Hartalega’s 2QFY20 core PATAMI of RM103.4m (+7.6% QoQ, -15.1% YoY) brought 1HFY20 sum to RM199.4m (-17.0% YoY) which was below both ours and consensus expectation. Sales volumes slipped (-1.2% YoY) due to lower ASP whilst utilization rate dropped c.80% (from 90% in 1HFY19). We cut our FY20-22 earnings forecast by 12.2%, 14.1% and 13.8% respectively as we account for lower ASP. We maintain HOLD call but with higher TP of RM5.10 (from RM4.78) as we roll forward to FY20 EPS and pegged to PE of 35.8x.

Below expectations. 2QFY20 core PATAMI of RM103.4m (+7.6% QoQ; -15.1% YoY) brought the 1HFY20 sum to RM199.4m (-17.0% YoY). The results came in below both ours and consensus expectations at 42.3% and 41.5% respectively. The key culprit for the results shortfall was lower ASP (-2.2% QoQ, -6.9% YoY) and higher effective tax rate (15.4% in 2QFY19 v 24.1% in 2QFY20).

Dividends. Declared first interim dividend of 1.8 sen per share going ex on 3rd of December (1HFY19: 2.2 sen).

QoQ. Revenue of RM709.4m rose +10.8% QoQ from RM640.1m due to increase sales volume (+13.8% QoQ). However it was partially offset by a slight decline in ASP (-2.2% QoQ) while utilization rate improved to 85% (from 76%). Consequently, EBITDA improved by +31.9% to RM204.1m whilst EBITDA margins improved by 4.6ppts (to 28.8%). This was mainly attributed to lower upkeep and labour cost. Higher volume leads to better cost per piece. Core PATAMI improved to RM103.4m (from RM96.1m) despite the higher effective tax rates 24.1% (1QFY20: 22.5%).

YoY. Revenue dropped by -0.7% from RM714.2m (2Q19) attributed to lower ASP (- 6.9% YoY); however this was slightly cushioned by increase in sales volume by +7.2% YoY. EBITDA increased by +20.7%, while its margin increased by 5.1ppts with the reduction in labour costs. Core PATAMI declined by -15.1% YoY (from RM121.8m) with higher effective tax rates of 24.1% compared to 15.4% in 2Q19.

YTD. Revenue of RM1,349.5m declined -5.0% YoY mainly due to lower ASP (-3.6% YoY) and slight drop in sales volume (-1.2% YoY). Even though the number of lines has increased to 100 lines (1HFY19: 94 lines), the average utilization rate has decreased to 80% (1HFY19: c.90%). Subsequently EBITDA fell by -4.7% YoY, followed by a decrease in core PATAMI by -17.0% YoY.

Outlook. We continue to expect challenges within the Nitrile segment in CY19 despite quarterly improvements as the supply side is expected to grow by an average of 12% vs. global demand growth of c.8-10%. Nonetheless, Hartalega is showing sequential improvements in utilization rates and margins due to better cost containment measures. Plant 6 and Plant 7 are expected to start commissioning its 1st line in 1QCY2020 and 2HCY2020 respectively.

Forecast. We cut FY20-22 numbers by 12.2%, 14.1% and 13.8% respectively as we account for lower ASP moving forward.

Maintain HOLD, TP: RM5.10. We maintain our HOLD call and higher TP of RM5.10 (from RM4.78) as we roll forward to FY20 EPS and pegged to PE of 35.8x (5 year mean historical PE)

Source: Hong Leong Investment Bank Research - 6 Nov 2019