Investment Highlights

• We downgrade our recommendation to UNDERWEIGHT from HOLD on Hartalega Holdings (Hartalega) despite a higher FV of RM5.38 based on 35x FY21F P/E. We have raised our FY21F and FY22F earnings estimates by 2.2% and 2.3% respectively.

• Hartalega’s 9MFY20 core net profit of RM323.3mil (-13.7% YoY) was in line with our and street’s full-year earnings estimates, coming in 70% and 71% of our and street’s estimates respectively. We expect a stronger 4Q in light of the coronavirus outbreak, which we believe will result in a higher demand for gloves.

• Hartalega’s 3QFY20 revenue rose 12.3% QoQ to RM796.6mil as sales continued to recover (sales volume: +12.9% QoQ; +17.4% YoY).

• Capacity utilization rate increased to 96% in 3QFY20 from 85% in 2QFY20. Revenue contribution from the group’s main export markets expanded QoQ (US +17.7%; Latin America –3.0%; Europe +6.3%) in 3QFY20.

• 3QFY20 EBITDA climbed 13.0% QoQ to RM193.8mil (RM171.5mil in 2QFY20). EBITDA margin inched up 0.2ppt to 24.3% in 3QFY20.

• ASP remained flattish at US$22.67 per thousand pieces in 3QFY20 compared to US$22.66 in 2QFY20. However in MYR, terms it fell to RM94 from RM95 as the MYR strengthened by 0.6% QoQ to RM4.149.

• Comparing 9MFY20 with 9MFY19, Hartalega’s revenue rose 0.1% to RM2,146.1mil (from RM2,144.0mil in 9MFY19). This was on the back of a 5.7% growth in sales volume while ASP dropped 6.9% YoY to US$22.91 (from US$24.59). The MYR weakened against the USD by 1.8% which narrowed the ASP decline in MYR terms (-5.2%).

• The group’s 9MFY20 EBITDA slipped 0.2% YoY to RM520.4mil (RM521.4mil in 9MFY19). EBITDA margin remained flattish at 24.3%.

• This was in spite of lower selling prices, higher natural gas and R&D expenses. However, the group enjoyed lower nitrile prices, which dipped 9.4% YoY. Sales mix also continued to lean toward nitrile gloves, now making up around 98% of sales (96% in 9MFY19).

• We believe the group was also able to maintain its high margin due to efforts in improving efficiencies and optimizing costs. We estimate that the group’s cost of labour in 9MFY20 dropped by 0.6% YoY.

• Hartalega has an installed capacity of 37.3bil pieces per annum currently. Hartalega has commissioned 2 lines in its Plant 6 so far in 2020 and construction of Plant 7 is underway and expected to begin commissioning at end-CY2020. The group expects its average utilization rate to remain above 90% in the subsequent quarter.

• Recall that during the H1N1 outbreak, glove companies’ net margins improved by around 3.4–9.7ppts and remained high before falling after the containment of the outbreak. We believe sales volume was also higher by more than 10% during the period but dropped after the outbreak was contained as customers ended up with excess supply in inventory. Hence we anticipate a similar trend for Hartalega although with limited upside as it is already operating close to maximum capacity.

• We continue to like Hartalega for its long-term prospects underpinned by capacity expansion, product innovation and superior operating efficiencies. We believe the group will benefit from the recent coronavirus outbreak as we expect the industry-wide capacity expansion will be met with increased glove demand. However, as customers have started to stock up, we believe that the demand for gloves will immediately taper down after the outbreak has been contained.

Source: AmInvest Research - 12 Feb 2020