Hartalega organised a conference call with the sell-side analysts and fund managers to allay concerns pertaining to foreign workers remediation fees. Separately, we highlight that 1QFY22 ASP would be still higher QoQ, but expected to taper from 2QFY22. We lower our FY22E net profit by 6.5% to account for lower utilisation rate. In our view, the anticipated ASP weakness is already discounted by the share price. Reiterate OUTPERFORM with lower TP from RM15.76 to RM13.80 based on 15x CY22E EPS. Reiterate OUTPERFORM.

Foreign workers remediation fees explained. As part of its ongoing social compliance journey, Hartalega has completed its remediation of recruitment fees totalling RM40m within eight months on 4 June 21. Reimbursements were made to existing workers recruited prior to the implementation of its Zero Recruitment Cost Policy on 1 April 2019, even though Hartalega had previously paid recruitment fees to employment agents during the recruitment process. To ensure the Zero Recruitment Cost Policy was properly enforced, Hartalega has established four checkpoints namely that during the interview stage in the source country, before departure to Malaysia, on arrival in Malaysia and three months into employment with Hartalega, whereby workers required to pay any fees. The group is engaging with current workers to identify and remediate those who may not have reported payments that they may have made. Even in cases where proof of payments by workers could not be established, these workers were given the benefit of doubt and remediated accordingly. Reflecting Hartalega’s commitment to continuously enhancing its social compliance practices, the Group has rolled out the next phase of its remediation programme. This entails extending the programme to former workers of Hartalega who had left the company. The Group’s efforts to combat forced labour are guided by local and international policies, including the International Labor Organization’s 11 Indicators of forced labour.

1QFY22 ASP still higher QoQ, though expected to taper from 2QFY22. We highlight that 1QFY22 ASP will continue to show QoQ improvement but subsequently taper in 2QFY22. Due to the over ordering over the past 15 months since the pandemic started, the market is currently undergoing through a phase of inventory adjustment. However, management expect orders to creep up from Aug 2021 and hence do not expect excessive downwards pricing pressure. Management has guided ASP to taper by 20% in 2QFY22. ASP trend is expected to soften albeit at a slower pace going forward as lead times have been reduced to between 90 to 120 days from 150 days previously. Post COVID-19, inventory restocking cycle is expected to spur demand coupled with increased usage arising from new users and increased hygiene awareness. According to Malaysian Rubber Glove Manufacturers Association, the demand surge for rubber gloves will last beyond 1Q 2022 with growth rate averaging between 15% and 20% going forward.

Trim FY22E net profit by 6.5% as we factor in lower utilisation rate of 92% from 98% into our earnings model.

Reiterate OP. Correspondingly, TP is downgraded from RM15.76 to RM13.80 based on 15x CY22E EPS of 92 sen (at -1.0SD below 5-year historical forward mean) (previously 17x). Our target PER is at a 35% discount to normalised 5-year pre-COVID-19 historical forward mean averaging 26-28x. We still see significant value in Malaysian glove players which command 65-68% of global market share and have consistently evolve and innovate in terms of products and plant modernization via automations. In our view, at current price levels, the weakness reflects an overly bearish decline in ASP in subsequent quarters ahead.

Risk to our call is lower-than-expected ASP.

Source: Kenanga Research - 15 Jun 2021