Expect solid YoY 3QFY19/9MFY19 earnings growth. Tell-tale signs of pent-up demand for nitrile gloves potentially on re-stocking activities (gleamed from industry longer delivery lead times) are pointing towards a better quarter in 3QFY19. We expect its core 3QFY19 PATAMI, which results are due to be released by end-Nov 2019, to be higher QoQ and YoY due to: (i) new capacity expansion from plant 18, (ii) overall production back to normalcy following the completion of maintenance works across the Group’s plants, and (iii) better margins due to high operating efficiencies from new plants. For illustration purposes, assuming partial commencement of plant 18, re-commissioning of Group’s plants following revamp and upgrading works in 2QFY19, net margin of 11%, and ASP of 9.7 sen/piece, 3QFY19 PATAMI could come in at RM65m (+16% QoQ; +20% YoY). This brings 9MFY19 PATAMI to RM180m (+27%), which is within expectations at 72%/76% of our and consensus full-year forecasts.

Sturdy new plants, margins to improve. We expect gradual margins expansion from the fully-completed Plant 16, Plant 17 and eventual completion of Plant 18 and 19 by 2019. This is simply because the new plants are designed to save on heating and electricity cost via the use of computerised control system and efficient usage of a single boiler instead of two as in the older plants.

Plant 17,18 and 19 to boost earnings over next two years. Looking ahead, Plant 16 and Plant 17 are expected to anchor subsequent quarters’ earnings, which was fully commissioned in Aug 2018 and end 2018. Plant 18 (2.5b pieces) has commenced operations with six lines currently commissioned and the remaining two expected to be fully commissioned by end Nov 2019. Plant 19 (3.0b pieces) are currently on track, with expected full commissioning latest by 1H 2020. Upon completion, these three new plants will add an additional 7b pieces of gloves per annum, bringing the group’s total installed capacity to 32b (+28%) pieces of gloves per annum. Looking ahead, the Group expects construction of the Bidor plant to take eight years to complete, costing RM1.5b (works out to RM190m capex per annum) for an integrated glove manufacturing project, subject to all relevant approvals being obtained. The expected capacity at the Bidor plant is estimated at 34b pieces per annum, which will more than double from 32b pieces currently (once Plant 18 and Plant 19 are fully commissioned).

Stock under-appreciated with unwarranted PER discount valuation to peers, Maintain Outperform. We maintain our FY19E/FY20E earnings forecasts. Our TP of RM5.25 is based on 25.5x FY20E EPS (+1.0SD above 5-year historical forward mean). We like Kossan because reiterating the fact that it is trading at an unwarranted 25% discount to peers’ PER average considering that its net profit growth is the highest at 23.7% compared to peers average at 7%. Reiterate Outperform.

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

Source: Kenanga Research - 13 Nov 2019