes effective; and in the case of a share transfer, the date of establishment of a wholly-owning parent company through the share transfer; hereinafter the same shall apply). Provided, however, that the foregoing shall be on the condition that transfer of such stock acquisition rights by the Reorganized Company in accordance with each of the following items is stipulated in a merger agreement, a consolidation agreement, a share exchange agreement or a share transfer plan.

(i) Number of stock acquisition rights of the Reorganized Company to be allotted:

A number equal to the number of the Remaining Stock Acquisition Rights held by the Holder shall be transferred to such Holder.

(ii) Class of shares of the Reorganized Company to be acquired upon exercise of stock acquisition rights:

Common stock of the Reorganized Company.

(iii) Number of shares of the Reorganized Company to be acquired upon exercise of stock acquisition rights:

To be determined in accordance with 3 above, taking into consideration, among others, the conditions of Structural Reorganization.

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(iv) Value of assets to be contributed upon exercise of each stock acquisition right:

The value of assets to be contributed upon exercise of each stock acquisition right to be allotted shall be the amount obtained by multiplying (x) the exercise price after reorganization set forth below by (y) the number of shares of the Reorganized Company to be acquired upon exercise of the relevant stock acquisition rights as determined in accordance with (iii) above. The “exercise price after reorganization” shall be one 1 yen per share of the Reorganized Company to be acquired upon exercise of each of its stock acquisition rights.

(v) Exercise period of stock acquisition rights:

From and including whichever is the later of (x) the commencement date of the period during which the stock acquisition rights may be exercised or (y) the effective date of the Structural Reorganization, to and including the expiration date of the period during which the stock acquisition rights may be exercised as provided.

(vi) Matters regarding stated capital and capital reserves increased due to the issuance of shares upon exercise of stock acquisition rights:

(a) The increased amount of stated capital to be increased due to the issuance of shares upon exercise of the stock acquisition rights will be one half (1/2) of the maximum amount of increase of stated capital, etc. to be calculated in accordance with Article 17, Paragraph 1 of the Company Accounting Regulations (Kaisha Keisan Kisoku). Any fractional amount of less than one 1 yen resulting from such calculation will be rounded up to one 1 yen.

(b) The increased amount of capital reserves to be increased due to the issuance of shares upon exercise of the stock acquisition rights shall be the maximum amount of increases of stated capital, etc., mentioned in (a) above, after the subtraction of increased amount of stated capital mentioned in (a) above.

(vii) Restrictions on acquisition of stock acquisition rights by transfer:

The stock acquisition rights cannot be acquired through transfer, unless such acquisition is expressly approved by a resolution of the Board of Directors of the Reorganized Company.

(viii) Conditions for exercise of stock acquisition rights:

(a)Those to whom stock acquisition rights are allotted (the “Holder(s)”) shall be entitled to exercise all the stock acquisition rights together within 10 days (in case the last day is not a business day, the following business day) from the day immediately following the day when they cease to hold any position as a Director or an Executive Officer of the Company.

(b)In the event that the Company recognizes any violation of laws and regulations, misconduct of the duties, act conflicting with the duty of due care or duty of loyalty, or any other act equivalent thereto of the Holder, the Company may limit, subject to a resolution by the Board of Directors of the Company, the number of offered stock acquisition rights that may be exercised by such Holder.

(c)Besides the above, other conditions shall be stipulated in an agreement to be executed between the Company and the Holder, based on the resolution of the Board of Directors’ meeting.

(ix) Events regarding the Company’s acquisition of stock acquisition rights:

If a proposal for the approval of a merger agreement under which the Company will become an extinguishing company or a proposal for the approval for a share exchange agreement or a share transfer plan under which the Company will become a wholly owned subsidiary is approved by the Company’s shareholders at a Meeting of Shareholders (or by the Board of Directors if no resolution of a Meeting of Shareholders is required for such approval), the Company will be entitled to acquire the share options, without compensation, on a date separately designated by the Board of Directors.

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The Stock Option Plan Approved on March 28, 2019

1. Grantees of share options

The Company’s 4 directors (excluding outside directors) and 31 executive officers.

2. Number of share options

The number of share options that the Board of Directors are authorized to issue is 1,163.

3. Number of shares acquired upon exercise of a share option

The number of shares acquired upon exercise of one share option (the “Allotted Number of Shares”) is 100 common shares, and the total number of shares to be delivered due to the exercise of share options is 116,300 common shares. However, in the case that the Company conducts a share split (including an allotment without consideration (musho-wariate) of shares of common stock of the Company; the same shall apply to all references to the share split herein) or share consolidation on and after the date of shareholders’ resolution adopting the proposal at the above-mentioned General Meeting of Shareholders (the “Allotment Date”), the number of shares acquired shall be adjusted in accordance with the following formula, rounding down any fraction of less than one share resulting from such adjustment.

Number of shares acquired after adjustment = Number of shares acquired before adjustment × Ratio of share split or share consolidation

In addition to the above, in any event that makes it necessary to adjust the number of shares acquired, including a merger and company split, on and after the Allotment Date, the Company may make appropriate adjustment to the Number of Shares Acquired within a reasonable range.

4. Cash payment for share options (yen)

The cash payment required for each stock acquisition right shall be ¥1 per share to be acquired upon exercise of each stock acquisition right, multiplied by the number of shares acquired.

5. Period during which share options are exercisable

From April 27, 2019 to April 26, 2049.

6. Issue price and amount of increased stated capital (yen)

The issue price and amount of increased stated capital per share is ¥2,282 and ¥1,141, respectively. The issue price is total amount of the exercise price of each stock acquisition (¥1 per share) and the fair value of the stock acquisition rights at the allotment date (¥2,281 per share). In addition, the amount of capital to be increased due to the issuance of shares upon exercise of the stock acquisition rights shall be a half of the maximum amount of capital increase, etc, which is calculated in accordance with Article 17, Paragraph 1 of the Company Accounting Regulations (Kaisha Keisan Kisoku), and any fraction less than ¥1 arising therefrom shall be rounded up to the nearest ¥1.

7. Other conditions for exercise of share options

(i) Those to whom stock acquisition rights are allotted (the “Holder(s)”) shall be entitled to exercise all the stock acquisition rights together within 10 days (in case the last day is not a business day, the following business day) from the day immediately following the day when they cease to hold any position as a director or an executive officer of the Company.

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(ii) In the event that the Company recognizes any violation of laws and regulations, misconduct of the duties, act conflicting with the duty of due care or duty of loyalty, or any other act equivalent thereto of the Holder, the Company may limit, subject to a resolution by the Board of Directors of the Company, the number of offered stock acquisition rights that may be exercised by such Holder.

8. Restriction on acquisition of share options by transfer

An acquisition of share options by way of transfer requires the approval of the Board of Directors.

9. Treatment of the stock acquisition rights upon restructuring transaction

If the Company conducts a merger (limited to the case where the Company is dissolved due to the merger), or a share exchange or transfer (both, limited to the case where the Company becomes a wholly-owned subsidiary) (collectively, the “Structural Reorganization”), the Company shall, in each of the above cases, allot stock acquisition rights of any of the relevant companies listed in “a” through “e” of Article 236, Paragraph 1, Item 8 of the Company Law (the “Reorganized Company”) to the Holders holding the stock acquisition rights remaining at the time immediately preceding the effective date of the relevant Structural Reorganization (the “Remaining Stock Acquisition Rights”) (the effective date of the relevant Structural Reorganization shall mean, in the case of a merger, the date on which the merger becomes effective; in the case of a consolidation; the date of establishment of a newly-incorporated company through consolidation; in the case of a share exchange, the date on which the share exchange becomes effective; and in the case of a share transfer, the date of establishment of a wholly-owning parent company through the share transfer; hereinafter the same shall apply). Provided, however, that the foregoing shall be on the condition that transfer of such stock acquisition rights by the Reorganized Company in accordance with each of the following items is stipulated in a merger agreement, a consolidation agreement, a share exchange agreement or a share transfer plan.

(i) Number of stock acquisition rights of the Reorganized Company to be allotted:

A number equal to the number of the Remaining Stock Acquisition Rights held by the Holder shall be transferred to such Holder.

(ii) Class of shares of the Reorganized Company to be acquired upon exercise of stock acquisition rights:

Common stock of the Reorganized Company.

(iii) Number of shares of the Reorganized Company to be acquired upon exercise of stock acquisition rights:

To be determined in accordance with 3 above, taking into consideration, among others, the conditions of Structural Reorganization.

(iv) Value of assets to be contributed upon exercise of each stock acquisition right:

The value of assets to be contributed upon exercise of each stock acquisition right to be allotted shall be the amount obtained by multiplying (x) the exercise price after reorganization set forth below by (y) the number of shares of the Reorganized Company to be acquired upon exercise of the relevant stock acquisition rights as determined in accordance with (iii) above. The “exercise price after reorganization” shall be one 1 yen per share of the Reorganized Company to be acquired upon exercise of each of its stock acquisition rights.

(v) Exercise period of stock acquisition rights:

From and including whichever is the later of (x) the commencement date of the period during which the stock acquisition rights may be exercised or (y) the effective date of the Structural Reorganization, to and including the expiration date of the period during which the stock acquisition rights may be exercised as provided.

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(vi) Matters regarding stated capital and capital reserves increased due to the issuance of shares upon exercise of stock acquisition rights:

(a) The increased amount of stated capital to be increased due to the issuance of shares upon exercise of the stock acquisition rights will be one half (1/2) of the maximum amount of increase of stated capital, etc. to be calculated in accordance with Article 17, Paragraph 1 of the Company Accounting Regulations (Kaisha Keisan Kisoku). Any fractional amount of less than one 1 yen resulting from such calculation will be rounded up to one 1 yen.

(b) The increased amount of capital reserves to be increased due to the issuance of shares upon exercise of the stock acquisition rights shall be the maximum amount of increases of stated capital, etc., mentioned in (a) above, after the subtraction of increased amount of stated capital mentioned in (a) above.

(vii) Restrictions on acquisition of stock acquisition rights by transfer:

The stock acquisition rights cannot be acquired through transfer, unless such acquisition is expressly approved by a resolution of the Board of Directors of the Reorganized Company.

(viii) Conditions for exercise of stock acquisition rights:

(a) Those to whom stock acquisition rights are allotted (the “Holder(s)”) shall be entitled to exercise all the stock acquisition rights together within 10 days (in case the last day is not a business day, the following business day) from the day immediately following the day when they cease to hold any position as a Director or an Executive Officer of the Company.

(b) In the event that the Company recognizes any violation of laws and regulations, misconduct of the duties, act conflicting with the duty of due care or duty of loyalty, or any other act equivalent thereto of the Holder, the Company may limit, subject to a resolution by the Board of Directors of the Company, the number of offered stock acquisition rights that may be exercised by such Holder.

(c) Besides the above, other conditions shall be stipulated in an agreement to be executed between the Company and the Holder, based on the resolution of the Board of Directors’ meeting.

(ix) Events regarding the Company’s acquisition of stock acquisition rights:

If a proposal for the approval of a merger agreement under which the Company will become an extinguishing company or a proposal for the approval for a share exchange agreement or a share transfer plan under which the Company will become a wholly owned subsidiary is approved by the Company’s shareholders at a Meeting of Shareholders (or by the Board of Directors if no resolution of a Meeting of Shareholders is required for such approval), the Company will be entitled to acquire the share options, without compensation, on a date separately designated by the Board of Directors.

The Stock Option Plan Approved on February 13, 2020

1. Grantees of share options

One of the Company’s executive officers.

2. Number of share options

The number of share options that the Board of Directors are authorized to issue is 103.

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3. Number of shares acquired upon exercise of a share option

The number of shares acquired upon exercise of one share option (the “Allotted Number of Shares”) is 100 common shares, and the total number of shares to be delivered due to the exercise of share options is 10,300 common shares. However, in the case that the Company conducts a share split (including an allotment without consideration (musho-wariate) of shares of common stock of the Company; the same shall apply to all references to the share split herein) or share consolidation on and after the date of shareholders’ resolution adopting the proposal at the above-mentioned General Meeting of Shareholders (the “Allotment Date”), the number of shares acquired shall be adjusted in accordance with the following formula, rounding down any fraction of less than one share resulting from such adjustment.

Number of shares acquired after adjustment = Number of shares acquired before adjustment × Ratio of share split or share consolidation

In addition to the above, in any event that makes it necessary to adjust the number of shares acquired, including a merger and company split, on and after the Allotment Date, the Company may make appropriate adjustment to the Number of Shares Acquired within a reasonable range.

4. Cash payment for share options (yen)

The cash payment required for each stock acquisition right shall be ¥1 per share to be acquired upon exercise of each stock acquisition right, multiplied by the number of shares acquired.

5. Period during which share options are exercisable

From March 26, 2020 to March 25, 2050.

6. Issue price and amount of increased stated capital (yen)

The issue price and amount of increased stated capital per share is ¥1,704 and ¥852, respectively. The issue price is total amount of the exercise price of each stock acquisition (¥1 per share) and the fair value of the stock acquisition rights at the allotment date (¥1,703 per share). In addition, the amount of capital to be increased due to the issuance of shares upon exercise of the stock acquisition rights shall be a half of the maximum amount of capital increase, etc, which is calculated in accordance with Article 17, Paragraph 1 of the Company Accounting Regulations (Kaisha Keisan Kisoku), and any fraction less than ¥1 arising therefrom shall be rounded up to the nearest ¥1.

7. Other conditions for exercise of share options

(i) Those to whom stock acquisition rights are allotted (the “Holder(s)”) shall be entitled to exercise all the stock acquisition rights together within 10 days (in case the last day is not a business day, the following business day) from the day immediately following the day when they cease to hold any position as a director or an executive officer of the Company.

(ii) In the event that the Company recognizes any violation of laws and regulations, misconduct of the duties, act conflicting with the duty of due care or duty of loyalty, or any other act equivalent thereto of the Holder, the Company may limit, subject to a resolution by the Board of Directors of the Company, the number of offered stock acquisition rights that may be exercised by such Holder.

8. Restriction on acquisition of share options by transfer

An acquisition of share options by way of transfer requires the approval of the Board of Directors.

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9. Treatment of the stock acquisition rights upon restructuring transaction

If the Company conducts a merger (limited to the case where the Company is dissolved due to the merger), or a share exchange or transfer (both, limited to the case where the Company becomes a wholly-owned subsidiary) (collectively, the “Structural Reorganization”), the Company shall, in each of the above cases, allot stock acquisition rights of any of the relevant companies listed in “a” through “e” of Article 236, Paragraph 1, Item 8 of the Company Law (the “Reorganized Company”) to the Holders holding the stock acquisition rights remaining at the time immediately preceding the effective date of the relevant Structural Reorganization (the “Remaining Stock Acquisition Rights”) (the effective date of the relevant Structural Reorganization shall mean, in the case of a merger, the date on which the merger becomes effective; in the case of a consolidation; the date of establishment of a newly-incorporated company through consolidation; in the case of a share exchange, the date on which the share exchange becomes effective; and in the case of a share transfer, the date of establishment of a wholly-owning parent company through the share transfer; hereinafter the same shall apply). Provided, however, that the foregoing shall be on the condition that transfer of such stock acquisition rights by the Reorganized Company in accordance with each of the following items is stipulated in a merger agreement, a consolidation agreement, a share exchange agreement or a share transfer plan.

(i) Number of stock acquisition rights of the Reorganized Company to be allotted:

A number equal to the number of the Remaining Stock Acquisition Rights held by the Holder shall be transferred to such Holder.

(ii) Class of shares of the Reorganized Company to be acquired upon exercise of stock acquisition rights:

Common stock of the Reorganized Company.

(iii) Number of shares of the Reorganized Company to be acquired upon exercise of stock acquisition rights:

To be determined in accordance with 3 above, taking into consideration, among others, the conditions of Structural Reorganization.

(iv) Value of assets to be contributed upon exercise of each stock acquisition right:

The value of assets to be contributed upon exercise of each stock acquisition right to be allotted shall be the amount obtained by multiplying (x) the exercise price after reorganization set forth below by (y) the number of shares of the Reorganized Company to be acquired upon exercise of the relevant stock acquisition rights as determined in accordance with (iii) above. The “exercise price after reorganization” shall be one 1 yen per share of the Reorganized Company to be acquired upon exercise of each of its stock acquisition rights.

(v) Exercise period of stock acquisition rights:

From and including whichever is the later of (x) the commencement date of the period during which the stock acquisition rights may be exercised or (y) the effective date of the Structural Reorganization, to and including the expiration date of the period during which the stock acquisition rights may be exercised as provided.

(vi) Matters regarding stated capital and capital reserves increased due to the issuance of shares upon exercise of stock acquisition rights:

(a) The increased amount of stated capital to be increased due to the issuance of shares upon exercise of the stock acquisition rights will be one half (1/2) of the maximum amount of increase of stated capital, etc. to be calculated in accordance with Article 17, Paragraph 1 of the Company Accounting Regulations (Kaisha Keisan Kisoku). Any fractional amount of less than one 1 yen resulting from such calculation will be rounded up to one 1 yen.

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(b) The increased amount of capital reserves to be increased due to the issuance of shares upon exercise of the stock acquisition rights shall be the maximum amount of increases of stated capital, etc., mentioned in (a) above, after the subtraction of increased amount of stated capital mentioned in (a) above.

(vii) Restrictions on acquisition of stock acquisition rights by transfer:

The stock acquisition rights cannot be acquired through transfer, unless such acquisition is expressly approved by a resolution of the Board of Directors of the Reorganized Company.

(viii) Conditions for exercise of stock acquisition rights:

(a) Those to whom stock acquisition rights are allotted (the “Holder(s)”) shall be entitled to exercise all the stock acquisition rights together within 10 days (in case the last day is not a business day, the following business day) from the day immediately following the day when they cease to hold any position as a Director or an Executive Officer of the Company.

(b) In the event that the Company recognizes any violation of laws and regulations, misconduct of the duties, act conflicting with the duty of due care or duty of loyalty, or any other act equivalent thereto of the Holder, the Company may limit, subject to a resolution by the Board of Directors of the Company, the number of offered stock acquisition rights that may be exercised by such Holder.

(c) Besides the above, other conditions shall be stipulated in an agreement to be executed between the Company and the Holder, based on the resolution of the Board of Directors’ meeting.

(ix) Events regarding the Company’s acquisition of stock acquisition rights:

If a proposal for the approval of a merger agreement under which the Company will become an extinguishing company or a proposal for the approval for a share exchange agreement or a share transfer plan under which the Company will become a wholly owned subsidiary is approved by the Company’s shareholders at a Meeting of Shareholders (or by the Board of Directors if no resolution of a Meeting of Shareholders is required for such approval), the Company will be entitled to acquire the share options, without compensation, on a date separately designated by the Board of Directors.

The Stock Option Plan Approved on March 27, 2020

1. Grantees of share options

The Company’s 4 directors (excluding outside directors) and 30 executive officers.

2. Number of share options

The number of share options that the Board of Directors are authorized to issue is 886.

3. Number of shares acquired upon exercise of a share option

The number of shares acquired upon exercise of one share option (the “Allotted Number of Shares”) is 100 common shares, and the total number of shares to be delivered due to the exercise of share options is 88,600 common shares. However, in the case that the Company conducts a share split (including an allotment without consideration (musho-wariate) of shares of common stock of the Company; the same shall apply to all references to the share split herein) or share consolidation on and after the date of shareholders’ resolution adopting the proposal at the above-mentioned General Meeting of Shareholders (the “Allotment Date”), the number of shares acquired shall be adjusted in accordance with the following formula, rounding down any fraction of less than one share resulting from such adjustment.

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Number of shares acquired after adjustment = Number of shares acquired before adjustment × Ratio of share split or share consolidation

In addition to the above, in any event that makes it necessary to adjust the number of shares acquired, including a merger and company split, on and after the Allotment Date, the Company may make appropriate adjustment to the Number of Shares Acquired within a reasonable range.

4. Cash payment for share options (yen)

The cash payment required for each stock acquisition right shall be ¥1 per share to be acquired upon exercise of each stock acquisition right, multiplied by the number of shares acquired.

5. Period during which share options are exercisable

From May 2, 2020 to May 1, 2050.

6. Issue price and amount of increased stated capital (yen)

The issue price is total amount of the exercise price of each stock acquisition (¥1 per share) and the fair value of the stock acquisition rights shall be calculated by using the Black-Scholes model based on some conditions to be applied on the allotment date. In addition, the amount of capital to be increased due to the issuance of shares upon exercise of the stock acquisition rights shall be a half of the maximum amount of capital increase, etc, which is calculated in accordance with Article 17, Paragraph 1 of the Company Accounting Regulations (Kaisha Keisan Kisoku), and any fraction less than ¥1 arising therefrom shall be rounded up to the nearest ¥1.

7. Other conditions for exercise of share options

(i) Those to whom stock acquisition rights are allotted (the “Holder(s)”) shall be entitled to exercise all the stock acquisition rights together within 10 days (in case the last day is not a business day, the following business day) from the day immediately following the day when they cease to hold any position as a director or an executive officer of the Company.

(ii) In the event that the Company recognizes any violation of laws and regulations, misconduct of the duties, act conflicting with the duty of due care or duty of loyalty, or any other act equivalent thereto of the Holder, the Company may limit, subject to a resolution by the Board of Directors of the Company, the number of offered stock acquisition rights that may be exercised by such Holder.

8. Restriction on acquisition of share options by transfer

An acquisition of share options by way of transfer requires the approval of the Board of Directors.

9. Treatment of the stock acquisition rights upon restructuring transaction

If the Company conducts a merger (limited to the case where the Company is dissolved due to the merger), or a share exchange or transfer (both, limited to the case where the Company becomes a wholly-owned subsidiary) (collectively, the “Structural Reorganization”), the Company shall, in each of the above cases, allot stock acquisition rights of any of the relevant companies listed in “a” through “e” of Article 236, Paragraph 1, Item 8 of the Company Law (the “Reorganized Company”) to the Holders holding the stock acquisition rights remaining at the time immediately preceding the effective date of the relevant Structural Reorganization (the “Remaining Stock Acquisition Rights”) (the effective date of the relevant Structural Reorganization shall mean, in the case of a merger, the date on which the merger becomes effective; in the case of a consolidation; the date of

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establishment of a newly-incorporated company through consolidation; in the case of a share exchange, the date on which the share exchange becomes effective; and in the case of a share transfer, the date of establishment of a wholly-owning parent company through the share transfer; hereinafter the same shall apply). Provided, however, that the foregoing shall be on the condition that transfer of such stock acquisition rights by the Reorganized Company in accordance with each of the following items is stipulated in a merger agreement, a consolidation agreement, a share exchange agreement or a share transfer plan.

(i) Number of stock acquisition rights of the Reorganized Company to be allotted:

A number equal to the number of the Remaining Stock Acquisition Rights held by the Holder shall be transferred to such Holder.

(ii) Class of shares of the Reorganized Company to be acquired upon exercise of stock acquisition rights:

Common stock of the Reorganized Company.

(iii) Number of shares of the Reorganized Company to be acquired upon exercise of stock acquisition rights:

To be determined in accordance with 3 above, taking into consideration, among others, the conditions of Structural Reorganization.

(iv) Value of assets to be contributed upon exercise of each stock acquisition right:

The value of assets to be contributed upon exercise of each stock acquisition right to be allotted shall be the amount obtained by multiplying (x) the exercise price after reorganization set forth below by (y) the number of shares of the Reorganized Company to be acquired upon exercise of the relevant stock acquisition rights as determined in accordance with (iii) above. The “exercise price after reorganization” shall be one 1 yen per share of the Reorganized Company to be acquired upon exercise of each of its stock acquisition rights.

(v) Exercise period of stock acquisition rights:

From and including whichever is the later of (x) the commencement date of the period during which the stock acquisition rights may be exercised or (y) the effective date of the Structural Reorganization, to and including the expiration date of the period during which the stock acquisition rights may be exercised as provided.

(vi) Matters regarding stated capital and capital reserves increased due to the issuance of shares upon exercise of stock acquisition rights:

(a) The increased amount of stated capital to be increased due to the issuance of shares upon exercise of the stock acquisition rights will be one half (1/2) of the maximum amount of increase of stated capital, etc. to be calculated in accordance with Article 17, Paragraph 1 of the Company Accounting Regulations (Kaisha Keisan Kisoku). Any fractional amount of less than one 1 yen resulting from such calculation will be rounded up to one 1 yen.

(b) The increased amount of capital reserves to be increased due to the issuance of shares upon exercise of the stock acquisition rights shall be the maximum amount of increases of stated capital, etc., mentioned in (a) above, after the subtraction of increased amount of stated capital mentioned in (a) above.

(vii) Restrictions on acquisition of stock acquisition rights by transfer:

The stock acquisition rights cannot be acquired through transfer, unless such acquisition is expressly approved by a resolution of the Board of Directors of the Reorganized Company.

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(viii) Conditions for exercise of stock acquisition rights:

(a) Those to whom stock acquisition rights are allotted (the “Holder(s)”) shall be entitled to exercise all the stock acquisition rights together within 10 days (in case the last day is not a business day, the following business day) from the day immediately following the day when they cease to hold any position as a Director or an Executive Officer of the Company.

(b) In the event that the Company recognizes any violation of laws and regulations, misconduct of the duties, act conflicting with the duty of due care or duty of loyalty, or any other act equivalent thereto of the Holder, the Company may limit, subject to a resolution by the Board of Directors of the Company, the number of offered stock acquisition rights that may be exercised by such Holder.

(c) Besides the above, other conditions shall be stipulated in an agreement to be executed between the Company and the Holder, based on the resolution of the Board of Directors’ meeting.

(ix) Events regarding the Company’s acquisition of stock acquisition rights:

If a proposal for the approval of a merger agreement under which the Company will become an extinguishing company or a proposal for the approval for a share exchange agreement or a share transfer plan under which the Company will become a wholly owned subsidiary is approved by the Company’s shareholders at a Meeting of Shareholders (or by the Board of Directors if no resolution of a Meeting of Shareholders is required for such approval), the Company will be entitled to acquire the share options, without compensation, on a date separately designated by the Board of Directors.

C. Board practices

See Item 6A “Directors and senior management” and Item 6B “Compensation.”

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D. Employees

The following table shows the numbers of Canon’s employees as of December 31, 2019, 2018 and 2017.

	Total		Japan		Americas		Europe		Asia and Oceania
December 31, 2019
Office		91,664		31,588		9,182		14,057		36,837
Imaging System		48,341		16,254		1,797		1,506		28,784
Medical System		12,212		6,447		2,305		1,729		1,731
Industry and Others		26,607		10,522		4,923		5,785		5,377
Corporate		8,217		8,168		—		49		—
Total		187,041		72,979		18,207		23,126		72,729
December 31, 2018
Office		95,052		32,516		9,450		15,200		37,886
Imaging System		53,049		16,699		2,291		1,801		32,258
Medical System		11,759		6,200		1,975		1,744		1,840
Industry and Others		26,763		9,750		4,645		6,484		5,884
Corporate		8,433		8,295		—		52		86
Total		195,056		73,460		18,361		25,281		77,954
December 31, 2017
Office		103,380		32,407		13,263		18,972		38,738
Imaging System		55,909		16,732		2,416		1,841		34,920
Medical System		10,851		5,942		1,834		1,577		1,498
Industry and Others		18,476		9,573		935		3,176		4,792
Corporate		9,160		9,011		—		57		92
Total		197,776		73,665		18,448		25,623		80,040

Basically, the Company and its subsidiaries have their own independent labor union. The Company believes that the relationship between Canon and its labor union is good.

