All three glove players under our coverage, namely Top Glove, Hartalega and Kossan Rubber, posted weaker set of results in the recent quarter, mainly due to lower ASPs and sales volume. We believe the operational landscape for Malaysian glove makers would still be challenging moving into 1HCY24. Given the prevailing price competition from Chinese gloves players, Malaysian producers would not be able to raise ASPs meaningfully. Moreover, the upward trend in raw material prices would exacerbate the challenges in maintaining operational margins. We believe the recent positive movements in share prices has outpaced its fair valuation and as we do not anticipate any positive earnings surprises in the medium term, we therefore downgrade the sector from Neutral to Underweight.

• A recap of recent results. The recent results reported by the gloves players under our coverage concluded with a weaker sales volume and ASPs. Top Glove remained in the red, Hartalega recorded a small core net loss of RM0.034m while Kossan delivered a net profit of RM29m in the recent quarter respectively. The industry continues to operate at a low utilization rate below c.50% due to an enduring oversupply of gloves. Meanwhile, the overall sales volume has declined YoY.
   
• Persistent price competition from Chinese players. We gather that Chinese players are still running at near full capacity. Based on our channel checks, Chinese players are currently selling c.USD2/1k pcs cheaper than Malaysian counterparts at USD16-18/1k pcs. The blended ASPs has stabilised at c.USD20-21/1k pieces for Malaysian glove players and this is expected to stay flat in 1HCY24. Notably, coal price has started to ease (Figure 1), this may provide Chinese players with greater flexibility to reduce ASPs, further intensifying the competitive pricing landscape.
   
• Rising raw material cost. Raw material prices (i.e. nitrile butadiene and natural latex) which account for c.30% of total production cost has trended upwards since Oct 2023 (Figure 2). We anticipate the trend would lead to a squeeze in operating margins for Malaysia glove players in 1HCY24. We also note that natural gas prices (which accounts to c.20% of total costs) have risen from USD2.6/MMBtu in Aug 2023 to USD3.1/MMBtu in Oct 2023 (Figure 3), which will translate to a higher gas tariff in 1HCY24 due to a time lag effect, but it is expected to normalize in the 2HCY24.
   
• No major impact from anti-dumping investigation against export gloves. In June 2023, The Brazilian Ministry of Development, Industry, Trade and Services (Brazilian MDITS) has initiated an investigation to ascertain the potential presence of dumping practices on export gloves for non-surgical procedures for health care originating from certain alleged countries such as Malaysia, Thailand and China. The petition alleges that Malaysia has an absolute dumping margin of USD3.89/kg and a relative dumping margin of 80.8%, which surpasses those of Thailand and China by a significant margin. Starting from 20 Feb 2024, Brazil has imposed USD30.17/1k pcs gloves provisional duty on Top Glove. However, we believe the impact to be immaterial, given that only a fraction of its latex gloves would be affected, and Brazil’s contribution to the Group’s total sales is less than 5%.
   
• Malaysia rubber gloves export value and volume remain low. Malaysia's rubber gloves export performance remains below pre-pandemic levels, as the imbalance of supply-demand dynamics have affected the rubber gloves industry negatively. Based on Department of Statistics Malaysia (DOSM), Malaysia's export value of rubber gloves declined by 38% YoY in 2023 to USD11,841 from USD19,041 in 2022 (Figure 4). Similarly, the export volume of Malaysia's rubber gloves recorded a 29% YoY drop from 701,635 units in 2022 to 496,754 units in 2023. Also, Malaysia rubber gloves manufacturing volume has dropped 22% YoY in 2022 (Figure 5).
   
• Downgrade the sector to Underweight. The outlook for Malaysia's glove players appears bleak as we anticipate ASPs to remain stagnant due to customers’ reluctance in absorbing additional costs amid stiff competition from Chinese gloves manufacturers. Though recent demand has displayed some signs of improvement, we believe the operational landscape is still challenging, aggravated by escalating raw material prices. We perceive that recent upward movements in share prices have exceeded their fair valuation. All told, we downgrade the glove sector from Neutral to Underweight, with three Underperform calls on Hartalega, Top Glove and Kossan.

Source: PublicInvest Research - 28 Feb 2024