Results Highlights

• Hartalega’s 2QFY20 net profit fell 13.4% Y.o.Y to RM103.9 mln, from RM120.2 mln a year ago, weighed down by lower ASPs and inflated packaging as well as natural gas cost. Revenue was also marginally lower at RM709.4 mln, compared to RM714.2 mln in the previous corresponding period. Even so, the group declared a first single tier dividend of 1.8 sen per share, payable on 27th December 2019.

• Consequently, cumulative 1HFY20 net profit narrowed to RM197.9 mln (-19.2% Y.o.Y), from RM245.1 mln a year ago, amid persistently higher operational costs and lower ASPs. Revenue also declined about 5.0% Y.o.Y to RM1.35 bln, from RM1.42 bln previously.

• Despite improvements in floor utilisation, production cost and sales volume compared to the last quarter, the latest earnings and revenue were again below expectations, making up about 41.1% and 42.6% of our previous full-year forecast net profit and turnover of RM481.4 mln and RM3.17 bln respectively. The weakness was mainly contributed by weaker ASPs, despite the strengthening Greenback - an indication of the increasingly saturated landscape in the glove industry.

• We reduced both our FY20-FY21 net profit and revenue forecast by about 6.0% as we take into account lower revenue contribution from the NR segment amid trade uncertainties, intense competition and growing supply.

Prospects

We foresee a potential uptick in demand for nitrile gloves in the coming quarters, following the implementation of U.S. tariffs on China-made gloves. As a whole, however, inflated cost continues to weigh on companies; average cost per glove has increased about 3.0% Y.o.Y in the 1HFY20, although the impact is reduced by the cost-plus pricing mechanism in the gloves industry. Moving forward, we expect slightly improved ASPs amid normalisation in raw materials prices and stronger demand. However, we remain wary of rising costs, following the Government’s decision to increase minimum wage that could still eat into margins. Even so, Hartalega will benefit from its top-notch operational efficiency, reflected by its ability to maintain EBITDA margins around 23%-24% despite the challenging environment currently. In the long run, the earnings and revenue is expected to grow at a healthy five-year CAGR of 14.6% and 17.2% respectively.

Valuation and Recommendation

We downgrade our recommendation on Hartalega to SELL (from Hold) with a lower target price of RM5.10 (from RM5.45) by ascribing to an unchanged target PER of 38.0x to Hartalega’s FY20 EPS of 13.4 sen (from 14.3 sen previously) as we think that the company is quite overvalued currently, amid rising costs and competition. Our target PER remains at a premium to Hartalega’s competitors premised on: (i) Hartalega’s solid position as the global market leader in the nitrile glove segment, (ii) superior operational efficiency in terms of production speed and the lower number of workers per glove output, (iii) consistent and high quality control standards, and (iv) solid fundamentals where it commands the highest net profit margin vs. its peers. Upside risks to our recommendation include weaker input costs (i.e.: nitrile and latex prices), as well as a stronger Dollar. The latter could result in stronger earnings performance as Hartalega’s sales are mainly export-oriented

Source: Mplus Research - 6 Nov 2019