Rubber gloves
Upgrade to overweight from neutral: We have upgraded the rubber glove sector to “overweight” as we believe earnings recovery is in the early stages of a cycle and is bound to gain momentum on the back of sustained margin revival.
As it is, quarterly earnings before interest, tax, depreciation and amortisation (Ebitda) margins of glove manufacturers are still two to four percentage points below normalised levels, implying upside potential.
We reckon glove manufacturers are poised to reap higher margins from time-lag induced imperfect price adjustments from: (i) lower input costs due to easing latex price and; (ii) the strengthening US dollar against the ringgit. We expect higher margins to kick in over the next few quarters as cheaper latex costs are fully reflected in average selling prices.
Despite a sharp drop of over 40% in latex price from an all-time high of RM10.60 per kg (February 2011), we see further easing in latex prices as imminent due to a worse than anticipated rubber glut and weakening demand. This will extend support for a sustained improvement in margins for glovemakers.
We understand China’s stockpile of natural rubber (NR) has been on a progressive rise since August, leading to an estimated surplus of 365,600 tonnes as at end-December 2011. Even though global rubber supply for this year is forecast to rise by only half of 2011’s additional production of 610,000 tonnes, this will inevitably exert further downward pressure on latex prices.
Incidentally, the global automobile industry, as led by China with an estimated 23% market share, is expected to grow at a slower rate this year, in tandem with the country’s slower economic growth outlook.
As it is, China’s vehicle sales grew a mere 3% last year, against 32% in 2010. The world’s automobile industry consumes circa 70% of global NR output.
In our view, the structural shift from NR to nitrile gloves will continue alongside industry trends as consumers typically tend to migrate upwards along with rising disposable income.
However, the rate of switching should become less drastic now, given the softening latex price. Most encouragingly, prices of NR gloves are currently at a 7% to 10% discount to nitrile variants. NR gloves were sold at an estimated 12% to 13% premium to nitrile gloves in 2011.
The reversal in ASPs resulting in a favourable price differential should thus help NR gloves claw back some lost market share.
All in, we have raised our earnings forecasts by 35% to 48% for Top Glove Corp Bhd and 2% to 10% for Kossan Rubber Industries Bhd. We have imputed higher utilisation rates, latex price forecast of RM5.50 to RM6 per kg as well as our latest in-house foreign exchange rate at US$1:RM3.10 for both Top Glove and Kossan.
We have upgraded Top Glove to a “buy” with a higher fair value of RM6.15 per share (previously “sell”, fair value: RM3.10) based on a higher fair price-earnings ratio (PER) of 19 times revised FY13F earnings. Our valuation pegs the stock at 0.5 standard deviation above its five-year mean of 16 times, which we deem reasonable in lieu of the improving core fundamentals.
Top Glove is now our top “buy” for the sector as the group is a prime beneficiary of easing latex prices. With over 78% of total production (37 billion pieces per year) in NR gloves, the group is the “purest” and largest NR glove manufacturer. Based on past trends, the stock had seen an upward PER re-rating of eight to 12 times during previous periods of declining latex prices.
Accordingly, we upgrade Kossan to a “buy with a higher fair value of RM4.31 per share (previously “hold”, FV: RM3.38) based on a higher fair PER of 12.5 times revised FY12F earnings.
Our valuation is a tad above the stock’s 10-year mean of 11 times, but still at some 35% discount to Top Glove’s fair PER of 19 times.
We continue to like the group for its less susceptible earnings portfolio underpinned by its more balanced product mix. — AmResearch, Jan 17
This article appeared in The Edge Financial Daily, January 19, 2012.
Upgrade to overweight from neutral: We have upgraded the rubber glove sector to “overweight” as we believe earnings recovery is in the early stages of a cycle and is bound to gain momentum on the back of sustained margin revival.
As it is, quarterly earnings before interest, tax, depreciation and amortisation (Ebitda) margins of glove manufacturers are still two to four percentage points below normalised levels, implying upside potential.
We reckon glove manufacturers are poised to reap higher margins from time-lag induced imperfect price adjustments from: (i) lower input costs due to easing latex price and; (ii) the strengthening US dollar against the ringgit. We expect higher margins to kick in over the next few quarters as cheaper latex costs are fully reflected in average selling prices.
Despite a sharp drop of over 40% in latex price from an all-time high of RM10.60 per kg (February 2011), we see further easing in latex prices as imminent due to a worse than anticipated rubber glut and weakening demand. This will extend support for a sustained improvement in margins for glovemakers.
We understand China’s stockpile of natural rubber (NR) has been on a progressive rise since August, leading to an estimated surplus of 365,600 tonnes as at end-December 2011. Even though global rubber supply for this year is forecast to rise by only half of 2011’s additional production of 610,000 tonnes, this will inevitably exert further downward pressure on latex prices.
Incidentally, the global automobile industry, as led by China with an estimated 23% market share, is expected to grow at a slower rate this year, in tandem with the country’s slower economic growth outlook.
As it is, China’s vehicle sales grew a mere 3% last year, against 32% in 2010. The world’s automobile industry consumes circa 70% of global NR output.
In our view, the structural shift from NR to nitrile gloves will continue alongside industry trends as consumers typically tend to migrate upwards along with rising disposable income.
However, the rate of switching should become less drastic now, given the softening latex price. Most encouragingly, prices of NR gloves are currently at a 7% to 10% discount to nitrile variants. NR gloves were sold at an estimated 12% to 13% premium to nitrile gloves in 2011.
The reversal in ASPs resulting in a favourable price differential should thus help NR gloves claw back some lost market share.
All in, we have raised our earnings forecasts by 35% to 48% for Top Glove Corp Bhd and 2% to 10% for Kossan Rubber Industries Bhd. We have imputed higher utilisation rates, latex price forecast of RM5.50 to RM6 per kg as well as our latest in-house foreign exchange rate at US$1:RM3.10 for both Top Glove and Kossan.
We have upgraded Top Glove to a “buy” with a higher fair value of RM6.15 per share (previously “sell”, fair value: RM3.10) based on a higher fair price-earnings ratio (PER) of 19 times revised FY13F earnings. Our valuation pegs the stock at 0.5 standard deviation above its five-year mean of 16 times, which we deem reasonable in lieu of the improving core fundamentals.
Top Glove is now our top “buy” for the sector as the group is a prime beneficiary of easing latex prices. With over 78% of total production (37 billion pieces per year) in NR gloves, the group is the “purest” and largest NR glove manufacturer. Based on past trends, the stock had seen an upward PER re-rating of eight to 12 times during previous periods of declining latex prices.
Accordingly, we upgrade Kossan to a “buy with a higher fair value of RM4.31 per share (previously “hold”, FV: RM3.38) based on a higher fair PER of 12.5 times revised FY12F earnings.
Our valuation is a tad above the stock’s 10-year mean of 11 times, but still at some 35% discount to Top Glove’s fair PER of 19 times.
We continue to like the group for its less susceptible earnings portfolio underpinned by its more balanced product mix. — AmResearch, Jan 17
This article appeared in The Edge Financial Daily, January 19, 2012.
