2014-01-08 [FA][ ] Good results for rubber glove makers

source: [theedge malaysia]

Glove sector

Maintain Neutral: All four glove companies under our coverage delivered good results (in line or better than expected) in 2013, thanks to easing latex costs as well as improved production efficiencies as a result of automation initiatives.

Among the four companies, Kossan Rubber Industries Bhd registered the highest growth in sales volume (20.3% year-on-year [y-o-y]) for the first nine months ended September of financial year 2013 (9MFY13), followed by Hartalega Holdings Bhd (19.3% y-o-y), Top Glove Corp Bhd (16.4% y-o-y), and Supermax Corp Bhd (7.8% y-o-y). This led to year-to-date (YTD) core earnings expansion of 37% for Kossan, 16.5% for Hartalega and 15.1% for Supermax. Top Glove was the worst performer as it recorded 15.3% earnings contraction during the December 2012 to August 2013 period due to margin squeeze from natural rubber (NR) gloves.

Kossan, our top pick for the sector in 2013, outperformed its peers with a share price appreciation of 156%, followed by Hartalega (51%) and Supermax (43%). Top Glove’s share price dropped by 2%.

Going into 2014, we remain optimistic the glove sector will continue to deliver decent earnings growth of 14%, underpinned by: (i) stable latex cost; (ii) weaker ringgit against the greenback; and (iii) healthy competition, which could foster a stronger glove manufacturing industry to maintain Malaysia’s market leading position in the global glove market.

We are not particularly concerned about cost pressures from electricity and natural gas price hikes as we foresee that Malaysian glovemakers will be able to mitigate the cost increases via: (i) their dominance in the global glove market; (ii) cost savings from automation initiatives; and (iii) cost pass-through mechanism.

Nonetheless, with a strong share price performance in 2013, we believe most of the glovemakers are fairly priced now with the exception of Kossan. We foresee that its share price will continue trending upwards on strong earnings growth throughout the year.

Based on our estimate, Kossan is expected to generate an above-industry two-year earnings compound annual growth rate (CAGR) of 22% in 2014 and 2015, underpinned by: (i) strong capacity expansion (two-year CAGR of 30% per year) with support from major customers; and (ii) improved profitability as the group achieves better product mix and production efficiencies. As such, we raise our target price-earnings ratio (PER) for Kossan from 16 times to 18 times, based on 2014 earnings.

We like Hartalega’s competitive advantage underpinned by its next-generation glove manufacturing complex project. Nonetheless, the group is only expected to post low single-digit earnings per share growth in calendar year 2014, given its limited effective capacity growth in 2014, and  dilution effect from warrants conversion. At current valuation of 19 times PER for 2014 earnings, we believe its share price has largely priced in its competitive advantage. Therefore, we maintain our “neutral” call on the stock with unchanged target price of RM6.91.

Lastly, we maintain our “neutral” ratings on Top Glove and Supermax with unchanged target price of RM5.69 for Top Glove and RM2.82 for Supermax, based on 16 times and 13 times 12-month forward PERs. Both are valued above their five-year historical mean valuations.

Key investment risks include: (i) a sudden surge in latex prices due to a strong economic recovery in China in 2014; (ii) sharp appreciation of the ringgit against the US dollar; and (iii) aggressive capacity expansion by major glovemakers.  — Alliance IB Research, Jan 7