Kossan’s 1Q19 core PATAMI of RM58.1m (+52.7% YoY) came within ours and consensus expectation. The glove segment saw higher volumes sold (+4.7% QoQ, 18.8% YoY) whilst PBT margins improved by 2.5ppts YoY reflecting the efficiency gains from Plant 16 (3.0bn pieces) & 17 (1.5bn pieces) despite ASP exhibiting a downward trend. The valuation gulf between Kossan and the sector warrants a re-assessment of our valuation metrics. Upgrade to BUY as we tweak our valuation multiple upwards to 24x (its 3 year mean) from 20.3x (0.5SD above the stocks 5-year mean) on improving margins and scheduled capacity delivery. Our TP increases to RM4.35 (from RM3.72). The RM anaemia should augur well for share price in the near term.

Within expectations. 1Q19 core PATAMI of RM58.1m (+52.7% YoY) came within ours and consensus expectation, coming in at 25.1% and 25.2% of full year estimates.

QoQ. Group revenue declined -4.7% to RM561.5m (4Q18: RM589.4m) despite the higher sales volume (+4.7%) from the gloves segment due to softer ASP’s in 1Q19. We understand that blended ASP’s declined c.5%-7% across the groups gloves SKU’s. Note that prices of NBR declined (-7%), whilst NR prices increased (+9%) during the quarter. The TRP division also recorded a decline in revenues (-7.3%) on the back lower sales deliveries. Group PBT improved by 5.1% to RM75.1m whilst margins improved by 1.3ppts to 13.4% reflecting the efficiency gains from plants 16 and 17. Subsequently, core PATAMI improved by 6.5% to RM58.1m.

YoY. Group revenue grew +16.0% (1Q18: RM484.2m) attributable to stronger performance from all 3 divisions. Volume growth (+18.8% YoY) coupled with efficiency gains from their newer plants, saw revenue and PBT increasing +18.5% and +43.2% for the glove division. Group PBT margins gained 2.5% to 13.4% (1Q18: 10.9%) as a result, despite the headwind in macro factors such as RM strengthening in 1Q19. The TRP segments strong performance (revenue: +7.1%; PBT: +35.1%) is due to higher sales deliveries, higher margin products and favourable raw material prices. Group core PATAMI improved by 52.7% YoY from RM38.0m reflecting namely the contributions from the new capacity from the gloves division.

Outlook. For FY19 earnings growth will be driven by the full impact of Plant 16 (3.0bn pieces) and 17 (1.5bn pieces) contributions and partial contribution from plant 18 (+2.5bn pieces) scheduled for commissioning by 3Q19. It appears that the cautiousness arising from sector overcapacity fears has been overdone, whilst capacity installation appears to be quite well managed by the industry. Ringgit anaemia in 2H19 will also be a booster for Kossan moving forward.

Forecast. Post release of Annual report our FY19-20 numbers adjusts downwards by 1%-2% on model up keeping. We introduce our FY21 numbers.

Upgrade to BUY, TP: RM4.35. We take this opportunity to adjust our valuation metrics in light of Kossan’s improving fortunes. Note that the valuation gulf between Kossan and the glove sector warrants a re-assessment. Kossan is trading at -1SD below the glove sectors 3-year mean (see figure #2) – against a backdrop of improving margins and scheduled capacity delivery. As such we are tweaking our valuation multiple from 20.3x (0.5SD above the stocks 5-year historical mean) to 24x (the stocks 3 year historical mean- see figure #3). Consequently out TP increases to RM4.35 (from RM3.72). Our TP is a function of FY19 EPS pegged to a PE multiple of 24x (the stocks 3-year historical mean). We upgrade to a BUY.

Source: Hong Leong Investment Bank Research - 3 Jun 2019