Period  4Q14/FY14

Actual vs. Expectations  TGUAN reported 4Q14 core net profit of RM4.1m, bringing FY14 core net profit to RM25.9m which is below expectations; making up only 89%/83% of our/consensus full-year forecasts.

 The variance from our forecasts is due to: (i) higher cost environment in its China-based subsidiaries that affected profit margins for the plastics division, and (ii) lower demand of F&B products in the last quarter.

 The FY14 core net profit was restated for: (i) RM0.3m of provision and write-off of inventories, (ii) RM5.5m of provision of doubtful debt, and (iii) RM2.6m unrealised forex loss. We view the largest item as one-off event as the recent strengthening of USD has caused one of TGUAN’s client delaying its payment (hence the doubtful debt) and the company locked in their USD borrowings in 4Q14 at lower rate which led the forex loss (hence the unrealised forex loss).

Dividends  4.0 sen NDPS was declared totalling YTD NDPS to 7.0 sen which is lower than our assumption of 8.3 sen.

Key Results Highlights  Core net profit slid by 26% QoQ to RM4.1m in 4Q14 compared to RM5.5m in 3Q14, on the back of 13% fall in revenue. The drop in revenue was attributed to lower average selling price of plastics products due to lower raw material prices. Additionally, the higher operating cost (group blended distribution costs; +7.3% QoQ) at its China-based subsidiaries (contributes net profit of c.RM4-5m p.a.) impacted their plastics division profit margin.

 Net profit plunged by 51% YoY, mainly due to: (i) lower average selling price of TGUAN’s plastics products as mentioned above, (ii) lower demand of F&B products, and (iii) higher operating costs (blended group distribution costs and administrative expenses; +10.8% YoY) caused by China-based subsidiaries that compressed profit margin.

 For FY14, net profit contracted by 13% YTD to RM25.9m, mainly due to: (i) lower contributions from its China-based subsidiaries as stated above and; (ii) lower margin from plastic division (PBT margin of 2.4% in FY14 versus 4.4% in FY13).

Outlook  Currently, TGUAN is not enjoying any margin improvement from lower raw material prices as the company had stocked up high inventories level. Thus, TGUAN expects to only benefits from lower raw materials prices from 2Q15 onwards.

 TGUAN is targeting to add another two new Purewrap production lines in 4Q15, which will increase its current Purewrap capacity to 15,000MT p.a (from 12.000MT p.a.). The company is expanding its sales team to ensure utilization of their current capacity (which stands at 70-75%). Hence, we expect higher 2016 earnings contribution from the expansion.

Outlook  We are still positive on TGUAN’s longer-term outlook underpinned by: (i) continued capacity expansion plan in order to capture new sales orders, (ii) 6 micron pre-stretch product which is well accepted by clients from South Africa and Australia, and (iii) restructuring of their China’s plant to reduce operating cost.

Change to Forecasts  We reduce our FY15E NP by 14.7% to RM29.4m after: (i) some housekeeping measures, (ii) increasing our raw materials average price by 7% as crude oil prices is currently hovering at USD60/bbl compared to USD45/bbl previously, and (iii) reducing our utilisation rate forecasts to the range of 60%-70% (from the range of 80%-85%).

 We introduce our FY16E NP of RM31.2m based on assumptions of: (i) capacity expansion from Purewrap and garbage bag segment (Purewrap - 15,000MT p.a. vs 12,000MT p.a. in FY15 with 70% utilisation rate; Garbage bag – c.5% increase in capacity with 70% utilisation rate), and (ii) earnings contribution from its new nano-technology stretch film machines (+7% revenue growth in stretch film segment by assuming utilisation increase to 75% vs 70% in FY15).

Rating Maintain OUTPERFORM

Valuation  Our TP is reduced to RM2.80 (from RM3.28) after the earnings cut. Our valuation methodology is based on a targeted PER of 10.0x on FY15E basic EPS of 28.0 sen (note that conversion of ICULS will only take place after two years, hence, there is no dilution in the short-term).

 Our targeted PER of 10x is based on 10% discount to its closest peer SCIENTEX (which is ascribed a PER of 11x for its manufacturing segment). The discount is applied as it has relatively smaller market cap compared to SCIENTX and illiquid trading volume.

Risks to Our Call  (i) volatility of plastic resins prices

 (ii) foreign currency risk

 (iii) lower contributions from its China-based subsidiaries 

Source: Kenanga