• Karex’s 1HFY21 performance was below both our and consensus expectations, as core-PATAMI of RM8.0m (>100% yoy) was only 47% of our respective forecast
• Despite being able to raise selling prices to help grow its revenue, the increase was not sufficient to compensate for incremental cost related to Covid19
• We are lowering our EPS forecast for FY21-23E by 9-15% to factor in the higher cost, and lowering our TP to RM0.74. Reiterate HOLD

Higher Cost Related to Covid19

Although Karex managed to achieve record revenue during the quarter, mainly through higher ASPs, core-PATAMI for 2QFY21 declined by 20.7% qoq to RM3.5m. Management guided that the sharp increase in cost was mainly related to Covid19, as they are spending more to create a safer working environment for their workers. We believe that the current cost structure will continue at least till end of the year, before their workers are fully vaccinated. While Karex has started to raise their ASPs, it is still insufficient to compensate for the incremental cost.

Demand From Various Sales Channels Was Negatively Impacted Too

Apart from the higher cost, demand for its higher-margin product (OBM and OEM) was also impacted by the Covid19 pandemic, as some of its sales channels in the US and EU were impacted by lockdowns during the quarter. As an example, the NHS clinics in the UK are the main distributors of their condoms, however non-essential clinic services were closed in 2QFY20 to combat the rising number of Covid19 cases in the UK. We believe that the situation would likely improve in the coming quarters, as more businesses and services resume operation. GP margin during the quarter also contracted by 400 bps qoq due to the less favourable sales mix.

Reiterate HOLD as Near-term Outlook Remains Challenging

We are lowering our EPS forecast for FY21-23E by 9%-15% to factor in the latest cost structure as we believe that the current costs related to Covid19 are likely to continue in 2021. As such, we are lowering our TP to RM0.74, based on 1.5x our CY21E BVPS estimate (previously RM0.90 at 2x P/BV), while maintaining our HOLD call. Downside risk: higher-than-expected cost structure; upside risk: stronger-than-expected demand recovery for its OBM and OEM products.

Source: Affin Hwang Research - 23 Feb 2021