Internet Initiative Japan (IIJIF) Risk Factors

Our business is principally conducted in Japan and most of our revenues are from customers operating in Japan. For the fiscal year ended March 31, 2018, approximately 97% of our total revenues were from customers operating in Japan. If the Japanese economy deteriorates and that results in significantly lower levels of network and systems related investment and expenditures, customers may respond to such conditions by prioritizing low prices over quality, or we may experience severe price reduction pressure and/or cancellation of large accounts. Such conditions may also make it difficult to maintain our current level of revenues and income, or achieve our expected revenues and income, or payout our target dividends. In addition to factors related to general economic conditions in Japan, we may not be able to maintain our current level of revenues and income or achieve our expected levels of revenues and income. In fact, we revised our disclosed financial targets downward for the fiscal years ended March 31, 2014, 2015, and 2017 due to several factors unrelated to general economic conditions in Japan. Operating income for the fiscal year ended March 31, 2017 decreased from that of fiscal year ended March 31, 2016. Factors that may prevent us from maintaining our current level of revenues and income or achieving our expected levels of revenues and income include but are not limited to the following: - a decrease or weaker than expected growth in our network services revenues which include Internet connectivity services for enterprise, Internet connectivity services for consumers, Wide Area Network ("WAN") services, and outsourcing services if, for example, we fail to develop and offer competitive services and solutions in a timely manner, if our service line-ups become obsolete, if we fail to keep up with rapidly changing market trends, especially for the consumer market, if service prices fall dramatically due, for example, to tough competition regarding customer acquisition, especially for our mobile services for consumers which are provided through direct sales, sales partnerships, and Mobile Virtual Network Enabler ("MVNE") strategy, or if we experience cancellations or usage reductions, especially in large accounts, due, for example, to corporate customers' demand to cut costs or a decrease in customers' needs for network usage for enterprise services,- a decrease or weaker than expected growth in our systems construction revenues and lower margins if, for example, we fail to successfully differentiate our technical skills from those of our competitors, if corporate customers put off placing orders with us, if we fail to hire adequate employees or acquire outsourcing resources to complete systems projects appropriately, if we fail to effectively manage and assign outsourcing resources, if we have serious troubles or problems in certain projects which may become unprofitable or incur losses, especially for large-scale projects, or if we pursue unprofitable construction projects in order to, for example, gain greater business opportunities and to acquire continuous systems operation and maintenance profit in the future. Our systems construction revenues may decrease due to the continuing trend of cloud computing services replacing conventional on-site hardware,- a decrease or weaker than expected growth in our systems operation and maintenance revenues and lower margins if, for example, the number and the size of systems construction projects which contain continuous systems operation and maintenance decrease or do not significantly increase, if our cloud computing services revenues do not grow as anticipated, or if we fail to effectively manage and assign outsourcing resources, or if we have serious troubles or problems in certain projects which may become unprofitable or incur losses. Also, we may have cancellations or reductions in current systems operation and maintenance revenues due, for example, to severe price reduction requirements, especially for large-scale projects, or due to customers' intention to reduce or eliminate their systems,- an inability to achieve anticipated revenue and income growth for our cloud computing services, in which we have been continuously investing in facilities such as some portion of our data centers, servers, storages, software and other equipment as well as service developments if, for example, the cloud computing market in Japan does not expand as large as we expect or takes a longer time to expand than we expect, if we fail to successfully differentiate our services from those of our increasing number of competitors, including global players, if we have serious system troubles and interruptions with our cloud computing services that damage our credibility or cause customers to question the reliability of our services, if market prices for the services fall dramatically, if we experience cancellations of large contracts or reduction of usage, or if Japanese companies strongly maintain their current systems and fail to adopt cloud computing services to the extent currently anticipated. We decided to build our own data center in order to meet the future data center capacity demand as well as integrate our data center racks that are currently widely dispersed among Eastern Japan area's data centers. We plan to place module-based data center, rather than a traditional building-based data center. For more discussion on the risks related to our cloud computing services, please refer to other parts of "Risk Factors" including "Our investment in our new business and service developments may not produce the returns we expect or may affect our results of operations and financial condition adversely."