E. Share ownership

The following table shows the numbers of shares owned by the directors and Audit & Supervisory Board Members of the Company as of March 27, 2020. The total is 265,495 shares, constituting 0.02% of all outstanding shares.

Name	Position	Number of shares
Fujio Mitarai	Chairman & CEO		134,023
Masaya Maeda	President & COO		25,400
Toshizo Tanaka	Executive Vice President & CFO		23,510
Toshio Homma	Executive Vice President & CTO		58,552
Kunitaro Saida	Director		7,100
Haruhiko Kato	Director		200
Ryuichi Ebinuma	Audit & Supervisory Board Member		10,800
Hiroaki Sato	Audit & Supervisory Board Member		1,810
Yutaka Tanaka	Audit & Supervisory Board Member		400
Hiroshi Yoshida	Audit & Supervisory Board Member		2,700
Koichi Kashimoto	Audit & Supervisory Board Member		1,000
	Total		265,495

The number of shares that may be subscribed for under rights granted to the Directors and Audit & Supervisory Board Members, listed above, pursuant to the stock option plan approved by the stockholders on

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March 29, 2018 was 69,500 shares of common stock. The exercise price of the rights is ¥1 per share and those to whom stock acquisition rights are granted (the “Holder(s)”) shall be entitled to exercise all the stock acquisition rights together within 10 days (in case the last day is not a business day, the following business day) from after the date when they cease to hold any position as a director or an executive officer of the Company. The exercisable period of acquisition rights is from May 2, 2018 to May 1, 2048.

The number of shares that may be subscribed for under rights granted to the Directors and Audit & Supervisory Board Members, listed above, pursuant to the stock option plan approved on March 28, 2019 was 116,300 shares of common stock. The exercise price of the rights is ¥1 per share and those to whom stock acquisition rights are granted (the “Holder(s)”) shall be entitled to exercise all the stock acquisition rights together within 10 days (in case the last day is not a business day, the following business day) from after the date when they cease to hold any position as a director or an executive officer of the Company. The exercisable period of acquisition rights is from April 27, 2019 to April 26, 2049.

The number of shares that may be subscribed for an under right granted to one of the Company’s executive officers, pursuant to the stock option plan approved by on February 13, 2020 was 10,300 shares of common stock. The exercise price of the right is ¥1 per share and that to whom stock acquisition right is granted (the “Holder”) shall be entitled to exercise all the stock acquisition right together within 10 days (in case the last day is not a business day, the following business day) from after the date when he ceases to hold any position as an executive officer of the Company. The exercisable period of acquisition right is from March 26, 2020 to March 25, 2050.

The number of shares that may be subscribed for under rights granted to the Directors and Audit & Supervisory Board Members, listed above, pursuant to the stock option plan approved on March 27, 2020 was 88,600 shares of common stock. The exercise price of the rights is ¥1 per share and those to whom stock acquisition rights are granted (the “Holder(s)”) shall be entitled to exercise all the stock acquisition rights together within 10 days (in case the last day is not a business day, the following business day) from after the date when they cease to hold any position as a director or an executive officer of the Company. The exercisable period of acquisition rights is from May 2, 2020 to May 1, 2050.

For additional information on the stock option plan, see “B. Compensation” of this Item.

The Company and certain of its subsidiaries encourage its employees to purchase shares of their Common Stock in the market through an employees’ stock purchase association.

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Item 7. Major Shareholders and Related Party Transactions

A. Major shareholders

The table below shows the numbers of the Company’s shares held by the top ten holders of the Company’s shares and their ownership percentage as of December 31, 2019:

Name of major shareholder	Shares owned		Percentage
			Number of shares owned / Number of shares issued
The Master Trust Bank of Japan, Ltd. (Trust Account)		94,742,900		8.9	%
Japan Trustee Services Bank, Ltd. (Trust Account)		43,357,100		4.1	%
Barclays Securities Japan Limited		26,429,117		2.5	%
The Dai-ichi Life Insurance Company, Limited		24,320,780		2.3	%
Mizuho Bank, Ltd.		22,558,173		2.1	%
Japan Trustee Services Bank, Ltd. (Trust Account 5)		21,834,600		2.1	%
State Street Bank West Client—Treaty 505234		20,815,428		2.0	%
SMBC Nikko Securites Inc.		17,697,000		1.7	%
OBAYASHI CORPORATION		16,527,607		1.6	%
JPMorgan Chase Bank, N.A. 385151		16,295,790		1.5	%

Notes:

1: Apart from the above shares, The Dai-ichi Life Insurance Company, Limited held 6,180,000 shares contributed to a trust fund for its retirement and severance plans.

2: Apart from the above shares, Mizuho Bank, Ltd. held 9,057,000 shares contributed to a trust fund for its retirement and severance plans.

3: Apart from the above shares, the Company owns 269,928,993 shares (20.2% of total issued shares) of treasury stock.

4: Ownership percentage is calculated by deducting the number of treasury shares from the total shares issued.

Canon’s major shareholders do not have different voting rights from other shareholders.

As of December 31, 2019, 7.3% of the issued shares of common stock, including the Company’s treasury stock, were held of record by 281 residents of the United States of America.

The Company is not directly or indirectly owned or controlled by any other corporation, by any government, or by any other natural or legal person or persons severally or jointly.

B. Related party transactions

During the latest three fiscal years, Canon has not transacted with, nor does Canon currently plan to transact with a related party (other than certain transactions with subsidiaries and affiliates of the Company). For purposes of this paragraph, a related party includes: (a) enterprises that directly or indirectly through one or more intermediaries, control or are controlled by, or are under common control with, Canon; (b) associates; (c) individuals owning, directly or indirectly, an interest in the voting power of Canon that gives them significant influence over Canon, and close members of any such individual’s family; (d) key management personnel, that is, those persons having authority and responsibility for planning, directing and controlling the activities of Canon, including directors and senior management of companies and close member of such individual’s families; (e) enterprises in which a substantial interest in the voting power is owned, directly or indirectly, by any person described in (c) or (d) or over which such a person is able to exercise significant influence. This includes enterprises owned by directors or major shareholders of Canon and enterprises that have a member of key management in common with Canon. Close members of an individual’s family are those that may be expected to

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influence, or be influenced by, that person in their dealings with Canon. An associate is an unconsolidated enterprise in which Canon has a significant influence or which has significant influence over Canon. Significant influence over an enterprise is the power to participate in the financial and operating policy decisions of the enterprise but is less than control over those policies. Shareholders beneficially owning a 10% interest in the voting power of the Company are presumed to have a significant influence on Canon.

To the Company’s knowledge, no person owned a 10% interest in the voting power of the Company as of March 27, 2020.

In the ordinary course of business on an arm’s length basis, Canon purchases and sells materials, supplies and services from and to its affiliates accounted for by the equity method. There are 8 affiliates which are accounted for by the equity method. Canon does not consider the amounts of the transactions with the above affiliates to be material to its business.

C. Interests of experts and counsel

Not applicable.

Item 8. Financial Information

A. Consolidated financial statements and other financial information

Consolidated financial statements

This Annual Report contains consolidated financial statements as of December 31, 2019 and 2018 and for each of the three years in the period ended December 31, 2019 prepared in accordance with U.S. generally accepted accounting principles and audited in accordance with the standards of the Public Company Accounting Oversight Board (United States) by an Independent Registered Public Accounting Firm. The financial statements as of and for the years ended December 31, 2019, 2018, and 2017 have been audited by Ernst & Young ShinNihon LLC, and their audit report covering each of the periods is included in Item 18 of this report.

Refer to Item 18 “Financial Statements.”

Legal proceedings

There are no outstanding legal or other proceedings which could reasonably be expected to have a material adverse effect on Canon’s consolidated financial position, results of operations or cash flows.

Dividend policy

Dividends are proposed by the Board of Directors of the Company based on the year-end non-consolidated financial statements of the Company, and are approved at the ordinary general meeting of shareholders, which is held in March of each year. Recordholders of the Company’s ADSs on the dividends’ record dates are entitled to receive payment in full of the declared dividends. In addition to annual dividends, by resolution of the Board of Directors, the Company may declare a cash distribution as an interim dividend. The record dates for the Company’s year-end dividends and for the interim dividends are December 31 and June 30, respectively.

Canon is being more proactive in returning profits to shareholders, mainly in the form of a dividend, taking into consideration mid-term profit forecasts, planned future investments, cash flow and other factors.

In 2019, to provide a stable and active return to shareholders, Canon has decided to distribute a full-year dividend of ¥160 per share, (interim dividend of ¥80 per share that was already distributed and year-end dividend of ¥80) which is the same as the previous year’s dividend.

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B. Significant changes

No significant change has occurred since the date of the annual financial statements.

Item 9. The Offer and Listing

A. Offer and listing details

Trading in domestic markets

The common stock of the Company has been listed on the Tokyo Stock Exchange (“TSE”), the principal stock exchange market in Japan, since 1949, and is traded on the First Section of the TSE. The shares are also listed on three other regional markets in Japan (Nagoya, Fukuoka and Sapporo).

Trading in foreign markets

The Company’s ADRs are listed on the New York Stock Exchange (“NYSE”), the principal stock exchange market outside Japan.

Since the Company’s 1969 public offering in the United States of U.S.$9,000,000 principal amount of its 6 1/2 % Convertible Debentures due 1984, there has been limited trading in the over-the-counter market in the Company’s ADRs. Since March 16, 1998, each ADR represents one share of the Company’s common stock. The Company’s ADSs had been quoted on the National Association of Securities Dealers Automated Quotation system (“NASDAQ”) from 1972 to September 13, 2000 under the symbol CANNY.

On September 14, 2000, Canon listed its ADSs on the NYSE under the symbol CAJ.

The depositary and agent of the ADRs is JPMorgan Chase Bank, N.A., located at 383 Madison Avenue, Floor 11 New York, New York 10179 U.S.A.

B. Plan of distribution

Not applicable.

C. Markets

See Item 9A “Offer and listing details”.

D. Selling shareholders

Not applicable.

E. Dilution

Not applicable.

F. Expenses of the issue

Not applicable.

Item 10. Additional Information

A. Share capital

Not applicable.

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B. Memorandum and articles of association

Objects and Purposes in the Company’s Articles of Incorporation

The objects and purposes of the Company, as provided in Article 2 of the Company’s Articles of Incorporation, are to engage in the following businesses:

(1) Manufacture and sale of optical machineries and instruments of various kinds.

(2) Manufacture and sale of acoustic, electrical and electronic machineries and instruments of various kinds.

(3) Manufacture and sale of precision machineries and instruments of various kinds.

(4) Manufacture and sale of medical machineries and instruments of various kinds.

(5) Manufacture and sale of general machineries, instruments and equipments of various kinds.

(6) Manufacture and sale of parts, materials, etc. relative to the products mentioned in each of the preceding items.

(7) Production and sale of software products.

(8) Manufacture and sale of pharmaceutical products.

(9) Telecommunications business, and information service business such as information processing service business, information providing service business, etc.

(10) Contracting for telecommunications works, electrical works and machinery and equipment installation works.

(11) Sale, purchase and leasing of real properties, contracting for construction works, design of buildings and supervision of construction works.

(12) Manpower providing business, property leasing business and travel business.

(13) Business relative to investigation, analysis of the environment and purification process of soil, water, etc.

(14) Any and all business relative to each of the preceding items.

Provisions Regarding Directors

There is no provision in the Company’s Articles of Incorporation as to a Director’s power to vote on a proposal, arrangement or contract in which the Director is materially interested, but, under the Corporation Law of Japan, the law relating to joint stock corporations (known in Japanese as kabushiki kaisha) which came into effect on May 1, 2006, a director is required to refrain from voting on such matters at meetings of the board of directors.

The Corporation Law of Japan provides that compensation for directors is determined at a general meeting of shareholders of a company. Within the upper limit approved at the shareholders’ meeting, the board of directors determines the amount of compensation for each director. The board of directors may, by its resolution, leave such decision to the discretion of the company’s representative director.

The Corporation Law of Japan provides that the incurrence by a company of a significant loan from a third party should be approved by the company’s board of directors. The Company’s Regulations of the Board of Directors incorporate this requirement.

There is no mandatory retirement age for the Company’s Directors under the Corporation Law of Japan or its Articles of Incorporation.

There is no requirement concerning the number of shares an individual must hold in order to qualify him as a director of the Company under the Corporation Law of Japan or its Articles of Incorporation.

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Holding of Shares by Foreign Investors

Other than the Japanese unit share system that is described in “Rights of Shareholders—Japanese Unit Share System” below, there are no limitations on the rights of non-residents or foreign shareholders to hold or exercise voting rights on the Company’s shares imposed by the laws of Japan or the Company’s Articles of Incorporation or other constituent documents.

Rights of Shareholders

Set forth below is information relating to the Company’s common stock, including brief summaries of the relevant provisions of its Articles of Incorporation and Regulations for Handling of Shares, as currently in effect, and of the Corporation Law of Japan and related legislation.

General

The Company’s authorized share capital is 3,000,000,000 shares, of which 1,333,763,464 shares were issued, including the Company’s treasury stock, as of December 31, 2019. In accordance with the Law Concerning Book-Entry Transfer of Corporate Bonds, Shares, etc. (including regulations promulgated thereunder; the “Book-Entry Law”), the Japan Securities Depository Center, Inc. (“JASDEC”) is the only institution that is designated by the relevant authorities as a clearing house which is permitted to engage in the clearing operations of shares of Japanese listed companies under the Book-Entry Law. Under the new clearing system, in order for any person to hold, sell or otherwise dispose of shares of Japanese listed companies, it must have an account at an account management institution unless such person has an account at JASDEC. “Account management institutions” are financial instruments traders (i.e., securities companies), banks, trust companies and certain other financial institutions which meet the requirements prescribed by the Book-Entry Law.

Under the Book-Entry Law, any transfer of shares is effected through book entry, and title to the shares passes to the transferee at the time when the transferred number of the shares is recorded at the transferee’s account at an account management institution. The holder of an account at an account management institution is presumed to be the legal owner of the shares held in such account.

Under the Corporation Law of Japan and the Book-Entry Law, in order to assert shareholders’ rights against the Company, a shareholder must have its name and address registered in the register of shareholders of the Company, except in limited circumstances.

The registered beneficial holder of deposited shares underlying the ADSs is the depositary for the ADSs. Accordingly, holders of ADSs will not be able to directly assert shareholders’ rights.

Distributions of Surplus

Under the Corporation Law of Japan, distributions of cash or other assets by joint stock corporations to their shareholders, so called “dividends,” are referred to as “distributions of Surplus” (“Surplus” is defined in “Restriction on Distributions of Surplus” below). The Company may make distributions of Surplus to the shareholders any number of times per fiscal year, subject to certain limitations described in “Restriction on Distributions of Surplus”. Under the Corporation Law of Japan, distributions of Surplus are required to be authorized by a resolution of a general meeting of shareholders.

Under the Articles of Incorporation of the Company, year-end dividends and interim dividends, if any, may be distributed to shareholders (or pledgees) appearing in the register of shareholders as of December 31 and June 30 of each year, respectively.

Distributions of Surplus may be made in cash or in kind in proportion to the number of shares held by each shareholder. A resolution of a shareholders’ meeting must specify the kind and aggregate book value of the assets

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to be distributed, the manner of allocation of such assets to shareholders, and the effective date of the distribution. If a distribution of Surplus is to be made in kind, the Company may, pursuant to a resolution of shareholders’ meeting, grant a right to its shareholders to require the Company to make such distribution in cash instead of in kind. If no such right is granted to shareholders, the relevant distribution of Surplus must be approved by a special resolution of a general meeting of shareholders.

Restriction on Distributions of Surplus

When the Company makes a distribution of Surplus, the Company must, until the aggregate amount of its additional paid-in capital and legal reserve reaches one-quarter of its stated capital, set aside in its additional paid-in capital and/or legal reserve an amount equal to one-tenth of the amount of Surplus so distributed.

The amount of Surplus at any given time must be calculated in accordance with the following formula:

A + B + C + D – (E + F + G)

In the above formula, the letters from “A” to “G” are defined as follows:

“A”= the total amount of “other capital surplus” and “other retained earnings,” each such amount that is appearing on its non-consolidated balance sheet as of the end of the last fiscal year;

“B”= (if the Company has disposed of its treasury stock after the end of the last fiscal year) the amount of the consideration for such treasury stock received by the Company less the book value thereof;

“C”= (if the Company has reduced its stated capital after the end of the last fiscal year) the amount of such reduction less the portion thereof that has been transferred to additional paid-in capital or legal reserve (if any);

“D”= (if the Company has reduced its additional paid-in capital or legal reserve after the end of the last fiscal year) the amount of such reduction less the portion thereof that has been transferred to stated capital (if any);

“E”= (if the Company has cancelled its treasury stock after the end of the last fiscal year) the book value of such treasury stock;

“F”= (if the Company has distributed Surplus to its shareholders after the end of the last fiscal year) the total book value of the Surplus so distributed;

“G”= certain other amounts set forth in the ordinances of the Ministry of Justice, including (if the Company has reduced Surplus and increased its stated capital, additional paid-in capital or legal reserve after the end of the last fiscal year) the amount of such reduction and (if the Company has distributed Surplus to the shareholders after the end of the last fiscal year) the amount set aside in the additional paid-in capital or legal reserve (if any) as required by the ordinances of the Ministry of Justice.

The aggregate book value of Surplus distributed by the Company may not exceed a prescribed distributable amount (the “Distributable Amount”), as calculated on the effective date of such distribution. The Distributable Amount at any given time shall be equal to the amount of Surplus less the aggregate of the following:

(a) the book value of the Company’s treasury stock;

(b) the amount of consideration for the treasury stock disposed of by the Company after the end of the last fiscal year; and

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(c) certain other amounts set forth in the ordinances of the Ministry of Justice, including (if the sum of one-half of goodwill and the deferred assets exceeds the total of stated capital, additional paid-in capital and legal reserve, each such amount that is appearing on the non-consolidated balance sheet as of the end of the last fiscal year) all or certain part of such exceeding amount as calculated in accordance with the ordinances of the Ministry of Justice.

If the Company has become at its option a company with respect to which consolidated balance sheets should also be taken into consideration in the calculation of the Distributable Amount (renketsu haito kisei tekiyo kaisha), it will be required to further deduct from the amount of Surplus the excess amount (if the amount is zero or below zero) of (x) the total amount of shareholders’ equity appearing on its non-consolidated balance sheet as of the end of the last fiscal year and certain other amounts set forth in the ordinances of the Ministry of Justice over (y) the total amount of shareholders’ equity and certain amounts set forth in the ordinances of the Ministry of Justice appearing on its consolidated balance sheets as of the end of the last fiscal year.

If the Company has prepared interim financial statements as described below, and if such interim financial statements have been approved (unless exempted by the Corporation Law of Japan) by a general meeting of shareholders, the Distributable Amount must be adjusted to take into account the amount of profit or loss, and the amount of consideration for the treasury stock disposed of by the Company, during the period in respect of which such interim financial statements have been prepared. The Company may prepare non-consolidated interim financial statements consisting of a balance sheet as of any date subsequent to the end of the last fiscal year and an income statement for the period from the first day of the current fiscal year to the date of such balance sheet. Interim financial statements so prepared by the Company must be approved by the board of directors and audited by its independent auditors, as required by the ordinances of the Ministry of Justice.

Stock Splits

The Corporation Law of Japan permits the Company, by resolution of its Board of Directors, to make stock splits, regardless of the value of net assets (as appearing in its latest non-consolidated balance sheet) per share. In addition, by resolution of the Company’s Board of Directors, the Company may increase the authorized shares up to the number reflecting the rate of stock splits and amend its Articles of Incorporation to this effect without the approval of a shareholders’ meeting. For example, if each share became three shares by way of a stock split, the Company may increase the authorized shares from the current 3,000,000,000 shares to 9,000,000,000 shares.

Under the Book-Entry Law, the Company must give notice to JASDEC regarding a stock split at least two weeks prior to the relevant record date. On the effective date of the stock split, the numbers of shares recorded in all accounts held by the Company’s shareholders at account management institutions or JASDEC will be increased in accordance with the applicable ratio.

Japanese Unit Share System

The Company’s Articles of Incorporation provided that 100 shares of common stock constitute one “unit”. The Corporation Law of Japan permits the Company, by resolution of its Board of Directors, to reduce the number of shares which constitutes one unit or abolish the unit share system, and amend its Articles of Incorporation to this effect without the approval of a shareholders’ meeting.

Transferability of Shares Representing Less than One Unit

Under the new clearing system, shares constituting less than one unit are transferable. However, because shares constituting less than one unit do not comprise a trading unit, such shares may not be sold on the Japanese stock exchanges under the rules of the Japanese stock exchanges.

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Right of a Holder of Shares Representing Less than One Unit to Require the Company to Purchase Its Shares

A holder of shares representing less than one unit may at any time require the Company to purchase its shares through the account management institutions and JASDEC; provided, however, that the Company is not obliged to do so if the Company does not own its own shares in the number which it is requested to sell. These shares will be purchased at (a) the closing price of the shares reported by the TSE on the day when the request to purchase is made or (b) if no sale takes place on the TSE on that day, then the price at which sale of shares is effected on such stock exchange immediately thereafter.

Right of a Holder of Shares Representing Less than One Unit to Purchase from the Company its Shares up to a Whole Unit

The Articles of Incorporation of the Company provide that a holder of shares representing less than one unit may require the Company to sell its shares to such holder so that the holder can raise its fractional ownership to a whole unit; provided, however, that the Company is not obliged to do so if the Company does not own its own shares in the number which it is requested to sell. Such a request shall be made through the account management institutions and JASDEC. These shares will be sold at (a) the closing price of the shares reported by the TSE on the day when the request to sell becomes effective or (b) if no sale has taken place on the TSE on that day, then the price at which sale of shares is effected on such stock exchange immediately thereafter.

Voting Rights of a Holder of Shares Representing Less than One Unit

A holder of shares representing less than one unit cannot exercise any voting rights pertaining to those shares. In calculating the quorum for various voting purposes, the aggregate number of shares representing less than one unit will be excluded from the number of outstanding shares. A holder of shares representing one or more whole units will have one vote for each whole unit represented.

A holder of shares representing less than one unit does not have any rights relating to voting, such as the right to participate in a demand for the resignation of a director, the right to participate in a demand for the convocation of a general meeting of shareholders and the right to join with other shareholders to propose an agenda item to be addressed at a general meeting of shareholders.

However, a holder of shares constituting less than one unit has all other rights of a shareholder in respect of those shares, including the following rights:

• to receive annual and interim dividends,

• to receive cash or other assets in case of consolidation or split of shares, exchange or transfer of shares or corporate merger,

• to be allotted rights to subscribe for free for new shares when such rights are granted to shareholders, and

• to participate in any distribution of surplus assets upon liquidation.

Ordinary and Extraordinary General Meeting of Shareholders

The Company normally holds its ordinary general meeting of shareholders in March of each year in Ohta-ku, Tokyo or in a neighboring area. In addition, the Company may hold an extraordinary general meeting of shareholders whenever necessary by giving at least two weeks advance notice. Under the Corporation Law of Japan, notice of any shareholders’ meeting must be given to each shareholder having voting rights or, in the case of a non-resident shareholder, to his resident proxy or mailing address in Japan in accordance with the Company’s Regulations for Handling of Shares, at least two weeks prior to the date of the meeting.

Voting Rights

A shareholder is generally entitled to one vote per one unit of shares as described in this paragraph and under “Japanese Unit Share System” above. In general, under the Corporation Law of Japan, a resolution can be

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adopted at a general meeting of shareholders by a majority of the shares having voting rights represented at the meeting. The Corporation Law of Japan and the Company’s Articles of Incorporation require a quorum for the election of directors and Audit & Supervisory Board Members of not less than one-third of the total number of outstanding shares having voting rights. The Company’s shareholders are not entitled to cumulative voting in the election of Directors. A corporate shareholder whose outstanding shares are in turn more than one-quarter directly or indirectly owned by the Company does not have voting rights. Shareholders may exercise their voting rights through proxies, provided that those proxies are also shareholders who have voting rights.

Pursuant to the Corporation Law of Japan and the Company’s Articles of Incorporation, a quorum of not less than one-third of the outstanding shares with voting rights must be present at a shareholders’ meeting to approve any material corporate actions such as:

• a reduction of stated capital,

• amendment of the Articles of Incorporation (except amendments which the Board of Directors are authorized to make under the Corporation Law of Japan as described in “Stock Splits“ and “Japanese Unit Share System“ above),

• the removal of an Audit & Supervisory Board Member,

• establishment of a 100% parent-subsidiary relationship by way of share exchange or share transfer,

• a dissolution, merger or consolidation,

• a corporate separation,

• the transfer of the whole or an important part of the Company’s business,

• the transfer of the whole or a part of the Company’s equity interests in any of the Company’s significant subsidiaries which meets certain requirements,

• the taking over of the whole of the business of any other corporation,

• any issuance of new shares at a “specially favorable” price, stock acquisition rights (shinkabu yoyakuken) with “specially favorable” conditions or bonds with stock acquisition rights (shinkabu yoyakuken-tsuki shasai) with “specially favorable” conditions to persons other than shareholders,

• distribution of Surplus in kind with respect to which shareholders are not granted the right to require the Company to make such distribution in cash instead of in kind,

• purchase of shares by the Company from a specific shareholder other than its subsidiaries,

• consolidation of shares, and

• discharge of a portion of liabilities of Directors, Audit & Supervisory Board Members or independent auditors that are owed to the Company.

At least two-thirds of the outstanding shares having voting rights present at the meeting is required to approve these actions.

The voting rights of holders of ADSs are exercised by the depositary based on instructions from those holders.

Subscription Rights

Holders of shares have no pre-emptive rights. Authorized but unissued shares may be issued at such times and upon such terms as the board of directors determines, subject to the limitations as to the issue of new shares at a “specially favorable” price mentioned in “Voting Rights” above. The board of directors may, however, determine that shareholders be given subscription rights to new shares, in which case they must be given on uniform terms to all shareholders as of a record date with not less than two weeks prior public notice. Each of the shareholders to whom such rights are given must also be given at least two weeks prior notice of the date on which such rights will expire.

Stock Acquisition Rights

The Company may issue stock acquisition rights or bonds with stock acquisition rights (in relation to which the stock acquisition rights are undetachable). Except where the issue would be on “specially favorable”

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conditions mentioned in “Voting Rights” above, the issue of stock acquisition rights or bonds with stock acquisition rights may be authorized by a resolution of the board of directors. Subject to the terms and conditions thereof, holders of stock acquisition rights may acquire a prescribed number of shares by exercising their stock acquisition rights and paying the exercise price at any time during the exercise period thereof. Upon exercise of stock acquisition rights, the Company will be obliged to either issue the relevant number of new shares or transfer the necessary number of existing shares held by it as treasury stock to the holder. The entitlements accorded to stock acquisition rights attached to bonds are substantially similar to those accorded to stock acquisition rights issued without being attached to bonds, provided that, if so determined by the board of directors at the time of its resolution authorizing the issue of the relevant bonds with stock acquisition rights, then, upon exercise of the stock acquisition rights, their exercise price will be deemed to have been paid by the holder thereof to the Company in lieu of the Company redeeming the relevant bonds.

