Hartalega announced that it will be decommissioning its Bestari Jaya (BB) facility and consolidating its operations at the Next Generation Integrated Glove Manufacturing Complex (NGC) in Sepang, as part of its rationalization plan. The BB facility was operational since 2004, comprises 4 production plants with 40 production lines. The decommissioning process is expected to be completed by the end of 2023, resulting in an expected impairment loss of RM347m in FY23F and provisions for retrenchment costs and contract obligation expenses totaling approx. RM70m in FY24F. Our FY23-24F core earnings forecasts remain unchanged, given that the impairment loss and rationalization cost will be treated as non-recurring. All told, we maintain our Neutral call on Hartalega, with a revised TP of RM1.69 (based on 27x CY24F EPS), following the increase in its 5-year historical mean.

• Details of decommissioning operation. Hartalega is expected to complete decommissioning of BB facility and consolidating its operations at NGC Sepang by end of 2023. BB facility comprises 4 production plants with 40 production lines, which accounts for ~30% total capacity, producing RM13bn pieces of gloves/annum.

• Rational of decommissioning exercise. In the short term, we view Hartalega’s effort positively as the facility is currently running at low efficiency using older technology, translating into higher operating expenses i.e. energy, labour and maintenance costs. The move also helps Hartalega to improve operational efficiency as it could focus more on its state-of-the-art production lines in NGC facility to cater for future expansion.

• Beneficial in the near term but... By shaving ~30% of its production capacity, this should help to ease the prevailing excess capacity condition in the market. On the flip side, it could also suggest that global demand is still weak with large scale Malaysian producers likely to operate at low utilization rate going forward. Should global glove demand recovers, we believe Chinese producers will continue to dominate and garner greater market share given their cost competitiveness. Nevertheless, the discontinuation of older facility should lead to lower operating cost in the near term. As such, we maintain our FY24-25F net profit forecasts.

Source: PublicInvest Research - 9 May 2023