This article first appeared in The Edge Financial Daily, on June 8, 2016.

Top Glove Corp Bhd
(June 7, RM5.17)
Maintain buy with an unchanged target price (TP) of RM7.17: Top Glove Corp Bhd, a country top pick, is set to announce its third quarter ended May 31, 2016 results next week. We project its core net profit to be weaker quarter-on-quarter (q-o-q) at RM80 million to RM90 million on overall lower average selling prices (ASPs), higher raw material prices and a stronger ringgit for the quarter. Our near-term outlook remains intact, driven by a 17% rise in capacity by financial year 2017 estimate (FY17E). Incremental nitrile volume growth and productivity gains should partially alleviate margin pressure.

Top line should stay flattish or slightly lower q-o-q, as we expect the ASPs to trend lower on supply overhang. However, this should be offset by higher sales volume on a higher number of earning days. We expect earnings before interest, taxes, depreciation and amortisation (Ebitda) margins to drop below 20% in the quarter, mainly due to higher latex prices (+29% q-o-q) and stronger ringgit (+6% q-o-q), but partially offset by incremental nitrile volume growth. All in, its core net profit should come in between RM80 million (-24% q-o-q) and RM90 million (-14% q-o-q), bringing its nine months ended May 31, 2016 to about 75% of FY16E.

We expect latex prices to trend lower in the coming quarters as the wintering period comes to an end. Latex inventory build-up, already near a record high, could accelerate when the tripartite agreement in curbing production to shore up latex prices expires in August 2016. China’s slowing economy will likely weigh on latex prices in the absence of follow-through demand. Latex prices have declined 12% from the peak at end-April.

We expect the near-term outlook to be underpinned by the commissioning of three new plants, which should bring its total installed capacity to 52.4 billion pieces per annum (+17% year-on-year) by FY17E. The nitrile-focused capacity growth is in line with its strategic expansion to increase nitrile contribution to 50% to cater for growing market demand. Incremental growth in nitrile volume should sustain Ebitda margins, partially alleviating margin pressure.

We continue to like Top Glove for its product-mix management and attractive valuation. Top Glove also offers the highest trading liquidity within our sector coverage. We reaffirm our “buy” rating and a 12-month TP of RM7.17, based on calender year 2016 price-earnings ratio (PER) of 21 times (+1 standard deviation above past three years’ mean PER). — Affin Hwang Capital, June 7