Liquidation Rights

In the event of liquidation, the assets remaining after payment of all debts, liquidation expenses and taxes will be distributed among the shareholders in proportion to the number of shares they own.

Liability to Further Calls or Assessments

All of the Company’s currently outstanding shares, including shares represented by the ADSs, are fully paid and nonassessable.

Share Registrar

Mizuho Trust & Banking Co., Ltd. (“Mizuho Trust”) is the share registrar for the Company’s shares. Mizuho Trust’s office is located at 2-1, Yaesu 1-chome, Chuo-ku, Tokyo, Japan. Under the clearing system, Mizuho Trust maintains the Company’s register of shareholders and records transfers of record ownership upon the Company’s receipt of necessary information from JASDEC and other information in the register of shareholders, as described under “Record Date” below.

Record Date

The close of business on December 31 is the record date for the Company’s year-end dividends, if paid. June 30 is the record date for interim dividends, if paid. A holder of shares constituting one or more whole units who is registered as a holder on the Company’s register of shareholders at the close of business as of December 31 is also entitled to exercise shareholders’ voting rights at the ordinary general meeting of shareholders with respect to the fiscal year ending on December 31. In addition, the Company may set a record date for determining the shareholders entitled to other rights and for other purposes by giving at least two weeks prior public notice.

Under the Book-Entry Law, the Company is required to give notice of each record date to JASDEC at least two weeks prior to such record date. JASDEC is required to promptly give the Company notice of the names and addresses of the Company’s shareholders, the numbers of shares held by them and other relevant information as of such record date.

The shares generally trade ex-dividend or ex-rights in the Japanese stock exchanges on the second business day before a record date (or if the record date is not a business day, the third business day prior thereto), for the purpose of dividends or rights offerings.

Repurchase by the Company of Shares

Under the Corporation Law of Japan, the Company may acquire its shares (i) by soliciting all shareholders to offer to sell its shares held by them (in this case, the certain terms of such acquisition, such as the total number

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of the shares to be purchased and the total amount of the consideration, shall be set by an ordinary resolution of a general meeting of shareholders in advance, and acquisition shall be effected pursuant to a resolution of the board of directors), (ii) from a specific shareholder other than any of the Company’s subsidiaries (pursuant to a special resolution of a general meeting of shareholders), (iii) from any of the Company’s subsidiaries (pursuant to a resolution of the board of directors), or (iv) by way of purchase on any Japanese stock exchange on which the Company’s shares are listed by way of tender offer (in either case pursuant to a resolution of the board directors). In the case of (ii) above, if the purchase price or any other consideration to be received by the relevant specific shareholder exceeds the then market price of the Company’s shares calculated in a manner set forth in the ordinances of the Ministry of Justice, any other shareholder may make a request to a representative director to be included as a seller in the proposed acquisition by the Company.

The total amount of the purchase price of the Company’s shares may not exceed the Distributable Amount, as described in “Restriction on Distributions of Surplus” above.

In addition, the Company may acquire its shares by means of repurchase of any number of shares constituting less than one unit upon the request of the holder of those shares, as described under “Japanese Unit Share System” above.

Right of Controlling Shareholder Representing 90 Per Cent or More of Shares to Request Other Shareholders to Sell All Shares

A shareholder holding, directly or indirectly, 90 per cent or more of the voting rights of the Company’s shares has the right to request, subject to approval by the Company’s Board of Directors, that the other shareholders and (if the controlling shareholder so determines) all holders of stock acquisition rights of the Company sell to the controlling shareholder all shares and all stock acquisition rights, as the case may be, held by them. In the above case, the Company will be required to give public notice thereof to all holders and registered pledgees of shares (and stock acquisition rights, as the case may be) not later than 20 days prior to the effective date of such sales.

C. Material contracts

On March 15, 2016, Canon entered into a provisional borrowing agreement with MUFG Bank, Ltd. for acquiring CMSC. This borrowing was refinanced on January 31, 2017. For further information, please refer to Note 8 of the Notes to Consolidated Financial Statements.

All contracts other than above entered into by Company during the two years preceding the date of this annual report were entered into in the ordinary course of business.

D. Exchange controls

(a) Information with respect to Japanese exchange regulations affecting the Company’s security holders is as follows:

The Foreign Exchange and Foreign Trade Law of Japan and the cabinet orders and ministerial ordinances thereunder (the “Foreign Exchange Regulations”) govern certain aspects relating to the issuance of securities by the Company and the acquisition and holding of such securities by “non-residents of Japan” and by “foreign investors”, as hereinafter defined. The Foreign Exchange Regulations regarding the acquisition of listed shares and certain related matters are now being reformed, and the description below is current as of December 31, 2019.

“Non-residents of Japan” are defined as individuals who are not resident in Japan and corporations whose principal offices are located outside Japan. Generally, branches and other offices of Japanese corporations

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located outside Japan are regarded as non-residents of Japan, while branches and other offices located within Japan of non-resident corporations are regarded as residents of Japan. “Foreign investors” are defined to be (i) individuals not resident in Japan, (ii) corporations which are organized under the laws of foreign countries or whose principal offices are located outside Japan, (iii) corporations of which 50% or more of the shares are held by (i) and / or (ii) above and (iv) corporations in respect of which (a) a majority of the officers are non-resident individuals or (b) a majority of the officers having the power to represent the corporation are non-resident individuals.

Issuance of Securities by the Company

Under the Foreign Exchange Regulations, the issue of securities outside Japan by the Company is, in principle, not subject to a prior notification requirement, but subject to a post reporting requirement of the Minister of Finance. Under the Foreign Exchange Regulations as currently in effect, payments of principal, premium and interest in respect of securities and any additional amounts payable pursuant to the terms thereof may in general be paid when made without any restrictions under the Foreign Exchange Regulations.

Acquisition of Shares

In general, the acquisition of shares of stock of a Japanese company listed on any Japanese stock exchange by a non-resident of Japan from a resident of Japan is not subject to a prior notification requirement, but subject to a post reporting requirement of the Minister of Finance by such resident.

In the case where a foreign investor intends to acquire listed shares (whether from a resident or a non-resident of Japan, from another foreign investor or from or through a designated securities company) and as a result of such acquisition the number of shares held, directly or indirectly, by such foreign investor (if there are other foreign investors with whom the foreign investor has a special relationship as prescribed in the Foreign Exchange Regulations, the shares held by such other foreign investors will be included in the number) would become 10% or more of the total outstanding shares of the company or the number of voting rights held, directly or indirectly, by such foreign investor (if there are other foreign investors with whom the foreign investor has a special relationship, the shares held by such other foreign investors will be included in the number) would become 10% or more of the total voting rights of the company, the foreign investor must generally report such acquisition to the Minister of Finance and other Ministers having jurisdiction over the business of the subject company by the 15th day of the immediately following month in the date of acquisition falls. In certain exceptional cases, a prior notification is required in respect of such acquisition.

Acquisition of Shares upon Exercise of Rights for Subscription of Shares

The acquisition by a non-resident of Japan of shares upon exercise of his rights for subscription of shares is exempted from the notification and reporting requirements described under “Acquisition of Shares” above.

Dividends and Proceeds of Sales

Under the Foreign Exchange Regulations currently in effect, dividends paid on, and the proceeds of sale in Japan of, the shares held by non-residents of Japan may be converted into any foreign currency and repatriated abroad. The acquisition of shares by non-resident shareholders by way of stock splits is not subject to any of the aforesaid notification requirements.

(b) Reporting of Substantial Shareholdings:

The Financial Instruments and Exchange Law of Japan requires any person who has become, beneficially and solely or jointly, a holder of more than 5% of the total outstanding voting shares of capital stock of a company listed on any Japanese stock exchange to file with the relevant Local Finance Bureau of the Minister of

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Finance within five business days a report concerning such share ownership. A similar report must also be made in respect of any subsequent change of 1% or more in any such holding or any change in material set out in a previously filed report. For this purpose, shares with exercisable rights for subscription of shares held by such holder are taken into account in determining both the size of a holding and a company’s total outstanding share capital.

E. Taxation

1. Taxation in Japan

Generally, a non-resident of Japan or non-Japanese corporation (a “Non-Resident Holder”) is subject to Japanese withholding tax on dividends paid by Japanese corporations. Stock splits are not subject to Japanese income tax. A conversion of retained earnings or legal reserve (but not additional paid-in capital, in general) into stated capital (whether made in connection with a stock split or otherwise) is not treated as a deemed dividend payment to shareholders for Japanese tax purposes. Thus, such a conversion does not trigger Japanese withholding taxation. (Article 2 (16) of the Japanese Corporation Tax Law and Article 8 (1) (xiii) of the Japanese Corporation Tax Law Enforcement Order).

Pursuant to the Convention Between the Government of the United States of America and the Government of Japan for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income (the “Treaty”), dividend payments made by a Japanese corporation to a U.S. resident or corporation, unless the recipient of the dividend has a “permanent establishment” in Japan and the shares or ADSs with respect to which such dividends are paid are effectively connected with such “permanent establishment,” are generally subject to a withholding tax at rate of: (1) 10% for portfolio investors who are qualified U.S. residents eligible for benefits of the Treaty; and (2) 0% (i.e., no withholding) for pension funds which are qualified U.S. residents eligible for benefits of the Treaty, provided that the dividends are not derived from the carrying on of a business, directly or indirectly, by such pension funds. Japan is a party to a number of income tax treaties, conventions and agreements, (collectively “Tax Treaties”), whereby the maximum withholding tax rate for dividend payments is set at, in most cases, 15% for portfolio investors who are Non-Resident Holders. Specific countries with which such Tax Treaties have been entered into include Canada, Denmark, Finland, Germany, Ireland, Italy, Luxembourg, New Zealand, Norway, and Singapore. Japan’s income tax treaties with Australia, Belgium, France, The Netherlands, Sweden, Switzerland and the United Kingdom have been amended to generally reduce the maximum withholding tax rate to 10%. Japan’s income tax treaty with Spain has been amended to generally reduce the maximum withholding tax rate to 5%. Japan signed the Multilateral Convention to Implement Tax Treaty Related Measures to Prevent Base Erosion and Profit Shifting (the “MLI”). The tax treaties with Australia, Canada, Finland, France, India, Ireland, Israel, Luxembourg, The Netherlands, New Zealand, Norway, Poland, Singapore, Slovakia, Ukraine, United Arab Emirates, and the United Kingdom are partly overridden by the MLI as of January 1, 2020.

On the other hand, unless one of the applicable Tax Treaties reducing the maximum rate of withholding tax applies, the standard tax rate applicable to dividends paid with respect to listed shares before 2037, such as those paid by the Company on shares or ADSs, to Non-Resident Holders is 15.315% under the Japanese Income Tax Law, except for dividends paid to any individual shareholder who holds 3% or more of the issued shares, in which case the applicable rate is 20.42% (Article 182(ii) of the Japanese Income Tax Law and Article 9-3(1)(i) of the Japanese Special Tax Measures Law, including its relevant temporary provision for these withholding rates).

In order to enjoy a lower treaty rate, the taxpayer must file a treaty application in advance with the Company. Gains derived from the sale outside Japan of Japanese corporations’ shares or ADSs by Non-Resident Holders, or from the sale of Japanese corporations’ shares or ADSs within Japan by a non-resident of Japan as an occasional transaction or by a non-Japanese corporation not having a permanent establishment in Japan, are generally not subject to Japanese income or corporation taxes, provided that the seller is a portfolio investor. Japanese inheritance and gift taxes at progressive rates may apply to an individual who has acquired Japanese corporations’ shares or ADSs as a distributee, legatee or donee.

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2. Taxation in the United States

The following is a discussion of the material U.S. federal income tax consequences of owning and disposing of the Company shares or ADSs to the U.S. holders described below, but it does not purport to be a comprehensive description of all of the tax considerations that may be relevant to a particular person’s decision to acquire, hold or dispose of such securities. The discussion does not address the potential application of the provisions of the Internal Revenue Code of 1986, as amended (the “Code”) known as the “Medicare contribution tax.” The discussion applies only if a U.S. holder holds the Company shares or ADSs as capital assets for U.S. federal income tax purposes and it does not address special classes of holders, such as:

• certain financial institutions;

• insurance companies;

• dealers and traders in securities or foreign currencies;

• persons holding the Company shares or ADSs as part of a straddle, conversion, other integrated transaction or other similar transaction;

• persons whose functional currency for U.S. federal income tax purposes is not the U.S. dollar;

• partnerships or other entities classified as partnerships for U.S. federal income tax purposes;

• persons liable for the alternative minimum tax;

• tax-exempt entities;

• persons holding the Company shares or ADSs that own or are deemed to own 10% or more of the Company stock, by vote or by value;

• persons who acquired the Company shares or ADSs pursuant to the exercise of any employee stock option or otherwise as compensation; or

• persons holding the Company shares or ADSs in connection with trade or business conducted outside of the United States.

This discussion is based on the Code, administrative pronouncements, judicial decisions, final, temporary and proposed Treasury regulations and the Treaty, all as of the date hereof. These laws are subject to change, possibly on a retroactive basis. It is also based in part on representations by the depositary and assumes that each obligation under the deposit agreement and any related agreement will be performed in accordance with its terms. An investor should consult its own tax adviser concerning the U.S. federal, state, local and foreign tax consequences of owning and disposing of the Company shares or ADSs in its particular circumstances.

As used herein, a “U.S. holder” is a beneficial owner of the Company shares or ADSs that is eligible for the benefits of the Treaty and is, for U.S. federal tax purposes:

• a citizen or individual resident of the United States;

• a corporation, or other entity taxable as a corporation, created or organized in or under the laws of the United States, any state thereof or the District of Columbia; or

• an estate or trust the income of which is subject to U.S. federal income taxation regardless of its source.

If an entity that is classified as a partnership for U.S. federal income tax purposes holds the Company shares or ADSs, the U.S. federal income tax treatment of a partner will generally depend on the status of the partner and the activities of the partnership. Partnerships holding the Company shares or ADSs and partners in such partnerships should consult their tax advisers as to the particular U.S. federal income tax consequences of holding and disposing of the Company shares or ADSs.

In general, if a U.S. holder owns ADSs, it will be treated for U.S. federal income tax purposes as the owner of the underlying shares represented by those ADSs. Accordingly, no gain or loss will be recognized if a U.S. holder exchanges ADSs for the underlying shares represented by those ADSs.

The U.S. Treasury has expressed concerns that parties to whom American depositary shares are released before shares are delivered to the depositary (“pre-released”), or intermediaries in the chain of ownership

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between the holder and the issuer of the security underlying the American depositary shares, may be taking actions that are inconsistent with the claiming of foreign tax credits by holders of American depositary shares. Such actions would also be inconsistent with the claiming of the reduced rate of tax applicable to dividends received by certain non-corporate U.S. holders. Accordingly, the analysis of the creditability of Japanese taxes and the reduced rates of taxation applicable to dividends received by certain non-corporate U.S. holders, both as described below, could be affected by actions that may be taken by parties to whom ADSs are pre-released or by intermediaries.

This discussion assumes that the Company was not a passive foreign investment company for 2019, as described below.

Taxation of Distributions

Distributions paid on the Company shares or ADSs, other than certain pro rata distributions of common shares, to the extent paid out of the Company’s current or accumulated earnings and profits (as determined under U.S. federal income tax principles) will be treated as dividends for U.S. tax purposes. Because the Company does not maintain calculations of its earnings and profits under U.S. federal income tax principles, it is expected that distributions will be reported to U.S. holders as dividends. The amount of a dividend will include any amounts withheld by the Company or its paying agent in respect of Japanese taxes. The amount of the dividend will be treated as foreign-source dividend income and will generally not be eligible for the dividends-received deductions allowed to U.S. corporations. Subject to applicable limitations that may vary depending upon a U.S. holder’s individual circumstances and the concerns of the U.S. Treasury described above, dividends paid to certain non-corporate U.S. holders will be taxable at the favorable rates applicable to long-term capital gains. Non-corporate U.S. holders should consult their own tax advisers to determine whether they are subject to any special rules that limit their ability to be taxed at these favorable rates.

Dividends paid in Japanese yen will be included in a U.S. holder’s income in a U.S. dollar amount calculated by reference to the exchange rate in effect on the date of receipt of the dividend by the U.S. holder, in the case of the Company shares, or by the depositary, in the case of ADSs, regardless of whether the payment is in fact converted into U.S. dollars at that time. If the dividend is converted into U.S. dollars on the date of receipt, a U.S. holder generally should not be required to recognize foreign currency gain or loss in respect of the dividend income. A U.S. holder may have foreign currency gain or loss if the dividend is converted into U.S. dollars after the date of receipt.

Japanese income taxes withheld from cash dividends on the Company shares or ADSs at a rate not exceeding the rate provided by the Treaty will be creditable against a U.S. holder’s U.S. federal income tax liability, subject to applicable limitations that may vary depending upon a U.S. holder’s circumstances and the concerns expressed by the U.S. Treasury described above. The rules governing foreign tax credits are complex, and a U.S. holder should consult its own tax adviser regarding the availability of foreign tax credits in its particular circumstances. Instead of claiming a credit, a U.S. holder may, at its election, deduct such Japanese taxes in computing its income, subject to generally applicable limitations under U.S. federal income tax law.

Sale or Other Disposition of the Company Shares or ADSs

For U.S. federal income tax purposes, gain or loss a U.S. holder realizes on the sale or other disposition of the Company shares or ADSs will be capital gain or loss, and will be long-term capital gain or loss if such holder held the Company shares or ADSs for more than one year. The amount of a U.S. holder’s gain or loss will be equal to the difference between the U.S. dollar amount realized on the disposition and the U.S. holder’s U.S. dollar tax basis in the Company shares or ADSs that were disposed of. Such gain or loss will generally be U.S.-source gain or loss for foreign tax credit purposes. The deductibility of capital losses is subject to limitation.

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Passive Foreign Investment Company Rules

The Company believes that it was not a passive foreign investment company (“PFIC”) for U.S. federal income tax purposes for its 2019 fiscal year. However, since PFIC status depends upon the composition of the Company’s income and assets and the market value of its assets (including, among others, goodwill and equity investments in less than 25% owned entities) from time to time, there can be no assurance that the Company will not be considered a PFIC for any taxable year. If the Company were treated as a PFIC for any taxable year during which a U.S. holder owned the Company shares or ADSs, certain adverse tax consequences could apply to such U.S. holder.

If the Company were treated as a PFIC for any taxable year during which a U.S. holder owned the Company shares or ADSs, gain recognized by a U.S. holder on the sale or other disposition, including certain pledges, of the Company shares or ADSs would be allocated ratably over its holding period for such securities. The amounts allocated to the taxable year of the sale or other disposition and to any year before the Company became a PFIC would be taxed as ordinary income. The amount allocated to each other taxable year would be subject to tax at the highest rate in effect in such taxable year for individuals or corporations, as appropriate, and an interest charge would be imposed on the tax liability attributable to such allocated amounts. Further, any distribution in respect of the Company shares or ADSs in excess of 125% of the average of the annual distributions on such securities received by a U.S. holder during the preceding three years or its holding period, whichever is shorter, would be subject to taxation as described immediately above. Certain elections (including a mark-to-market election) may be available to a U.S. holder that would result in alternative tax treatments.

In addition, if the Company were a PFIC or, with respect to a particular U.S. holder, were treated as a PFIC in a taxable year in which it pays a dividend or the prior taxable year, the favorable tax rates discussed above with respect to dividends paid to certain non-corporate U.S. holders would not apply.

If the Company were a PFIC for any taxable year during which a U.S. holder owned the Company shares or ADSs, the U.S. holder would generally be required to file IRS Form 8621 with its annual U.S. federal income tax return, subject to certain exceptions.

Information Reporting and Backup Withholding

Payments of dividends and sales proceeds that are made within the United States or through certain U.S.-related financial intermediaries generally are subject to information reporting and may be subject to backup withholding unless the U.S. holder is a corporation or other exempt recipient or, in the case of backup withholding, the U.S. holder provides a correct taxpayer identification number and certifies that it is not subject to backup withholding.

Backup withholding is not an additional tax. The amount of any backup withholding from a payment to a U.S. holder will be allowed as a credit against such holder’s U.S. federal income tax liability and may entitle it to a refund, provided that the required information is timely furnished to the Internal Revenue Service.

Certain U.S. holders who are individuals may be required to report information relating to stock of a non-U.S. person, generally on IRS Form 8938, subject to certain exceptions (including an exception for stock held in custodial accounts maintained by a U.S. financial institution). U.S. holders are urged to consult their tax advisers regarding the effect, if any, of this requirement on their tax reporting obligations.

F. Dividends and paying agents

Not applicable.

G. Statement by experts

Not applicable.

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H. Documents on display

Under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), the Company is subject to requirements information disclosure. The Company files various reports and other information, including Form 20-F and Annual Reports, with the Securities Exchange Commission and the NYSE.

Form 20-F is available at the Electronic Data Gathering, Analysis, Retrieval system (“EDGAR”) website which is maintained by the Securities Exchange Commission.

Securities Exchange Commission Home Page:

https://www.sec.gov

I. Subsidiary information

Not applicable.

Item 11. Quantitative and Qualitative Disclosures about Market Risk

Market risk exposures

Canon is exposed to market risks, including changes in foreign currency exchange rates, interest rates and prices of marketable securities and investments. In order to hedge the risk of changes in foreign currency exchange rates, Canon uses derivative financial instruments.

Equity price risk

Canon holds marketable securities included in current assets, which consist generally of highly-liquid and low-risk instruments. Investments included in noncurrent assets are held as long-term investments. Canon does not hold marketable securities and investments for trading purposes.

Maturities and fair values of such marketable securities and investments with original maturities of more than three months were as follows at December 31, 2019.

	2019
	Fair value
	(Millions of yen)
Fund trusts and others		730
Equity securities		16,740
		17,470

Foreign currency exchange rate and interest rate risk

Canon operates internationally, exposing it to the risk of changes in foreign currency exchange rates. Derivative financial instruments are comprised principally of foreign currency exchange contracts utilized by the Company and certain of its subsidiaries to reduce the risk. Canon assesses foreign currency exchange rate risk by continually monitoring changes in the exposures and by evaluating hedging opportunities. Canon does not hold or issue derivative financial instruments for trading purposes. Canon is also exposed to credit-related losses in the event of non-performance by counterparties to derivative financial instruments, but it is not expected that any counterparties will fail to meet their obligations. Most of the counterparties are internationally recognized financial institutions and selected by Canon taking into account their financial condition, and contracts are diversified across a number of major financial institutions.

Canon’s international operations expose Canon to the risk of changes in foreign currency exchange rates. Canon uses foreign exchange contracts to manage certain foreign currency exchange exposures principally from

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the exchange of U.S. dollars and euros into Japanese yen. These contracts are primarily used to hedge the foreign currency exposure of forecasted intercompany sales and intercompany trade receivables which are denominated in foreign currencies. In accordance with Canon’s policy, a specific portion of foreign currency exposure resulting from forecasted intercompany sales are hedged using foreign exchange contracts which principally mature within three months.

The following table provides information about Canon’s major derivative financial instruments related to foreign currency exchange transactions existing at December 31, 2019. All of the foreign exchange contracts described in the following table have a contractual maturity date in 2020.

	U.S.$			Euro			Others			Total
	(Millions of yen)
Forwards to sell foreign currencies:
Contract amounts		75,838			94,308			10,096			180,242
Estimated fair value		(600	)		(1,451	)		(172	)		(2,223	)
Forwards to buy foreign currencies:
Contract amounts		24,816			1,712			6,090			32,618
Estimated fair value		(173	)		(16	)		190			1

Canon expects that fair value changes and cash flows resulting from reasonable near-term changes in interest rates will be immaterial. Accordingly, Canon believes interest rate risk is insignificant. See also Note 8 of the Notes to Consolidated Financial Statements.

Changes in the fair value of derivative financial instruments designated as cash flow hedges, including foreign exchange contracts associated with forecasted intercompany sales, are reported in accumulated other comprehensive income (loss). These amounts are subsequently reclassified into earnings in the same period as the hedged items affect earnings. Substantially all amounts recorded in accumulated other comprehensive income (loss) as of December 31, 2019 are expected to be recognized in net sales over the next twelve months. After the adoption of ASU No. 2017-12 from the quarter beginning January 1, 2019, Canon includes the time value component in the assessment of hedge effectiveness, which had been previously excluded. Changes in the fair value of a foreign exchange contract for the period between the date that the forecasted intercompany sales occur and its maturity date are recognized in earnings.

The amount of the hedging ineffectiveness was not material for the years ended December 31, 2018 and 2017. The amounts of net losses excluded from the assessment of hedge effectiveness (time value component) which was recorded in other income (deductions) were ¥682 million and ¥332 million for the years ended December 31, 2018 and 2017, respectively.

Canon has entered into certain foreign currency exchange contracts to manage its foreign currency exposures. These foreign currency exchange contracts have not been designated as hedges. Accordingly, the changes in fair values of these contracts are recorded in earnings immediately.

Item 12. Description of Securities Other than Equity Securities

A. Debt securities

Not applicable.

B. Warrants and rights

Not applicable.

C. Other securities

Not applicable.

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D. American Depositary Shares

(a) Depositing or substituting the underlying shares

Not applicable.

(b) Receiving or distributing dividends

Not applicable.

(c) Selling or exercising rights

Upon the distribution or sale of Canon’s ADSs, a holder of American Depositary Receipts is required to pay a commission fee of $5.00 to the depositary for each 100 ADSs (or part of the 100 ADSs) for this transaction.

(d) Withdrawing an underlying security

Not applicable.

(e) Transferring, splitting or grouping receipts

Not applicable.

(f) General depositary services, particularly those charged on an annual basis

Not applicable.

(g) Expenses of the depositary

Not applicable.

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PART II

Item 13. Defaults, Dividend Arrearages and Delinquencies

None.

Item 14. Material Modifications to the Rights of Security Holders and Use of Proceeds

None.

Item 15. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

Canon’s disclosure controls and procedures are designed to provide reasonable assurance of achieving their objectives and Canon’s chief executive officer and chief financial officer concluded that Canon’s disclosure controls and procedures, as defined in Rule 13a-15(e) of the Exchange Act, are effective at the reasonable assurance level as of December 31, 2019.

Management’s Report on Internal Control over Financial Reporting

The management of Canon is responsible for establishing and maintaining adequate internal control over financial reporting. Internal control over financial reporting is defined in Rule 13a-15(f) promulgated under the Securities Exchange Act of 1934, as amended, as a process designed by, or under the supervision of, the company’s principal executive and principal financial officers and effected by the company’s board of directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles and includes those policies and procedures that (1) pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

Canon’s management assessed the effectiveness of internal control over financial reporting as of December 31, 2019. In making this assessment, management used the criteria established in internal Control –Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) (the “COSO criteria”).

Based on its assessment, management concluded that, as of December 31, 2019, Canon’s internal control over financial reporting was effective based on the COSO criteria.

Canon’s independent registered public accounting firm, Ernst & Young ShinNihon LLC, has issued an audit report on the effectiveness of Canon’s internal control over financial reporting. This report appears in Item 18.

