Hartalega (HART) reported a 1HFY19 PATAMI of RM245m (+17% yoy), tracking within our and consensus estimates (47% and 48% of respective forecasts). The EBITDA margin for the quarter was marginally lower due to higher raw material cost, but raw material prices have eased. Hence, we expect margins to improve in the coming quarters. Stronger earnings in 2HFY19 will also be underpinned by the commissioning of Plant 5, expected by the end of FY19. Reiterate HOLD with an unchanged 12-month TP of RM6.30.

Lower Volume Impacted Profitability

PATAMI of RM120m for 2QFY19 dipped 3.7% qoq, mainly due to a lower sales volume from its nitrile sales segment, which contracted 3.8% during the quarter. The reduction in volume was due to an adjustment in accordance with market demand, as we believe that management is focusing on protecting HART’s margin rather than competing for volume growth. The EBITDA/glove (‘000) improved to RM24.23 in 2QFY19 from RM23.80 in 1QFY19. Due to the drop in volume, the utilisation rate has also reverted to a more sustainable level of 88% from a high of 92% in 1QFY19.

Some Delay in Expansion, But Back on Track

Plant 5 (4.7bn pcs) was supposed to have been commissioned in 2QFY19, but this was delayed for 2 months, as the company modified its lines to be industry 4.0 ready. Management also guided that HART is now back on schedule as it is adding 2 lines per month (for a total of 12 lines), and Plant 5 should be fully commissioned by the end of FY19. The completion of Plant 5 will increase its capacity by c.14%.

Maintain HOLD With An Unchanged TP of RM6.30

We are maintaining our 12-month TP for Hartalega at RM6.30, based on an unchanged 35x PER on FY20E EPS (+2SD). We keep our HOLD rating as we believe the stock is fairly valued, trading at around +2SD its historical average PER. Supermax (SUCB MK, RM3.70, BUY) and Kossan (KRI MK, RM4.25, BUY) remain our preferred sector picks.

Risks to our call

The key risk to our call would be management’s inability to ramp up the utilisation rate of the new capacity. A sudden sharp movement of the US$ against the RM or a sharp change in raw-material prices would also impact profitability.

Source: Affin Hwang Research - 9 Nov 2018