Investment Highlights

• We maintain our HOLD recommendation with a higher DCF-derived FV of RM5.91/share vs. RM5.70 previously. We have increased Hartalega’s FY19F, FY20F and FY21F earnings by 4%, 6% and 5% respectively to account for its expansion plans. Our fair value for Hartalega is based on DCF, which has a WACC of 7.3% and terminal growth of 2.5%. At our fair value of RM5.91/share, the implied CY19F P/E is 31.9x with 3-year earnings CAGR FY19-FY22 of 15.8%.

• Hartalega’s expansion plans are on track with the commissioning of its latest NGC plant, Plant 5 and the beginning stages of constructing Plant 6. Both Plant 5 and Plant 6 are expected to increase capacity by 4.5bil pieces per annum each. With the latest commissioning of the 2nd line of Plant 5 in Sep 2018, the current total capacity is at 31.7bil pieces per annum. Plant 7 is in the initial planning stages, which would raise capacity by 2.6bil pieces per annum. We expect total capacity to grow by 20% to 43.1bil by FY21F.
• Moving forward, we expect robust sales volume growth from the higher capacity. However, the topline growth will be slightly offset by some downward pressure on ASP as Top Glove and Kossan will be introducing an additional capacity of circa 10bil pieces per annum each by CY2020.
• Nitrile latex, which makes up around 50% of total production cost, has been rising since FY18. As shown in Exhibit 1, nitrile latex price has climbed by 19% to RM5.55/kg in 1QFY19 (from RM4.64/kg in FY18).

• Based on our estimates, every 1.0% increase in nitrile latex price will reduce earnings by 0.3%. Hartalega’s EBITDA margin has been affected by the higher nitrile cost as reflected in the decrease of 1.3ppts to 24.5% in 1QFY19 (25.8% in FY18).

• We like Hartalega for its capacity expansion and new product launch. Hartalega introduced the anti-microbial gloves in May 2018, which is expected to contribute circa 10% to the company’s topline.

• However, we believe the market has priced in the potential earnings delivery as the share is currently trading at 45x P/E which is 1.5 SD above its historical P/E.

• Key risks to Hartalega include capacity delays and a sharp appreciation in cost.

Source: AmInvest Research - 2 Oct 2018