• Keep NEUTRAL, with lower DCF-derived TP of MYR1.24 from MYR1.40. Kossan started the year with disappointing results after reporting 1Q23 core losses of MYR28m, significantly below our and Street’s 2023 full-year target. Weaker-than-expected results were dragged by 3-5% QoQ decline in ASP whereas volume sold was down 14-18% QoQ. Management’s tone is relatively cautious for the rest of 2023 on the back of excessive supply capacity in the market as well as high energy and labour costs.

• Results overview. Kossan saw red for the second consecutive quarter following reported core loss of MYR28.1m (vs MYR89.6m core profit last year). This represents a stark contrast against our and Street’s FY23F of MYR58m and MYR59.5m. The weaker-than-expected result was mainly attributed to the 3-5% QoQ decline in ASP (vs 10-15% QoQ decline in 4Q22), suggesting the pace of ASP moderation had bottomed out. The company expects near-term outlook to remain choppy, given the ample supply capacity built up during 2021-2022 as well as elevated energy and labour costs which may continue to pose challenges to the glove industry in 2023. Kossan did not declare any dividend during the quarter.

• Volume and cost. Sales volume declined 14-18% QoQ (vs 1-3% QoQ decline in 4Q22). In terms of raw material prices, nitrile butadiene rubber decreased 1-2% QoQ whereas natural rubber increased slightly 3-7% QoQ as a result of Thailand’s low production season during winter. Nevertheless, prices dropped to 5% below the pre-COVID-19 mean level towards late April.

• Outlook. We maintain a cautious view on Malaysia rubber glove sector – with the existing excess industry supply capacity expected to lead to subdued plant utilisation rate. However, there are improvements in market dynamics, which include: i. The collective cost pass-through initiated by local and regional peers; ii. Correction in natural gas prices (YTD: -50%); and iii. Disciplined approach in scaling back new capacity plan. We believe the stated collective measures can offer a breather to the glove makers’ margin in the near term.

• Earnings adjustment. We cut our 2023 and 2024 earnings by 53% and 11%, after lowering our sales volume and plant utilisation assumptions.

• Keep NEUTRAL, with lower MYR1.24 TP. Our TP implies 0.8x 2024F P/B, against 3.6x of pre-COVID-19 historical mean or ex-cash PE of 23x vs its pre- COVID-19 historical mean of 20x. We incorporate 8% ESG discount to our intrinsic value to derive our TP. Kossan net cash remains robust – at 61% of its market cap, higher than its peers but below competitor Supermax (SUPERMX MK, NEUTRAL, TP: MYR0.88) – which allows the company to weather near-term challenges.

• Key risks: Volatility in sales volumes, currency rates, and raw material prices.

Source: RHB Research - 2 May 2023