- an inability to achieve anticipated revenue and income growth for our mobile services for both enterprise and consumer, in which we have been expanding our service infrastructure by increasing the purchasing volume of mobile bandwidth mainly from NTT DoCoMo Inc. ("NTT Docomo"), enhancing marketing activities, including increasing related advertisement expenses, if, for example, the Japanese inexpensive LTE Subscriber Identity Module ("SIM") card market does not expand as we expect or takes a longer time to expand than we expect, if we experience severe customer acquisition and/or price competition, if Mobile Network Operators ("MNOs") and their affiliated companies which currently dominate the Japanese consumer mobile market further implement low price strategies, if we fail to successfully differentiate our services from those of an increasing number of competitors, if we fail to carry out our marketing strategy and are left with significant increases in selling, general and administrative ("SG&A") expenses, if we fail to maintain appropriate relationships with our sales partners, if we face troubles in providing services which damage our credibility, if we are faced with heavy concentrations of mobile traffic at certain hours which requires us to purchase greater than our expected volume of bandwidth thus resulting in cost increases, or if we experience an unexpected level of wholesale telecommunication services charge changes by MNOs, such as NTT Docomo. We launched full-Mobile Virtual Network Operator ("MVNO") services in March 2018 and plan to expand our service line-up. In light of the service launch, our network services' fixed type cost is expected to increase by approximately ¥0.1 billion per month, consisting mainly of depreciation cost for HLR (Home Location Register) and HSS (Home Subscriber Server) systems constructed by us, and the accumulation of monthly payments to NTT Docomo for its network remodeling which will not be recognized as our capital expenditures but will be included in our monthly payments to NTT Docomo. For more discussion on the risks related to our mobile business, please refer to other parts of "Risk Factors" including "Our investment in our new business and service developments may not produce the returns we expect or may affect our results of operations and financial condition adversely."- an inability to achieve anticipated revenue and income growth for our overseas business, in which we have been investing in overseas subsidiaries, facilities and increasing staff, if, for example, we fail to offer competitive services and solutions, if our domestic customers reduce their overseas business and/or refrain from operating overseas business, if we fail to develop a customer base overseas, if we fail to attract and attain qualified personnel overseas, if we fail to provide our services as reliably as we provide them in the domestic market, if we fail to successfully work with business partners abroad, or if we fail to adequately control overseas subsidiaries and comply with necessary regulations. We may expand our presence overseas by, for example, increasing overseas subsidiaries or participating in more joint ventures with local companies. For more discussion on the risks related to our overseas business, please refer to other parts of "Risk Factors" including "Our investment in our new business and service developments may not produce the returns we expect or may affect our results of operations and financial condition adversely."- a decline in the profitability of network services if, for example, we invest in and contract more network capacity, including service facilities, than we actually require to serve our customers, if we experience unexpected increases or smaller-than-expected decreases in prices such as for electricity, leasing lines for our Internet backbone and interconnectivity bandwidth for MVNO infrastructure. These unexpected price fluctuations could be due, for example, to a shortage in electricity, an increase in Internet traffic volume and general demand for the infrastructure. There may also be price increases for international leasing lines and network equipment for service facilities, including cloud computing services, due, for example, to the weaker Japanese yen,- slower and/or weaker than expected revenues growth against significant investments in business such as back-office systems, research and development, and other similar expenses and investments which we may be forced to make in the future in order to remain competitive or support business growth, and an unexpected level of increase in depreciation and amortization, loss on disposal, or loss due to obsolescence. We may continuously reinforce our back-office operations by making necessary investments to support revenue growth,- an unexpected level of increase in personnel and outsourcing costs as well as related operating costs and expenses including office rent expenses if, for example, we fail to manage personnel and outsourcing resources effectively, if we experience a shortage of human resources in the market, or if we face pressure to raise individual salaries by a large amount due, for example, to Japanese labor market situation. As for our overall personnel costs, they continuously increase year over year as we acquire new employees in addition to the regular annual pay raise for existing employees. We may fail to raise enough revenue to cover the increase in these costs and expenses. - an unexpected level of increase in SG&A expenses, such as personnel-related expenses, office rent-related