1H17 PATAMI of RM156.4m (-33% YoY) came in within expectations at 43%/45% of our/consensus full-year net profit forecasts. This quarter marks the third consecutive quarterly earnings improvement underpinned by higher ASPs and margins improvement. We expect earnings to gain further momentum in 2H17 driven by new capacity expansion and higher ASPs. Maintain our earnings forecast and TP of RM5.92 based on an unchanged 20x PER over our FY17E EPS of 29.7sen.

Key Result Highlights

QoQ, 2Q17 revenue rose 8% due to higher ASPs (+3%) which more than offset lower volume sales (+1%). This quarter marks the 3rd consecutive quarterly earnings improvement. At pre-tax profit level, PBT rose 14% to RM102.7m, thanks to a 1ppts improvement in pre- tax margin from 11% in 1Q17 to 12% in 2Q17 (2nd successive quarterly margin improvement) due to higher ASPs, improvement initiatives focused on automation leading to better economies of scale and strengthening of USD vs MYR (+6% QoQ). Correspondingly, 2Q17 PATAMI rose 13% to RM83.1m. No dividend was declared in this quarter as expected.

YoY, 1H17 revenue rose 9.6% due to higher volume sales (+8%) and flattish ASPs. However, 1H17 PATAMI was dragged down 33% due to margins compression as a result of higher input material cost and intense price competition. In 2Q17, average natural rubber latex price hit a 5-year high, surging 33% to RM5.95/kg compared with 1Q17. Similarly, the average price for nitrile latex also increased to USD1.08/kg, up 10.2% compared with 1Q17.

Outlook. Post wintering months of between Dec till April, we expect input latex cost to trend downwards and hence volume sales to pick up again as buyers return to the market to replenish. We believe due to the higher ASPs as a result of higher input latex cost, buyers will adopt a less aggressive buying attitude in anticipation of lower ASPs post wintering months. We expect ASPs in the subsequent quarter to be raised further due to the lag effect in passing cost through as a result of higher natural gas and raw material (latex) costs, which should contain high operating costs and put brakes on further margin compression in subsequent quarters. Most importantly, the upwards continuous improvement in ASPs (3rd consecutive quarterly ASPs improvement) is pointing towards further margins expansion in subsequent quarters. The slower-than-expected new incoming capacities could lead to less intense nitrile glove competition, which appears to be subsiding. As an indication, this quarter’s higher ASPs further amplify that price competition has abated, which should augur well for Top Glove’s earnings in subsequent quarters.

Over the next two to three quarters, Top Glove earnings will be underpinned by the completed Factory 6 in Dec 2016 (Thailand; 1.4b pieces). Beyond Factory 6, Factory 30 (4.4b pieces), is being constructed and expected to commence production by May 2017. Concrete plans are also in place for Factory 31 (Klang), for which Phase 1 will commence by November 2017 (previously August) with a production capacity of 2.8b gloves per annum. F32 with a capacity of 4.8b pieces per annum is expected to commence by Dec 2018 which the Group will have a total of 632 production lines and a production capacity of 60b (+20%) gloves per annum.

Maintain OUTPERFORM and TP of RM5.92 based on an unchanged 20x PER over our FY17E EPS of 29.7sen. Key risks include higher- than-expected raw material cost and lower-than-expected ASPs.

Source: Kenanga Research - 17 Mar 2017