KEY INVESTMENT HIGHLIGHTS

• Demand likely to remain strong until 1HFY21

• ASP appear toppish in 2HCY20

• Expansion in place to sustain volume growth plan

• Bonus issue slated for completion in October

• Maintain NEUTRAL with a revised TP of RM14.58

Demand likely to remain strong until 1HFY21. Kossan Rubber Industries (Kossan) held an investor briefing on Friday. Based on management updates, supply for rubber gloves remain tight, which bodes well for average selling prices (ASPs). As the habit of end users changed, demand for gloves are expected to remain strong at least until 2021. Some customers have even secured their orders until end-2021, with a more substantial number of them locking orders until mid-2021. Due to the strong demand, backlog orders will only be delivered one year later. From 2022 onwards, the supply-demand dynamics may be more balanced due to the additional capacity brought about by existing and new players.

ASP appear toppish in 2HCY20. Due to high demand, ASPs are expected to increase by another 25% in 3Q and another 45% in 4Q. Following the expected hikes in 2HFY20, we believe that any further increase in ASP in 2021 will not be as drastic. That is especially so if the number of active Covid-19 cases are brought under control. To-date, a total of 26.6 million cases are confirmed globally (refer to figure 1), according to the World Health Organisation (WHO). We also opine that the additional capacity added by all the players may fill in the gap of the overwhelming demand, thus easing further ASP spike. Although demand is likely to remain elevated until mid-2021, we believe that ASP growth quarter-on-quarter could slow down considering ASPs are already at the higher end of range. On top of that, it is reported that experts believe that Covid-19 vaccines are likely to be widely available by mid-2021.

Expansion in place to sustain volume growth plan. In August, Kossan has fully completed Plant 19, which is expected to increase its total capacity by 10%. Next year, it targets to add another 3.5 billion pieces per year to its capacity. The company targets to roll out its production capacity expansion plans progressively over time.

Raw material prices inching up. Following the increasing demand for nitrile gloves, prices for nitrile butadiene rubber are also expected to rise to as much as 18% by end of the year. The rise in ASPs, however, should be more than enough to offset the higher raw material prices.

Bonus issue slated for completion in October. The one-for-one bonus issue announced is expected to be completed in October. The purpose of this exercise is to reward existing shareholders and to improve the liquidity in trading of its shares while offering broadening the participation of investors.

Maintain NEUTRAL with a revised TP of RM14.58 (previously RM15.35). In view of the positives that are largely priced in, we revise our PER to 30.4x from 32.0x previously. Our ex-TP will be adjusted to RM7.29 following the completion of the bonus issue. The new PER is based on the average of the 5-year mean PER of the four glove companies under our coverage. On the other hand, our earnings forecast are unchanged. Our TP is still pegged to FY21F EPS of 48.0 sen. Downside risks include a plunge in ASP due to the shift in supply-demand dynamics, hike in raw material prices and disruption in operations. On the other hand, spike in Covid-19 cases, higher-than-expected ASP increase will drive earnings upwards. All in, we are NEUTRAL on the stock for now.

Source: MIDF Research - 7 Sept 2020