Period  2Q14/1H14

Actual vs. Expectations The 1H14 PATAMI of RM91.8m (-14.8% y-o-y) came in below expectations at 40-41% of both our and the consensus full-year forecasts. The negative variance from our forecasts was due to higher-than-expected losses at the China plant as well as lowerthan-expected average selling prices (ASPs).

Dividends  No dividend was declared.

Key Result Highlights QoQ, the 2Q14 revenue was lower by 4.5% at RM548m due to lower volume sales (-7%) as well as weaker ASPs. Sequentially, 2Q14 PATAMI fell 17% to RM41.5m due to: (i) losses from its China operations amounting to RM5.4m (following the closure of one of its China plants in 1Q; 2Q14 losses were supposed to narrow as guided previously but did not materialise); (ii) margin pressure from intensifying competition and the bulk of product mix skewed towards low margin latex gloves. EBITDA margin fell 2ppts to 13% from 15% in 1Q14 and (iii) forex losses.

 YoY, 1H14 revenue fell by only 3% as the higher volumes sales (+3%) more than offset the lower ASPs. Zooming in on product specifics, nitrile registered the highest sales volume growth at 38% but was offset by lower volume sales from latex powdered (-4%), surgical (-23%) and latex powdered-free (-2%). In terms of product mix, latex gloves accounted for 67% (1Q14: 68%; 2Q13: 74%) and nitrile accounted for 23% (1Q14: 24%; 2Q13: 17%). The remaining balance comprised of vinyl and surgical gloves. However, 1H14 PATAMI fell 15% to RM91.8m due largely to (i) losses from its China operations (vinyl division) amounting to RM10.6m, (ii) margin pressure from intensifying competition and inability to implement full cost pass through and (iii) forex losses.

Outlook  Looking ahead, Top Glove is expected to face difficulty maintaining decent ASPs to defend its market share due to its product mix, which is skewed towards the challenging latexbased gloves market. Its growth prospects going forward is expected to come from its capacity expansion by additional 2.2b pieces of gloves, or 5% growth to a total of 43.5b in end-Dec 2014 (delayed from mid-2014 and scaled back), largely for nitrile gloves.

 In the latest results briefing via a teleconference, management highlighted that the next few quarters’ earnings prospects are expected to be lukewarm due to margins pressure from intense competition in the latex segment. Separately, temporary shutdown of some production lines to continue from 1Q due to automation leading to loss of output as well. However, losses from the China plant are expected to be reduced in subsequent quarters.

 Top Glove had shut down its plant in ZhangJiaGang City since January this year and is consolidating its Chinese operations into F15 in Xinghua City after new regulations prohibited the usage of coal as an energy source in the former. As such, Top Glove started scaling down production volume in anticipation of the closure. We understand that Top Glove is looking to dispose off its ZhangJiaGang plant (low-yielding vinyl glove plant) sometime in 2Q or 3Q 2014. The book cost for ZhangJiaGang stood at RM11m as of Aug 2013, or 1.8 sen/share. Since this piece of land was acquired in 2005, the current market price may be more than double its net book value. Hence, the closure costs are expected to be offset by gains from the disposal of ZhangJiaGang plant.

Change to Forecasts We downgrade our FY14E and FY15E net profit forecasts by 12-15% taking into account lower margins in the latex segment which accounts for 70% of the product mix.

Valuation  Maintain our MARKET PERFORM call.

Correspondingly, our TP is reduced by 9.3% from RM6.10 to RM5.58 as we roll forward our 12-month TP valuation from 16x CY14 EPS to 16x revised CY15 EPS.

Risks to our Call  Lower-than-expected volume sales.

Source: Kenanga