Investment Highlights

• We maintain HOLD on Kossan Rubber Industries (Kossan) with a lowered fair value of RM1.23/share (from RM1.60/share) based on FY23F PE of 14.9x, 1 standard deviation below the 5-year pre-pandemic average PE of 17x. There is no ESGrelated adjustment to our 3-star rating.

• We cut our net profit estimates for FY22F by 8% and FY23F by 13% due to: i) 10–25%-point cut in plant utilisation rate from the normalised level of 85%; ii) higher operating cost from increased natural gas price and electricity tariffs; and iii) lower nitrile glove average selling price (ASP) assumptions of US$24.50/24.70/1K pieces (previously US$25.00/24.90/1K pieces) for FY22F/FY23F. Our FY22F–FY24F earnings are below consensus by 14%–35%.

• We recently met the company and here are the highlights:
  i) No significant impact to earnings despite the recent surge in Covid-19 and monkey pox cases. While Kossan expects earnings to normalise in 2QFY22, we see lower QoQ earnings due to excess global supply dragging ASP even further.
  ii) Kossan anticipates the ASP for blended gloves to stay under pressure for the next 6 to 12 months owing to price adjustments amidst intensified competition. However, the company believes that its strong cash balance of RM2.3bil will help the group navigate through the headwinds.
  iii) While the utilisation rate recovered to 75% compared to 70% in April 2022, it remains below its normalised level of 85%. This is sufficiently supported by its current workforce of +7K. Nevertheless, management is seeking more workers.
  iv) Kossan is a member of the Responsible Glove Alliance (RGA). Launched in early 2022, it seeks to ensure that worker rights are observed through responsible recruitment.

• Recall that Kossan’s 1QFY22 net profit tumbled 58.6% QoQ to RM90.6mil from blended ASP prices falling 22–27% to an estimated USS$30/1K pcs. This compressed profit margin, further exacerbated by the lower utilisation rate of 70% (from 85–90% in 1QFY21) stemming from rising competition from glove suppliers and heightened raw material prices, partly offset by higher demand in technical rubber products (TRP).

• We expect nitrile glove ASP to stabilise at US$25/1K pcs, within our FY22F–FY23F assumptions. We estimate Kossan’s breakeven ASP for nitrile gloves at US$22.50/1K pcs.

• We remain cautious on the industry’s medium-term prospects given that market consolidation could suppress ASP until 1HFY23 coupled with lower sales due to logistic disruptions and intensified competition. The stock currently trades at a high FY22F PE of 16x amid a structural downturn compared to troughs of below 10x over the past 5 years.

Source: AmInvest Research - 14 Jul 2022