Investment Highlights

• We maintain HOLD on Hartalega Holdings (Hartalega) with an unchanged fair value of RM1.87/share, which incorporates a 3% premium to reflect our unchanged ESG rating of 4 stars. Our valuation remains on a FY24F PE of 18x, at parity to its 3- year median.

• Hartalega’s 1HFY23 core net profit of RM132mil came in within our expectation, accounting for 98% of our FY23F net profit, as we expect Hartalega to break-even or make marginal losses over the coming 2 quarters. Hence, we made no changes to our FY23F-25F earnings.

• However, Hartalega's 1HFY23 core net profit came in below consensus, accounting for only 42% of consensus net profit forecast.

• No interim dividend has been declared in this quarter with Hartalega guiding that any potential dividends will be announced at the end of FY23F. This is in line with our assumption of 2 sen/share in FY23F.

• On a QoQ basis, Hartalega’s 2QFY23 core earnings fell 68% to RM32mil in tandem with 30.9% drop in revenue. This was mainly due to weaker sales volume (-30% QoQ) coupled with a lower average selling price (ASP) (-5.6% QoQ). The earnings drop was exacerbated by rising operating costs, particularly natural gas, electricity tariff, labour costs and lower economies of scale.

• While Hartalega’s 2QFY23 blended ASP was US$24.5-25.5/1K pcs, we were guided that the latest nitrile rubber glove ASP declined by 9%-13% from US$22-23/1k pcs in Jul 2022 to US$20/1K pcs in Sep 2022, and subsequently stabilised until now. Notably, as US$20/1K pcs is the general market ASP, Hartalega’s blended selling prices should be slightly higher in view of its premium products and market targeted by the group.

• We believe the ASP stabilisation could be due to less aggressive pricing from China’s glove-makers. Hartalega guided that China’s nitrile rubber gloves are now selling at prices lower by US$0.5/1K pcs (2-3% discount) compared to Malaysia, vs previous discounts of 20-25%. This could indicate a floor to the ASP downtrend.

• In terms of plant utilisation (PU) rate, Hartalega was running at 49% in 2QFY23 due to intense market competition and excess global capacity. The group guided that its PU rate is hovering at 50% in Oct.

• With the general market ASP hovering around US$20/1K pcs and PU rate at 50%, coupled with 26% QoQ increase in natural gas tariff in Oct, Hartalega guided that the group is unlikely to generate a profit over the coming 2 quarters.

• Natural gas tariff is expected to increase another 15% QoQ in Jan 2023 before normalising towards lower levels in Apr 2023. The normalisation is consistent with the lower Brent Oil price expectations next year.

• Hartalega opined that the replenishment cycle could happen in 1QCY23F. This is unchanged from Top Glove’s guidance in our previous meeting. However, the quantum of PU rate improvement is unclear at this juncture given the current excess capacity in the industry.

• Despite lower ASPs, rubber glove distributors will be unlikely to replenish their inventories solely from China for 3 reasons: (a) US-China geopolitical tensions; (b) the quality of China’s rubber gloves is still lower than Malaysia’s; and (c) supply chain disruptions (ie. sudden lockdowns in certain areas to contain virus transmission).

• The stock currently trades at a premium FY24F PE of 20.5x, 14% above its 3-year median.

Source: AmInvest Research - 9 Nov 2022