We are positive on Thong Guan Industries Bhd (TGUAN) for the expansion to its existing premium stretch film line for higher volume growth with value added products for margin expansion. Sitting on a robust balance sheet and hefty net cash position of RM147.4m, we recommend BUY with a target price of RM3.40 based on 14.5x FY21 PER, as per the 5-year average valuation of industry players.

TGUAN started in 1942 as a tea trading company, the group has progressively moved up its value chain and is now the world’s top 10 stretch film producer. The company is also one of the largest plastic packaging manufacturers in Asia Pacific with production capacity of >150,000MT/annum. For FY20, over 90% of sales are underpinned by plastics products (stretch films - 45%, industrial bags - 16%, garbage bag -16%, courier bag - 6%, PVC food wrap - 5%, compounding - 1%), while F&B segment contributed 8% of revenue anchored by its own “888” brand. Over the years, TGUAN has built a strong presence in the export market (over 80% of revenue) and is the top garbage bag supplier to Japan conquering 12% of market share, testament to its stringent product quality control.

The packaging industry in Malaysia has over the years undergone consolidation, especially within the plastic packaging industry (eg Scientex’s acquisition of Great Wall Plastic, Klang Hock Plastic, Daibochi Bhd). In effect, the elimination of competition has enabled TGUAN access to new clients where previously was not possible. To this extent, TGUAN have been striving to move up the value chain since 2016 coupled with the setting up of its own R&D centre. Its premium Nano stretch film which garners higher margin than the conventional film has been gaining good traction and the Group plan to add additional four lines progressively till year 2023, with potential additional revenue of RM80mRM100m per line, representing ~10% of present revenue each line.

We gathered that TGUAN is running at full utilisation rate and orders are filled until July. Meanwhile, expansion plan is in the pipeline for the next 5 years, with an estimated yearly CAPEX of RM30m – RM40m. Next growth driver will lie on courier bags, which the Group is looking to double up capacity due to encouraging orders from U.S. giant e-commerce customers. Other expansion plans include additional 10 lines of premium blown film, 10 new lines of PVC food wrap, and new manufacturing facilities in Myanmar (targeting annual revenue contribution of ~RM150m).

Plastic film manufacturing is sensitive to price fluctuation of raw material (resin) by nature as resin made up majority of total cost. TGUAN operates based on cost-plus pricing strategy and is able to increase selling price in the case of rising resin prices, while the time lag effect in selling price adjustment could lead to near term margin expansion. Historically, the Group has been paying at an average dividend payout ratio of 25% since 2017, giving a projected yield of 2.4% in FY21.

Source: Rakuten Research - 21 Apr 2021