Investment Highlights

• We maintain our BUY call on Top Glove with a higher fair value of RM11.85 vs. RM10.42 previously. We have increased Top Glove’s FY18F, FY19F and FY20F earnings by 2%, 5% and 8% respectively to account for higher earnings growth resulting from the group’s expansion plans. Our fair value for Top Glove is based on DCF, which has a discount rate of 6.4% and a terminal growth rate of 2.5%. At our fair value of RM11.85/share, the implied CY19F P/E is 26x.

• We came away from a recent visit to the company feeling positive. The key highlights are:
  1. The company’s expansionary plans remains on track with the commissioning of its latest Factory 31, which will increase total capacity by about 3bn pieces per annum.
  2. Top Glove remains steadfast in its legal battle against Adventa Capital and the former directors.
  3. Presently, raw material costs are in Top Glove’s favour. Natural rubber and nitrile latex prices have declined by more than 25% and13% respectively since FY17.

• Expansionary plans are intact. Top Glove has started the commissioning of Factory 31 in July 2018, bringing on stream about 3bn pieces of gloves per annum. This expands total capacity to 60.5bn (51.9bn) in FY18F. Moving forward, the company expects to grow its capacity by 4-5bn pieces annually.

• On top of that, Top Glove is on the lookout for synergistic M&As to further strengthen its positioning as the world’s biggest rubber gloves supplier. Management is confident that they will be able to grow its global market share from 25% to 30% by 2020. We expect topline to grow by 19% in FY18F underpinned by a 17% increase in production capacity.

• The dates of the court hearing for Top Glove’s injunction against Adventa Capital are 29th Oct, 30th Oct, 1st Nov and 2nd Nov. The remaining shares held by Mr Low Chin Guan (circa 10mil shares) are under the injunction and cannot be liquidated. Management is vigilant in monitoring for any declaration to sell the shares by the owner.

• Recall that the company claimed that there was a RM641mil overvaluation in price (due to overly aggressive earnings projection). We understand that there is risk that there may be an impairment on goodwill. This may come in 4QFY18. However, it will be a one-off cost, which will not affect cash flows. Management is still in the midst of estimating the goodwill arising from the acquisition of Aspion.

• Raw material costs are expected to remain favourable for Top Glove. Natural rubber latex and nitrile latex, which make up around 50% of total production cost have been on a downtrend trend since FY17. As shown in Exhibit 1, average natural rubber latex has declined by 25.5% YoY to RM4.54/kg price in FY18 from RM6.09/kg in FY17. Nitrile latex price has fallen by 13.4% to RM4.23/kg in FY18 (from RM4.88/kg in FY17).

• Based on our estimates, every 1% decline in natural rubber latex and nitrile latex price will improve earnings by 3% assuming that there are no changes in selling prices. On the back of lower raw material costs, Top Glove’s EBITDA margin has been improving as reflected in the increase of 2-ppts to 16% in 9MFY18 (14% in FY17). We believe that Top Glove would be able to sustain its EBITDA margin at this level in FY19F.

Source: AmInvest Research - 24 Sept 2018