We are positively excited on Kossan’s prospects for the next few quarters following a quick meeting with the Investor Relations together with other sell-side analysts last Friday. The group is confident of sustained strong demand with orders filled up till end-1HCY21, reassuring that lag impact from ASP hike will be felt in 2H 2020. With ASP rising m-o-m starting from July, new plants are on track to gradually commence starting 1Q 2021. We raised our FY20E/FY21E net profit by 33%/23%. to account for higher margin. TP is raised from RM14.00 to RM17.10 based on unchanged 27x FY21E EPS. Reiterate OP.

ASP impact in 2H 2020, capacity plans on track. The group is confident of sustained strong demand with orders filled up till end- 1HCY21, reassuring that lag impact from ASP hike will be felt in 2H 2020, and ramped up in capacity is on track to gradually commence. Specifically, July and Aug ASP is up 20% and 40%, respectively compared to 2Q ASP with orders filled up till end 1H CY2021. In the meantime, the planned capacity over the next two years are i) plant 20 located adjacent to Plants 18 and 19 with 1.4b pieces capacity is expected to come on stream by early 2021; ii) recently acquired land in Meru located adjacent to one of its current plants is earmarked to build a single plant with 5b pieces capacity and to be completed in two phases i.e Phase 1 – 6 lines, 2b pieces commence in 2H 2021 and Phase 2 – 10 lines, 3b pieces commence in 1H 2022; and iii) Bidor – 12 lines with 4b pieces capacity to fully commission in 2H 2022. Upon completion, these three new plants will bring the group’s total installed capacity from 32b to 42.4b (+33%) pieces of gloves per annum.

Expect a solid 2QFY20. We expect its 2QFY20 PATAMI, which is due to be released by end-Aug, to be higher QoQ and YoY in tandem with solid sector growth due to higher volume and ASP, new capacity expansion from Plant 19 and better margins due to higher operating efficiencies from new plants. For illustration purposes, based on our net margin forecast of 20%, volume sales of 5b to 6b pieces and ASP of USD23/1000/pieces (USDMYR4.20); 2QFY20 PATAMI could come in at between RM96m and RM116m (+49% to +84% QoQ; +73% to +113% YoY) bringing 1HFY20 to between RM161m (+41%) and RM181m (+58%), at 24%/31% our/consensus full-year forecasts. However, due to the runaway ASP, we raise our FY20E/FY21E net profit by 33%/23% taking into account higher EBITDA margin, which we raised from 23%/25% to 28%/28%.

Undemanding 22x PER vs average net profit growth of 111%. TP is accordingly raised from RM14.00 to RM17.10 based on unchanged 27x FY21E EPS (at +1.0SD above 5-year historical forward mean). Anecdotal evidence suggests a further re-rating as Kossan is expanding capacity more aggressively compared to the past conservative approach. This potentially could fuel a potential further PER re-rating Reiterate Outperform.

Key risk to our call is lower-than-expected ASP.

Source: Kenanga Research - 27 Jul 2020