KAREX’s 9MFY24 results beat our forecast. Its 9MFY24 net profit almost tripled driven by strong margins on an improved product mix. Its outlook will be buoyed by the roll-out of high-margin synthetic products. We raise our FY24-25F net profit forecasts by 5% and 4%, respectively, lift our TP by 4% to RM1.10 (from RM1.06) and maintain our OUTPERFORM call.

KAREX's 9MFY24 net profit of RM18.6m surpassed our expectation, coming in at 79% of our full-year forecast (consensus estimate is not available in the absence of coverage apart from ourselves). The key variance against our forecast came from a better-than-expected product mix, resulting in higher margins. It surprised the market with a 0.5 sen dividend, bringing YTD DPS to 1.0 sen (compared to our previous estimate of 0.5 sen). Consequently, we raise our full-year DPS forecast to 1.0 sen, translating into a payout of 42% (KAREX has a dividend payout policy of at least 25%).

YoY, its 9MFY24 top line fell 3% primarily due to weakness in the the tender market, partially cushioned by robust demand for personal lubricants. This is reflective of its conscious decision to shift its focus away from the less steady and less lucrative tender market (of which funding comes predominantly from humanitarian aid programmes and has been affected by regime changes in certain third-world countries). However, its net profit almost tripled driven by a higher gross margin of 33.2% (from 25.4% a year ago) on an improved product mix and stabilised input cost, efficiency gains and favourable exchange rates.

QoQ, its 3QFY24 top line was flattish as higher condom sales in the tender market (on the delivery of order backlogs from previous quarters) was offset by lower sales of lubricants and probe covers in the commercial market. Its net profit declined by 18% as gross profit margin softened to 33.7% (vs. 35.3% previously) on a less favourable product mix.

Outlook. KAREX is poised to benefit significantly from the increase in global condom demand, projected by industry experts at a CAGR of 8%-9% over the coming decade. It is riding on the trend towards premium products that fetch higher margins. In addition, it is benefitting from the more benign input and freight costs. It is also poised to obtain the CE certification (compliance with EU safety, health and environmental protection requirements) by Jun 2024 and US FDA approval in 1HFY25 for its new synthetic condom products, which should start to contribute from 2HFY25.

Forecasts. We cut our FY24-25F turnover projections by 13% and 16% respectively to reflect lower sales in the tender market. However, we raise our FY24-25F net profit forecasts by 5% and 4%, respectively, after incorporating a higher gross profit margin of 33% (previously 30%) due to a favourable product mix.

Valuations. Consequently, we raise our TP by 4% to RM1.10 (from RM1.06) based on an unchanged FY25F targeted PER of 25x, at a 20% premium to the average historical 5-year forward PER of its international peers to reflect its dominant market position and strong growth prospects. There is no adjustment to our TP based on ESG given a 3-star rating as appraised by us (see Page 4).

Investment case. We continue to like KAREX for: (i) its leading market position and global reach in the rapidly growing condom industry, projected by industry experts at a CAGR of 8% to 9% over the immediate term; (ii) its strong R&D and product innovation; (iii) its adherence to international standards and certifications, (iv) its strategic shift in moving up higher the value chain, and (v) growing preference for high quality innovative condom products. Maintain OUTPERFORM.

Risks to our call include: (i) reduced spending by government around the world on birth control, (ii) underwhelming response to its new synthetic rubber condoms, (iii) a less favourable product mix, and (iv) inability to raise prices to defend profit margins.

Source: Kenanga Research - 23 May 2024