Hartalega’s 9MFY15 earnings were slightly below our and consensus’expectations. Nonetheless, we maintain our BUY call with a revised TPof MYR8.60 (21x 2016F P/E, 13.9% upside) from MYR8.04 previously.Earnings improved QoQ on increased sales volume, declining rawmaterial prices and a stronger USD. Capacity expansion is on track withthe Jan 2015 commissioning of two production lines.

Marginally weaker results. Hartalega’s 9MFY15 (Mar) earnings were slightly below our and consensus estimate at 70%/68% respectively. In 3QFY15, both revenue and net profit improved QoQ (+4.1%/+3.4% respectively) on the back of increased sales volume and stronger USD. EBITDA and net margins remained flat QoQ around 20%/17% respectively. On a YoY basis, 3QFY15 earnings fell 14.3%, due to start up costs from the planned addition to capacity incurred throughout FY15.Nevertheless, we believe that this is within market expectations as investors focus on future growth prospects.

Capacity expansion on track. Progress at the Next Generation Complex (NGC) is on schedule with the commissioning of two production lines from Plant 1 and Plant 2 in Jan 2015. Management expects further production lines to come on stream progressively throughout the year. In total, Hartalega expects 2015 capacity to increase to 22bn pieces from 15bn last year.

Earnings tweaked. Start-up expenses from planned capacity expansion were higher than forecast. Hence, we trim our FY15/16 full-year earnings forecast accordingly by 5%/1.2% to be more conservative. We believe that an improved 4QFY15 is in store, boosted by additional capacity from the newly commissioned lines from Plant 1 and Plant 2.

Maintain BUY. Maintaining an unchanged valuation band, we rollforward our revised earnings estimate to 2016F to reflect forward growth expectations. We maintain a BUY recommendation with a TP of MYR8.60 (21x CY16F P/E, 13.9% upside) from MYR8.04 previously. We think this is justified, given Hartalega’s leadership in the nitrile glove segment and its superior margins relative to the glove industry.

Favourable macroeconomic themes
Attractive earnings profile.Amidst the uncertain market environment, the rubber glove sector offers investors a safe-haven earnings profile that exhibits resilience due to the association with the healthcare sector, coupled with growth characteristics on the back of aggressive capacity-led earnings expansion. Hartalega expects to increase capacity at an annual average of 34% to 27bn pieces (from 15bn) in the next two financial years, accompanied by a 2-year forward earnings CAGR of 26.6%. Raw material cost.Prices of raw materials, nitrile and latex, remain subdued. We expect the weaker demand and stronger supply situation in the rubber market to
persist, thus keeping prices of natural latex low. We also expect the current weakness in the price of oil, from which nitrile is derived, to keep nitrile prices favourable as well.

Utilities cost.The Malaysian Government in the recently revised budget announced the postponement of scheduled gas and electricity tariff hikes for 2015. Combined, both gas and electricity make up roughly 10% of Hartalega’s operating costs. USD strength.The stronger USD relative to MYR is a boon to Hartalega as revenues will be proportionately more sensitive to the USD relative to costs. This is because >90% of revenue is denominated in the USD, while around 40% of cost is denominated in MYR. The USD has strengthened 5.8% against the MYR since Dec 2014.

Source: RHB