expenses, sales commission expenses, and advertising expenses,- the recording of an impairment loss on current and future intangible assets, which are recognized in relation to any mergers and acquisitions, that are subject to amortization, such as customer relationships, and/or are not subject to amortization, such as goodwill, as a result of an impairment test,- the recording of an impairment loss and/or a retirement on tangible assets, software, network, service facilities and others if they fail to generate future cash flow as expected,- the recording of impairment losses on nonmarketable equity securities and funds,- the recording of unrealized gains and/or losses in other income (expenses) due to fluctuation of share prices for our available-for-sale equity securities following the revision of U.S. GAAP. Unrealized gains or losses on holding available-for-sale equity securities as recorded on our consolidated balance sheet as of March 31, 2018 were measured based on closing prices of March 30, 2018, the final day of trading in the fiscal year ended March 31, 2018 and were reclassed from accumulated other comprehensive income to retained earnings at the beginning of the fiscal year ending March 31, 2019. For future periods, fluctuations of unrealized gains or losses due to fluctuation of stock prices will be recognized in other income (expenses) in every quarter under the U.S. GAAP. We are considering to voluntarily adopt International Financial Reporting Standards ("IFRS") from the filing of our annual report for the fiscal year ending March 31, 2019. Until then, we plan to continue preparing our consolidated financial statements disclosed in earnings press release as well as in the Convocation Notice for the 27th Ordinary General Meeting for Shareholders under U.S. GAAP. Because of different accounting principles, especially on different processing on unrealized gains or losses on holdings available-for-sale equity securities, our consolidated financial statements disclosed in the annual report, which might be prepared under IFRS, might differ from our consolidated financial statements disclosed in earnings press release as well as in the Convocation Notice for the 27th Ordinary General Meeting for Shareholders, which will be prepared under the U.S. GAAP. - the recording of foreign exchange gain and/or loss such as for our U.S. dollars and British pounds denominated bank deposits, other overseas assets, and liabilities related to our overseas business,- the decline in the value and trading volume of our holding of available-for-sale securities from which we expect gains on sale,- a negative effect on our revenues and profits if our consolidated subsidiaries and/or equity method investees including newly established ones, such as DeCurret Inc. ("DeCurret") which is to provide cryptocurrency exchange and settlement business as well as JOCDN Inc. ("JOCDN") which provides contents distribution network ("CDN") services, cannot achieve our expected levels of revenues or manage costs and expenses in a timely and adequate manner,- a negative effect on our credibility, corporate image, or revenues and profits if we are unable to provide our services without interruption to customers due, for example, to power supply shortage, and - a negative effect on our revenues and profits if new business areas to which we are to emphasize business investment such as content distribution, Machine to Machine ("M2M"), Internet of Things ("IoT"), health care and further development of overseas business cannot achieve our expected level of revenues or manage costs and expenses in a timely and adequate manner. We disclosed our middle term plan for the period from the fiscal year ended March 31, 2017 to the fiscal year ending March 31, 2021 in our earnings results for the fiscal year ended March 31, 2016, which was filed as Form 6-K on May 13, 2016. The middle term plan was made based on our current expectation about, for example, the related markets and economic situations. The plan, especially regarding our target for the fiscal year ending March 31, 2021, is not made by accumulating each revenue line or operating cost item. We are not certain that we will be able to achieve our middle term plan due to such risks as weaker or slower than expected market expansion or a failure to execute growth strategies effectively. Please see Item 5, "Operating and Financial Review and Prospects" for more detailed information concerning our operations and other results.

We have limited operational, administrative and financial resources which could be inadequate to sustain the growth we want to achieve. As the number of our customers and their Internet usage increases, as traffic patterns change, as the volume of information transferred increases, and as the need for our cloud computing-related service increases, we will need to increase expenditures for our network and other facilities, including data center facilities in the future, in order to adapt our services and to maintain and improve the quality of our services. If we are unable to manage our growth and expansion adequately, the quality of our services could deteriorate and our business may suffer. If data center facilities do not meet our expectations, the quality of our service could deteriorate and our business may suffer. We may also need to increase office rent expenditures along with our business expansion. If we are unable to prepare our network and other facilities in a timely manner to meet our customers' demand or our business expansion, we may miss growth opportunities or may be obliged to bear higher costs to prepare our network and other facilities.