Investment Highlights

• We maintain our BUY call on Kossan Rubber Industries (Kossan) with a higher fair value of RM6.07. We have raised our P/E multiple further to 27x (+4 SDs). Our valuation is now based on P/E 27x FY21F EPS.

• We like Kossan for its expansionary plans and efforts in improving quality and operational efficiency as well as increasing automation. In the long term, we anticipate further improvements in Kossan’s performance on the back of favourable raw material price movements and continuous improvements in operating efficiency.

• The World Health Organization (WHO) has declared the coronavirus, Covid-19, a pandemic, urging governments to step up containment efforts as the number of worldwide cases topped 120K and deaths exceeded 4.3K.

• Recall that during the previous major pandemic outbreak, Kossan’s earnings and share price climbed. At the start of the 2009–2010 H1N1 pandemic, Kossan’s share price was RM0.45 and it rose to RM1.06 by the end, about 15 months later, as shown in Exhibit 1.

• Previously during the H1N1 pandemic, Kossan’s revenue and net profit surged 16.1% and 70.0% respectively in FY10 as demand soared. This resulted in a 2.9ppt improvement in net margins (10.8% in FY10).

• We believe that orders for gloves during the outbreak were high as customers stock up more than usual as a pre-emptive measure.

• However, post-outbreak, there was an excess supply in the customers’ inventory which lowered sales growth. Kossan’s revenue rose 3.5% but net profit dropped 20.9% in FY11.

• Kossan’s 1-year average trading P/E was 7.1x before the WHO declared H1N1 as a pandemic. Its P/E peaked at 19.3x (+8.5SDs) in March 2010.

• We believe that Kossan’s 1HFY20 will be strong on the back of full contribution from its newly commissioned Plant 18 as well as the completion of Plant 19 which is slated for full commissioning by April 2020.

• We expect Kossan to benefit from an expected increase in demand for gloves arising from the Covid-19 pandemic. We reckon that Kossan will experience higher sales volume and selling prices in FY20F. We forecast Kossan’s FY20F net earnings to grow by 32% YoY and net margin to improve to 11.1% from 10.2%.

Source: AmInvest Research - 13 Mar 2020