TGUAN’s 1QFY23 results disappointed due to a soft top line and  higher operating cost. It is navigating the current downtrend in  global demand for plastic packaging by expanding its capacity at  a measured pace and growing its client base. We cut our FY23F  and FY24F earnings by 14% and 18%, respectively, trim our TP by  2% to RM3.22 (from RM3.28) but maintain our OUTPERFORM call.

Below expectations.1QFY23 core net profit came in at only 18% of  both our full-year forecast and the full-year consensus estimate. The  key variances against our forecast came from a soft top line but higher  operating cost, particularly, staff and utility costs.

Results’ highlights. YoY, 1QFY23 revenue dropped by 6% due to  lower ASPs across the board in tandem with the decline in raw  material prices amid a slowdown in the global economy for its plastic  packaging segment (-8%), partially cushioned by its sales to the food  and beverages segment (+20%). Net profit declined by a larger 15%,  weighed down by higher labour and utility costs.

QoQ, 1QFY23 revenue held up as demand and ASP stabilised  sequentially. However, net profit declined by 25% as a better product  mix that skewed toward higher margin products was unable to cushion  higher overheads as mentioned.

Outlook. The demand outlook for the plastic packaging sector in 2023  appears favourable, especially for 1HCY23, dampened by slower  global economic growth. As such, we believe TGUAN will expand its  capacity at a measured pace and grow its client base to enable it to  gain market share from overseas competitors. We understand that it made a rather impressive debut in the recent “Interpack” plastic and  packaging trade fair in Düsseldorf, Germany.

TGUAN will continue to expand its capacity by installing more  machines (stretch and blown film machines) in its 16-acre plant to  secure more orders, and actively seek potential customers. TGUAN  revealed that its current utilization rate is at 65%-70% (optimal 75%- 80%).

Forecasts. We cut our FY23F and FY24F earnings by 14% and 18%,  respectively, to reflect a softer top line but higher operating cost.

We trim our TP by only 2% to RM3.22 (from RM3.28) as we roll forward our valuation base year to FY24F with an unchanged ascribed  PER of 11x, at a discount to the sector’s average historical forward  PER of 13x to reflect TGUAN’s low share liquidity. There is no adjustment to our TP based on ESG given a 3-star rating as appraised by us (see Page 4).

We like TGUAN for: (i) the growth potential of the local plastic  packaging sector as Malaysian players like TGUAN are gaining market shares from overseas producers that are losing their  competitiveness due to the rising production cost, (ii) TGUAN’s earnings stability underpinned by a more diversified product portfolio,  and (iii) its expansion plans for premium products (nano stretch films,  courier bags, food wraps and some industrial bags (wicketed bags,  oil/flour/sugar bags). Maintain OUTPERFORM.

Risks to our call include: (i) sustained higher resin cost, (ii) the  demand for packaging materials hurt by a global recession, and (iii)  prolonged labour shortages.

Source: Kenanga Research - 23 May 2023