- According to Gas Malaysia’s announcement to Bursa Malaysia yesterday, the government has raised the natural gas tariff for the non-power sectors in Peninsula Malaysia. The rationale for the hike was the increase in the purchase price of gas that Gas Malaysia procures from PETRONAS.

- Based on the revised tariff schedule, the average gas tariff will increase from RM19.77/MMBtu to RM21.80/MMBtu or +10.3%. Interestingly, we note that the natural gas tariff for the smallest non-residential consumer (i.e. those with an average annual consumption of 0-600 MMBtu) saw a reduction of 3%. The new rates will be effective July 1, 2015.

- For the rubber glove manufacturers, the hike would be at an average of 10%. Note that some of the companies have exclusive deals with Gas Malaysia given the substantial volume demanded, which results in a better input price in relation to its peers’.

- This upward tariff revision is a surprise to us as well as the rubber glover players given that the government had, in its Budget 2015 revision announcement, guided for the scheduled six-month hike reviews for electricity and natural gas tariffs to be deferred for a year to help lower cost structures for the industrial sector.

- Recall that natural gas tariffs were raised twice in 2014 – +19% in May and +2% in November. This was on top of the 14% hike in electricity tariff in January 2014, which was subsequently lowered by 6% for March to June 2015.

- At present, energy usage accounts for 15% of the glove manufacturers’ total operating costs, with the largest portion attributed to natural gas (10%). Raw materials, namely latex and nitrile, still make up the bulk of total costs at 45%-50%.

- While we are cognisant of the current competitive pricing environment in certain segments (i.e. the nitrile gloves), we believe that the glove manufacturers would collectively raise prices to offset this higher cost. This follows the industry’s practice of passing down any cost increases to customers.

- Additionally, we believe that the hike will be cushioned by margin improvements from the USD which had rallied 7% YTD vis-a-vis the RM.

- We are keeping our OVERWEIGHT view on the rubber glove sector, with our top picks being Hartalega Holdings (FV: RM9.40/share) and Kossan Rubber Industries (FV: u.r.). We believe that the imminent US rate hike will continue to exert further downward pressure on the RM. As such, we expect valuations of the rubber glove players (currently at average forward PEs of 18x) to remain inflated as investors seek a safe haven from the weakening RM and other GST-affected industries.

Source: AmeSecurities Research - 10 Jun 2015