News  In an announcement to Bursa Malaysia, Kossan Rubber Industries (“Kossan”) has proposed a 1-for-1 bonus issue and the exercise is expected to be completed by 4Q13.

Comments  In other words, an investor who holds 1,000 shares will end up with 2,000 shares. The number of shares will increase from 319.7m to 639.4 (assuming 1.1m treasury shares sold before the entitlement date). The theoretical ex-bonus price based on last traded price of RM6.31 is RM3.15.

 There is no earnings dilution impact from the bonus issue exercise.

 The bonus issue is expected to create better liquidity in the market and hence greater investors’ participation.

Outlook  Going forward, Kossan plans to build new lines once its capacity utilisation hit 80% instead of 90% as in the past. This strategy will allow Kossan the spare capacity to capitalise on potential new sale enquiries as well as meeting specific requirement needs from its clients. It plans to build three new plants are on track targeting nitrile gloves, which are expected to boost its capacity by additional 5b pieces of gloves or 31%, bringing its total installed capacity to 21b pieces p.a. The first plant is expected to be completed by end 4Q13 and the remaining two by May 2014. For illustrative purposes, assuming 8% net profit, ASPs of RM95/1000 pieces and utilisation rate of 80%, this new capacity could generate a total net profit of RM30m or 19% of our FY14 forecast.

Forecast  No changes to our forecasts.

Rating   Maintain OUTPERFORM

Valuation  We like Kossan for its: (i) superior net profit growth of 18% and 27% in FY13E and FY14E respectively compared to an average of 13% and 12% for Top Glove and Hartalega, respectively, (ii) unprecedented earnings growth which is underpinned by rapid capacity expansion over the next two years, (iii) gradual increment in its dividend payout ratio (Kossan recently declared a final 7.0 sen tax-exempt dividend. This brings its total full-year FY12 DPS to 12.5 sen, implying a 38% payout ratio – well ahead of its <20% payout ratios in the past three years); and (iv) its TRP division, making Kossan more than just a glove play, which is growing strongly at a rate of >20% QoQ at the pre-tax profit level over the past few quarters.

Risks  Higher than expected input raw material cost

 Lower than expected volume sales.

Source: Kenanga