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Changes in Internal Control over Financial Reporting

There has been no change in Canon’s internal control over financial reporting that occurred during the period covered by this Annual Report that has materially affected, or is reasonably likely to materially affect, its internal control over financial reporting.

Item 16A. Audit Committee Financial Expert

Canon’s Audit & Supervisory Board has determined that Hiroshi Yoshida is an “audit committee financial expert” as defined by the rules of the SEC. Hiroshi Yoshida has considerable experience and advanced expert knowledge in corporate accounting gained thorough his longstanding practice as a certified public accountant. Hiroshi Yoshida was elected as one of Canon’s Outside Audit & Supervisory Board Members at an ordinary general meeting of shareholders held in March 2017. Hiroshi Yoshida meets the independence requirements imposed on Audit & Supervisory Board Members as set forth by Japanese stock exchange regulations; however, he does not meet the independence standards for Audit & Supervisory Board Members of the Company.

Item 16B. Code of Ethics

Canon maintains a “Canon Group Code of Conduct” or Code of Conduct, applicable to all executives and employees. The Code of Conduct sets forth provisions relating to honest and ethical conduct (including the handling of conflicts of interest), compliance with applicable laws, rules and regulations and accountability for adherence to the provisions of the Code of Conduct. The Board of Directors maintains a “Code of Ethics” as a supplement to the Code of Conduct. This Code of Ethics applies to Canon’s President and Chief Executive Officer, each member of the Board of Directors (which includes the Chief Financial Officer) and general managers belonging to Canon’s accounting headquarters. The Code of Ethics requires full, fair, accurate, timely and understandable disclosure in reports and documents that Canon files with or submits to the SEC and in Canon’s other communications with the public, prompt internal reporting of violations of the Code of Conduct or Code of Ethics, and accountability for adherence to their provisions. Both the Code of Conduct and the Code of Ethics have been filed as exhibits.

Item 16C. Principal Accountant Fees and Services

Policy on Pre-Approval of Audit and Non-Audit Services of Independent Auditors

Canon’s Audit & Supervisory Board consisting of five members, including three outside auditors, is responsible for the oversight of the services of its independent registered public accounting firm. The Audit & Supervisory Board has established Pre-Approval Policies and Procedures for Audit and Non-Audit Services. These policies and procedures govern the Audit & Supervisory Board’s review and approval of the board of director’s engagement of Canon’s independent registered public accounting firm to render audit or non-audit services. Non-audit services include audit-related services, tax services and other services, as described in greater detail below under “Fees and Services.” Canon and any affiliate controlled by Canon directly, indirectly or through one or more intermediaries must follow these policies and procedures before any engagement of Canon’s independent registered public accounting firm for U.S. securities law reporting purposes.

The policies and procedures stipulate three means by which audit and non-audit services may be pre-approved, depending on the content of and the fee for the services.

• All services provided to Canon necessary to perform an annual audit or review to comply with the standards of the Public Company Accounting Oversight Board (United States), in any jurisdiction, including tax services and accounting consultation necessary to comply with the standards of the Public Company Accounting Oversight Board (United States) in those jurisdictions, and any engagement of an Independent Registered Public Accounting Firm for any audit or non-audit service involving estimated fees exceeding ¥10,000,000 per single engagement must be pre-approved by the majority of Audit & Supervisory Board.

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• Certain other services may be pre-approved under detailed categories of audit and non-audit services established annually by the Audit & Supervisory Board, as long as those services do not exceed specified maximum yen limits for aggregate fees relating to each of those categories. Any engagement of an Independent Registered Public Accounting Firm by this means must be reported to the Audit & Supervisory Board at its next regularly scheduled meeting.

• For services that are not covered by the above two means of pre-approval, the Audit & Supervisory Board has delegated pre-approval authority to any of the standing Audit & Supervisory Board Members of the board. Any engagement of an Independent Registered Public Accounting Firm pre-approved by one of the standing Audit & Supervisory Board Members is required to be reported to the Audit & Supervisory Board at its next regularly scheduled meeting.

Additional services may be pre-approved by the Audit & Supervisory Board on an individual basis.

No services were provided for which pre-approval was waived pursuant to paragraph (c)(7)(i)(C) of Rule 2-01 of Regulation S-X.

Fees and services

The following table discloses the aggregate fees accrued or paid to Canon’s principal accountant and member firms of Ernst & Young for each of the last two fiscal years and briefly describes the services performed:

	Year ended December 31, 2019		Year ended December 31, 2018
	(Millions of yen)
Audit fees		2,908		3,073
Audit-related fees		28		19
Tax fees		121		103
All other fees		18		9
Total		3,075		3,204

Audit fees include fees billed for professional services rendered for audits of Canon’s annual consolidated financial statements, reviews of consolidated quarterly financial information and statutory audits of the Company and its subsidiaries.

Audit-related fees include fees billed for assurance and related services such as due diligence, accounting consultations and audits in connection with mergers and acquisitions, employee benefit plan audits, internal control reviews, and consultations concerning financial accounting and reporting standards.

Tax fees include fees billed for services related to tax compliance, including the preparation of tax returns and claims for refund, tax planning and tax advice, including assistance with tax audits and appeals, advice related to mergers and acquisitions, tax services for employee benefit plans and assistance with respect to requests for rulings from tax authorities.

All other fees include fees billed primarily for services rendered with respect to advisory and training services.

Ernst & Young ShinNihon LLC served as Canon’s principal accountant for 2019 and 2018.

Item 16D. Exemptions from the Listing Standards for Audit Committees

Canon is relying on the general exemption contained in Rule 10A-3(c)(3) under the Exchange Act. Because of such reliance, Canon does not have an audit committee which can act independently and satisfy the other requirements of Rule 10A-3 under the Exchange Act.

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According to Rule 10A-3 under the Exchange Act and NYSE listing standards, Canon’s Audit & Supervisory Board has been identified to act in place of an audit committee. The Audit & Supervisory Board meets the following requirements of the general exemption contained in Rule 10A-3(c)(3):

• the Audit & Supervisory Board is established pursuant to applicable Japanese law and Canon’s Articles of Incorporation;

• under Japanese legal requirements, the Audit & Supervisory Board is separate from the board of directors;

• the Audit & Supervisory Board is not elected by the management of Canon and no executive officer of Canon is a member of the Audit & Supervisory Board;

• Japanese regulations provide for standards for the independence of the Audit & Supervisory Board from the Company and its management;

• the Audit & Supervisory Board, in accordance with and to the extent permitted by Japanese law, is responsible for the appointment, retention and oversight of the work of Canon’s external auditors engaged for the purpose of issuing audit reports on Canon’s annual financial statements;

• the Audit & Supervisory Board maintains a complaints procedure in accordance with Rule 10A-3(b)(3) of the Exchange Act;

• the Audit & Supervisory Board is authorized to engage independent counsel and other advisers, as it deems appropriate; and

• the Audit & Supervisory Board is provided with appropriate funding for payment of (i) compensation to Canon’s independent registered public accounting firm engaged for the purpose of issuing audit reports on Canon’s annual financial statements, (ii) compensation to independent counsel and other advisers engaged by the Audit & Supervisory Board, and (iii) ordinary administrative expenses of the Audit & Supervisory Board in carrying out its duties.

Canon’s reliance on Rule 10A-3(c)(3) does not, in its opinion, materially adversely affect the ability of its Audit & Supervisory Board to act independently and to satisfy the other requirements of Rule 10A-3.

Item 16E. Purchases of Equity Securities by the Issuer and Affiliated Purchasers

The following table sets forth, for each of the months indicated, the total number of shares purchased by Canon, or on Canon’s behalf or by any affiliated purchaser, the average price paid per share, the number of shares purchased pursuant to the applicable shareholder resolution or board resolution, which are publicly announced, and the maximum number of shares that may yet be purchased pursuant to these shareholder resolutions or board resolutions.

Period	(a) Total number of shares purchased		(b) Average price  paid per share		(c) Total number of  shares purchased as  part of publicly announced plans or           programs		(d) Maximum number of  shares that may yet be purchased under the plans or               programs
2019	(Shares)		(Yen)
January 1 - January 31		238		3,062		—		—
February 1 - February 28		302		3,159		—		—
March 1 - March 31		243		3,181		—		—
April 1 - April 30		553		3,217		—		—
May 1 - May 31		15,916,069		3,142		15,915,400		—
June 1 - June 30		251		3,135		—		—
July 1 - July 31		387		3,147		—		—
August 1 - August 31		651		2,899		—		—
September 1- September 30		619		2,800		—		—
October 1 - October 31		230		2,889		—		—
November 1 - November 30		569		2,992		—		—
December 1 - December 31		373		3,056		—		—

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Notes:

(1) On May 9, 2019, a resolution approved at the meeting of our board directors authorized the Company to acquire to up to 17.5 million shares with an aggregate purchase price of ¥50 billion during the period from May 10, 2019 through July 31, 2019.

Column (a) represents the total number of shares purchased as fractional shares from fractional shareowners in accordance with the Corporation Law of Japan, and the purchase of shares from publicly announced plans which is shown in column (c). During 2019, the Company purchased 5,085 shares for a total purchase price of 15,417,850 yen upon requests from holders of shares consisting less than one full unit.

Item 16F. Change in Registrant’s Certifying Accountant

At a meeting held on January 28, 2020, the Company’s Audit and Supervisory Board approved, subject to shareholders’ approval, the dismissal of Ernst & Young ShinNihon LLC as the Company’s certified public accountant or auditing firm upon the conclusion of the annual shareholders’ meeting for the fiscal year ended December 31, 2019. At the same meeting the Company’s Audit and Supervisory Board approved the engagement of Deloitte Touche Tohmatsu LLC subject to shareholder approval. The change was approved by the Company’s shareholders at the Ordinary General Meeting of Shareholders held on March 27, 2020.

The Company’s Audit and Supervisory Board conducted a comparative assessment of several candidate firms from 2016 from the perspective of qualifications and independence, following the introduction of an auditor rotation system in other countries. In addition, the Company’s Audit and Supervisory Board has determined to receive a proposal from several candidate firms periodically.

After considering Ernst & Young ShinNihon LLC’s consecutive years of service to the Company and comprehensively reviewing Deloitte Touche Tohmatsu LLC’s independence, expertise, their quality management structure and global auditing structure, the Company’s Audit and Supervisory Board has resolved to appoint Deloitte Touche Tohmatsu LLC as the Company’s certified public accountant or auditing firm, having concluded that the firm upholds a system for robust auditing and can offer new perspectives on the Company’s audit.

The reports of Ernst & Young ShinNihon LLC on our consolidated financial statements for the years ended December 31, 2019 and 2018 did not contain any adverse opinion or disclaimer of opinion and were not qualified or modified as to uncertainty, audit scope or accounting principles. During the years ended December 31, 2019 and 2018, and the subsequent interim period through March 27, 2020, there was no disagreement with Ernst & Young ShinNihon LLC on any matter of accounting principles or practices, financial statement disclosure, or auditing scope or procedure, which disagreement, if not resolved to their satisfaction, would have caused them to make reference to the subject matter of the disagreement in connection with their report, or any “reportable event” as that term is described in Item 16F(a)(1)(v) of Form 20-F.

The Company has provided a copy of the above statements to Ernst & Young ShinNihon LLC and requested that Ernst & Young ShinNihon LLC furnish the Company with a letter addressed to the SEC stating whether or not they agree with the above disclosure. A copy of that letter, dated March 27, 2020, is filed as exhibit 15 to this annual report on Form 20-F.

Further, during the years ended December 31, 2019, and 2018, and the subsequent interim period through March 27, 2020, the Company has not consulted with Deloitte Touche Tohmatsu LLC regarding either (i) the application of accounting principles to a specified transaction, either completed or proposed; or the type of audit opinion that might be rendered with respect to the consolidated financial statements of Canon; or (ii) any matter that was either the subject of a disagreement as that term is defined in Item 16F(a)(1)(iv) of Form 20-F or a “reportable event” as described in Item 16F(a)(1)(v) of Form 20-F.

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Item 16G. Corporate Governance

Significant Differences in Corporate Governance Practices between Canon and U.S. Companies Listed on the NYSE

Section 303A of the NYSE Listed Company Manual (the “Manual”) provides that companies listed on the NYSE must comply with certain corporate governance standards. However, foreign private issuers whose shares have been listed on the NYSE, such as the Company, are permitted, with certain exceptions, to follow the laws and practices of their home country in place of the corporate governance practices stipulated under the Manual. In such circumstances, the foreign private issuer is required to disclose the significant differences between the corporate governance practices under Section 303A of the Manual and those required in Japan. A summary of these differences as they apply to the Company is provided below.

1. Directors

Currently, the Company’s board of directors does not have any director who could be regarded as an “independent director” under the NYSE Corporate Governance Rules for U.S. listed companies. Unlike the NYSE Corporate Governance Rules, the Corporation Law of Japan (the “Corporation Law”) does not require Japanese companies with the Audit & Supervisory Board such as the Company, to appoint independent directors as members of the board of directors. The NYSE Corporate Governance Rules require non-management directors of U.S. listed companies to meet at regularly scheduled executive sessions without the presence of management. Unlike the NYSE Corporate Governance Rules, however, the Corporation Law does not require companies to implement an internal corporate organ or committee comprised solely of independent directors. Thus, the Company does not have such internal corporate organ or committee.

The Company currently has two outside directors under the Corporation Law. Under the Corporation Law, an “outside” director is defined as a person who meets the prescribed conditions, such as, that the person is not currently, and has not been in the ten years prior to his or her assumption of office as outside director, an executive director (which means a director concurrently performing an executive role) (gyomu shikko torishimariyaku), a corporate executive officer, a manager (shihainin), or any other type of employee of the company or any of its subsidiaries. Such qualifications for an “outside” director are different from the director independence requirements under the NYSE Corporate Governance Rules.

In addition, pursuant to the regulations of the Japanese stock exchanges, the Company is required to have one or more “independent director(s)/audit & supervisory board member(s),” defined under the relevant regulations of the Japanese stock exchanges as “outside directors” or “outside audit & supervisory board members” (as defined under the Corporation Law), who are unlikely to have any conflicts of interests with the Company’s general shareholders. Each of the outside directors of the Company satisfies the “independent director/audit & supervisory board member” requirements under the regulations of the Japanese stock exchanges. The definition of “independent director/audit & supervisory board member” is different from that of the definition of independent director under the NYSE Corporate Governance Rules.

2. Committees

Under the Corporation Law, the Company may choose to:(i) have an audit committee, nomination committee and compensation committee and abolish the post of the Audit & Supervisory Board Members; (ii) have an audit and supervisory committee and abolish the post of the Audit & Supervisory Board Members; or (iii) have the Audit & Supervisory Board. The Company has elected to have the Audit & Supervisory Board, whose duties include monitoring and reviewing the management and reporting the results of these activities to the shareholders or board of directors of the Company. While the NYSE Corporate Governance Rules provide that U.S. listed companies must have an audit committee, nominating committee and compensation committee, each composed entirely of independent directors, the Corporation Law does not require companies to have specified committees, including those that are responsible for director nomination, corporate governance and executive compensation.

97

The Company’s board of directors nominates candidates for directorships and submits a proposal at the general meeting of shareholders for shareholder approval. Pursuant to the Corporation Law, the shareholders then vote to elect directors at the meeting. The Corporation Law requires that the total amount or calculation method of compensation for directors and Audit & Supervisory Board Members be determined by a resolution of the general meeting of shareholders respectively, unless the amount or calculation method is provided under the Articles of Incorporation. As the Articles of Incorporation of the Company do not provide an amount or calculation method, the amount of compensation for the directors and the Audit & Supervisory Board Members of the Company is determined by a resolution of the general meeting of shareholders. The allotment of compensation for each director from the total amount of compensation is determined by the Company’s board of directors, and the allotment of compensation to each Audit & Supervisory Board Member is determined by consultation among the Company’s Audit & Supervisory Board Members.

3. Audit Committee

The Company avails itself of paragraph (c)(3) of Rule 10A-3 of the Security Exchange Act, which provides that a foreign private issuer which has established the Audit & Supervisory Board shall be exempt from the audit committee requirements, subject to certain requirements which continue to be applicable under Rule 10A-3. Pursuant to the requirements of the Corporation Law, the shareholders elect the Audit & Supervisory Board Members by resolution of a general meeting of shareholders. The Company currently has five Audit & Supervisory Board Members, although the minimum number of Audit & Supervisory Board Members required pursuant to the Corporation Law is three. Unlike the NYSE Corporate Governance Rules, Japanese laws and regulations, including the Corporation Law, do not require the Audit & Supervisory Board Members to be experts in accounting or to have any other area of expertise. Under the Corporation Law, the Audit & Supervisory Board may determine the auditing policies and methods for investigating the business and assets of a Company, and may resolve other matters concerning the execution of the Audit & Supervisory Board Member’s duties. The Audit & Supervisory Board prepares auditors’ reports, determines a proposal for the nomination or removal of the accounting auditors to be submitted to the general meeting of shareholders, and may veto a proposal for the nomination of the Audit & Supervisory Board Members, accounting auditors and the determination of the amount of compensation for the accounting auditors put forward by the board of directors. Under the Corporation Law, the half or more of a company’s Audit & Supervisory Board Members must be “outside” Audit & Supervisory Board Members. An “outside” Audit & Supervisory Board Member is defined as a person who meets the prescribed conditions, such as, that the person has not been in the ten years prior to his or her assumption of office as outside Audit & Supervisory Board Member, a director, an accounting adviser (kaikei sanyo), a corporate executive officer, a manager (shihainin), or any other type of employee of the company or any of its subsidiaries. The Company’s current Audit & Supervisory Board Member system meets these requirements. In addition, pursuant to the regulations of the Japanese stock exchanges, the Company is required to have one or more “independent director(s) or independent Audit & Supervisory Board Member(s)” which terms are defined under the relevant regulations of the Japanese stock exchanges as “outside directors” or “outside Audit & Supervisory Board Members” (each of which terms is defined under the Corporation Law) who are unlikely to have any conflict of interests with shareholders of the Company. Among the five members on the Company’s board of auditors, three are outside Audit & Supervisory Board Members. In addition, the three outside Audit & Supervisory Board Members are also qualified as independent Audit & Supervisory Board Members under the regulations of the Japanese stock exchanges; however, one of such Audit & Supervisory Board Members does not satisfy the Company’s independence standards for Audit & Supervisory Board Members. The qualifications for an “outside” or “independent” Audit & Supervisory Board Member under the Corporation Law or the regulations of the Japanese stock exchanges are different from the audit committee independence requirement under the NYSE Corporate Governance Rules.

98

4. Shareholder Approval of Equity Compensation Plans

The NYSE Corporate Governance Rules require that shareholders be given the opportunity to vote on all equity compensation plans and any material revisions of such plans, with certain limited exceptions. Under the Corporation Law, a Company is required to obtain shareholder approval regarding the stock options to be issued to directors and Audit & Supervisory Board Members as part of remuneration of directors and Audit & Supervisory Board Member.

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PART III

Item 17. Financial Statements

Not applicable.

Item 18. Financial Statements

	Page number
Consolidated financial statements of Canon Inc. and Subsidiaries:
Reports of Ernst & Young ShinNihon LLC, Independent Registered Public Accounting Firm		101
Consolidated Balance Sheets as of December 31, 2019 and 2018		104
Consolidated Statements of Income for the years ended December 31, 2019, 2018 and 2017		105
Consolidated Statements of Comprehensive Income for the years ended December 31, 2019, 2018 and 2017		106
Consolidated Statements of Equity for the years ended December 31, 2019, 2018 and 2017		107
Consolidated Statements of Cash Flows for the years ended December 31, 2019, 2018 and 2017		109
Notes to Consolidated Financial Statements		110
Schedule:
Schedule II - Valuation and Qualifying Accounts for the years ended December 31, 2019, 2018 and 2017		155

All other schedules are omitted as permitted by the rules and regulations of the Securities and Exchange Commission as not applicable.

100

Report of Independent Registered Public Accounting Firm

To the Shareholders and the Board of Directors of

Canon Inc.

Opinion on the Financial Statements

We have audited the accompanying consolidated balance sheets of Canon Inc. and subsidiaries (the Company) as of December 31, 2019 and 2018, the related consolidated statements of income, comprehensive income, equity and cash flows for each of the three years in the period ended December 31, 2019, and the related notes and financial statement schedule listed in the Index at Item 18 (collectively referred to as the “consolidated financial statements”). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company at December 31, 2019 and 2018, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2019, in conformity with U.S. generally accepted accounting principles.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the Company’s internal control over financial reporting as of December 31, 2019, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) and our report dated March 27, 2020 expressed an unqualified opinion thereon.

Basis for Opinion

These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.

Critical Audit Matters

The critical audit matters communicated below are matters arising from the current period audit of the financial statements that were communicated or required to be communicated to the audit committee and that: (1) relate to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matters below, providing separate opinions on the critical audit matters or on the accounts or disclosures to which they relate.

Valuation of goodwill

Description of the Matter

As discussed in Note 1 to the consolidated financial statements, goodwill is tested for impairment at least annually at the reporting unit level. At December 31, 2019, goodwill related to the Commercial printing business and the Medical system business unit was ¥27,205 million and ¥508,907 million, respectively. The calculated fair value of these reporting units was in excess of the carrying value by narrower margins than impairment tests performed for the other reporting units.

101

	Significant estimation is required in determining the fair value of the reporting units. In particular, the fair value estimates were sensitive to significant assumptions such as revenue growth rates, operating profit ratio and weighted average costs of capital which are affected by expectations about future markets or economic conditions. Auditing such annual goodwill impairment tests was complex and judgmental.
How We Addressed the Matter in Our Audit	We obtained an understanding, evaluated the design and tested the operating effectiveness of controls that address the risk of material misstatement relating to management’s annual assessment of goodwill impairment, including internal controls over the significant assumptions. To test the estimated fair value of the Company’s reporting units, we performed audit procedures that included, among other things, evaluating the valuation methodology used for fair value estimation and testing the weighted average cost of capital with assistance of our network firm specialist. We evaluated the significant assumptions used by management by comparing those assumptions to historical results, current economic trends, and other relevant factors. We compared the assumptions used in the previous year’s impairment test and the actual results and evaluated the effect on the fair value estimation for the current year. We performed sensitivity analyses of significant assumptions by evaluating the changes in the fair value of the reporting units that would result from changes in significant assumptions. In addition, we compared management’s reconciliation of the aggregate fair value of the reporting units to the market capitalization of the Company.
	Valuation of rebate accruals
Description of the Matter	As described in Note 14 to the consolidated financial statements, sales transaction prices are determined based on contracts with customers that contain certain forms of variable consideration, including volume-based rebates. Variable consideration is estimated based upon historical trends and other known factors at the time of sales. The Company recorded accruals for variable consideration (“rebate accruals”) within the accrued expenses on the consolidated balance sheets. Rebate accruals related to volume-based rebates which will be paid for products that will sell through from retailers or distributors to end users are sensitive to significant assumptions such as the estimated units to be sold during the promotion periods and level of the rebate provided on those units. Auditing such rebate accruals at period end was complex and judgmental.
How We Addressed the Matter in Our Audit	We obtained an understanding, evaluated the design and tested the operating effectiveness of controls that address the risk of material misstatement relating to management’s assessment of the rebate accrual estimation including evaluating the controls related to the significant assumptions described above. To test the year end rebate accruals, we performed audit procedures that included, among other things, evaluating the data utilized in establishing the rebate accruals including sales volume and levels of rebate provided. We also compared rebate accruals recorded in the prior year to actual rebate claims to evaluate the effect on the estimation for current year rebate accruals. In addition, we tested actual rebate claims and additional rebate accruals established subsequent to the year end and considered whether they corroborate or contradict the year end rebate accruals.

/s/ Ernst & Young ShinNihon LLC

We have served as the Company’s auditor for SEC reporting purposes since 2004, and as its Japanese statutory auditor since 1978.

Tokyo, Japan

March 27, 2020

102

Report of Independent Registered Public Accounting Firm

To the Shareholders and the Board of Directors of

Canon Inc.

Opinion on Internal Control over Financial Reporting

We have audited Canon Inc. and subsidiaries’ internal control over financial reporting as of December 31, 2019, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) (the COSO criteria). In our opinion, Canon Inc. and subsidiaries (the Company) maintained, in all material respects, effective internal control over financial reporting as of December 31, 2019, based on the COSO criteria.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the consolidated balance sheets of the Company as of December 31, 2019 and 2018, the related consolidated statements of income, comprehensive income, equity and cash flows for each of the three years in the period ended December 31, 2019, and the related notes and financial statement schedule listed in the Index at Item 18 and our report dated March 27, 2020 expressed an unqualified opinion thereon.

Basis for Opinion

The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects.

Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

Definition and Limitations of Internal Control Over Financial Reporting

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

/s/ Ernst & Young ShinNihon LLC

Tokyo, Japan

March 27, 2020

103

Canon Inc. and Subsidiaries

Consolidated Balance Sheets

	December 31
	2019			2018
	(Millions of yen)
Assets
Current assets:
Cash and cash equivalents (Note 1)		412,814			520,645
Short-term investments (Note 2)		1,767			956
Trade receivables, net (Note 3)		559,836			612,953
Inventories (Note 4)		584,756			611,281
Prepaid expenses and other current assets (Notes 6, 14 and 17)		286,792			304,346
Total current assets		1,845,965			2,050,181
Noncurrent receivables (Note 19)		17,135			18,230
Investments (Note 2)		48,361			42,556
Property, plant and equipment, net (Notes 5 and 6)		1,089,671			1,090,992
Operating lease right-of-use assets (Note 18)		114,418			—
Intangible assets, net (Note 7)		347,921			391,021
Goodwill (Note 7)		898,661			908,511
Other assets (Notes 6, 10 and 11)		406,219			397,974
Total assets		4,768,351			4,899,465
Liabilities and equity
Current liabilities:
Short-term loans and current portion of long-term debt (Note 8)		42,034			38,527
Trade payables (Note 9)		305,312			352,489
Accrued income taxes (Note 11)		18,801			41,264
Accrued expenses (Notes 10 and 19)		324,891			321,137
Current operating lease liabilities (Note 18)		31,884			—
Other current liabilities (Notes 5, 14 and 17)		237,576			276,237
Total current liabilities		960,498			1,029,654
Long-term debt, excluding current installments (Notes 8 and 20)		357,340			361,962
Accrued pension and severance cost (Note 10)		368,507			382,789
Noncurrent operating lease liabilities (Note 18)		83,688			—
Other noncurrent liabilities (Note 11)		106,400			107,147
Total liabilities		1,876,433			1,881,552
Commitments and contingent liabilities (Note 19)
Equity:
Canon Inc. shareholders’ equity:
Common stock
Authorized 3,000,000,000 shares; issued 1,333,763,464 shares in 2019 and 2018		174,762			174,762
Additional paid-in capital		405,017			404,389
Legal reserve (Note 12)		67,572			67,116
Retained earnings (Note 12)		3,462,182			3,508,908
Accumulated other comprehensive income (loss) (Note 13)		(308,442	)		(269,071	)
Treasury stock, at cost; 269,928,993 shares in 2019 and 254,013,641 shares in 2018		(1,108,496	)		(1,058,502	)
Total Canon Inc. shareholders’ equity		2,692,595			2,827,602
Noncontrolling interests		199,323			190,311
Total equity		2,891,918			3,017,913
Total liabilities and equity		4,768,351			4,899,465

See accompanying Notes to Consolidated Financial Statements.

