HARTA’s 9MFY23 results missed expectations due to a weak sales volume. Hopeful that selling prices have already bottomed out, it will attempt to raise prices in Feb/Mar 2023. We are uncertain if this is viable given the continued dumping by Chinese producers in the international market. Hence, we cut our FY23F net profit by 86% and now project a FY24F net loss of RM24m (instead of a profit). We trim our TP by 3% to RM1.35 (from RM1.39) and reiterate our UNDERPERFORM call.

HARTA’s 9MFY23 PATAMI of RM85m (-98% YoY) came in below expectations at only 49%/53% of our full-year forecast/full-year consensus estimate, weighed down by a net loss of RM32m in 3QFY23. The variance against our forecast came largely from weaker-than-expected sales volume and margins.

QoQ, 3QFY23 revenue fell 21% due to lower ASP (-8%) and volume sales (-14%). EBITDA plunged to RM10m due to: (i) excess capacity leading to reluctance of customers to commit sizeable orders and hold substantial stocks on expectations of further decline in prices, (ii) the sale of high-priced inventory at falling market prices which could well mean that certain shipments were sold at a loss, and (iii) reduced economies of scale, particularly, poor cost absorption, as its utilisation rate fell to 42% from 49% three months ago. This brings 3QFY23 net loss to RM32m compared to a profit of RM28m in 2QFY23. No dividend was declared in 3QFY23 which came in below our expectation. YoY, 9MFY23 revenue fell 73%, due to lower ASP (-64%) and sales volume (-24%). As a result, 9MFY23 PATAMI fell 98%.

The key takeaways from the analysts briefing yesterday are as follows:

1. It is hopeful that selling prices have bottomed out and will attempt to raise prices in Feb and Mar 2023. We are uncertain if this is viable as we gathered from sources that Chinese players are still undercutting by selling as low as USD14-16 per 1,000 pieces. Furthermore, the prospect of raising ASP is challenging due to the current massive overcapacity situation. Due to the current competitive pressure emanating from massive oversupply and low industry utilisation averaging 40%, 3QFY23 ASP of USD23 per 1,000 pieces is expected to trend lower in subsequent quarters towards USD20 per 1,000 pieces (compared to our FY23F/FY24F assumption of USD22/USD20 per 1,000 pieces).

2. There has been an uptick in orders for delivery in 4QFY23. However, we are unsure if this is sustainable given the massive overcapacity out there and buyers generally are still unwilling to place sizeable orders or hold substantial stocks on expectations of further decline in prices.

3. In an effort to diversify its income stream, the group is eyeing acquisition to strengthen its distribution business to complement its existing OBM (Own Brand Manufacturing) business. Presently, it has gloves distribution in India and Australia selling under its own brand name.

4. In view of the increasingly challenging business landscape, the group now mainly run the newer and more efficient factories under its stable while temporarily leaving the older ones idle.

Outlook. MARGMA projects 12%-15% growth in the global demand for rubber gloves annually from 2023, following an estimated 19% contraction to 399b pieces in 2022. It believes the supply-demand equilibrium may return in 6-9 months. However, we beg to differ, expecting the overcapacity situation to persist at least over the next two years. Based on our estimates, the demand-supply situation will only start to head towards equilibrium in 2025 when there is virtually no more new capacity coming onstream while the global demand for gloves continues to rise by 15% per annum underpinned by rising hygiene awareness. Still, capacity is seen to widen further in 2023. We project the demand for gloves to rise by 15% in 2023, which is consistent with MARGMA’s forecast. However, this will do little to ease the overcapacity situation as the global glove production capacity will grow by 16% to 595b pieces during the year as more capacity planned by incumbent and new players during the pandemic years—enticed by super-fat margins that had eventually evaporated—finally comes on-line. This will result in the excess capacity rising by 22% to 137b pieces from 112b pieces in 2022. The widened overcapacity means low prices and depressed plant utilisation will likely persist in 2023. Not helping the already dire situation is the reluctance of customers to commit to sizeable orders and hold substantial stocks on expectations of further decline in prices. Based on our estimates, the demand-supply situation will only start to head towards equilibrium in 2025 when there is virtually no more new capacity coming onstream while the global demand for gloves continues to rise by 15% per annum underpinned by rising hygiene awareness.

FY23F net profit is downgraded by 86% as we reduce utilisation to 45% from 50% and EBIDTA margin to 9% from 16%. We now project a net loss of RM24m in FY24 (instead of a profit of RM200m) as we reduce our utilisation assumption to 40% from 55% and EBITDA margin to 8% from 18%.

Reiterate UNDERPERFORM. We reduce our TP by 3% to RM1.35 from RM1.39 based on unchanged 0.9x FY24F BVPS, at a 50% discount to the sector’s average of 1.7x charted during previous downturns in 2008-2011 and 2014-2015 as we believe the current downturn could be one of the deepest ever. There is no adjustment to TP based on ESG given a 3-star rating as appraised by us (see Page 4). We are cautious on the stock due to: (i) oversupply to persist in the sector over the next two years as a result of massive capacity expansion by incumbent as well as new players during the pandemic years means low prices and depressed plant utilisation will likely persist in 2023, and (ii) ASP yet to bottom out.

Key risks to our recommendation: (i) the industry turning the corner sooner on stronger-than-expected growth in demand for gloves driven by rising hygiene standards and health awareness globally, (ii) industry consolidation reducing competition among players, and (iii) epidemic and pandemic occurrences.

Source: Kenanga Research - 8 Feb 2023