1H19 PATAMI of RM215.8m (+0.6% YoY) came in within our expectation at 46%, but below consensus at 42%, of full-year net profit forecasts. Valuations appear undemanding and we believed that all the negatives could have been priced in. However, the sector still lacks positive catalysts over the short-to-medium term. The share price has drifted nearer to our TP after a 21% YTD retracement; hence, we upgrade our rating from UP to MP. TP is RM4.20 based on 23x FY19E EPS.

1H19 PATAMI of RM215.8m (+0.6% YoY) came in within our expectation at 46%, but below consensus at 42%, of full-year net profit forecasts. No dividend was proposed in this quarter as expected.

Key result highlights. QoQ, 2Q19 revenue fell 8% due to higher sales volume (+1%) but was dragged down by lower ASP (-8%) arising from a downtrend in raw material costs and some pricing pressure as a result of competitive pressure. 2Q19 PBT fell 11.6% as PBT margin fell 0.4ppt to 10.8% from 11.2% in 1Q19 due to intensifying competition and strengthening of MYR against the USD. This brought 2Q19 PATAMI to RM105.8m (-3.9%) due to a lower effective tax rate of 15% compared to 21.3% in 1Q19. Note that Top Glove China in 2Q19 suffered a small operating loss of RM0.4m compared to an operating profit of RM1.4m in 1Q19 due to oversupply of vinyl gloves.

YoY, 1H19 revenue rose 27.7% to a record high of RM2,421.9m due to higher sales volume (+18%) and ASPs (+8%). The improved results followed strong demand growth stemming from developed and emerging markets from Asia, Eastern Europe and Latin America. 1H19 PBT margin was crimped by 2.0ppt to 11.0% compared to 13.0% in 1H18 due to higher interest cost from the funding for M&As and ASPs pressure coupled with intense competition in the nitrile segment. As a result, 1H19 PATAMI was flat (+0.6%) to RM215.8m due to the higher effective tax rate of 18.3% compared to 12.4% in 1H18.

Outlook. Looking ahead, Top Glove is in the process of constructing several manufacturing facilities namely, Factory 32 (Phases 1 & 2 to commence production by 2Q and 3Q 2019 respectively; 3.4b pieces), Factory 33 (operational by 2Q 2019; 1.2b pieces), Factory 2B (operational by 4Q19; 0.8b pieces), Factory 5A (operational by 4Q 2019; 2b pieces), Factory F40 (operational by 1Q 2020 and 4Q 2019; 3b pieces), Factory F41 (operational 2Q 2020; 2b pieces) Factory F42 (operational by 4Q 2020 delayed from 3Q 2020; 4.8b pieces), and Factory 8A (operational by 3Q 2020 delayed from early 2020; 3.2b pieces) which will boost the Group’s total number of production capacity by 20.4b gloves per annum to 80.9b (+33%).

Upgrade from UNDERPERFORM to MARKET PERFORM. TP is RM4.20 based on 23x FY19E EPS (+0.5 SD above 5-year forward historical mean). We believe all the negatives could have been priced in with valuations trading at a more palatable PER of between mean and +1.0SD five-year forward average which appears undemanding. However, the sector lacks positive catalysts over the short-to-medium term. Since the share price has retraced 21% YTD and is approaching our TP, we upgrade our rating from Underperform to Market Perform.

A key upside risk to our call is the higher-than-expected sales volume.

Source: Kenanga Research - 25 Mar 2019