104

Canon Inc. and Subsidiaries

Consolidated Statements of Income

	Years ended December 31
	2019			2018			2017
	(Millions of yen)
Net sales (Notes 6,14 and 17)
Products and Equipment		2,835,428			3,194,724			3,521,156
Services		757,871			757,213			558,859
		3,593,299			3,951,937			4,080,015
Cost of sales (Notes 5, 7, 10, and 18)
Products and Equipment		1,627,858			1,762,171			1,875,581
Services		355,408			354,212			213,880
		1,983,266			2,116,383			2,089,461
Gross profit		1,610,033			1,835,554			1,990,554
Operating expenses (Notes 1, 5, 7, 10, 15, 18 and 19):
Selling, general and administrative expenses		1,136,863			1,176,760			1,301,666
Research and development expenses		298,503			315,842			333,371
Impairment losses on goodwill		—			—			33,912
		1,435,366			1,492,602			1,668,949
Operating profit		174,667			342,952			321,605
Other income (deductions):
Interest and dividend income		5,526			6,604			6,012
Interest expense		(1,038	)		(797	)		(818	)
Other, net (Notes 1, 2,10, 13 and 17)		16,585			14,133			27,085
		21,073			19,940			32,279
Income before income taxes		195,740			362,892			353,884
Income taxes (Note 11)		56,223			96,150			98,024
Consolidated net income		139,517			266,742			255,860
Less: Net income attributable to noncontrolling interests		14,412			13,987			13,937
Net income attributable to Canon Inc.		125,105			252,755			241,923
	(Yen)
Net income attributable to Canon Inc. shareholders per share (Note 16):
Basic		116.93			234.09			222.88
Diluted		116.91			234.08			222.88
Cash dividends per share		160.00			160.00			160.00

See accompanying Notes to Consolidated Financial Statements.

105

Canon Inc. and Subsidiaries

Consolidated Statements of Comprehensive Income

	Years ended December 31
	2019			2018			2017
	(Millions of yen)
Consolidated net income		139,517			266,742			255,860
Other comprehensive income (loss), net of tax (Note 13):
Foreign currency translation adjustments		(32,157	)		(93,146	)		47,090
Net unrealized gains and losses on securities		—			(141	)		(9,362	)
Net gains and losses on derivative instruments		(1,068	)		488			2,588
Pension liability adjustments		(3,630	)		(30,570	)		21,207
		(36,855	)		(123,369	)		61,523
Comprehensive income (loss)		102,662			143,373			317,383
Less: Comprehensive income attributable to noncontrolling interests		16,382			6,918			18,807
Comprehensive income (loss) attributable to Canon Inc.		86,280			136,455			298,576

See accompanying Notes to Consolidated Financial Statements.

106

Canon Inc. and Subsidiaries

Consolidated Statements of Equity

	Common stock		Additional paid-in capital		Legal reserve		Retained earnings			Accumulated other comprehensive income (loss)			Treasury stock			Total Canon Inc. shareholders’ equity			Non- controlling interests			Total equity
	(Millions of yen)
Balance at December 31, 2016		174,762		401,385		66,558		3,350,728			(199,881	)		(1,010,423	)		2,783,129			211,493			2,994,622
Equity transactions with noncontrolling interests and other				1													1			(1	)		—
Dividends to Canon Inc. shareholders								(162,887	)								(162,887	)					(162,887	)
Dividends to noncontrolling interests																				(4,814	)		(4,814	)
Acquisition of subsidiaries																				60			60
Transfer to legal reserve						321		(321	)								—						—
Comprehensive income:
Net income								241,923									241,923			13,937			255,860
Other comprehensive income (loss), net of tax (Note 13):
Foreign currency translation adjustments											44,168						44,168			2,922			47,090
Net unrealized gains and losses on securities											(9,767	)					(9,767	)		405			(9,362	)
Net gains and losses on derivative instruments											2,562						2,562			26			2,588
Pension liability adjustments											19,690						19,690			1,517			21,207
Total comprehensive income (loss)																	298,576			18,807			317,383
Repurchases of treasury stock														(50,036	)		(50,036	)					(50,036	)
Reissuance of treasury stock								(131	)					1,978			1,847						1,847
Balance at December 31, 2017		174,762		401,386		66,879		3,429,312			(143,228	)		(1,058,481	)		2,870,630			225,545			3,096,175
Cumulative effects of accounting standard update – adoption of ASU No. 2014-09								(106	)								(106	)		(76	)		(182	)
Cumulative effects of accounting standard update – adoption of ASU No. 2016-01								5,343			(5,343	)					—			—			—
Equity transactions with noncontrolling interests and other				3,003							(4,200	)					(1,197	)		(36,518	)		(37,715	)
Dividends to Canon Inc. shareholders								(178,159	)								(178,159	)					(178,159	)
Dividends to noncontrolling interests																				(5,558	)		(5,558	)
Transfers to legal reserve						237		(237	)								—						—
Comprehensive income:
Net income								252,755									252,755			13,987			266,742
Other comprehensive income (loss), net of tax (Note 13):
Foreign currency translation adjustments											(89,823	)					(89,823	)		(3,323	)		(93,146	)
Net unrealized gains and losses on securities											(141	)					(141	)		—			(141	)
Net gains and losses on derivative instruments											488						488			—			488
Pension liability adjustments											(26,824	)					(26,824	)		(3,746	)		(30,570	)
Total comprehensive income (loss)																	136,455			6,918			143,373
Repurchases of treasury stock														(25	)		(25	)					(25	)
Reissuance of treasury stock								0						4			4						4
Balance at December 31, 2018		174,762		404,389		67,116		3,508,908			(269,071	)		(1,058,502	)		2,827,602			190,311			3,017,913

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Consolidated Statements of Equity (continued)

	Common stock		Additional paid-in capital			Legal reserve		Retained earnings			Accumulated other comprehensive income (loss)			Treasury stock			Total Canon Inc. shareholders’ equity			Non- controlling interests			Total equity
	(Millions of yen)
Cumulative effects of accounting standard update – adoption of ASU No. 2017-12									122			(122	)					—			—			—
Equity transactions with noncontrolling interests and other				641								(424	)					217			(1,813	)		(1,596	)
Dividends to Canon Inc. shareholders									(171,487	)								(171,487	)					(171,487	)
Dividends to noncontrolling interests																					(5,557	)		(5,557	)
Transfers to legal reserve							456		(456	)								—						—
Comprehensive income:
Net income									125,105									125,105			14,412			139,517
Other comprehensive income (loss), net of tax (Note 13):
Foreign currency translation adjustments												(32,043	)					(32,043	)		(114	)		(32,157	)
Net unrealized gains and losses on securities												—						—			—			—
Net gains and losses on derivative instruments												(1,073	)					(1,073	)		5			(1,068	)
Pension liability adjustments												(5,709	)					(5,709	)		2,079			(3,630	)
Total comprehensive income (loss)																		86,280			16,382			102,662
Repurchases of treasury stock															(50,015	)		(50,015	)					(50,015	)
Reissuance of treasury stock				(13	)				(10	)					21			(2	)					(2	)
Balance at December 31, 2019		174,762		405,017			67,572		3,462,182			(308,442	)		(1,108,496	)		2,692,595			199,323			2,891,918

See accompanying Notes to Consolidated Financial Statements.

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Consolidated Statements of Cash Flows

	Years ended December 31
	2019			2018			2017
	(Millions of yen)
Cash flows from operating activities:
Consolidated net income		139,517			266,742			255,860
Adjustments to reconcile consolidated net income to net cash provided by operating activities:
Depreciation and amortization		237,327			251,554			261,881
Loss on disposal of fixed assets		5,991			5,726			6,935
Equity in earnings of affiliated companies		311			(1,414	)		(1,196	)
Impairment losses on goodwill		—			—			33,912
Gain on securities contributed to retirement benefit trust		—			—			(17,836	)
Deferred income taxes		(6,446	)		(11,849	)		(17,603	)
(Increase) decrease in trade receivables		43,504			(17,724	)		3,563
(Increase) decrease in inventories		19,895			(61,755	)		2,967
Increase (decrease) in trade payables		(35,509	)		(31,212	)		4,951
Increase (decrease) in accrued income taxes		(22,279	)		(35,284	)		46,296
Increase in accrued expenses		9,491			2,541			18,503
Increase (decrease) in accrued (prepaid) pension and severance cost		(13,722	)		(17,738	)		522
Other, net (Note 6)		(19,619	)		15,706			(8,198	)
Net cash provided by operating activities		358,461			365,293			590,557
Cash flows from investing activities:
Purchases of fixed assets (Note 5)		(215,671	)		(191,399	)		(189,484	)
Proceeds from sale of fixed assets (Note 5)		885			9,634			26,444
Purchases of securities		(4,907	)		(2,311	)		(2,220	)
Proceeds from sale and maturity of securities		828			1,615			970
(Increase) decrease in time deposits, net		(1,511	)		401			3,373
Acquisitions of businesses, net of cash acquired		(8,880	)		(13,346	)		(6,557	)
Other, net		688			(209	)		2,464
Net cash used in investing activities		(228,568	)		(195,615	)		(165,010	)
Cash flows from financing activities:
Proceeds from issuance of long-term debt (Note 8)		—			439			1,570
Repayments of long-term debt (Note 8)		(8,678	)		(136,094	)		(126,578	)
Increase in short-term loans, net (Note 8)		4,913			2,501			5,628
Transactions with noncontrolling interests		(1,769	)		(37,942	)		—
Dividends paid		(171,487	)		(178,159	)		(162,887	)
Repurchases and reissuance of treasury stock		(50,012	)		(21	)		(50,034	)
Other, net		(5,557	)		(5,554	)		(8,163	)
Net cash provided by (used in) financing activities		(232,590	)		(354,830	)		(340,464	)
Effect of exchange rate changes on cash and cash equivalents		(5,134	)		(16,017	)		6,538
Net change in cash and cash equivalents		(107,831	)		(201,169	)		91,621
Cash and cash equivalents at beginning of year		520,645			721,814			630,193
Cash and cash equivalents at end of year		412,814			520,645			721,814
Supplemental disclosure for cash flow information:
Cash paid during the year for:
Interest		888			749			1,026
Income taxes		77,654			131,616			71,473

See accompanying Notes to Consolidated Financial Statements.

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Notes to Consolidated Financial Statements

1. Basis of Presentation and Significant Accounting Policies

(a) Description of Business

Canon Inc. (the “Company”) and subsidiaries (collectively “Canon”) is one of the world’s leading manufacturers in such fields as office products, imaging system products, medical system products and industry and other products. Office products consist mainly of office multifunction devices (“MFDs”), laser multifunction printers (“MFPs”), laser printers, digital continuous feed presses, digital sheet-fed presses, wide-format printers and document solutions. Imaging system products consist mainly of interchangeable-lens digital cameras, digital compact cameras, interchangeable lenses, compact photo printers, inkjet printers, large format inkjet printers, commercial photo printers, image scanners and calculators. Medical system products consist mainly of digital radiography systems, diagnostic X-ray systems, computed tomography (“CT”) systems, magnetic resonance imaging (“MRI”) systems, diagnostic ultrasound systems, clinical chemistry analyzers and ophthalmic equipment. Industry and other products consist mainly of semiconductor lithography equipment, FPD (Flat panel display) lithography equipment, vacuum thin-film deposition equipment, organic LED (“OLED”) panel manufacturing equipment, die bonders, network cameras, digital camcorders, digital cinema cameras, multimedia projectors, broadcast equipment, micromotors, handy terminals and document scanners. Sales are made principally under the Canon brand name, almost entirely through sales subsidiaries. These subsidiaries are responsible for marketing and distribution, and primarily sell to retail dealers in their geographic area. Further segment information is described in Note 22.

Canon sells laser printers on an OEM basis to HP Inc.; such sales constituted 13.0%, 13.6% and 13.1% of consolidated net sales for the years ended December 31, 2019, 2018 and 2017, respectively, and are included in the Office Business Unit.

Canon’s manufacturing operations are conducted primarily at 29 plants in Japan and 14 overseas plants which are located in countries or regions such as the United States, Germany, France, the Netherlands, Taiwan, China, Malaysia, Thailand, Vietnam and Philippines.

(b) Basis of Presentation

The Company and its domestic subsidiaries maintain their books of account in conformity with financial accounting standards of Japan. Foreign subsidiaries maintain their books of account in conformity with financial accounting standards of the countries of their domicile.

Certain adjustments and reclassifications have been incorporated in the accompanying consolidated financial statements to conform with U.S. generally accepted accounting principles (“U.S. GAAP”). These adjustments were not recorded in the statutory books of account.

(c) Principles of Consolidation

The consolidated financial statements include the accounts of the Company, its majority owned subsidiaries and those variable interest entities where the Company or its consolidated subsidiaries are the primary beneficiaries. All significant intercompany balances and transactions have been eliminated.

(d) Use of Estimates

The preparation of the consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the

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Notes to Consolidated Financial Statements (continued)

1. Basis of Presentation and Significant Accounting Policies (continued)

(d) Use of Estimates (continued)

reported amounts of revenues and expenses during the period. Significant estimates and assumptions are reflected in valuation and disclosure of accounts including: revenue recognition, allowance for doubtful receivables, inventories, long-lived assets, goodwill and other intangible assets with indefinite useful lives, environmental liabilities, deferred tax assets, uncertain tax positions and employee retirement and severance benefit obligations. Actual results could differ materially from those estimates.  

(e) Translation of Foreign Currencies

Assets and liabilities of the Company’s subsidiaries located outside Japan with functional currencies other than Japanese yen are translated into Japanese yen at the rates of exchange in effect at the balance sheet date. Income and expense items are translated at the average exchange rates prevailing during the year. Gains and losses resulting from translation of financial statements are excluded from earnings and are reported in other comprehensive income (loss).

Gains and losses resulting from foreign currency transactions and translation of assets and liabilities denominated in foreign currencies are included in other income (deductions) in the consolidated statements of income. Foreign currency exchange gains and losses were net losses of ¥4,236 million, ¥6,044 million and ¥9,775 million for the years ended December 31, 2019, 2018 and 2017, respectively.

(f) Cash Equivalents

All highly liquid investments acquired with original maturities of three months or less are considered to be cash equivalents. Certain debt securities with original maturities of less than three months, classified as available-for-sale securities of ¥506 million and ¥70,500 million at December 31, 2019 and 2018, respectively, are included in cash and cash equivalents in the consolidated balance sheets.

(g) Investments

Investments consist primarily of time deposits with original maturities of more than three months, debt and equity securities and investments in affiliated companies.

Canon classifies investments in debt securities as available-for-sale securities. Canon does not hold any trading securities which are bought and held primarily for the purpose of sale in the near term, or any held-to-maturity securities. Canon reports investments with maturities of less than one year as short-term investments.

Available-for-sale debt securities and equity securities with readily determinable fair value that are not accounted for under the equity method are recorded at fair value which is determined based on quoted market prices, projected discounted cash flows or other valuation techniques as appropriate. The changes in fair value are recognized in net income for equity securities and in other comprehensive income for available-for-sale debt securities.

Available-for-sale debt securities are regularly reviewed for other-than-temporary declines in the carrying amount based on criteria that include the length of time and the extent to which the market value has been less than cost, the financial condition and near-term prospects of the issuer and Canon’s intent and ability to retain the investment for a period of time sufficient to allow for any anticipated recovery in market value. For available-for-sale securities for which the declines are deemed to be other-than-temporary and there is no intent to sell, the impairment are separated into the amount related to credit loss, which is recognized in

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Notes to Consolidated Financial Statements (continued)

1. Basis of Presentation and Significant Accounting Policies (continued)

(g) Investments (continued)

earnings and the amount related to all other factors is recognized in other comprehensive income (loss). For available-for-sale securities for which the declines are deemed to be other-than-temporary and there is an intent to sell, the impairments in their entirety are recognized in earnings. Canon recognizes an impairment loss to the extent by which the cost basis of the investment exceeds the fair value of the investment.

Canon measures non-marketable equity securities without readily determinable fair value at cost, minus impairment, if any, plus or minus changes resulting from observables price changes in orderly transactions for the identical or a similar investment of the same issuer.

Realized gains and losses are determined by the average cost method and reflected in earnings.

Investments in affiliated companies over which Canon has the ability to exercise significant influence, but does not hold a controlling financial interest, are accounted for by the equity method.

(h) Allowance for Doubtful Receivables

Allowance for doubtful trade and finance receivables is maintained for all customers based on a combination of factors, including aging analysis, macroeconomic conditions and historical experience. An additional reserve for individual accounts is recorded when Canon becomes aware of a customer’s inability to meet its financial obligations, such as in the case of bankruptcy filings. If circumstances related to customers change, estimates of the recoverability of receivables would be further adjusted. When all collection options are exhausted including legal recourse, the accounts or portions thereof are deemed to be uncollectable and charged against the allowance.

(i) Inventories

Inventories are stated at the lower of cost or net realizable value. Cost is determined by the average method for domestic inventories and principally by the first-in, first-out method for overseas inventories.

(j) Impairment of Long-Lived Assets

Long-lived assets, such as property, plant and equipment, and acquired intangible assets subject to amortization, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of the asset and the estimated undiscounted future cash flows expected to be generated by the asset. If the carrying amount of the asset exceeds its estimated undiscounted future cash flows, an impairment charge is recognized in the amount by which the carrying amount of the asset exceeds the fair value of the asset. Assets to be disposed of by sale are reported at the lower of the carrying amount or fair value less costs to sell, and are no longer depreciated.

(k) Property, Plant and Equipment

Property, plant and equipment are stated at cost. Depreciation is calculated principally by the declining-balance method, except for certain assets which are depreciated by the straight-line method over the estimated useful lives of the assets.

The depreciation period ranges from 3 years to 60 years for buildings and 1 year to 20 years for machinery and equipment.

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Notes to Consolidated Financial Statements (continued)

1. Basis of Presentation and Significant Accounting Policies (continued)

(k) Property, Plant and Equipment (continued)

Assets leased to others under operating leases are stated at cost and depreciated to the estimated residual value of the assets by the straight-line method over the lease term, generally from 2 years to 50 years.

(l) Leases

As for lessor accounting, Canon provides leasing arrangement to its customers primarily for the sales of office products. Revenue from the sale of these products under sales-type leases is recognized at the inception of the lease. Interest income on sales-type leases and direct-financing leases is recognized over the life of each respective lease using the interest method. Leases not qualifying as sales-type leases or direct-financing leases are accounted for as operating leases and related revenue is recognized ratably over the lease term. When product leases are bundled with maintenance contracts, revenue is allocated based upon the estimated standalone selling prices of the lease and non-lease components. Lease components generally include product and financing while non-lease components generally consist of maintenance contracts and supplies. Some of the contracts include options to extend or to terminate the lease. Canon takes such options into account to determine the lease term when it is reasonably certain that it will exercise these options. The majority of Canon’s lease contracts do not contain bargain purchase options for their customers.

As for lessee accounting, Canon has operating and finance leases for various assets including office buildings, warehouses, employees’ accommodations, and vehicles. Canon determines if an arrangement is a lease at the inception of each contract. Some of the contracts include options to extend or to terminate the lease. Canon takes such options into accounts to determine the lease term when it is reasonably certain that it will exercise these options. Canon’s lease arrangements do not contain material residual value guarantees or material restrictive covenants. As a rate implicit in the most of Canon’s leases cannot be determined, Canon uses incremental borrowing rate based on the information available at commencement to determine the present values of lease payments. Canon has lease contracts with lease and non-lease components, which are accounted for separately. Canon allocates the consideration in the lease contract to the lease and non-lease components based upon the estimated standalone prices. Costs associated with operating lease assets are recognized on a straight-line basis over the term of the lease.

(m) Goodwill and other intangible assets

Goodwill and other intangible assets with indefinite useful lives are not amortized, but are instead tested for impairment annually in the fourth quarter of each year, or more frequently if indicators of potential impairment exist. All goodwill is assigned to the reporting unit or units that benefit from the synergies arising from each business combination. If the carrying amount assigned to the reporting unit exceeds the fair value of the reporting unit, Canon recognizes an impairment charge in an amount equal to that excess, limited to the total amount of goodwill allocated to that reporting unit.

Intangible assets with finite useful lives consist primarily of software, trademarks, patents and developed technology, license fees and customer relationships, which are amortized using the straight-line method. The estimated useful lives of software are from 3 years to 8 years, trademarks are 15 years, patents and developed technology are from 7 years to 17 years, license fees are 7 years, and customer relationships are from 8 years to 15 years, respectively. Certain costs incurred in connection with developing or obtaining internal-use software are capitalized. These costs consist primarily of payments made to third parties and the salaries of employees working on such software development. Costs incurred in connection with developing internal-use software are capitalized at the application development stage. In addition, Canon develops or

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Notes to Consolidated Financial Statements (continued)

1. Basis of Presentation and Significant Accounting Policies (continued)

(m) Goodwill and other intangible assets (continued)

obtains certain software to be sold where related costs are capitalized after establishment of technological feasibility.

(n) Environmental Liabilities

Liabilities for environmental remediation and other environmental costs are accrued when environmental assessments or remedial efforts are probable and the costs can be reasonably estimated. Such liabilities are adjusted as further information develops or circumstances change. Costs of future obligations are not discounted to their present values.

(o) Income Taxes

Deferred tax assets and liabilities are recognized for the estimated future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. Canon records a valuation allowance to reduce the deferred tax assets to the amount that is more likely than not realizable.

Canon recognizes the financial statement effects of tax positions when it is more likely than not, based on the technical merits, that the tax positions will be sustained upon examination by the tax authorities. Benefits from tax positions that meet the more-likely-than-not recognition threshold are measured at the largest amount of benefit that is greater than 50% likely of being realized upon settlement. Interest and penalties accrued related to unrecognized tax benefits are included in income taxes in the consolidated statements of income.

(p) Stock-Based Compensation

Canon measures stock-based compensation cost at the grant date, based on the fair value of the award, and recognizes the cost on a straight-line basis over the requisite service period, which is the vesting period.

(q) Net Income Attributable to Canon Inc. Shareholders per Share

Basic net income attributable to Canon Inc. shareholders per share is computed by dividing net income attributable to Canon Inc. by the weighted-average number of common shares outstanding during each year. Diluted net income attributable to Canon Inc. shareholders per share includes the effect from potential issuances of common stock based on the assumptions that all stock options were exercised.

(r) Revenue Recognition

Canon generates revenue principally through the sale of office, imaging system and medical system products, industrial equipment, supplies and related services under separate contractual arrangements. Revenue is recognized when, or as, control of promised goods or services transfers to customers in an amount that reflects the consideration to which Canon expects to be entitled in exchange for transferring these goods or services. For further information, please refer to Note 14.

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Notes to Consolidated Financial Statements (continued)

1. Basis of Presentation and Significant Accounting Policies (continued)

(s) Research and Development Costs

Research and development costs are expensed as incurred.

(t) Advertising Costs

Advertising costs are expensed as incurred. Advertising expenses were ¥46,665 million, ¥58,729 million and ¥61,207 million for the years ended December 31, 2019, 2018 and 2017, respectively.

(u) Shipping and Handling Costs

Shipping and handling costs totaled ¥51,718 million, ¥54,844 million and ¥52,953 million for the years ended December 31, 2019, 2018 and 2017, respectively, and are included in selling, general and administrative expenses in the consolidated statements of income.

(v) Derivative Financial Instruments

All derivatives are recognized at fair value and are included in prepaid expenses and other current assets, or other current liabilities in the consolidated balance sheets.

Canon uses and designates certain derivatives as a hedge of a forecasted transaction or the variability of cash flows to be received or paid related to a recognized asset or liability (“cash flow” hedge). Canon formally documents all relationships between hedging instruments and hedged items, as well as its risk-management objective and strategy for undertaking various hedge transactions. Canon also formally assesses, both at the hedge’s inception and on an ongoing basis, whether the derivatives that are used in hedging transactions are highly effective in offsetting changes in cash flows of hedged items. When it is determined that a derivative is not highly effective as a hedge or that it has ceased to be a highly effective hedge, Canon discontinues hedge accounting prospectively. Changes in the fair value of a derivative that is designated and qualifies as a cash flow hedge are recorded in other comprehensive income (loss), until earnings are affected by the variability in cash flows of the hedged item, and reclassified in the same income statement line item in which the earnings effect of the hedged item is reported.

Canon also uses certain derivative financial instruments which are not designated as hedges. The changes in fair values of these derivative financial instruments are immediately recorded in earnings.

Canon classifies cash flows from derivatives as cash flows from operating activities in the consolidated statements of cash flows.

(w) Guarantees

Canon recognizes, at the inception of a guarantee, a liability for the fair value of the obligation it has undertaken in issuing guarantees.

(x) Recent Accounting Guidance

Recently adopted accounting guidance

In February 2016, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2016-02, Leases (Topic 842) Section A – Leases: Amendments to the FASB Accounting Standards Codification, which 

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Notes to Consolidated Financial Statements (continued)

1. Basis of Presentation and Significant Accounting Policies (continued)

(x) Recent Accounting Guidance (continued)

requires lessees to recognize most leases on their balance sheets but recognize expenses on their income statements in a manner similar to the previous guidance. For lessors, the standard modifies the classification criteria and the accounting for sales-type and direct financing leases. The FASB also modified the definition of a lease. Additionally, this guidance expands the qualitative and quantitative disclosures related to leases. This guidance is effective for annual reporting periods beginning after December 15, 2018. Canon applied the guidance from the quarter beginning January 1, 2019. Canon applied the package of practical expedients that allows it not to reassess whether any existing contracts at or expired contracts prior to the adoption date are or contain leases, lease classification and whether initial direct costs qualify for capitalization, in addition to the short term lease exception. Canon also adopted the transition method for which no restatement of comparative periods and no reassessment of land easements not previously accounted for as a lease that existed at or expired prior to the adoption date are required. The right of use assets for operating leases recognized at January 1, 2019 was ¥125,649 million. The corresponding lease liabilities were also recognized. The adoption of this guidance did not have a material impact on its consolidated results of operation. For further information, please refer to Notes 6 and 18.

In August 2017, the FASB issued ASU No. 2017-12, Derivatives and Hedging (Topic 815): Targeted Improvements to Accounting for Hedging Activities, which amends existing guidance to simplify the application of the hedge accounting in certain situations and enables an entity to better portray the economic results of an entity’s risk management activities in its financial statements. This guidance eliminates the requirement to separately measure and report hedge ineffectiveness, and requires an entity to present the earnings effect of the hedging instrument in the same income statement line item in which the earnings effect of the hedged item is reported. Canon adopted this guidance from the quarter beginning January 1, 2019 with the modified retrospective method through a cumulative effect adjustment directly to retained earnings as of the beginning of the period. Gains and losses resulting from derivative financial instruments designated as cash flow hedges associated with forecasted intercompany sales, which were previously included in other income (deductions) in the consolidated statements of income, are included in net sales after the adoption of this guidance. The adoption of this guidance did not have a material impact on its consolidated results of operation and financial condition.

