• The glove manufacturers have not been deemed as essential services under the Enhanced Movement Control Order (EMCO) in Selangor and 14 localities in Kuala Lumpur. For now, the EMCO is due to last for two weeks, between 3-16 July.

Comment

The Big 4 take a hit.

• This affects the Big 4 glove producers (Top Glove, Hartalega, Kossan and Supermax) as their production footprint is primarily located in Klang, Selangor. The development comes as a surprise as glove manufacturing was allowed during MCO 1.0 and medical and health sectors are among the sectors listed as essential services. The glove manufacturers’ large labour workforce could possibly be a cause for concern for the authorities.

Two weeks’ downtime could impact earnings by up to 3%.

• The glove manufacturers were already running at a 70% utilisation rate under the MCO. For now, all operations are fully suspended until informed otherwise by the authorities that have prioritised breaking the COVID-19 transmission chain. Based on our estimates, for every two weeks of suspended operations, Top Glove / Hartalega / Kossan / Supermax’s FY21 earnings will be affected by 1.4% / 2.7% / 2.5% / 2.7% respectively.

Earnings Revision / Risk

• We leave our earnings forecasts unchanged for now as the development is largely insignificant at this juncture and the fluidity of the situation may prompt authorities to revise their stance.
• Key downside risks include:
  1. disruption to its production or supply chain caused by the COVID-19 outbreak; and
  2. sharper-than-expected ASP reversion.

Recommendation

Maintain UNDERWEIGHT.

• While this development is negative, it is temporary at this juncture. Hence, we are not too downcast over the development. We fear the moderation of earnings over 2022-23 would drag on sentiment. Furthermore, current lofty ASPs could revert to pre-pandemic level earlier than expected.
• Our existing target prices offer little upside as well. Given the unfavourable reward-to-risk payoff, we suggest investors minimise their exposure to the sector.

Source: UOB Kay Hian Research - 7 Jul 2021