Results Update

Topglove has just announced its results for 1H2010 ended 28/2/2010. Its net profit increased by 8.2% q-o-q or 95.9% y-o-y to RM70.5 million. Turnover increased by 8.0% y-o-y or 47.2% q-o-q to RM510 million. Despite the rapid expansion by all players in this industry, it is good to note that Topglove has been able to maintain its pre-tax profit margin at 18.4% for the past three quarters. This is a sign that increased supply was met by increasing demand for rubber glove.


Table: Topglove's last 8 quarterly results


Chart 1: Topglove's last 15 quarterly results

Valuation

Topglove (closed at RM12.56 yesterday) is now trading at a PER of 16 times (based on last 4 quarters of 79 sen). With top-line growth of 19% in the last 3 year (actually, 23% for the past 4 quarters & 15% for the preceding 4 quarters), Topglove's Price/Earnings To Growth ('PEG') ratio is about 0.77 time. A PEG ratio of less than 1 means that the stock is attractive. However, this may not be the case if profit margin were to ease off.

PEG ratio = PE / (Growth Estimate + Dividend Yield)
= 16 / (19 + 1.8)
= 0.77 times

Note: I have substituted Revenue growth for Earning growth as the latter has shot up sharply last 3 quarters (due to higher profit margin).

Negative scenario examined

Assuming that Topglove's pre-tax profit margin dropped back from 18.4% to 12% (the average pre-tax profit margin for QE28/2/2009 & QE30/11/2008). The pre-tax profit for the last 4 quarter of RM314 million would be reduced to RM205 million. Assuming the same effective tax rate of 26%, Topglove's net profit would drop from RM235 million to RM152 million and EPS would ease off from 79 sen to 51 sen. Its PER would be about 25 times and PEG ratio would be about 1.2 times. From this, we can see that profit margin is critical to maintaining super profit for this industry. As the players keep on increasing their production capacity, the industry will slowly reach a saturation point. We must be aware of this possibility even as we cheer the players for their out-performance today.

Technical Outlook

From the two charts below, there is no sign of any weakness in Topglove. From Chart 2, we can see that Topglove would surge higher at every upside breakout of a resistance (I have counted 4). In the past 14 months, the 20-day SMA line has offered good support for the stock. There was only a period when the share price went below the 20-day SMA line & tested the 50-day SMA line (in August & September last year). We may use the 50-day SMA line as a warning sign for a possible reversal for Topglove. From Chart 3, we can see that the last bull rally for Topglove ended with a break below the 10-month SMA line. To use this trigger for a selling signal may not be a good idea as it is too slow, resulting in giving back too much profit (or taking on too much losses) before exiting the stock.


Chart 2: Topglove's daily chart as at Mar 17, 2010 (Source: Tradesignum)


Chart 3: Topglove's monthly chart as at Mar 1, 2010 (Source: Tradesignum)

Conclusion

Based on good financial performance, reasonable valuation & positive technical outlook, Topglove is still a HOLD. However, we need to track Topglove's financial results closely for a reversal in the super normal profit enjoyed by the company.