HARTA’s 1QFY25 results beat our forecast but disappointed the market. It returned to the black in 1QFY25 YoY in the absence of high- cost inventory. However, massive industry overcapacity will continue to weigh on the sector while HARTA’S valuations are frothy. We more than double our FY25-26F net profit forecasts but maintain our asset-based TP of RM2.33 and UNDERPERFORM call.

HARTA’s 1QFY25 net profit came in above our expectation at 64% of our full-year forecast, but disappointed the market at only 17% of the full-year consensus estimate. The variance against our forecast came largely from a higher-than-expected sales volume and margins. No dividend was declared as expected.

QoQ, its 1QFY25 revenue rose 10% due to higher sales volume (+6%) and ASP (+4%). Its EBITDA rose 48% to RM76m thanks to: (i) savings from the decommissioning of certain inefficient production capacity, and (ii) higher revenue leading to better-than-expected economies of scale. This brings 1QFY25 net profit to RM32m (+111%).

YoY, its 1QFY25 revenue rose 33% due to higher volume sales (+39%) which offset lower ASP (-5%). It returned to the black with a net profit of RM32m (vs. a net loss of RM53m a year ago) on a lower cost base following the retirement of certain inefficient production capacity. Recall, during FY24, it decommissioned its Bestari Jaya plant that effectively cut its production capacity by 30% to 31b pieces per annum.

The key takeaways from its analysts’ briefing yesterday are as follows:

1. HARTA highlighted that the shipment delays in 1QFY25 estimated at 600m pieces is expected to be gradually booked starting from 2QFY25. All in, the group expect minimal order backlog by shipment delays due to heightened geo-political tensions in the Red Sea.
    
2. The group expect a gradual uptick in orders and expect 2QFY25 sales volume to be higher than in 1QFY25, underpinned by inventory rebuilding from distributors, indicating early signs of potential recovery in demand. It expects to hit sales volume of 2.2b pieces/month. Already, HARTA has seen 1QFY25 orders hitting close to 2b pieces per month compared to 1.8b pieces per month in 4QFY24. However, we believe the recovery in its quarterly sales will remain bumpy as buyers see little need and urgency to place sizeable orders or hold substantial stocks as supply is plentiful and readily available in the market.
    
3. It reiterated that the industry continues to grapple with overcapacity and competitive pressure persists. As such, it is cautious about raising prices (to fully pass on the higher input cost) given the still competitive landscape in the industry. To recap, it has raised ASP over the past two quarters. However, in tandem with higher input nitrile butadiene cost, it expects to pass on some cost increase via higher ASP which can be felt in 2QFY25.

Forecasts. We more than double our FY25-26F net profit forecasts as we raise: (i) volume growth forecast from -6% and +4% to +24% and +3% for FY25F and FY26F, respectively; and (ii) EBITDA margin assumption from 11% to 14% for both FY25F and FY26F.

Outlook. We expect the operating environment to remain challenging in subsequent quarters, plagued by massive oversupply. Based on our estimates, the demand-supply situation will only start to head towards equilibrium in CY26 when there is virtually no more new capacity coming onstream while the global demand for gloves continues to rise by 15% per annum underpinned by rising hygiene awareness. MARGMA projects 12%−15% growth in the global demand for rubber gloves annually from CY23, following an estimated 25% contraction to 300b pieces in CY23. We project the demand for gloves to rise by 30% in CY24 to 390b pieces (due to a low base effect in CY23) and resume its organic growth of 15% thereafter. This will result in an excess capacity of 212b pieces in CY24. The overcapacity still persists which means low prices and depressed plant utilisation will continue to plague the industry in CY24.

Valuations. We also keep our TP at RM2.33 based on 1.7x FY25F BV, in line with the sector’s average PBV of 1.7x charted during previous downturns in 2008−2011 and 2014−2015. There is no adjustment to TP based on ESG given a 3-star rating as appraised by us (see Page 3). At 58x forward PER and forward ROE of only 2%-3%, its valuations are lofty despite the improved outlook. Reiterate UNDERPERFORM.

Key risks to our recommendation include: (i) the industry turning the corner sooner on stronger-than-expected growth in demand for gloves driven by rising hygiene standards and health awareness globally, (ii) industry consolidation reducing competition among players, and (iii) epidemic and pandemic occurrences.

Source: Kenanga Research - 7 Aug 2024