We recently met up with SLP’s management and came off still very positive on its future prospects with the foreign exchange rates remaining in its favour while raw material cost has declined due to excess resin supply flooding the market. This has prompted us to lower our raw material cost estimates by 15-11% for FY15-16E. Additionally, the company is set to benefit from tax incentives, which could lower its effective tax rate to 22-23% from 25-25% in FY15-16E. As a result, we have increased our FY15-16E earnings by 14-6%. Maintain OUTPERFORM on SLP with a higher TP of RM1.87 (RM1.76) based on an unchanged targeted PER of 15.5x and higher FY16E EPS of 12.0 sen (from 11.3 sen).

Automation led to 30% increased efficiency in new machines. So far, its capacity expansion is on track as the company has recently (in late August 2015) commenced production in 10 new automation lines, which are expected to contribute an additional 300MT/month to a total capacity of 2,000MT/month. Notably, efficiencies of the new machines are higher (est. 30% higher) with more automation in place, which should lead to better labour cost control and margin enhancements.

…while down-trending raw materials cost and tax incentives will boost margins. We expect raw material cost to decline going forward because of excess resin supply in the market. Besides lower oil prices and USD exchange rates, there is an excess global resin supply as China has increased its production capacity to support local demand. Hence, we believe resin cost has declined closer to USD1,050MT/month currently, from >USD1,300MT/month (current assumptions for FY15-16E) and we expect this lower cost environment to persist in the near-term, within the next 1 year. Tax incentives arising from automation CAPEX (double capital allowance entitlements) should lower taxable income closer to 22-23% in FY15-16E (from 25-25%). Overall, we are upping our FY15-16E net margins by 2.9-1.8ppt to 14.1-15.4%.

 Increased USD/MYR assumptions to RM4.00-RM4.10 in FY15-16E (from RM3.65-3.60). We have increased our USD/MYR exchange rate estimates to RM4.00-4.10 (from RM3.65-3.60) as the exchange rates continue to benefit SLP being a net exporter. 1H15 export sales constituted 52.0% (vis-à-vis 46.0% in FY14) of total sales and this may continue to grow further assuming the current exchange rate remains. We may look to upgrade our earnings forecasts going forward should the USD continue to strengthen.

Diversifying client base and more high-margin products from diapers. SLP is diversifying its customer base for its new capacity expansions whereby 150MT/month will be diversified among 3 new clients, (from 1 client previously), limiting concentration risks. Part of this new expansion plan includes a diaper product which has extremely thin thickness at 10gsm vs. other brands at 18gsm. Due to the lesser amounts of raw materials used, this product will be a new high margin product, which we have already accounted in our estimates.

New facility expansion plans in Kulim. The group is in the planning stages of establishing a new RM25.0m manufacturing facility in Kulim, adjacent to the existing one, increasing total capacity to 38,000 tonnes by FY18 (from 24,000 tonnes by end-FY15). This could potentially add another RM60-100m to revenue, depending on the product mix at the new facility by FY18.

Increased earnings by 14-6% to RM24.3-29.8m in FY15-16E. We have increased our earnings estimates by 14-6% to account for the net positive impact of: (i) lower raw material cost, (ii) higher USD/MYR exchange rates, (iii) lower tax incentives, and (iv) lower trading volume.

Maintain OUTPERFORM on SLP and increase our TP to RM1.87 (from RM1.76). Our valuation methodology is maintained at a targeted PER of 15.5x on FY16E EPS of 12.0 sen. To recap, we have pegged SLP above other industrial packagers (SCIENTX and TGUAN) as it : (i) is a beneficiary of a strengthening USD, (ii) is a strong export-driven company, (iii) commands strong NP growth prospect of 100.0-22.5% in FY15-16E, vs. other industrial packagers’ of -2.4%- 13.2%, and (iv) enjoys better margins of 14.1-15.4% in FY15-16E vs. other industrial packagers’ 3.5%-4.5%. 

Source: Kenanga Research - 25 Sep 2015