Recently issued accounting guidance not yet adopted

In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments – Credit Losses – (Topic 326): Measurement of Credit Losses on Financial Instruments, which requires entities to use a current expected credit loss model to measure impairments of certain financial assets. Using this model will result in earlier recognition of losses than under the current incurred loss approach, which requires waiting to recognize a loss until it is probable of being incurred. This guidance should be applied on a modified retrospective basis through a cumulative effect adjustment directly to retained earnings as of the beginning of the period of adoption. Canon will adopt the guidance from the quarter beginning January 1, 2020. Canon does not expect material impacts from the adoption on its consolidated results of operation and financial condition.

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Notes to Consolidated Financial Statements (continued)

2. Investments

The unrealized and realized gains and losses related to equity securities for the year ended December 31, 2019 and 2018 are as follows:

	Years ended December 31
	2019			2018
	(Millions of yen)
Net gains and (losses) recognized during the period on equity securities		2,148			(6,092	)
Less: Net gains and (losses) recognized during the period on equity securities sold during the period		(76	)		675
Unrealized gains and (losses) recognized during the period on equity securities still held at December 31.		2,224			(6,767	)

Gross realized gains related to equity securities were ¥18,514 million for the year ended December 31, 2017. Gross realized losses, including write-downs for impairments that were other-than-temporary, were ¥42 million for the years ended December 31, 2017.

During the year ended December 31, 2017, Canon contributed certain marketable equity securities, not including those of its subsidiaries and affiliated companies, to an established employee retirement benefit trust, with no cash proceeds there on. The fair value of those securities at the time of contribution was ¥30,473 million. Upon contribution of those available-for-sale securities, the unrealized gains amounting to ¥17,836 million were realized and were included in “Other, net” in the consolidated statements of income.

The carrying amount of non-marketable equity securities without readily determinable fair value totaled ¥8,448 million and ¥4,629 million at December 31, 2019 and 2018, respectively. The impairment or other adjustments resulting from observable price changes recorded during the year ended December 31, 2019 and 2018 were not significant.

The unrealized and realized gains and losses related to debt securities were not significant for the years ended December 31, 2019, 2018 and 2017, respectively.

Time deposits with original maturities of more than three months are ¥1,767 million and ¥326 million at December 31, 2019 and 2018, respectively, and are included in short-term investments in the accompanying consolidated balance sheets.

Investments in affiliated companies accounted for by the equity method amounted to ¥19,988 million and ¥21,312 million at December 31, 2019 and 2018, respectively. Canon’s share of the net earnings in affiliated companies accounted for by the equity method, included in other income (deductions), were losses of ¥311 million for the year ended December 31, 2019, and earnings of ¥1,414 million and ¥1,196 million for the years ended December 31, 2018 and 2017 respectively.

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Notes to Consolidated Financial Statements (continued)

3. Trade Receivables

Trade receivables are summarized as follows:

	December 31
	2019			2018
	(Millions of yen)
Notes		32,952			29,878
Accounts		537,243			594,552
		570,195			624,430
Less allowance for doubtful receivables		(10,359	)		(11,477	)
		559,836			612,953

4. Inventories

Inventories are summarized as follows:

	December 31
	2019		2018
	(Millions of yen)
Finished goods		367,332		393,820
Work in process		165,399		165,003
Raw materials		52,025		52,458
		584,756		611,281

5. Property, Plant and Equipment

Property, plant and equipment are stated at cost less accumulated depreciation and are summarized as follows:

	December 31
	2019			2018
	(Millions of yen)
Land		273,014			272,443
Buildings		1,658,270			1,629,683
Machinery and equipment		1,802,624			1,789,226
Construction in progress		77,953			67,045
Finance lease right-of-use assets		4,999			4,517
		3,816,860			3,762,914
Less accumulated depreciation		(2,727,189	)		(2,671,922	)
		1,089,671			1,090,992

After the adoption of ASU No. 2016-02 from the beginning of the first quarter of 2019, Canon has reclassified finance lease assets from buildings and machinery and equipment to finance lease right-of-use assets. Finance lease assets at December 31, 2018 also have been reclassified.

Depreciation expenses for the years ended December 31, 2019, 2018 and 2017 were ¥170,418 million, ¥175,771 million and ¥189,712 million, respectively.

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Notes to Consolidated Financial Statements (continued)

5. Property, Plant and Equipment (continued)

Amounts due for purchases of property, plant and equipment were ¥30,601 million and ¥32,433 million at December 31, 2019 and 2018, respectively, and are included in other current liabilities in the accompanying consolidated balance sheets. Fixed assets presented in the consolidated statements of cash flows include property, plant and equipment and intangible assets.

6. Lessor Accounting

Lease income is included in Products and Equipment sales in the accompanying consolidated statement of income. Supplemental income statement information is as follows:

	Year ended December 31, 2019
	(Millions of yen)
Lease income – sales-type and direct financing leases
Revenue at lease commencement		114,312
Interest income on lease receivables		20,382
		134,694
Lease income – operating leases		25,403
Variable lease income		6,216
		166,313

Finance Receivables and Operating Leases

Finance receivables represent financing leases which consist of sales-type leases and direct financing leases resulting from the sales of Canon’s and complementary third-party products. These receivables typically have terms ranging from 1 year to 7 years. The components of the finance receivables, which are included in prepaid expenses and other current assets, and other assets in the accompanying consolidated balance sheets, are as follows:

	December 31
	2019			2018
	(Millions of yen)
Total minimum lease payments receivable		360,146			351,198
Unguaranteed residual values		13,070			12,661
Executory costs		—			(2,112	)
Unearned income		(33,338	)		(31,007	)
		339,878			330,740
Less allowance for credit losses		(2,627	)		(2,675	)
		337,251			328,065
Less current portion		(113,892	)		(111,629	)
		223,359			216,436

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Notes to Consolidated Financial Statements (continued)

6. Lessor Accounting (continued)

Allowance for Credit Losses

The activities in the allowance for credit losses are as follows:

	Years ended December 31
	2019			2018
	(Millions of yen)
Balance at beginning of year		2,675			2,681
Charge-offs		(1,653	)		(1,284	)
Provision		1,495			938
Translation adjustments and other		110			340
Balance at end of year		2,627			2,675

Canon has policies in place to ensure that its products are sold to customers with an appropriate credit history and continuously monitors its customers’ credit quality based on information including length of period in arrears, macroeconomic conditions, initiation of legal proceedings against customers and bankruptcy filings. The allowance for credit losses of finance receivables is evaluated collectively based on historical experience of credit losses. An additional reserve for individual accounts is recorded when Canon becomes aware of a customer’s inability to meet its financial obligations, such as in the case of bankruptcy filings. Finance receivables which are past due or are individually evaluated for impairment at December 31, 2019 and December 31, 2018 are not significant.

Equipment leased to customers

The cost of equipment leased to customers under operating leases included in property, plant and equipment, net at December 31, 2019 and 2018 was ¥116,681 million and ¥120,457 million, respectively. Accumulated depreciation on equipment under operating leases at December 31, 2019 and 2018 was ¥82,633 million and ¥82,698 million, respectively.

Maturity Analysis

The following is a schedule by year of the future minimum lease payments to be received under finance leases and non-cancellable operating leases at December 31, 2019.

	Financing leases		Operating leases
	(Millions of yen)
Year ending December 31:
2020		128,674		9,893
2021		100,569		6,115
2022		68,921		3,593
2023		39,314		1,116
2024		16,363		401
Thereafter		6,305		56
		360,146		21,174

Information about transferring finance receivables

Canon has syndication arrangements to sell its entire interests in finance receivables to the third-party financial institutions. The transactions under the arrangements are accounted for as sales in accordance with ASC 860

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Notes to Consolidated Financial Statements (continued)

6. Lessor Accounting (continued)

Information about transferring finance receivables (continued)

“Transfers and Servicing.” The sales of finance receivables were ¥11,710 million and ¥21,909 million for the year ended December 31, 2019 and 2018. The amount remained uncollected were ¥28,616 million and ¥22,956 million at December 31, 2019 and 2018, respectively. Cash proceeds from the transactions are included in other, net under the cash flow from operating activities in the consolidated statement of cash flows. Canon continues to provide collection and administrative services for the financial institutions. The amount associated with the servicing liability measured at fair value was not material at December 31, 2019 and 2018, respectively. Canon also retains limited recourse obligations which cover credit defaults. The recourse obligation was not material at December 31, 2019 and 2018, respectively.

7. Goodwill and Other Intangible Assets

Intangible assets subject to amortization acquired during the year ended December 31, 2019, including those recorded from businesses acquired, totaled ¥34,259 million, which primarily consist of software of ¥32,334 million. The weighted average amortization periods for intangible assets in total acquired during the year ended December 31, 2019 are approximately 5 years. The weighted average amortization period for software acquired during the year ended December 31, 2019 is approximately 5 years.

Intangible assets subject to amortization acquired during the year ended December 31, 2018, including those recorded from businesses acquired, totaled ¥48,004 million, which primarily consist of software of ¥36,859 million, and patent and developed technology of ¥6,109 million. The weighted average amortization periods for intangible assets in total acquired during the year ended December 31, 2018 are approximately 6 years. The weighted average amortization periods for software, and patent and developed technology acquired during the year ended December 31, 2018 are approximately 5 years and 11 years, respectively.

The components of intangible assets subject to amortization at December 31, 2019 and 2018 were as follows:

	December 31, 2019				December 31, 2018
	Gross carrying amount		Accumulated amortization		Gross carrying amount		Accumulated amortization
	(Millions of yen)
Software		370,178		262,405		362,130		244,188
Customer relationships		153,708		35,276		156,679		27,263
Patents and developed technology		123,609		46,263		123,831		36,029
Trademarks		41,688		13,582		44,449		12,062
License fees		15,944		8,482		16,071		6,461
Other		18,972		11,846		19,319		9,859
		724,099		377,854		722,479		335,862

Aggregate amortization expense for the years ended December 31, 2019, 2018 and 2017 was ¥66,909 million, ¥75,783 million and ¥72,169 million, respectively. Estimated amortization expense for intangible assets currently held for the next five years ending December 31 is ¥58,646 million in 2020, ¥51,386 million in 2021, ¥42,866 million in 2022, ¥32,678 million in 2023, and ¥27,818 million in 2024.

Intangible assets not subject to amortization other than goodwill at December 31, 2019 and 2018 were not significant.

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Notes to Consolidated Financial Statements (continued)

7. Goodwill and Other Intangible Assets (continued)

For management reporting purposes, goodwill is not allocated to the segments. Goodwill has been allocated to its respective segment for impairment testing.

The changes in the carrying amount of goodwill by segment for the years ended December 31, 2019 and 2018 were as follows:

	Year ended December 31, 2019
	Office			Imaging System			Medical System			Industry and Others			Total
	(Millions of yen)
Goodwill – gross		127,860			48,670			500,896			263,513			940,939
Accumulated impairment losses		(20,770	)		—			—			(11,658	)		(32,428	)
Balance at beginning of year		107,090			48,670			500,896			251,855			908,511
Goodwill acquired during the year		—			—			8,330			—			8,330
Translation adjustments and other		(2,518	)		(1,717	)		(319	)		(13,626	)		(18,180	)
Goodwill – gross		124,613			46,953			508,907			249,478			929,951
Accumulated impairment losses		(20,041	)		—			—			(11,249	)		(31,290	)
Balance at end of year		104,572			46,953			508,907			238,229			898,661
	Year ended December 31, 2018
	Office			Imaging System			Medical System			Industry and Others			Total
	(Millions of yen)
Goodwill – gross		135,125			52,561			499,915			283,577			971,178
Accumulated impairment losses		(22,069	)		—			—			(12,387	)		(34,456	)
Balance at beginning of year		113,056			52,561			499,915			271,190			936,722
Goodwill acquired during the year		—			—			1,521			6,106			7,627
Translation adjustments and other		(5,966	)		(3,891	)		(540	)		(25,441	)		(35,838	)
Goodwill – gross		127,860			48,670			500,896			263,513			940,939
Accumulated impairment losses		(20,770	)		—			—			(11,658	)		(32,428	)
Balance at end of year		107,090			48,670			500,896			251,855			908,511

8. Short-Term Loans and Long-Term Debt

Short-term loans consisting of bank borrowings at December 31, 2019 and 2018 were ¥40,800 million and ¥35,887 million, respectively. The weighted average interest rate on short-term borrowings outstanding at December 31, 2019 and 2018 were 0.21% and 0.43%, respectively. Unused overdraft facilities at December 31, 2019 were ¥150,000 million. The overdraft facilities bear interest at a rate equal to a base rate plus a spread.

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Notes to Consolidated Financial Statements (continued)

8. Short-Term Loans and Long-Term Debt (continued)

Long-term debt consisted of the following:

	December 31
	2019			2018
	(Millions of yen)
Loan from banks; bearing interest of 0.08% at December 31, 2019 and 0.07% at December 31, 2018 *1		354,000			360,000
Other debt *2		4,574			4,602
		358,574			364,602
Less current portion		(1,234	)		(2,640	)
		357,340			361,962

*1 Canon has the unsecured revolving credit facility contracts expiring in December 2021. Canon prepaid ¥6,000 million of the loan with cash flows generated during the year ended December 31, 2019. The outstanding loans under the credit facilities are ¥354,000 million at a floating interest of 0.08% and Canon has no unused credit facilities as of December 31, 2019.

*2 The other debt consisted of term-loans and finance lease obligations as of December 31, 2019 and 2018.

The aggregate annual maturities of long-term debt outstanding at December 31, 2019 were as follows:

	(Millions of yen)
Year ending December 31:
2020		1,234
2021		355,199
2022		821
2023		487
2024		203
Thereafter		630
		358,574

Both short-term and long-term bank loans are primarily made under general agreements which provide that security and guarantees for present and future indebtedness will be given upon request of the bank, and that the bank shall have the right to offset cash deposits against obligations that have become due or, in the event of default, against all obligations due to the bank.

9. Trade Payables

Trade payables are summarized as follows:

	December 31
	2019		2018
	(Millions of yen)
Notes		56,865		68,140
Accounts		248,447		284,349
		305,312		352,489

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Notes to Consolidated Financial Statements (continued)

10. Employee Retirement and Severance Benefits

The Company and certain of its subsidiaries have contributory and noncontributory defined benefit pension plans covering substantially all of their employees. Benefits payable under the plans are based on employee earnings and years of service. The Company and certain of its subsidiaries also have defined contribution pension plans covering substantially all of their employees. Canon Medical Systems Corporation (“CMSC”) temporarily participated in Toshiba Corporate Pension Funds (“Toshiba Funds”) after CMSC was acquired by Canon in 2016. In April 2018, CMSC established a new pension provision which provides participants an equivalent level of benefits as compared to the Toshiba Funds. As of December 31, 2018, a majority of plan participants had been transferred from the Toshiba Funds into the new pension provision. Canon calculated the projected benefit obligations for the remaining participants within the Toshiba Funds based on the benefit level of the Toshiba Funds and included the proportional share of the plan assets to which CMSC had a legal right in the following tables for the remaining participants as of December 31, 2018. In March 2019, CMSC settled the pension obligations attributed to the remaining participants within the Toshiba Funds. The loss recognized due to the settlement in the consolidated statement of income for the year ended December 31, 2019 was not significant.

Obligations and funded status

Reconciliations of beginning and ending balances of the projected benefit obligations and the fair value of the plan assets are as follows:

	Japanese plans						Foreign plans
	December 31						December 31
	2019			2018			2019			2018
	(Millions of yen)						(Millions of yen)
Change in benefit obligations:
Projected benefit obligations at beginning of year		927,006			929,630			385,949			423,579
Service cost		30,903			31,241			6,264			7,982
Interest cost		5,074			5,419			8,643			8,691
Plan participants’ contributions		—			—			1,432			1,535
Actuarial (gain) loss		15,289			(1,844	)		52,261			(24,297	)
Benefits paid		(35,372	)		(33,477	)		(10,863	)		(10,135	)
Plan amendments		—			(3,963	)		362			3,257
Curtailments and settlements		(17,510	)		—			(3,608	)		(1,149	)
Foreign currency exchange rate changes		—			—			(816	)		(23,514	)
Projected benefit obligations at end of year		925,390			927,006			439,624			385,949
Change in plan assets:
Fair value of plan assets at beginning of year		682,695			735,513			248,642			254,020
Actual return on plan assets		54,170			(38,010	)		35,298			(6,042	)
Employer contributions		12,367			12,651			18,016			22,393
Plan participants’ contributions		—			—			1,432			1,535
Benefits paid		(28,549	)		(27,459	)		(10,863	)		(10,135	)
Settlements		(16,514	)		—			—			(1,150	)
Foreign currency exchange rate changes		—			—			2,304			(11,979	)
Fair value of plan assets at end of year		704,169			682,695			294,829			248,642
Funded status at end of year		(221,221	)		(244,311	)		(144,795	)		(137,307	)

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Notes to Consolidated Financial Statements (continued)

10. Employee Retirement and Severance Benefits (continued)

Obligations and funded status (continued)

Amounts recognized in the consolidated balance sheets at December 31, 2019 and 2018 are as follows:

	Japanese plans						Foreign plans
	December 31						December 31
	2019			2018			2019			2018
	(Millions of yen)						(Millions of yen)
Other assets		1,904			1,536			2,342			1,306
Accrued expenses		(818	)		(679	)		(937	)		(992	)
Accrued pension and severance cost		(222,307	)		(245,168	)		(146,200	)		(137,621	)
		(221,221	)		(244,311	)		(144,795	)		(137,307	)

Amounts recognized in accumulated other comprehensive income (loss) at December 31, 2019 and 2018 before the effect of income taxes are as follows:

	Japanese plans						Foreign plans
	December 31						December 31
	2019			2018			2019		2018
	(Millions of yen)						(Millions of yen)
Actuarial loss		231,811			267,355			118,247		95,121
Prior service credit		(36,506	)		(48,392	)		268		(227	)
		195,305			218,963			118,515		94,894

The accumulated benefit obligation for all defined benefit plans was as follows:

	Japanese plans				Foreign plans
	December 31				December 31
	2019		2018		2019		2018
	(Millions of yen)				(Millions of yen)
Accumulated benefit obligation		892,154		893,154		421,460		371,653

The projected benefit obligations and the fair value of plan assets for the pension plans with projected benefit obligations in excess of plan assets, and the accumulated benefit obligations and the fair value of plan assets for the pension plans with accumulated benefit obligations in excess of plan assets are as follows:

	Japanese plans				Foreign plans
	December 31				December 31
	2019		2018		2019		2018
	(Millions of yen)				(Millions of yen)
Plans with projected benefit obligations in excess of plan assets:
Projected benefit obligations		916,562		918,736		437,780		384,167
Fair value of plan assets		693,437		672,889		290,643		245,554
Plans with accumulated benefit obligations in excess of plan assets:
Accumulated benefit obligations		887,138		891,204		414,729		369,215
Fair value of plan assets		688,754		670,826		285,341		244,826

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Notes to Consolidated Financial Statements (continued)

10. Employee Retirement and Severance Benefits (continued)

Components of net periodic benefit cost and other amounts recognized in other comprehensive income (loss)

Net periodic benefit cost for Canon’s employee retirement and severance defined benefit plans for the years ended December 31, 2019, 2018 and 2017 consisted of the following components:

	Japanese plans									Foreign plans
	Years ended December 31									Years ended December 31
	2019			2018			2017			2019			2018			2017
	(Millions of yen)									(Millions of yen)
Service cost		30,903			31,241			30,889			6,264			7,982			6,962
Interest cost		5,074			5,419			5,689			8,643			8,691			8,691
Expected return on plan assets		(19,553	)		(21,983	)		(20,493	)		(11,919	)		(12,601	)		(10,722	)
Amortization of prior service credit		(11,877	)		(13,001	)		(12,860	)		(133	)		(217	)		(83	)
Amortization of actuarial loss		15,247			11,900			14,220			4,345			5,108			5,747
(Gain) loss on curtailments and settlements		(36	)		—			(63	)		(2,197	)		—			—
		19,758			13,576			17,382			5,003			8,963			10,595

Service cost component of net periodic benefit cost for Canon’s employee retirement and severance defined benefit plans is included in cost of sales and operating expenses in the consolidated statements of income. The components other than the service cost component are included in other, net of other income (deductions) in the consolidated statements of income.  

Other changes in plan assets and benefit obligations recognized in other comprehensive income (loss) for the years ended December 31, 2019, 2018 and 2017 are summarized as follows:

	Japanese plans									Foreign plans
	Years ended December 31									Years ended December 31
	2019			2018			2017			2019			2018			2017
	(Millions of yen)									(Millions of yen)
Current year actuarial (gain) loss		(19,328	)		58,149			(15,771	)		28,882			(5,654	)		(5,300	)
Current year prior service credit		—			(3,963	)		1,149			362			3,257			(1,069	)
Amortization of actuarial loss		(15,247	)		(11,900	)		(14,220	)		(4,345	)		(5,108	)		(5,747	)
Amortization of prior service credit		11,877			13,001			12,860			133			217			83
Curtailments and settlements		(960	)		—			19			(1,411	)		(63	)		—
		(23,658	)		55,287			(15,963	)		23,621			(7,351	)		(12,033	)

The estimated prior service credit and actuarial loss for the defined benefit pension plans that will be amortized from accumulated other comprehensive income (loss) into net periodic benefit cost over the next year are summarized as follows:

	Japanese plans			Foreign plans
	(Millions of yen)			(Millions of yen)
Prior service credit		(8,736	)		(123	)
Actuarial loss		12,506			6,073

126

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Notes to Consolidated Financial Statements (continued)

10. Employee Retirement and Severance Benefits (continued)

Assumptions

Weighted-average assumptions used to determine benefit obligations are as follows:

	Japanese plans						Foreign plans
	December 31						December 31
	2019			2018			2019			2018
Discount rate		0.5	%		0.6	%		1.6	%		2.4	%
Assumed rate of increase in future compensation levels		2.6	%		2.6	%		1.0	%		1.9	%

Weighted-average assumptions used to determine net periodic benefit cost are as follows:

	Japanese plans									Foreign plans
	Years ended December 31									Years ended December 31
	2019			2018			2017			2019			2018			2017
Discount rate		0.6	%		0.6	%		0.7	%		2.4	%		2.2	%		2.2	%
Assumed rate of increase in future compensation levels		2.6	%		2.6	%		2.6	%		1.9	%		1.8	%		2.1	%
Expected long-term rate of return on plan assets		3.0	%		2.9	%		3.1	%		5.2	%		4.4	%		4.2	%

Canon determines the expected long-term rate of return based on the expected long-term return of the various asset categories in which it invests. Canon considers the current expectations for future returns and the actual historical returns of each plan asset category.

Plan assets

Canon’s investment policies are designed to ensure adequate plan assets are available to provide future payments of pension benefits to eligible participants. Taking into account the expected long-term rate of return on plan assets, Canon formulates a “model” portfolio comprised of the optimal combination of equity securities and debt securities. Plan assets are invested in individual equity and debt securities using the guidelines of the “model” portfolio in order to produce a total return that will match the expected return on a mid-term to long-term basis. Canon evaluates the gap between expected return and actual return of invested plan assets on an annual basis to determine if such differences necessitate a revision in the formulation of the “model” portfolio. Canon revises the “model” portfolio when and to the extent considered necessary to achieve the expected long-term rate of return on plan assets.

Canon’s model portfolio for Japanese plans consists of three major components: approximately 25% is invested in equity securities, approximately 50% is invested in debt securities, and approximately 25% is invested in other investment vehicles, primarily consisting of investments in life insurance company general accounts.

Outside Japan, investment policies vary by country, but the long-term investment objectives and strategies remain consistent. Canon’s model portfolio for foreign plans has been developed as follows: approximately 35% is invested in equity securities, approximately 20% is invested in debt securities, and approximately 45% is invested in other investment vehicles, primarily consisting of investments in real estate assets.

The equity securities are selected primarily from stocks that are listed on the securities exchanges. Prior to investing, Canon has investigated the business condition of the investee companies, and appropriately diversified investments by type of industry and other relevant factors. The debt securities are selected primarily from government bonds, public debt instruments, and corporate bonds. Prior to investing, Canon has investigated the 

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Notes to Consolidated Financial Statements (continued)

10. Employee Retirement and Severance Benefits (continued)

Plan assets (continued)

quality of the issue, including rating, interest rate, and repayment dates, and has appropriately diversified the investments. Pooled funds are selected using strategies consistent with the equity and debt securities described above. As for investments in life insurance company general accounts, the contracts with the insurance companies include a guaranteed interest rate and return of capital. With respect to investments in foreign investment vehicles, Canon has investigated the stability of the underlying governments and economies, the market characteristics such as settlement systems and the taxation systems. For each such investment, Canon has selected the appropriate investment country and currency.

The three levels of input used to measure fair value are more fully described in Note 21. The fair values of Canon’s pension plan assets at December 31, 2019 and 2018, by asset category, are as follows:

	December 31, 2019
	Japanese plans								Foreign plans
	Level 1		Level 2		Level 3		Total		Level 1		Level 2		Level 3		Total
	(Millions of yen)
Equity securities:
Japanese companies (a)		77,484		—		—		77,484		—		—		—		—
Foreign companies		5,164		—		—		5,164		10,298		—		—		10,298
Pooled funds (b)		—		164,662		—		164,662				63,557				63,557
Debt securities:
Government bonds (c)		130,180		—		—		130,180		—		—		—		—
Municipal bonds		—		1,202		—		1,202		—		2,302		—		2,302
Corporate bonds		—		11,711		—		11,711		—		6,472		—		6,472
Pooled funds (d)		—		136,655		—		136,655		—		64,259		—		64,259
Mortgage backed securities (and other asset backed securities)		—		12,090		—		12,090		—		2,511		—		2,511
Life insurance company general accounts		—		121,573		—		121,573		—		9,676		—		9,676
Other assets		—		26,979		218		27,197		—		115,102		—		115,102
Investment measured at net asset value		—		—		—		16,251		—		—		—		20,652
		212,828		474,872		218		704,169		10,298		263,879		—		294,829

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Notes to Consolidated Financial Statements (continued)

10. Employee Retirement and Severance Benefits (continued)

Plan assets (continued)

	December 31, 2018
	Japanese plans								Foreign plans
	Level 1		Level 2		Level 3		Total		Level 1		Level 2		Level 3		Total
	(Millions of yen)
Equity securities:
Japanese companies (e)		67,283		—		—		67,283		—		—		—		—
Foreign companies		5,451		—		—		5,451		8,567		—		—		8,567
Pooled funds (f)		—		137,712		—		137,712		—		49,312		—		49,312
Debt securities:
Government bonds (g)		137,858		—		—		137,858		—		—		—		—
Municipal bonds		—		1,483		—		1,483		—		2,642		—		2,642
Corporate bonds		—		12,595		—		12,595		—		6,318		—		6,318
Pooled funds (h)		—		140,712		—		140,712		—		59,419		—		59,419
Mortgage backed securities (and other asset backed securities)		—		8,489		—		8,489		—		—		—		—
Life insurance company general accounts		—		123,747		—		123,747		—		9,019		—		9,019
Other assets		—		30,009		1,451		31,460		—		95,844		—		95,844
Investment measured at net asset value		—		—		—		15,905		—		—		—		17,521
		210,592		454,747		1,451		682,695		8,567		222,554		—		248,642

(a)	The plan’s equity securities include common stock of the Company and certain of its subsidiaries in the amounts of ¥118 million.
(b)	These funds invest in listed equity securities consisting of approximately 30% Japanese companies and 70% foreign companies for Japanese plans, and mainly foreign companies for foreign plans.

