Highlights

• Upcoming results likely to be lower QoQ… Top Glove’s upcoming 3QFY16 results will be released on 15 June 2016. On the back of rising latex price and weakening USD QoQ, we estimate 3QFY16 profit to be lower by 22% to 27%.

• Time lag effect on cost pass-through… The weaker QoQ result was largely due to time lag effect (circa 2 months) on cost pass through to customers as latex price has spiked up 29% QoQ to RM4.5/kg while US dollar had appreciated by 6.5% offset partly by volume growth.

• Latex price… Price climbed to recent high of RM5.1/kg as production entered the wintering period from Feb to May before softening to RM 4.5/kg currently. We expect latex price to stay low as the oversupply situation remains due to substantial planting in 2008-2012 period. Meanwhile, demand from China softened as its vehicle sales growth slowed down from 8% to 4% in 2015.

• Forex… Ringgit has appreciated by 6.5% (QoQ) against USD to average RM4.00/US$ in 3QFY16 due to rising in crude oil price and more dovish Fed on rate hike. Currently, we have conservatively factored in RM3.80/US$ in our FY16 and FY17 assumptions even though ringgit has recently weakened to above RM4.00/US$.

• Nitrile segment i s gaining market share… To recap, sales volume from nitrile segment continues to grow by 51% YoY in 1HFY16. We understand Topglove is now the thi rd largest nitrile player with capacity of 12bn pc/pa vs Harta at 18bn and Kossan at 15bn. For the upcoming new capacity of 5.8bn pc/year, nitrile segment comprises circa 76% of it.

• Remain only BUY call in the sector… With easing latex costs and upward revision in ASP, we expect improvement in 4QFY16. Topglove remains our only BUY call in the sector given undemanding valuation which trading at only 16x CY16 P/E versus peers at 18x CY16 P/E.

Risks

• Further reduction in ASP amid steep competition; Surge in nitrile and latex prices; and Weaker USD against MYR.

Forecasts

• FY16 and FY17 earnings are reduced by 6.8% after incorporating lower margin due to hike in latex price and lower ASPs.

Rating

• BUY

• From valuation perspective, Top Glove is still the most attractive rubber glove stock among our coverage.

• Positives - Gradual shi ft to nitrile gloves, Chi na’s operations turned around, improved production efficiency, cost reduction via product line automation and SAP ERP system.

• Negatives - Compared to peers, lower exposure in nitrile latex gloves and PF NR gloves will lower net profit margins..

Valuation

• Maintain BUY with a lower TP of RM6.08 (from RM6.46) based on an unchanged P/E multiple of 18x CY17 EPS.

Source: Hong Leong Investment Bank Research - 10 Jun 2016