Kossan’s earnings prospect remains bright underpinned by take-ups for its Plant 16 and Plant 17 plus margins improvement due to better operational efficiencies from the new plants. BUY as Kossan is trading at a 25% discount to peers’ PER average with TP at RM5.25 based on 25.5x FY20E EPS.

We expect its core 2Q19 PATAMI to be higher QoQ and YoY due to: (i) new capacity expansion and better margins due to high operating efficiencies from new plants, and (ii) a favourable USD/MYR rate (+3% QoQ).

We expect gradual margins expansion from the fully completed Plant 16, Plant 17 and eventual completion of Plant 18 and 19 by 2019. This is simply because the new plants are designed to save heating and electricity cost via the use of computerised control system and efficient usage of a single boiler instead of two as in the older plants. Additionally, the introduction of robotic packing system would lead to two-third lesser manpower requirements at the packing division.

The older plants could see stable margins emanating from lower downtime due to their focus on larger orders for single product type and specification, thus reducing idle downtime from frequent machinery setting adjustments to accommodate diverse specifications.

Looking ahead, Plant 16 and Plant 17 are expected to anchor subsequent quarters’ earnings, which was fully commissioned in Aug 2018 and end 2018. Construction works for Plant 18 (2.5bn pieces) and Plant 19 (3.0bn pieces) are currently on track, with expected full commissioning by 3Q 2019 (two lines currently commissioned) and 4Q 2019, respectively.

Upon completion, these two new plants will add an additional 5.5bn pieces of gloves per annum, bringing the group’s total installed capacity to 35bn (+19%) pieces of gloves per annum by end-FY19. The Group expect construction, which will start somewhere in 2019, to take eight years to complete, costing RM1.5bn (works out to RM190m capex per annum) for an integrated glove manufacturing project in Bidor, subject to all relevant approvals being obtained. The expected capacity at the Bidor plant is estimated at 34bn pieces per annum, which will more than double from 32bn pieces currently (once Plant 18 and Plant 19 are fully commissioned).

Source: Rakuten Research - 5 Aug 2019