(c) This class includes approximately 85% Japanese government bonds and 15% foreign government bonds for Japanese plans, and mainly foreign government bonds for foreign plans.

(d) These funds invest in approximately 25% Japanese government bonds, 55% foreign government bonds, 5% Japanese municipal bonds, and 15% corporate bonds for Japanese plans. These funds invest in approximately 75% foreign government bonds and 25% corporate bonds for foreign plans.

(e) The plan’s equity securities include common stock of the Company and certain of its subsidiaries in the amounts of ¥147 million.

(f) These funds invest in listed equity securities consisting of approximately 30% Japanese companies and 70% foreign companies for Japanese plans, and mainly foreign companies for foreign plans.

(g) This class includes approximately 90% Japanese government bonds and 10% foreign government bonds for Japanese plans, and mainly foreign government bonds for foreign plans.

(h) These funds invest in approximately 30% Japanese government bonds, 50% foreign government bonds, 5% Japanese municipal bonds, and 15% corporate bonds for Japanese plans. These funds invest in approximately 35% foreign government bonds and 65% corporate bonds for foreign plans.

Each level into which assets are categorized is based on inputs used to measure the fair value of the assets, and does not necessarily indicate the risks or ratings of the assets.

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Notes to Consolidated Financial Statements (continued)

10. Employee Retirement and Severance Benefits (continued)

Plan assets (continued)

Level 1 assets are comprised principally of equity securities and government bonds, which are valued using unadjusted quoted market prices in active markets with sufficient volume and frequency of transactions. Level 2 assets are comprised principally of pooled funds that invest in equity and debt securities, corporate bonds, investments in life insurance company general accounts and other assets. Pooled funds are valued at their net asset values that are calculated by the sponsor of the fund and have daily liquidity. Corporate bonds are valued using quoted prices for identical assets in markets that are not active. Investments in life insurance company general accounts are valued at conversion value. Other assets are comprised principally of interest bearing cash and hedge funds.

The fair values of Level 3 asset, consisting of hedge funds, were ¥218 million and ¥1,451 million at December 31, 2019 and 2018, respectively. Amounts of actual returns on, purchases and sales of these assets during the years ended December 31, 2019 and 2018 were not significant.

The fair values of plan assets for the participants with Toshiba Funds by each asset category in 2018 were calculated based on a pro-rata basis of total plan assets of Toshiba Funds.

Contributions

Canon expects to contribute ¥13,257 million to its Japanese defined benefit pension plans and ¥18,985 million to its foreign defined benefit pension plans for the year ending December 31, 2020.

Estimated future benefit payments

The following benefit payments, which reflect expected future service, as appropriate, are expected to be paid:

	Japanese plans		Foreign plans
	(Millions of yen)		(Millions of yen)
Year ending December 31:
2020		37,164		12,564
2021		38,203		13,181
2022		41,146		14,083
2023		42,625		14,947
2024		42,803		15,742
2025 – 2029		222,813		94,532

Multiemployer pension plans

The amounts of cost recognized for the multiemployer pension plans primarily in the Netherlands for the years ended December 31, 2019, 2018 and 2017 were ¥4,321 million, ¥4,452 million and ¥4,165 million, respectively. The multiemployer pension plan in which the subsidiaries in the Netherlands participated was 98% funded as of December 31, 2018. The collective bargaining agreements have no expiration date. Canon is not liable for other participating employers’ obligations under the terms and conditions of the agreements.

Defined contribution plans

The amounts of cost recognized for the defined contribution pension plans of the Company and certain of its subsidiaries for the years ended December 31, 2019, 2018 and 2017 were ¥17,414 million, ¥19,570 million and ¥18,979 million, respectively.

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Notes to Consolidated Financial Statements (continued)

11. Income Taxes

Domestic and foreign components of income before income taxes and the current and deferred income tax expense attributable to such income are summarized as follows:

	Year ended December 31, 2019
	Japanese			Foreign			Total
	(Millions of yen)
Income before income taxes		107,329			88,411			195,740
Income taxes:
Current		39,483			23,186			62,669
Deferred		(4,199	)		(2,247	)		(6,446	)
		35,284			20,939			56,223

	Year ended December 31, 2018
	Japanese			Foreign			Total
	(Millions of yen)
Income before income taxes		241,474			121,418			362,892
Income taxes:
Current		75,556			32,443			107,999
Deferred		(6,552	)		(5,297	)		(11,849	)
		69,004			27,146			96,150

	Year ended December 31, 2017
	Japanese			Foreign			Total
	(Millions of yen)
Income before income taxes		276,149			77,735			353,884
Income taxes:
Current		80,225			35,402			115,627
Deferred		(7,453	)		(10,150	)		(17,603	)
		72,772			25,252			98,024

The Company and its domestic subsidiaries are subject to a number of income taxes, which, in the aggregate, represent a statutory income tax rate of approximately 31% for the years ended December 31, 2019, 2018 and 2017.

The United States enacted tax reform legislation (the “Tax Reform Legislation”) on December 22, 2017. Due to the Tax Reform Legislation, the federal corporate income tax rate in the U.S. was reduced from 35% to 21% from the fiscal year commencing on January 1, 2018. The adjustment to deferred tax assets and liabilities for the tax rate change was a tax benefit of ¥14,563 million for the year ended December 31, 2017. The impacts related to other changes from the Tax Reform Legislation are not material.

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Notes to Consolidated Financial Statements (continued)

11. Income Taxes (continued)

A reconciliation of the Japanese statutory income tax rate and the effective income tax rate as a percentage of income before income taxes is as follows:

	Years ended December 31
	2019			2018			2017
Japanese statutory income tax rate		31.0	%		31.0	%		31.0	%
Increase (reduction) in income taxes resulting from:
Expenses not deductible for tax purposes *		1.7			0.7			3.7
Income of foreign subsidiaries taxed at lower than Japanese statutory tax rate		(4.5	)		(3.0	)		(2.1	)
Tax credit for research and development expenses		(2.3	)		(3.4	)		(4.8	)
Change in valuation allowance		0.0			0.4			1.7
Effect of enacted changes in U.S. tax laws		—			—			(3.6	)
Deferred tax liabilities on undistributed earnings of foreign subsidiaries		2.3			0.9			1.1
Other		0.5			(0.1	)		0.7
Effective income tax rate		28.7	%		26.5	%		27.7	%

* Expenses not deductible for tax purposes for the year ended December 31, 2017 primarily consist of impairment losses on goodwill.

Net deferred income tax assets and liabilities are included in the accompanying consolidated balance sheets under the following captions:

	December 31
	2019			2018
	(Millions of yen)
Other assets		153,948			160,541
Other noncurrent liabilities		(59,888	)		(70,336	)
		94,060			90,205

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Notes to Consolidated Financial Statements (continued)

11. Income Taxes (continued)

The tax effects of temporary differences that give rise to the deferred tax assets and deferred tax liabilities at December 31, 2019 and 2018 are presented below:

	December 31
	2019			2018
	(Millions of yen)
Deferred tax assets:
Inventories		10,225			10,739
Accrued business tax		1,282			2,361
Accrued pension and severance cost		107,463			105,933
Research and development – costs capitalized for tax purposes		4,751			4,690
Property, plant and equipment		32,040			33,738
Operating lease liabilities		25,646			—
Accrued expenses		25,845			28,015
Net operating losses carried forward		21,294			28,549
Other		41,759			38,683
		270,305			252,708
Less valuation allowance		(27,678	)		(30,734	)
Total deferred tax assets		242,627			221,974
Deferred tax liabilities:
Undistributed earnings of foreign subsidiaries		(8,769	)		(7,615	)
Tax deductible reserve		(4,050	)		(4,050	)
Financing lease revenue		(19,029	)		(26,441	)
Operating lease right-of-use assets		(25,249	)		—
Intangible assets		(59,350	)		(66,189	)
Other		(32,120	)		(27,474	)
Total deferred tax liabilities		(148,567	)		(131,769	)
Net deferred tax assets		94,060			90,205

The net changes in the total valuation allowance were a decrease of ¥3,056 million, a decrease of ¥49 million and an increase of ¥4,096 million for the years ended December 31, 2019, 2018 and 2017, respectively.

Based on the level of historical taxable income and projections for future taxable income over the periods which the net deductible temporary differences are expected to reverse, management believes it is more likely than not that Canon will realize the benefits of these deferred tax assets, net of the valuation allowance, at December 31, 2019.

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Notes to Consolidated Financial Statements (continued)

11. Income Taxes (continued)

At December 31, 2019, Canon had net operating losses which can be carried forward for income tax purposes of ¥130,907 million to reduce future taxable income. Periods available to reduce future taxable income vary in each tax jurisdiction and generally range from one year to an indefinite period as follows:

	(Millions of yen)
Within one year		1,980
After one year through five years		28,550
After five years through ten years		31,871
After ten years through twenty years		17,137
Indefinite period		51,369
		130,907

Income taxes have not been accrued on undistributed earnings of domestic subsidiaries as the tax law provides a means by which the dividends from a domestic subsidiary can be received tax free.

Canon has not recognized deferred tax liabilities of ¥24,886 million for a portion of undistributed earnings of foreign subsidiaries of ¥994,886 million as of December 31, 2019 because Canon intends to permanently reinvest such undistributed earnings of foreign subsidiaries. Deferred tax liabilities will be recognized when such undistributed earnings are no longer permanently reinvested.

A reconciliation of the beginning and ending amount of unrecognized tax benefits is as follows:

	Years ended December 31
	2019			2018			2017
	(Millions of yen)
Balance at beginning of year		8,649			10,282			7,318
Additions for tax positions of the current year		—			45			2,956
Additions for tax positions of prior years		204			178			250
Reductions for tax positions of prior years		(44	)		(17	)		(915	)
Settlements with tax authorities		(402	)		(1,286	)		—
Other		(287	)		(553	)		673
Balance at end of year *		8,120			8,649			10,282

* The unrecognized tax benefits were offset by deferred tax assets in the amount of ¥933 million, ¥2,043 million and ¥124 million as of December 31, 2019, 2018 and 2017, respectively, and reported under “other noncurrent liabilities” on the consolidated balance sheets.

The total amounts of unrecognized tax benefits that would reduce the effective tax rate, if recognized, were ¥8,120 million and ¥8,649 million at December 31, 2019 and 2018, respectively.

Although Canon believes its estimates and assumptions of unrecognized tax benefits are reasonable, uncertainty regarding the final determination of tax examination settlements and any related litigation could affect the effective tax rate in a future period. Based on each of the items of which Canon is aware at December 31, 2019, no significant changes to the unrecognized tax benefits are expected within the next twelve months.

Canon recognizes interest and penalties accrued related to unrecognized tax benefits in income taxes. Both interest and penalties accrued at December 31, 2019 and 2018, and interest and penalties included in income taxes for the years ended December 31, 2019, 2018 and 2017 were not significant.

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Notes to Consolidated Financial Statements (continued)

11. Income Taxes (continued)

Canon files income tax returns in Japan and various foreign tax jurisdictions. In Japan, Canon is no longer subject to regular income tax examinations by the tax authority for years before 2017 with few exceptions. Canon is also no longer subject to a transfer pricing examination by the tax authority for years before 2017 with few exceptions. In other major foreign tax jurisdictions, including the United States and the Netherlands, Canon is no longer subject to income tax examinations by tax authorities for years before 2009 with few exceptions.

12. Legal Reserve and Retained Earnings

The Corporation Law of Japan provides that an amount equal to 10% of distributions from retained earnings paid by the Company and its Japanese subsidiaries be appropriated as a legal reserve. No further appropriations are required when the total amount of the additional paid-in capital and the legal reserve equals 25% of their respective stated capital. The Corporation Law of Japan also provides that additional paid-in capital and legal reserve are available for appropriations by resolution of the shareholders. Certain foreign subsidiaries are also required to appropriate their earnings to legal reserves under the laws of their respective countries.

Cash dividends and appropriations to the legal reserve charged to retained earnings for the years ended December 31, 2019, 2018 and 2017 represent dividends paid out during those years and the related appropriations to the legal reserve. Retained earnings at December 31, 2019 did not reflect current year-end dividends in the amount of ¥85,107 million which were approved by the shareholders in March 2020.

The amount available for dividends under the Corporation Law of Japan is based on the amount recorded in the Company’s nonconsolidated books of account in accordance with financial accounting standards of Japan. Such amount was ¥853,374 million at December 31, 2019.

Retained earnings at December 31, 2019 included Canon’s equity in undistributed earnings of affiliated companies accounted for by the equity method in the amount of ¥17,657 million.

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Notes to Consolidated Financial Statements (continued)

13. Other Comprehensive Income (Loss)

Changes in accumulated other comprehensive income (loss) for the years ended December 31, 2019, 2018 and 2017 are as follows:

	Foreign currency translation adjustments			Unrealized gains and losses on securities			Gains and losses on derivative instruments			Pension liability adjustments			Total
	(Millions of yen)
Balance at December 31, 2016		(13,960	)		15,251			(2,742	)		(198,430	)		(199,881	)
Equity transactions with noncontrolling interests and other		—			—			—			—			—
Other comprehensive income (loss) before reclassifications		44,184			2,813			(1,452	)		14,785			60,330
Amounts reclassified from accumulated other comprehensive income (loss)		(16	)		(12,580	)		4,014			4,905			(3,677	)
Net change during the year		44,168			(9,767	)		2,562			19,690			56,653
Balance at December 31, 2017		30,208			5,484			(180	)		(178,740	)		(143,228	)
Cumulative effects of accounting standard update – adoption of ASU No. 2016-01		—			(5,343	)		—			—			(5,343	)
Equity transactions with noncontrolling interests and other		(4,200	)		—			—			—			(4,200	)
Other comprehensive income (loss) before reclassifications		(89,823	)		—			(457	)		(29,909	)		(120,189	)
Amounts reclassified from accumulated other comprehensive income (loss)		—			(141	)		945			3,085			3,889
Net change during the year		(94,023	)		(141	)		488			(26,824	)		(120,500	)
Balance at December 31, 2018		(63,815	)		—			308			(205,564	)		(269,071	)
Cumulative effects of accounting standard update – adoption of ASU No. 2017-12 *		—			—			(122	)		—			(122	)
Equity transactions with noncontrolling interests and other		(424	)		—			—			—			(424	)
Other comprehensive income (loss) before reclassifications		(31,889	)		—			(1,723	)		(12,763	)		(46,375	)
Amounts reclassified from accumulated other comprehensive income (loss)		(154	)		—			650			7,054			7,550
Net change during the year		(32,467	)		—			(1,073	)		(5,709	)		(39,249	)
Balance at December 31, 2019		(96,282	)		—			(887	)		(211,273	)		(308,442	)

 

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Notes to Consolidated Financial Statements (continued)

13. Other Comprehensive Income (Loss) (continued)

Reclassifications out of accumulated other comprehensive income (loss) for the years ended December 31, 2019, 2018 and 2017 are as follows:

	Amount reclassified from accumulated other comprehensive income (loss) *1
	Year ended December 31, 2019			Year ended December 31, 2018			Year ended December 31, 2017			Affected line items in consolidated statements of income
	(Millions of yen)
Foreign currency translation adjustments		(154	)		—			(39	)	Other, net
		—			—			12		Income taxes
		(154	)		—			(27	)	Consolidated net income
		—			—			11		Net income attributable to noncontrolling interests
		(154	)		—			(16	)	Net income attributable to Canon Inc.
Unrealized gains and losses on securities		—			(178	)		(18,472	)	Other, net
		—			37			5,727		Income taxes
		—			(141	)		(12,745	)	Consolidated net income
		—			—			165		Net income attributable to noncontrolling interests
		—			(141	)		(12,580	)	Net income attributable to Canon Inc.
Gains and losses on derivative instruments		661			1,341			5,772		*2
		(2	)		(392	)		(1,732	)	Income taxes
		659			949			4,040		Consolidated net income
		(9	)		(4	)		(26	)	Net income attributable to noncontrolling interests
		650			945			4,014		Net income attributable to Canon Inc.
Pension liability adjustments		9,953			3,853			7,005		Other, net
		(2,523	)		(699	)		(1,832	)	Income taxes
		7,430			3,154			5,173		Consolidated net income
		(376	)		(69	)		(268	)	Net income attributable to noncontrolling interests
		7,054			3,085			4,905		Net income attributable to Canon Inc.
Total amount reclassified, net of tax and noncontrolling interests		7,550			3,889			(3,677	)

*1 Amounts in parentheses indicate gains in consolidated statements of income.

*2 After the adoption of ASU No 2017-12, gains and losses on derivative are reclassified into net sales, which had been classified into other, net. Please refer to Notes 1(x) and 17 for more detailed information.

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Notes to Consolidated Financial Statements (continued)

13. Other Comprehensive Income (Loss) (continued)

Tax effects allocated to each component of other comprehensive income (loss) and reclassification adjustments, including amounts attributable to noncontrolling interests, are as follows:

	Years ended December 31
	Before-tax amount			Tax (expense) or benefit			Net-of-tax amount
	(Millions of yen)
2019:
Foreign currency translation adjustments
Amount arising during the year		(32,396	)		393			(32,003	)
Reclassification adjustments for gains and losses realized in net income		(154	)		—			(154	)
Net change during the year		(32,550	)		393			(32,157	)
Net unrealized gains and losses on securities:
Amount arising during the year		—			—			—
Reclassification adjustments for gains and losses realized in net income		—			—			—
Net change during the year		—			—			—
Net gains and losses on derivative instruments:
Amount arising during the year		(2,180	)		453			(1,727	)
Reclassification adjustments for gains and losses realized in net income		661			(2	)		659
Net change during the year		(1,519	)		451			(1,068	)
Pension liability adjustments:
Amount arising during the year		(9,916	)		(1,144	)		(11,060	)
Reclassification adjustments for gains and losses realized in net income		9,953			(2,523	)		7,430
Net change during the year		37			(3,667	)		(3,630	)
Other comprehensive income (loss)		(34,032	)		(2,823	)		(36,855	)
2018:
Foreign currency translation adjustments
Amount arising during the year		(93,955	)		809			(93,146	)
Reclassification adjustments for gains and losses realized in net income		—			—			—
Net change during the year		(93,955	)		809			(93,146	)
Net unrealized gains and losses on securities:
Amount arising during the year		—			—			—
Reclassification adjustments for gains and losses realized in net income		(178	)		37			(141	)
Net change during the year		(178	)		37			(141	)
Net gains and losses on derivative instruments:
Amount arising during the year		(586	)		125			(461	)
Reclassification adjustments for gains and losses realized in net income		1,341			(392	)		949
Net change during the year		755			(267	)		488
Pension liability adjustments:
Amount arising during the year		(51,789	)		18,065			(33,724	)
Reclassification adjustments for gains and losses realized in net income		3,853			(699	)		3,154
Net change during the year		(47,936	)		17,366			(30,570	)
Other comprehensive income (loss)		(141,314	)		17,945			(123,369	)

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Notes to Consolidated Financial Statements (continued)

13. Other Comprehensive Income (Loss) (continued)

	Years ended December 31
	Before-tax amount			Tax (expense) or benefit			Net-of-tax amount
	(Millions of yen)
2017:
Foreign currency translation adjustments
Amount arising during the year		47,825			(708	)		47,117
Reclassification adjustments for gains and losses realized in net income		(39	)		12			(27	)
Net change during the year		47,786			(696	)		47,090
Net unrealized gains and losses on securities:
Amount arising during the year		5,100			(1,717	)		3,383
Reclassification adjustments for gains and losses realized in net income		(18,472	)		5,727			(12,745	)
Net change during the year		(13,372	)		4,010			(9,362	)
Net gains and losses on derivative instruments:
Amount arising during the year		(2,080	)		628			(1,452	)
Reclassification adjustments for gains and losses realized in net income		5,772			(1,732	)		4,040
Net change during the year		3,692			(1,104	)		2,588
Pension liability adjustments:
Amount arising during the year		20,991			(4,957	)		16,034
Reclassification adjustments for gains and losses realized in net income		7,005			(1,832	)		5,173
Net change during the year		27,996			(6,789	)		21,207
Other comprehensive income (loss)		66,102			(4,579	)		61,523

14. Revenue

Revenue from sales of office products, such as office MFDs and laser printers, and imaging system products, such as digital cameras and inkjet printers, is recognized upon shipment or delivery, depending upon when the customer obtains controls of these products.

Revenue from sales of equipment that are sold with customer acceptance provisions related to their functionality including optical equipment such as semiconductor lithography equipment and FPD lithography equipment, and certain medical equipment such as CT systems and MRI systems, is recognized when the equipment is installed at the customer site and the agreed-upon specifications are objectively satisfied.

Most of Canon’s service revenue is generated from office and medical system products which is recognized over time. For the service contracts of office products, the customer typically pays a variable amount based on usage, a stated fixed fee or a stated base fee plus a variable amount which frequently include the provision of consumables as well as break fix activities. The majority portion of service revenue from the office products is recognized as billed since the invoiced amount directly correlates with the value to the customer of the underlying performance obligation to date. For the service contracts of medical system products, the customer typically pays a stated fixed fee for the stand ready maintenance service and revenue is recognized ratably over the contract period.

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Notes to Consolidated Financial Statements (continued)

14. Revenue (continued)

The majority of service arrangements for office products are executed in combination with related products. Transaction prices for products and services need to be allocated to each performance obligation on a relative standalone selling price basis where judgements are required. Canon estimates the standalone selling price using a range of prices that would meet the allocation objective based on all the information that is reasonably available including market conditions and other observable inputs. If transaction prices of the product or service contracts are not within the acceptable range then the revenue is subject to allocation based on the estimated standalone selling prices. Canon recognizes the incremental costs of obtaining a contract as an expense when related office products are sold.

The transaction prices that Canon is entitled to receive in exchange for transferring goods or services to the customer include certain forms of variable consideration, including product discounts, customer promotions and volume-based rebates mainly for imaging system products, which are sold predominantly through distributors and retailers. Canon includes estimated amounts in the transaction price only to the extent it is probable that a significant reversal of cumulative revenue recognized will not occur when the uncertainty associated with the variable consideration is resolved. Variable considerations are estimated based upon historical trends and other known factors at the time of sale, and are subsequently adjusted in each period based on current information. In addition, Canon may provide a right of return on our products for a short time period after a sale. These rights are accounted for as variable consideration when determining the transaction price, and accordingly Canon recognizes revenue based on the estimated amount to which Canon expects to be entitled after considering expected returns.

Disaggregated revenue by timing is as follows. Disaggregated revenue by business unit, product and geographic area are described in Note 22.

	Office		Imaging System		Medical System		Industry and Others		Corporate and eliminations			Consolidated
	(Millions of yen)
2019:
Revenue recognized at a point in time		1,187,306		793,832		290,702		582,156		(93,180	)		2,760,816
Revenue recognized over time		515,289		13,582		147,823		155,789		—			832,483
Total		1,702,595		807,414		438,525		737,945		(93,180	)		3,593,299

	Office		Imaging System		Medical System		Industry and Others		Corporate and eliminations			Consolidated
	(Millions of yen)
2018:
Revenue recognized at a point in time		1,286,100		957,518		305,457		635,906		(106,318	)		3,078,663
Revenue recognized over time		521,201		12,917		132,121		207,035		—			873,274
Total		1,807,301		970,435		437,578		842,941		(106,318	)		3,951,937

Revenue recognized over time includes primarily revenue from maintenance service in the office and medical system products and sales of certain industrial equipment which do not have alternative use and for which Canon has enforceable right to payment to the customers for the performance completed to date.  

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Notes to Consolidated Financial Statements (continued)

14. Revenue (continued)

Canon recognizes contract assets primarily for unbilled receivables mainly arising from services contracts for office products. Contract assets at December 31, 2019 and 2018 were ¥43,783 million and ¥50,799 million, respectively, and are included in prepaid expenses and other current assets in the consolidated balance sheets.

Canon typically bills to the customer when the performance obligation is satisfied and collects the payment in relatively short term except for certain maintenance service of office and medical products and certain industrial equipment for which Canon occasionally receives the payment in advance from customers. The amount received in excess of revenue recognized is recognized as deferred revenue until the performance obligation for distinct goods or services are satisfied. Deferred revenue at December 31, 2019 and 2018 were ¥113,030 million and ¥123,686 million, respectively, and are included in other current liabilities in the accompanying consolidated balance sheets. Revenue recognized for the year ended December 31, 2019, which had been included in the deferred revenue balance at December 31, 2018, was ¥88,306 million.

Remaining performance obligations for products and equipment at December 31, 2019 primarily arise from the sales of certain industrial equipment, amounting to ¥114,617 million, 73% of which is expected to be recognized as revenue within one year and remaining 27% is within two years. Disclosure of remaining performance obligations is not required for the majority of services since the related revenue is recognized on an as billed basis applying the right to invoice practical expedient or is generated from the contracts with original expected duration of less than one year. The portion of fixed maintenance service contract for office and medical products with original expected duration of more than one year is approximately 12% of total service revenue and the average remaining period for these fixed contracts as of December 31, 2019 is about 2 years.

Taxes collected from customers and remitted to governmental authorities are excluded from revenues in the consolidated statements of income.

15. Stock-Based Compensation

On April 26, 2019, based on the approval of the shareholders, the Company granted stock options to its directors and executive officers to acquire 116,300 shares of common stock. Those to whom stock acquisition rights are granted (the “Holder(s)”) shall be entitled to exercise all the stock acquisition rights together within 10 days (in case the last day is not a business day, the following business day) from after the date when they cease to hold any position as a director or an executive officer of the Company. These option awards have a 30 year exercisable period. The grant-date fair value per share of the stock options granted during the year ended December 31, 2019 was ¥2,281.

On May 2, 2018, based on the approval of the shareholders, the Company granted stock options to its directors and executive officers to acquire 74,000 shares of common stock. The Holders shall be entitled to exercise all the stock acquisition rights together within 10 days (in case the last day is not a business day, the following business day) from after the date when they cease to hold any position as a director or an executive officer of the Company. These option awards have a 30 year exercisable period. The grant-date fair value per share of the stock options granted during the year ended December 31, 2018 was ¥2,948.

On May 1, 2011, based on the approval of the shareholders, the Company granted stock options to its directors, executive officers and certain employees to acquire 912,000 shares of common stock. These option awards vest after two years of continued service beginning on the grant date and have a four year exercisable period. The grant-date fair value per share of the stock options granted during the year ended December 31, 2011 was ¥772.

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Notes to Consolidated Financial Statements (continued)

15. Stock-Based Compensation (continued)

The compensation cost recognized for these stock options for the years ended December 31, 2019 was ¥265 million and 2018 was ¥218 million and 2017 was nil, and it is included in selling, general and administrative expenses in the consolidated statements of income.

