In an announcement to Bursa Malaysia, Kossan Rubber Industries (Kossan) clarified that the RM1.5b integrated glove manufacturing project in Bidor, still in the planning stage, is expected to begin construction in 2019 and completed within eight years, once all relevant approvals are obtained. We maintain our FY18E/FY19E NP as earnings contribution is only expected over the longer term. Our TP is pegged at RM3.45 based on 20x FY19E EPS. Maintain UNDERPERFORM.

Building glove plants in Bidor starting from 2019. In an announcement to Bursa Malaysia, Kossan Rubber Industries (Kossan) clarified that the RM1.5b (works out to RM190m capex) integrated glove manufacturing project in Bidor, which is still in the planning stage, is expected to begin construction in 2019 and completed within eight years, subject to all relevant approvals being obtained. When completed, Kossan’s Bidor plant alone could see glove production capacity of 34bn pieces per annum, which will more than double from 25b pieces currently (once Plant 16 is fully commissioned). However, we are uncertain about the expansion works at Bestari Jaya (56 acres) of which the land was purchased somewhere in 2013 for RM35.4m.

Recall, Kossan is buying two pieces of leasehold land measuring approximately a total of 824.1 acres located in Bidor, Perak, for a cash consideration of RM82.4m from Perbadanan Kemajuan Negeri Perak. The price works out to RM100k per acre or RM2.29/sq ft. We expect Kossan to spend a bit more capex into this land, including widening the access road. This proposed acquisition is expected to be completed by 1Q 2019. Amplifying the strong demand for nitrile gloves, the land is most likely be used to house factories for the production of nitrile gloves.

Expect flat sequential 2Q18 earnings. Since there is no new capacity expansion in 2Q18, we expect Kossan’s 2Q18 PATAMI (due out by mid-August) to mirror that of 1Q18, which is RM44.5m. Hence, we expect 2H18 to be better as the new plant started commissioning by July 2018. This will bring 1H18 PATAMI to RM89m, which is within expectations at 43%/41% of our and consensus full-year forecasts.

Outlook. Looking ahead, the glove former issue that affected Plant 16 has been resolved with most lines commercially ready by July 2018 following two scheduled delays. Plant 16 has an installed capacity of 3b pieces per annum and will focus on the Group’s patented Low Derma Technology gloves. With the completion of Plant 16, the Group is now operating at 25b pieces capacity (+14%). In anticipation of higher demand for Low Derma nitrile gloves, the group has started the construction works for Plant 17 and 18. These two new plants equipped with high speed dipping technology and high degree of automation are capable of producing up to 4.5b pieces (+18% of current production capacity, at 1.5b and 3.0b pieces, respectively) of nitrile gloves per annum once completed in 3Q18 (Plant 17) and 1Q19 (Plant 18).

Reiterate Underperform. We maintain our FY18E/FY19E NP as earnings contribution is only expected over the longer term. Our TP is RM3.45 based on unchanged 20x FY19E EPS (+1.0 SD above 6-year historical forward mean). Anecdotal evidence suggests that Kossan’s share price rally was led largely by massive PER expansion compared to pedestrian earnings growth over the past several quarters.

Key risk to our call is faster-than-expected commissioning of the new plants.

Source: Kenanga Research - 10 Aug 2018