Supermax Corporation (SUPERMX) recently organised a small group briefing for analysts and fund managers, which includes visits to its new contact lens factory and the long-delayed new rubber gloves plant in Klang that has been gradually ramping up capacity. All in, we are cautiously optimistic on SUPERMX regarding its new gloves' capacity expansion plans to drive growth over the next two years. Separately, the solid industry volume growth, longer delivery lead days, sustained weakening of the Ringgit against the USD and higher margin product mix skewed towards nitrile could see further margin expansion in subsequent quarters. Key takeaways includes: (i) outline details of future expansion plans, and (ii) manufacturing contact lens to provide an additional source of recurring earnings over the longer term. Maintain Outperform and TP of RM3.80 based on 17x FY17 EPS (at +2.0 SD above its historical forward average). We like Supermax for: (i) volume expansion from the gradual ramp up of new plant to provide earnings growth over the next two years, (ii) steep 40% discount to the sector average compared to 30% previously, and (iii) potential earnings stream from contact lens manufacturing, which will diversify its earnings base.

Finally, plant 10 and 11 to drive growth going forward. These two plants are expected to ramp up capacity by 32% to 23.2b pieces by 3Q 2016. The two plants, namely plant 10 and plant 11, catering entirely to produce nitrile gloves, have started commissioning and are presently running 8 double former lines equivalent to 2.2b pieces (installed capacity rose 12% to 19.8b pieces as at 31 Dec 2015). The remaining balance 3.4b pieces capacity is expected to be commercially ready based on the following: (i) 4 double former lines (1.1b pieces) expected Feb-Mar 2016, (ii) 4 double former lines (1.1b pieces) expected April 2016, and (iii) 4 double former lines (1.1b pieces) expected by May 2016. With the new incoming capacity and longer delivery lead days indicating strong demand for nitrile gloves, SUPERMX is in a sweet spot to deliver solid quarterly earnings growth over the next few subsequent quarters.

Big plans for Glove City and SUPERMX Business Park. During the briefing, SUPERMX outlined its plans for both Glove City (Bukit Kapar) and its previously acquired land in Serendah, otherwise known as SUPERMX Business Park. The Glove City, comprising four plants with an estimated total capacity of 31.6b pieces of which the first phase is expected to start construction in 3Q 2016 after plant 10 and plant 11 are fully commissioned with an estimated total CAPEX of RM930m over a period of 6-7 years. Typically, construction of a plant takes about 15 to 18 months. Approval for all infrastructures has been obtained and is now awaiting development order from the local council. Concurrently, the 100-acre land in Serendah (SUPERMX Business Park) is expected to be developed in 4Q 2016. To recap, the project will be located at the new site measuring 100 acres of which 16 acres will be utilised for the new venture into manufacturing contact lenses. The remaining land is earmarked for property development, which targets the gloves' manufacturing support businesses and factories with an estimated GDV of RM500m-RM525m. For illustrative purposes, assuming a conservative pre-tax margin of 20% (net: 15%), the project would generate a total net profit of RM75m over a 5-year period. We are not overly concerned with funding considering that SUPERMX has a net gearing of 28% as at 30 Sept 2015 and operating cashflow which we forecast will average RM180m-RM200m p.a. Additionally, profits gained from sale of the factories built for the supporting businesses can be ploughed back into the CAPEX for Glove City.

Venturing into contact lens, another stream of recurring income. SUPERMX briefly outlined details on its venture to manufacturing its own brand contact lens via leveraging on its current gloves distribution channels in overseas markets, including US, Brazil, Canada, UK and Hong Kong. SUPERMX has embarked into the manufacturing of contact lens in a small scale at its Sungai Buloh plant starting with the production of dry-lens (feedstock or semi-finished product for the production of prescriptive end-user contact lens). To recap, SUPERMX contact lens manufacturing is currently operating in clean room facilities complete with equipment for commissioning, production and testing (performance and qualification test) facilities fitted with two production lines. Currently, they are undertaking stability test in order to produce the finished product. Once all ISOs certifications are completed, Supermax can start registering their products. All in, the contact lens plants are to be constructed in four phases. Each phase will have integrated manufacturing facility encompassing Researh & Development, formulating of monomers, cast mouldings, fillings, curing, delensing, packaging, sterilisation, warehousing & distribution facilities. We understand that the Phase 1 of production of contact lens with a capacity of 40m pieces is targeted in 4Q 2016 at Serendah with CAPEX estimated at RM50- 70m. We were not guided in terms of ASPs, volume and margins for the business. However, listed manufacturer like Cooper Vision (subsidiary of Cooper Companies, a global medical device company) revealed that gross margin for the business ranges between 57% and 65%. As an indication of market size for the contact lens market, based on market data for contact lens, the global contact lens sales exceeded USD7.5bn in 2014 registering an 8-year CAGR of 8.75%.

Maintain Outperform and TP of RM3.80 based on 17x FY17 EPS (at +2.0 SD above its historical forward average). Since we were unable to quantify the contact lens manufacturing earnings impact to Supermax bottomline (no guidance on ASPs, margins and volume), we are not factoring in any earnings contribution into our earnings model until we get more clarity from management. Meanwhile, we like Supermax for: (i) volume from gradual ramp up of new plant to provide earnings growth over the next two years, (ii) steep 40% discount to the sector average compared to previously 30%, and (iii) it is not just purely a play on rubber gloves, but it may potentially see recurring earnings stream from the contact lens business. 

Source: Kenanga Research - 21 Jan 2016