The fair value of the option award was estimated on the date of grant using the Black-Sholes option pricing model that incorporates the assumptions presented below:

	Year ended December 31, 2019		Year ended December 31, 2018
Expected term of option (in years)	6.0			6.0
Expected volatility	19.97	%		23.02	%
Dividend yield	5.05	%		4.14	%
Risk-free interest rate	(0.16	%)		(0.07	%)

A summary of option activity under the stock option plans as of and for the years ended December 31, 2019, 2018 and 2017 is presented below:

	Shares			Weighted-average exercise price		Weighted-average remaining contractual term		Aggregate intrinsic value
				(Yen)		(Year)		(Millions of yen)
Outstanding at January 1, 2017		603,000			3,990		0.2		—
Forfeited/Expired		(603,000	)		3,990
Outstanding at December 31, 2017		—			—				—
Granted		74,000			1
Outstanding at December 31, 2018		74,000			1		29.3		222
Granted		116,300			1
Exercised		(4,500	)		1
Outstanding at December 31, 2019		185,800			1		29.0		555
Exercisable at December 31, 2019		185,800			1		29.0		555

The total fair values of shares vested during the years ended December 31, 2019 and 2018 were ¥265 million and ¥218 million, respectively, and 2017 was nil. Cash received from the exercise of stock options for the year ended December 31, 2019 was not significant, and for the years ended December 31, 2018 and 2017 was nil.

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Notes to Consolidated Financial Statements (continued)

16. Net Income Attributable to Canon Inc. Shareholders per Share

A reconciliation of the numerators and denominators of basic and diluted net income attributable to Canon Inc. shareholders per share computations is as follows:

	Years ended December 31
	2019		2018		2017
	(Millions of yen)
Basic net income attributable to Canon Inc.		125,105		252,755		241,923
Diluted net income attributable to Canon Inc.		125,103		252,755		241,923
	(Number of shares)
Average common shares outstanding		1,069,956,767		1,079,753,008		1,085,439,370
Effect of dilutive securities:
Stock options		158,173		49,319		–
Diluted common shares outstanding		1,070,114,940		1,079,802,327		1,085,439,370
	(Yen)
Net income attributable to Canon Inc. shareholders per share:
Basic		116.93		234.09		222.88
Diluted		116.91		234.08		222.88

The computation of diluted net income attributable to Canon Inc. shareholders per share for the year ended December 31, 2017 excludes outstanding stock options because the effect would be anti-dilutive.

17. Derivatives and Hedging Activities

Risk management policy

Canon operates internationally, exposing it to the risk of changes in foreign currency exchange rates. Derivative financial instruments are comprised principally of foreign exchange contracts utilized by the Company and certain of its subsidiaries to reduce the risk. Canon assesses foreign currency exchange rate risk by continually monitoring changes in the exposures and by evaluating hedging opportunities. Canon does not hold or issue derivative financial instruments for trading purposes. Canon is also exposed to credit-related losses in the event of non-performance by counterparties to derivative financial instruments, but it is not expected that any counterparties will fail to meet their obligations. Most of the counterparties are internationally recognized financial institutions and selected by Canon taking into account their financial condition, and contracts are diversified across a number of major financial institutions.

Foreign currency exchange rate risk management

Canon’s international operations expose Canon to the risk of changes in foreign currency exchange rates. Canon uses foreign exchange contracts to manage certain foreign currency exchange exposures principally from the exchange of U.S. dollars and euros into Japanese yen. These contracts are primarily used to hedge the foreign currency exposure of forecasted intercompany sales and intercompany trade receivables that are denominated in foreign currencies. In accordance with Canon’s policy, a specific portion of foreign currency exposure resulting from forecasted intercompany sales are hedged using foreign exchange contracts which principally mature within three months.

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Notes to Consolidated Financial Statements (continued)

17. Derivatives and Hedging Activities (continued)

Cash flow hedge

Changes in the fair value of derivative financial instruments designated as cash flow hedges, including foreign exchange contracts associated with forecasted intercompany sales, are reported in accumulated other comprehensive income (loss). These amounts are subsequently reclassified into earnings in the same period as the hedged items affect earnings. Substantially all amounts recorded in accumulated other comprehensive income (loss) as of December 31, 2019 are expected to be recognized in net sales over the next twelve months. After the adoption of ASU No. 2017-12 from the quarter beginning January 1, 2019, Canon includes the time value component in the assessment of hedge effectiveness, which had been previously excluded. Changes in the fair value of a foreign exchange contract for the period between the date that the forecasted intercompany sales occur and its maturity date are recognized in earnings.

Derivatives not designated as hedges

Canon has entered into certain foreign exchange contracts to primarily offset the earnings impact related to fluctuations in foreign currency exchange rates associated with certain assets denominated in foreign currencies. Although these foreign exchange contracts have not been designated as hedges as required in order to apply hedge accounting, the contracts are effective from an economic perspective. The changes in the fair value of these contracts are recorded in earnings immediately.

Contract amounts of foreign exchange contracts at December 31, 2019 and 2018 are set forth below:

	December 31
	2019		2018
	(Millions of yen)
To sell foreign currencies		180,242		230,505
To buy foreign currencies		32,618		30,816

Fair value of derivative instruments in the consolidated balance sheets

The following tables present Canon’s derivative instruments measured at gross fair value as reflected in the consolidated balance sheets at December 31, 2019 and 2018.

Derivatives designated as hedging instruments

		Fair value
		December 31
	Balance sheet location	2019		2018
		(Millions of yen)
Assets:
Foreign exchange contracts	Prepaid expenses and other current assets		34		521
Liabilities:
Foreign exchange contracts	Other current liabilities		828		323

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Notes to Consolidated Financial Statements (continued)

17. Derivatives and Hedging Activities (continued)

Fair value of derivative instruments in the consolidated balance sheets (continued)

Derivatives not designated as hedging instruments

		Fair value
		December 31
	Balance sheet location	2019		2018
		(Millions of yen)
Assets:
Foreign exchange contracts	Prepaid expenses and other current assets		317		2,622
Liabilities:
Foreign exchange contracts	Other current liabilities		1,745		443

Effect of derivative instruments in the consolidated statements of income

The following tables present the effect of Canon’s derivative instruments in the consolidated statements of income for the years ended December 31, 2019, 2018 and 2017.

Derivatives in cash flow hedging relationships

	Year ended December 31
	Gain (loss) recognized in OCI			Gain (loss) reclassified from accumulated OCI into income
	Amount			Location		Amount
	(Millions of yen)
2019:
Foreign exchange contracts		(2,180	)		Net sales		(661	)

	Years ended December 31
	Gain (loss) recognized in OCI (effective portion)			Gain (loss) reclassified from accumulated OCI into income (effective portion)					Gain (loss) recognized in income (ineffective portion and amount excluded from effectiveness testing)
	Amount			Location		Amount			Location		Amount
	(Millions of yen)
2018:
Foreign exchange contracts		(586	)		Other, net		(1,341	)		Other, net		(682	)
2017:
Foreign exchange contracts		(2,080	)		Other, net		(5,772	)		Other, net		(332	)

Derivatives not designated as hedging instruments

	Gain (loss) recognized in income on derivative
	Years ended December 31
	Location		2019		2018		2017
			(Millions of yen)
Foreign exchange contracts		Other, net		805		5,284		(7,932	)

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Notes to Consolidated Financial Statements (continued)

18. Lessee Accounting

Lease costs are included in cost of goods sold or selling general and administrative expense in accompanying consolidated statement of income. Supplemental income statement information is as follows:

	Year ended December 31, 2019
	(Millions of yen)
Operating lease cost		43,236
Short-term lease cost		14,374
Other lease cost		168
		57,778

Operating lease cashflow

Supplemental cash flow information is as follows.

	Year ended December 31, 2019
	(Millions of yen)
Cash paid for amount included in the measurement of lease liabilities
Operating cash flows from operating leases		41,368
Noncash activity – Rights of use assets obtained in exchange for lease liabilities
Operating leases		33,939

Maturity Analysis

The following is a schedule by year of the future minimum lease payments under operating leases at December 31, 2019.

	(Millions of yen)
Year ending December 31:
2020		34,317
2021		26,094
2022		18,924
2023		13,950
2024		10,280
Thereafter		19,108
Total future minimum lease payments		122,673
Less Imputed Interest		(7,101	)
		115,572

Remaining lease term and discount rate

The following is remaining lease term and discount rate under operating leases at December 31, 2019.

	December 31, 2019
Weighted-average remaining lease term		62 months
Weighted-average discount rate		2.2	%

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Notes to Consolidated Financial Statements (continued)

19. Commitments and Contingent Liabilities

Commitments

At December 31, 2019, commitments outstanding for the purchase of property, plant and equipment approximated ¥36,241 million, and commitments outstanding for the purchase of parts and raw materials approximated ¥112,831 million.

Guarantees

Canon occupies sales offices and other facilities under lease arrangements accounted for as operating leases. Deposits mainly for restoration made under such arrangements aggregated ¥11,778 million and ¥12,728 million at December 31, 2019 and 2018, respectively, and are included in noncurrent receivables in the accompanying consolidated balance sheets.

Canon provides guarantees for its employees, affiliates and other companies. The guarantees for the employees are principally made for their housing loans. The guarantees for affiliates and other companies are made for their lease obligations and bank loans to ensure that those companies operate with less financial risk.

Canon would have to perform under a guarantee if the borrower defaults on a payment within the contract terms. The contract terms are 1 year to 15 years in case of employees with housing loans, and 1 year to 5 years in case of affiliates and other companies with lease obligations and bank loans. The maximum amount of undiscounted payments Canon would have had to make in the event of default is ¥2,987 million at December 31, 2019. The carrying amounts of the liabilities recognized for Canon’s obligations as a guarantor under those guarantees at December 31, 2019 were not significant.  

Canon also offers assurance-type warranties under which it generally guarantees the performance of products delivered and services rendered for a certain period or term. Estimated product warranty costs are recorded at the time revenue is recognized and are included in selling, general and administrative expenses in the accompanying consolidated statements of income. Estimates for accrued product warranty costs are based on historical experience. Accrued product warranty costs are included in accrued expenses in the accompanying consolidated balance sheets and the changes for the years ended December 31, 2019 and 2018 are summarized as follows:

	Years ended December 31
	2019			2018
	(Millions of yen)
Balance at beginning of year		17,318			17,452
Additions		15,945			18,870
Utilization		(14,488	)		(14,707	)
Other		(2,929	)		(4,297	)
Balance at end of year		15,846			17,318

Legal proceedings

Canon is involved in various claims and legal actions arising in the ordinary course of business. Canon has recorded provisions for liabilities when it is probable that liabilities have been incurred and the amount of loss can be reasonably estimated. Canon reviews these provisions at least quarterly and adjusts these provisions to reflect the impact of the negotiations, settlements, rulings, advice of legal counsel and other information and events pertaining to a particular case. Based on its experience, although litigation is inherently unpredictable,

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Notes to Consolidated Financial Statements (continued)

19. Commitments and Contingent Liabilities (continued)

Legal proceedings (continued)

Canon believes that any damage amounts claimed in outstanding matters are not a meaningful indicator of Canon’s potential liability. In the opinion of management, any reasonably possible range of losses from outstanding matters would not have a material adverse effect on Canon’s consolidated financial position, results of operations, and cash flows.

20. Disclosures about the Fair Value of Financial Instruments and Concentrations of Credit Risk

Fair value of financial instruments

The estimated fair values of Canon’s financial instruments at December 31, 2019 and 2018 are set forth below. The following summary excludes cash and cash equivalents, trade receivables, finance receivables, noncurrent receivables, short-term loans, trade payables and accrued expenses, and the fair values of these instruments approximate their carrying amounts. The summary also excludes investments and derivative instruments which are disclosed in Note 2 and Note 21, and Note 17, respectively.

	December 31
	2019						2018
	Carrying amount			Estimated fair value			Carrying amount			Estimated fair value
	(Millions of yen)
Long-term debt, including current installments		(354,444	)		(354,444	)		(364,602	)		(364,570	)

The following methods and assumptions are used to estimate the fair value in the above table.

Long-term debt

Canon’s long-term debt instruments are classified as Level 2 instruments and valued based on the present value of future cash flows associated with each instrument discounted using current market borrowing rates for similar debt instruments of comparable maturity. The levels are more fully described in Note 21.

Limitations of fair value estimates

Fair value estimates are made at a specific point in time, based on relevant market information and information about the financial instruments. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimates.

Concentrations of credit risk

At December 31, 2019 and 2018, one customer accounted for approximately 10% and 12% of consolidated trade receivables, respectively. Although Canon does not expect that the customer will fail to meet its obligations, Canon is potentially exposed to concentrations of credit risk if the customer failed to perform according to the terms of the contracts.

21. Fair Value Measurements

Fair value is the price that would be received to sell an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market

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Notes to Consolidated Financial Statements (continued)

21. Fair Value Measurements (continued)

participants at the measurement date. A three-level fair value hierarchy that prioritizes the inputs used to measure fair value is as follows:

Level 1	–	Inputs are quoted prices in active markets for identical assets or liabilities.
Level 2	–	Inputs are quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, inputs other than quoted prices that are observable, and inputs that are derived principally from or corroborated by observable market data by correlation or other means.
Level 3	–	Inputs are derived from valuation techniques in which one or more significant inputs or value drivers are unobservable, which reflect the reporting entity’s own assumptions about the assumptions that market participants would use in establishing a price.

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Notes to Consolidated Financial Statements (continued)

21. Fair Value Measurements (continued)

Assets and liabilities measured at fair value on a recurring basis

The following tables present Canon’s assets and liabilities that are measured at fair value on a recurring basis consistent with the fair value hierarchy at December 31, 2019 and 2018.

	December 31, 2019
	Level 1		Level 2		Level 3		Total
	(Millions of yen)
Assets:
Cash and cash equivalents		—		506		—		506
Investments:
Fund trusts and others		489		241		—		730
Equity securities		16,740		—		—		16,740
Prepaid expenses and other current assets:
Derivatives		—		351		—		351
Total assets		17,229		1,098		—		18,327
Liabilities:
Other current liabilities:
Derivatives		—		2,573		—		2,573
Total liabilities		—		2,573		—		2,573

	December 31, 2018
	Level 1		Level 2		Level 3		Total
	(Millions of yen)
Assets:
Cash and cash equivalents		—		70,500		—		70,500
Short-term investments:
Available-for-sale:
Corporate bonds		630		—		—		630
Investments:
Fund trusts and others		630		408		—		1,038
Equity securities		13,787		—		—		13,787
Prepaid expenses and other current assets:
Derivatives		—		3,143		—		3,143
Total assets		15,047		74,051		—		89,098
Liabilities:
Other current liabilities:
Derivatives		—		766		—		766
Total liabilities		—		766		—		766

Level 1 investments are comprised principally of Japanese equity securities, which are valued using an unadjusted quoted market price in active markets with sufficient volume and frequency of transactions. Level 2 cash and cash equivalents are valued based on market approach, using quoted prices for identical assets in markets that are not active.

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Notes to Consolidated Financial Statements (continued)

21. Fair Value Measurements (continued)

Assets and liabilities measured at fair value on a recurring basis (continued)

Derivative financial instruments are comprised of foreign exchange contracts. Level 2 derivatives are valued using quotes obtained from counterparties or third parties, which are periodically validated by pricing models using observable market inputs, such as foreign currency exchange rates and interest rates, based on market approach.

Assets and liabilities measured at fair value on a nonrecurring basis

There were no significant assets or liabilities to be measured at fair value on a nonrecurring basis during the year ended December 31, 2019 and 2018.

22. Segment Information

Canon operates its business in four segments: the Office Business Unit, the Imaging System Business Unit, the Medical System Business Unit, and the Industry and Others Business Unit, which are based on the organizational structure and information reviewed by Canon’s management to evaluate results and allocate resources.

Based on the realignment of Canon’s internal reporting and management structure, from the beginning of the first quarter of 2019, Canon has reclassified certain businesses from the Imaging System Business Unit to the Industry and Others Business Unit. Segment information for the year ended December 31, 2019 has reflected these changes. Prior period amounts also have been restated.

The primary products included in each segment are as follows:

Office Business Unit:	Office multifunction devices (MFDs) / Laser multifunction printers (MFPs) / Laser printers / Digital continuous feed presses / Digital sheet-fed presses / Wide-format printers / Document solutions
Imaging System Business Unit:	Interchangeable-lens digital cameras / Digital compact cameras / Interchangeable lenses / Compact photo printers /Inkjet printers / Large format inkjet printers / Commercial photo printers / Image scanners / Calculators
Medical System Business Unit:	Digital radiography systems / Diagnostic X-ray systems / Computed tomography (CT) systems / Magnetic resonance imaging (MRI) systems / Diagnostic ultrasound systems / Clinical chemistry analyzers / Ophthalmic equipment
Industry and Others Business Unit:	Semiconductor lithography equipment / FPD (Flat panel display) lithography equipment/ Vacuum thin-film deposition equipment / Organic LED (OLED) panel manufacturing equipment / Die bonders / Network cameras / Digital camcorders / Digital cinema cameras / Multimedia projectors / Broadcast equipment / Micromotors / Handy terminals / Document scanners

The accounting policies of the segments are substantially the same as those described in the significant accounting policies in Note 1.

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Notes to Consolidated Financial Statements (continued)

22. Segment Information (continued)

Information about operating results and assets for each segment as of and for the years ended December 31, 2019, 2018 and 2017 is as follows:

	Office		Imaging System		Medical System		Industry and Others		Corporate and eliminations			Consolidated
	(Millions of yen)
2019:
Net sales:
External customers		1,699,653		806,425		437,456		648,165		1,600			3,593,299
Intersegment		2,942		989		1,069		89,780		(94,780	)		—
Total		1,702,595		807,414		438,525		737,945		(93,180	)		3,593,299
Operating cost and expenses *		1,533,688		759,247		411,781		722,464		(8,548	)		3,418,632
Operating profit		168,907		48,167		26,744		15,481		(84,632	)		174,667
Other income (deductions)		5,390		1,499		539		82		13,563			21,073
Income before income taxes		174,297		49,666		27,283		15,563		(71,069	)		195,740
Total assets		863,381		313,141		273,525		424,911		2,893,393			4,768,351
Depreciation and amortization		58,373		35,805		11,760		41,420		89,969			237,327
Capital expenditures		51,623		24,016		7,074		33,515		95,000			211,228
2018:
Net sales:
External customers		1,804,002		969,660		437,305		740,970		—			3,951,937
Intersegment		3,299		775		273		101,971		(106,318	)		—
Total		1,807,301		970,435		437,578		842,941		(106,318	)		3,951,937
Operating cost and expenses		1,586,497		843,599		408,739		787,276		(17,126	)		3,608,985
Operating profit		220,804		126,836		28,839		55,665		(89,192	)		342,952
Other income (deductions)		8,383		4,179		640		2,181		4,557			19,940
Income before income taxes		229,187		131,015		29,479		57,846		(84,635	)		362,892
Total assets		923,261		371,944		247,282		404,628		2,952,350			4,899,465
Depreciation and amortization		64,964		38,054		9,365		41,069		98,102			251,554
Capital expenditures		48,127		25,712		7,454		24,175		95,036			200,504
2017:
Net sales:
External customers		1,802,542		1,098,525		434,985		743,963		—			4,080,015
Intersegment		2,240		600		1,202		85,950		(89,992	)		—
Total		1,804,782		1,099,125		436,187		829,913		(89,992	)		4,080,015
Operating cost and expenses		1,615,521		922,838		414,246		791,947		13,858			3,758,410
Operating profit		189,261		176,287		21,941		37,966		(103,850	)		321,605
Other income (deductions)		6,108		2,572		564		1,155		21,880			32,279
Income before income taxes		195,369		178,859		22,505		39,121		(81,970	)		353,884
Total assets		946,213		368,410		238,824		394,742		3,250,102			5,198,291
Depreciation and amortization		72,346		39,694		5,212		41,737		102,892			261,881
Impairment losses on goodwill		21,721		—		—		12,191		—			33,912
Capital expenditures		46,769		27,220		8,963		17,908		80,529			181,389

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Notes to Consolidated Financial Statements (continued)

22. Segment Information (continued)

* During 2019, the Company implemented a restructuring plan centered in Europe with the goal of reorganizing sales structure and improving profitability mainly in the Office Business Unit. The employee severance charges in the Office Business Unit under the plan for the year ended December 31, 2019 were ¥15,621 million and most of the charges are included in selling, general and administrative expenses in the consolidated statement of income. The balance of the related employee severance liability as of December 31, 2019 is ¥10,225 million. The restructuring charges for the years ended December 31, 2018 and 2017 were not significant.

Intersegment sales are recorded at the same prices used in transactions with third parties. Expenses not directly associated with specific segments are allocated based on the most reasonable measures applicable. Corporate expenses include certain corporate research and development expenses. Amortization costs of identified intangible assets resulting from the purchase price allocation of CMSC are also included in corporate expenses. Segment assets are based on those directly associated with each segment. Corporate assets primarily consist of cash and cash equivalents, investments, deferred tax assets, goodwill, identified intangible assets from acquisitions and corporate properties. Capital expenditures represent the additions to property, plant and equipment and intangible assets measured on an accrual basis.

Information about sales by product to external customers for each segment for the years ended December 31, 2019, 2018 and 2017 is as follows:

	Years ended December 31
	2019		2018		2017
	(Millions of yen)
Office
Monochrome copiers		261,964		280,035		287,823
Color copiers		382,845		403,522		405,576
Printers		624,601		702,378		702,491
Others		430,243		418,067		406,652
Total		1,699,653		1,804,002		1,802,542
Imaging System
Cameras		466,306		594,567		702,598
Inkjet printers		285,821		318,382		333,721
Others		54,298		56,711		62,206
Total		806,425		969,660		1,098,525
Medical System
Diagnostic equipment		437,456		437,305		434,985
Industry and Others
Lithography equipment		157,160		199,722		193,113
Others		491,005		541,248		550,850
Total		648,165		740,970		743,963
Corporate		1,600		—		—
Consolidated		3,593,299		3,951,937		4,080,015

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Canon Inc. and Subsidiaries

Notes to Consolidated Financial Statements (continued)

22. Segment Information (continued)

Information by major geographic area as of and for the years ended December 31, 2019, 2018 and 2017 is as follows:

	2019		2018		2017
	(Millions of yen)
Net sales:
Japan		872,534		869,577		884,828
Americas		1,029,078		1,076,402		1,107,515
Europe		882,480		1,015,428		1,028,415
Asia and Oceania		809,207		990,530		1,059,257
Total		3,593,299		3,951,937		4,080,015
Long-lived assets:
Japan		1,053,074		1,046,065		1,081,522
Americas		148,669		129,989		141,937
Europe		191,050		169,357		174,889
Asia and Oceania		159,217		136,602		149,244
Total		1,552,010		1,482,013		1,547,592

Net sales are attributed to areas based on the location where the product is shipped and the service is performed to the customers. Other than in Japan and the United States, Canon does not conduct business in any individual country in which its sales in that country exceed 10% of consolidated net sales. Net sales in the United States were ¥958,442 million, ¥995,245 million and ¥1,022,305 million for the years ended December 31, 2019, 2018 and 2017, respectively.

Long-lived assets represent property, plant and equipment, intangible assets, and operating lease right-of-use assets for each geographic area.

23. Subsequent Events

On January 17, 2020, Canon borrowed ¥100,000 million under its existing overdraft facilities with Mizuho Bank, Ltd. and MUFG Bank, Ltd. for required operating funds. Additionally, on March 19, 2020, Canon borrowed ¥50,000 million under its existing overdraft facilities with Mizuho Bank, Ltd. and MUFG Bank, Ltd. for required operating funds. The overdraft facilities bear interest at a rate equal to a base rate plus a spread.

On February 25, 2020, the Board of Directors of the Company approved and implemented a plan to repurchase up to 19.2 million shares of the Company’s common stock at a cost of up to ¥50,000 million for the period from February 26, 2020 to May 27, 2020. Such repurchases are intended to improve capital efficiency and ensure flexible capital strategy. Common stock repurchased in the Tokyo Stock Exchange between February 26, 2020 and March 6, 2020 under the aforementioned plan was 18,093,400 shares at a cost of ¥50,000 million.

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Canon Inc. and Subsidiaries

Schedule II Valuation and Qualifying Accounts

	Balance at beginning of period		Addition- charged to income		Deduction bad debts written off			Translation adjustments and other			Balance at end of period
	(Millions of yen)
Year ended December 31, 2019:
Allowance for doubtful receivables
Trade receivables		11,477		1,840		(2,189	)		(769	)		10,359
Finance receivables		2,675		1,495		(1,653	)		110			2,627
Year ended December 31, 2018:
Allowance for doubtful receivables
Trade receivables		13,378		1,347		(2,789	)		(459	)		11,477
Finance receivables		2,681		938		(1,284	)		340			2,675
Year ended December 31, 2017:
Allowance for doubtful receivables
Trade receivables		11,075		3,574		(1,787	)		516			13,378
Finance receivables		2,325		1,436		(1,523	)		443			2,681

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Item 19. Exhibits

List of exhibits

1.1	Articles of Incorporation of Canon Inc. (Translation), incorporated by reference from the annual report on Form 20-F (Commission file number 001-15122) filed on March 30, 2016
1.2	Regulations of the Board of Directors of Canon Inc. (Translation), incorporated by reference from the annual report on Form 20-F (Commission file number 001-15122) filed on March 30, 2016
2.1	Regulations for Handling of Shares of Canon Inc. (Translation), incorporated by reference from the annual report on Form 20-F (Commission file number 001-15122) filed on March 27, 2009
2.2	Description of our Common Stock incorporated by reference from “Item 10.B. Memorandum and Articles of Incorporation” of this annual report
2.3	Description of our American Depositary Shares represented by American Depositary Receipts (“ADRs”)
8	List of Significant Subsidiaries (See “Organizational Structure” in Item 4.C. of this Form 20-F)
11.1	Canon Group Code of Conduct (Translation), incorporated by reference from the annual report on Form 20-F (Commission file number 001-15122) filed on March 28, 2013
11.2	Code of Ethics (Supplement to The Canon Group Code of Conduct) (Translation), incorporated by reference from the annual report on Form 20-F (Commission file number 001-15122) filed on June 10, 2004
12	Certifications of Chairman and CEO and Executive Vice President and CFO pursuant to Section 302 of the Sarbanes-Oxley Act
13	Certification of Chairman and CEO and Executive Vice President and CFO pursuant to Section 906 of the Sarbanes-Oxley Act
15	Letter of Ernst & Young ShinNihon LLC to the SEC pursuant to Item 16F of Form 20-F
101.INS	Inline XBRL Instance Document - the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document
101.SCH	Inline XBRL Taxonomy Extension Schema Document
101.CAL	Inline XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF	Inline XBRL Taxonomy Extension Definition Linkbase Document
101.LAB	Inline XBRL Taxonomy Extension Label Linkbase Document
101.PRE	Inline XBRL Taxonomy Extension Presentation Linkbase Document
104	The cover page for the Company’s Annual Report on From 20-F for the year ended December 31, 2019, has been formatted in Inline XBRL

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SIGNATURES

Pursuant to the requirements of Section 12 of the Securities Exchange Act of 1934, as amended, the registrant certifies that it meets all of the requirements for filing on Form 20-F and has duly caused this Annual Report to be signed on its behalf by the undersigned, thereunto duly authorized.

CANON INC.

(Registrant)

/s/ Toshizo Tanaka

Toshizo Tanaka

Executive Vice President & CFO

Canon Inc.

30-2, Shimomaruko 3-chome,

Ohta-ku, Tokyo 146-8501, Japan

Date March 27, 2020

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