The key takeaways from Supermax Corporation’s (SUPERMX) company visit includes: (i) expect margins improvement starting from 2QFY13 driven by ASPs hike to mitigate the effect of the minimum wage policy, (ii) new capacity from factory 6058 & 6059 to come on-stream by 4QFY13 instead of 3QFY13, and (iii) additional growth from 12 replacement lines and two new plants over FY13 and FY14. YTD, Supermx’s share price is missing the party, underperforming its peers which rose an average 36%. We consider the under-performance unwarranted. Valuation-wise, the stock is also traded at steep discounts to its peers. Supermx’s PERs at 9.5x and 8.5x on FY13 and FY14 EPS respectively, is at steep 40% discount to sector average despite offering net profit growth averaging 15% p.a in FY13 and FY14. We believe the lagging performance presents a buying opportunity. A re-rating of the stock is expected upon the release of its 2QFY13 results which we expect margins to improve and thus dispel market scepticism that Supermx is unable to implement cost pass through. Maintain Outperform. Our TP is RM2.39 based on 10.2x FY14E EPS. The targeted PER is +0.5SD above the 5-year historical average. 

Expecting margins recovery starting from 2QFY13. Management has guided that 1QFY13 margin erosion is one-off and unlikely to recur. Instead, 2QFY13 results to be released in Aug 2013 is expected to show margins improvement compared to 1QFY13 as the lag effect in raising ASPs wore off starting from 2QFY13. Recall, 1QFY13 PBT margin fell 1.7% ppts to 11.5% from 13.1% in 4QFY12 due to higher labour expenses arising from minimum wage policy and the higher cost was not fully passed on to its customers. Typically, customers are given two to three months notice before new ASPs can take effect. As such, we are confident of margin recovery due to an estimated 3-5% increase in ASPs, already  notified to customers in Jan 2012, which will kick in from the second quarter onwards. 

Beneficiary of weakening Ringgit against the US dollar. Supermx is a beneficiary of the weakening of the Ringgit since they do not hedge its US dollar receipts. Since sales are USD denominated, theoretically, a depreciating ringgit against the dollar will lead to more ringgit revenue receipts. The ringgit has weakened by 6% to RM3.18 from an average of RM2.99 against the dollar over the past several weeks. Ceteris paribus, a 1% depreciation of RM against USD will lead to an average 1%-2% increase in the net profit. 

Growth expected from 12 replacement lines and 2 new plants over FY13 and FY14.  On Lot 6070, the conversion of the old latex-based lines with 12 new nitrile lines with 1.43b pieces capacity is now commercially operational. For illustrative purposes, based on a net profit margin of 10%, ASPs of USD28/1000 pieces and 1.43b pieces, this would generate a total net profit of RM12m or 8% of FY13 net profit. The other two plants namely Lot 6059 and Lot 6058 are on track to commission commercial productions gradually, starting from 4Q 2013 instead of 3Q 2013. Lot 6059 and 6058 will have 24 and 16 production lines producing 3.2b and 2.2b pieces of nitrile gloves respectively. This will bring its total nitrile production capacity from 6.9b to 12.3b pieces p.a. or 52% of the total installed capacity. Due to strong demand for nitrile gloves, Supermx is currently facing an oversold position of two to three months. In the case of surgical gloves, we understand that the remaining lines are expected to commission sometime in 3QFY13 since the additional sterilization facility is available. All in, the surgical lines would produce a total of 336m pairs. 

Trading at an average 40% discount to the sector average. Supermx’s YTD share price performance (+3%) is missing the glove party compared to other players such as Kossan (+68%), Hartalega (+32%) and Topglv  (+10%). We believe its lagging performance presents a buying opportunity.  A re-rating of the stock is expected upon the release of the 2QFY13 results which we expect margins to improve and thus dispel market scepticism that Supermx is unable to implement cost pass through. Maintain Outperform. 

Maintain forecast and TP of RM2.39. Despite the commissioning delay in Lot 6059 and Lot 6058 by one quarter from 4Q 2013 instead of 3Q 2013, we maintain our earnings forecast as we have yet to fully factor in contributions from both plants.

Source: Kenanga