Top Glove confirmed that gloves produced by its 2 subsidiaries are being placed in detention order by US CBP, possibly related to recruitment fees prior to Jan 2019. Management has hired an experienced consultant to resolve the matter, targeted within 2-4 weeks. We are hopeful for this to be resolved as any delays will only further widen the global demand-supply gap for gloves amid Covid-19. Maintain forecast and BUY rating with unchanged TP of RM31.31.

NEWSBREAK

Top Glove confirmed that the US Customs and Border Protection (“CBP”) has placed a detention order on disposable gloves manufactured by its 2 subsidiaries (Top Glove Sdn Bhd and TG Medical Sdn Bhd) on 15 July 2020. Top Glove is reaching out to the CBP through their office in the US, customers and consultants, to understand the issue better and work towards a speedy resolution of the matter, within an estimated 2-4 weeks.

HLIB’s VIEW

We dialled into Top Glove’s conference call pertaining to above mention news.

Quick action. As we understand, Top Glove has engaged with a consultant to help remove it from the detention list; it is the same consultant which assisted WRP Asia Pacific SB (another glove manufacturer) to be released from the Withhold Release Order (WRO). It is presumed that the issue pertains to retrospective payment of recruitment fees by Top Glove’s foreign workers to agents prior to Jan 2019. Management reconfirmed that it has been bearing all recruitment fees since Jan 2019 when their “Zero Recruitment Fee Policy” was implemented. Over the past few months, Top Glove has been undertaking extensive tracing, to establish the correct amount to be paid back to its workers, on behalf of the previous agents (i.e. those prior to Jan 2019). The total amount is estimated at RM20-50m.

Estimated time frame. The 2 mentioned subsidiaries accounts for half of Top Glove’s North America sales or at 12.5% of the overall sales volume. Currently, the 2 subsidiaries are still able to ship goods to the US, however it will be parked at the warehouses/ free trade zones until the issue clears. Top Glove feels the time frame of 2-4 weeks is sufficient for it to be removed from the detention list. However, we believe if there are any delays in resolving the issue, Top Glove is capable to use its other subsidiaries to ship out the orders. We are also hopeful on the expected time frame given (i) current glove shortage in the market, (ii) strong backing of successful audits in the past (Top Glove is audited by 80-90 audits yearly), and (iii) supply of high-quality gloves.

High global demand. MARGMA’s projected 2020 glove global demand is 330bn gloves (+20% YoY vs. the usual 8-10%). If Top Glove continues to be in the detention list for a longer period of time, it could reallocate its output to other countries, aided by the strong demand for gloves worldwide. Paired with the shortage of gloves globally, we are optimistic that this issue will be resolve quickly as delays will further widen the demand-supply gap. Being the world’s largest glove producer, we feel that it is “too big of a shoe” to be filled by other glove makers.

Forecast. The RM20-50m payment would marginally dent our FY20 earnings forecast by 1-3% (adjusted for tax). Maintain forecast for now.

Maintain BUY, TP RM31.31. Maintain BUY with unchanged TP of RM31.31. Our TP is based on mid-FY21 earnings pegged to PE multiple of 33x (+1SD above 5 year mean). We feel that any share price weakness presents an opportune time to accumulate

Source: Hong Leong Investment Bank Research - 17 Jul 2020