Hartalega’s 2QFY23 core PATAMI of RM44.2m (-61% QoQ, -95% YoY), brought 1HFY23 core PATAMI to RM158.4m (-95% YoY). The results came in below ours, but within consensus estimates, at 42% and 49% respectively. The weak set of results were due to the challenging operating environment, as ASPs remain soft and sales volume continue to decline, while operating costs continue to go up. We cut our FY23-25f earnings forecasts by 17-45%, as we lower our utilisation rate assumption, ASP assumption as well as recalibrating our Ringgit assumption to be in line with our house view. Maintain SELL on Hartalega with a lower TP of RM1.48 (from RM1.92 previously), implying a PE valuation 16.0x (at -1.5SD of Hartalega’s pre-pandemic 5-year mean) on its CY23f EPS of 9.2sen.

Missing estimates. Hartalega’s 2QFY23 core PATAMI of RM44.2m (-61% QoQ, - 95% YoY), brought 1HFY23 core PATAMI to RM158.4m (-95% YoY). The results came in below ours, but within consensus estimates, at 42% and 49% respectively. 2QFY22 core PATAMI was arrived at after adding back EIs (mainly foreign exchange losses) amounting to RM15.9m.

Dividends. None declared (2QFY22: 35.2sen). 1HFY23: 3.5 sen (1HFY22: 54.95sen)

QoQ. Revenue declined 31% mainly due to falling sales volume (-33%) as ASPs only inched downwards slightly by 2%. Unfavourable operating environment also led to utilisation rates falling to a new low of 49% (from 69% in 1QFY23). Coupled with the effects of higher operating costs, EBITDA margins continued to narrow by 7.2ppts to 13.6%, causing core PATAMI to fall by 61%.

YoY. Intense competition in the market has led to both falling ASPs (-62%) and sales volume (-27%), which in turn resulted in revenue slumping 71%. Despite raw material prices easing, the ballooning operating costs and operating leverage effect has caused core PATAMI to decline by 95%.

YTD. Revenue fell 76% on normalising ASP and declining sales volume (-27%). In tandem with the sharp drop in revenue, core PATAMI also declined, but at a larger magnitude of 95% due to higher operating costs (natural gas tariff increase and minimum wage revision).

Outlook. Management expects market competition to remain intense in the immediate term, where ASPs will likely hover around low-USD20 levels and production lines will continue operate at c.50% run rate. Considering the tough environment currently, management have also indicated that raising ASPs is a difficult feat at this moment and cost pressures will continue to mount going forward. That said, Hartalega projects that the overstocked situation could potentially start to improve towards the end- 1QCY23, but we reckon the oversupply situation will likely persist longer as it takes time for the market to revert to equilibrium.

At risk of exclusion. Hartalega could be at risk of being excluded from the KLCI in the upcoming FTSE Bursa Malaysia KLCI semi-annual review as it currently ranks at the 40th spot (based on 8 Nov closing). According to the index ground rules, constituents could potentially be removed from the index if it falls below the 35th spot. We caution a potential selldown should the constituent change materialises.

Forecast. We cut our FY23-25f earnings forecasts by 17-45%, as we lower our utilisation rate assumption, ASP assumption as well as recalibrating our Ringgit assumption to be in line with our house view.

Maintain SELL, TP: RM1.48. Post earnings adjustment, our TP is lowered to RM1.48 (from RM1.92 previously). Our TP implies a valuation 16.0x (at -1.5SD of Hartalega’s pre-pandemic 5-year mean) on its CY23f EPS of 9.2sen. Reiterate SELL on Hartalega.

Source: Hong Leong Investment Bank Research - 9 Nov 2022