Investment Highlights

• We maintain our HOLD recommendation with a slightly lower FV of RM5.88/share after tweaking our earnings forecast downwards by 3%, 3% and 4% for FY19F, FY20F and FY21F respectively to account for a slightly lower sales volume growth assumption. 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 RM5.88/share, the implied CY19F P/E is 32.8x.

• 1HFY19 net profit missed our expectations at only 46% of our full-year forecast, but met market expectations at 48% of full-year consensus estimates. The variance against our forecast came largely from a slower sales volume growth of 10.3% in 2QFY19 compared with 20.2% in 1QFY19. We now assume a sales volume growth of 11.7% in FY19F (vs. 14.9% previously).

• Key highlights of Hartalega’s 2QFY19 results included:
  1. Topline for the quarter grew 1.1% QoQ on higher ASP (+4.8% QoQ) offset by a 3.5% drop in sales volume as competition heightened and due to a market demand adjustment to the resumption of vinyl glove production in China.
  2. 1HFY19 revenue climbed 19.8% on the back of a 15.1% growth in sales volume and 4.0% growth in ASP. Despite this, EBIT margin dropped 1ppt as nitrile latex costs increased 38.5% YoY. However as seen in Exhibit 2, nitrile rubber (NBR) price has dropped in Oct 2018 and management believes this trend will continue. We estimate EBIT margin of 21.3% for FY19F.
  3. Hartalega has commissioned 3 lines out of 12 lines of Plant 5, bringing annual capacity to circa 31.7mil pieces. The company targets to commence 2 new lines per month (circa 750K pieces capacity). The construction of Plant 6 is underway and management targets to commission the first line by 1HCY19.
  4. Hartalega has started selling its anti-microbial gloves (AMG), which were introduced in May 2018. Management’s plan is to price the gloves competitively to encourage the initial take-up rate and is currently working on securing the approval of the Federal Drug Administration (FDA) to enter the US market which makes up more than half of Hartalega’s business.

• We like Hartalega for its foresight and execution, visible capacity expansion and product innovation. However, we believe the market has priced in the potential earnings delivery as the company is currently trading at 45.4x P/E which is 1.5SD above its historical P/E.

Source: AmInvest Research - 9 Nov 2018