Investment Highlights

• We maintain our HOLD recommendation on Kossan Rubber Industries (Kossan) with a higher fair value of RM3.06 (vs. RM2.96 previously) based on an unchanged PER of 15x FY23F EPS. There is no ESG-related adjustment based on our 3-star rating.

• We raise our FY21E/22F/23F net profit forecast by 22%/16%/4% respectively as we increase our average selling price (ASP) projections to account for a resurgence in cases as a result of the Delta variant, as well as higher interest income.

• Kossan’s 1HFY21 net profit of RM2.2bil accounted for 82% and 67% of our and consensus expectations respectively. This came in above our estimates as the impact of MCO workforce restrictions did not affect sales as severely as expected. We project a weaker 2HFY21 as Kossan’s ASP begins to decline and production restrictions tighten.

• While valuations remain attractive, we are less optimistic of any lasting positive re-rating in share price in the next six months. Despite complications arising from the Delta variant benefiting share price in the short term, we are wary of the falling ASP, industry ESG concerns, inconsistent production due to pandemic restrictions, a possible imposition of windfall tax and supply-demand uncertainties in a postpandemic landscape.

• Kossan’s revenue grew to RM2.2bil in 2QFY21, rising by 2.1% QoQ and 219% YoY. A 5–7% QoQ increase in ASP sustained the revenue growth in 2QFY21. This was partly offset by a drop in sales volume of 2–4% QoQ, largely due to MCO restrictions on workforce.

• The group’s EBIT margin was flattish at 62.3% on a QoQ basis in 2QFY21. Despite higher ASP, a 2–4% higher nitrile rubber costs QoQ pushed up production costs. Going forward, nitrile rubber costs may ease due to a stronger supply. However, rubber and natural costs are still expected to remain high, which would exert pressure on operating profit margins.

• On a QoQ basis, the group recorded a lower core net profit of RM1.06bil and a lower net profit margin of 47.6%. Higher tax expense and weaker technical rubber segment contributions resulted in the weaker profit.

• The technical rubber and clean room divisions saw mixed results on a QoQ basis in 2QFY21. PBT of the two divisions were RM6.9mil and RM13.7mil respectively in 2QFY21, which implied growth rates of -22% and +19%.

• Kossan announced a second interim dividend of 12.0 sen for 2QFY21 (30% payout), bringing total gross DPS to 24.0 sen year to date. We believe that the group will issue special dividends in 2HFY21, which will bring the payout ratio to 40% for FY21E, similar to FY20.

Source: AmInvest Research - 28 Jul 2021