Supermax remains our Top Pick in the sector as we continue to like its supercharged growth (3-year EPS CAGR of 22%) from its glove city expansion plans as well as attractive stock valuations, where it is trading at a steep 37% discount to the sector’s average. Maintain BUY with a lower DCF-based TP of MYR3.88 (from MYR4.50, 47% upside).

Capacity-led earnings growth. We expect stronger earnings growth in 2HFY16 (Jun) as the remaining capacity of Plants 10 and 11 (3bn nitrile capacity) progressively comes online, to bring total annual capacity to 24bn gloves. Earnings growth (3-year EPS CAGR of 22%) would also be derived from: i) glove city expansion at Bukit Kapar, where Supermax intends to add 31.7bn gloves capacity by FY20, and ii) its venture into the contact lens business, of which management expects positive earnings contributions by FY17.

Operational challenges. We believe that the increasing industry competition, particularly in the nitrile segment, would complicate the cost pass-through mechanics, as manufacturers compete on price to maintain/take market share. Consequentially, we believe margins could come under pressure from the removal of government subsidies (ie gas tariff increase) and labour cost increase (ie minimum wage as well as foreign labour levy hike). We also expect earnings to be impacted by the recent strength of the MYR. RHB has revised its 2016 USD forex assumption to MYR4.18 (from MYR4.34).

Earnings and risks. We revise our FY16F-18F earnings by -1% to -3% after updating our assumptions. The upside risks to our forecasts include the re-rating of the sector, driven by liquidity and buoyed by market risk aversion. The downside risks include higher prices for raw materials such as latex and nitrile Maintain NEUTRAL. Supermax is our Top Pick in the sector. Its earnings recovery since 3QFY15 has come on the back of robust global demand growth and the commissioning of new gloves capacity from Plants 10 and 11. Supermax has the most attractive proposition in the sector, both from a P/E and PEG basis (Figure 4). We expect the stock to narrow the steep 37% valuation discount to the sector average of 17.7x 1-year forward P/E. After our earnings revisions, we maintain BUY with a lower TP of MYR3.88 (CoE: 8%, TG: 2%), implying 16.5x 2016F P/E. Supermax is currently trading at FY16F P/E of 11.2x, which is below its historical trading mean of 12.2x.

SWOT Analysis

Source: RHB Research - 22 Mar 2016