We think that despite the additional 2bn nitrile gloves capacity to drive 2HFY16 earnings, current valuations have priced in the potential upside. Maintain NEUTRAL, with a revised TP of MYR5.63 (from MYR6.92, 8% upside), as we believe:

1. Earnings would be negatively impacted more than other glove manufacturers from a stronger MYR exchange rate;

2. Increasing cost pressures amidst increasing industry competition would crimp margins.

Earnings outlook. Moving forward, we expect the recent strength of the MYR to negatively impact the earnings of Top Glove more than its peers due to its shorter forex duration hedging policy (one month vs the industry’s three-month average). RHB has also revised its USD forex assumption for this year to MYR4.18 (from MYR4.34). We trim our FY16F/FY18F earnings by 3%/9% respectively. Meanwhile, its 2QFY16 (Aug) earnings were in line, making up 55%/57% of our and consensus earnings respectively.

Capacity and cost pressures. It will be adding a 2bn nitrile glove capacity (to bring total capacity to 46.6bn) through the new Factory 27 in Lukut, Port Dickson that we expect will be fully operational by 3QFY16. We think margins may be under pressure from the removal of a government subsidy (ie gas tariff increase) and labour cost increase (ie minimum wage as well as foreign labour levy hike). The upside risk to our forecast includes the rerating of the sector, driven by liquidity buoyed by market risk aversion while downside risks include higher prices for raw materials such as latex.

Maintain NEUTRAL. We remain cautious on the impact of a stronger MYR as well as increasing cost pressures. Maintain NEUTRAL, with a revised TP of MYR5.63 (from MYR6.92, 8% upside, CoE: 8%, TG: 2%). Top Glove is also trading above the industry average PEG ratio (Figure 5) due to its lower three-year EPS CAGR growth prospects relative to the sector.

Margin Pressure Amidst Increasing Competition Heightened competition, higher cost. 2QFY16 sales volume dipped 3% QoQ due to a traditional weaker second quarter on the back of a dip in operational days. Its USDdenominated ASP fell 11% QoQ on the back of weaker raw material prices as well as stiffer competition, specifically in the nitrile space. We opine that Top Glove’s margins would come under pressure amidst the stiffer competition as the manufacturer would find it more difficult to pass on incremental costs such as gas tariff hikes and higher labour costs to clients. Furthermore, we think that should Hartalega absorb the incremental cost of the minimum wage hike (effective Jul 2016), other manufacturers in the glove industry would have to follow suit due to product homogeneity .

Secondary listing on the SGX. Top Glove has proposed a secondary listing on the mainboard of the Singapore Exchange Securities (SGX) by way of introduction. The listing would not involve any issuance of new Top Glove shares but would see substantial shareholder(s) selling a portion of their shareholdings, ie approximately SGD20m which is less than 1% of its total number of shares. We opine that the secondary listing would have minimal impact on short-term valuations of the stock. However, we do think the listing on SGX would help enhance Top Glove’s investor reach to diversify its in vestor base while allowing the company to tap into a new platform for potential future fund-raising.