We reiterate our SELL rating on Hartalega (HART), mainly due to its demanding valuations, as 9MFY18 net profit of RM323m (+66% yoy), was within our and street expectations (74% and 76% of full-year forecasts). The strong earnings momentum was driven by a higher sales volume and higher margin per glove as a result of the vinyl glove supply disruption in China. We believe that the strong results provide a positive read through to the other glove makers.

High Utilisation Rate Indicates Strong Demand

HART’s utilisation rate was above 90%, similar to 2QFY18, which is a positive indication of demand in the industry. Despite the limited capacity growth, its sales volume grew by 4% qoq. Management has indicated that the progress of Plant 4 is still on track, and it will start commissioning Plant 5 by the end of CY18. Completion of both plants will increase its capacity by 15-20% p.a over the next 3 years, which we believe will be the key driver for earnings growth. Although China’s winter curtailment is ending soon, we believe that additional demand following the switch from vinyl to rubber gloves will continue, as not all vinyl glove manufacturers in China are able to conform to the new environmental law.

Some Margin Compression Due to Currency Movement

Despite volume growth of 4% qoq, EBITDA for the quarter only grew by 1.8% qoq, which we believe was due to the short-term currency volatility. Although Hart was able to reprice its products, we believe that it lagged behind the sharp strengthening in the RM against the USD in Nov, from 4.232 to 4.091. We believe that as long as demand remains robust, rubber glove manufacturers like HART will continue to pass on the cost from the strengthening of the RM to its customers.

Reiterate SELL on Valuation; Maintain TP at RM9.30

We reiterate our SELL call on the stock, with an unchanged 12-month TP of RM9.30 based on 26x FY20E. Our earnings forecasts are unchanged. Despite the recent price correction, the stock is still trading above +2SD its historical mean PE. Top Glove (TOPG MK, RM8.70, BUY) and Supermax (SUCB MK, RM2.10, BUY) are our preferred picks for the sector as we believe they will also benefit from the strong glove demand, but are trading at more attractive valuations.

Source: Affin Hwang Research - 7 Feb 2018