KUALA LUMPUR (Dec 28): JP Morgan Asia Pacific Equity Research, which earlier in April 2023 had said that the path to profitability of Malaysia’s glove sector still lacked visibility, has turned bullish on the sector by going selectively (and non-consensus) with "overweight" ratings on Hartalega Holdings Bhd and Kossan Rubber Industries Bhd while retaining its "underweight" rating on Top Glove Corp Bhd.
In a note on Dec 27, the research house said the industry has witnessed a pick-up in demand following 2.5 years of inventory de-stocking.
In April, JP Morgan reiterated its bearish stance, as overcapacity-led average selling price (ASP) weakness will continue until at least end-2024.
“Information asymmetry was the main cause of the recent momentum-led 30% to 60% rally, in our view, as glove ASPs are traded over the counter,” it said.
In its latest update, however, JP Morgan said ASP has stabilised on tightening supply and demand, and producers will benefit from improved utilisation and the resulting operating leverage, though the recovery will be uneven across producers.
“Hartalega and Kossan have both returned to profitability while we expect Top Glove to only see profit in 3QCY2024 (third quarter of calendar year 2024).
“Hartalega and Kossan’s more efficient cost structures will also see them emerge from the downturn stronger, as we expect both Hartalega and Kossan to return to pre-Covid profitability by CY2025 while Top Glove’s 2025 estimated earnings will remain 46% below 2019,” it said.
JP Morgan said it values all players on 25 times 12-month forward earnings per share (price target end date December 2024).
“We are changing our valuation method to P/E (price-earnings) as the industry finally emerges from a downturn and returns to profitability, versus our prior methodology of asset replacement cost as industry recovery was uncertain and all glovemakers were loss-making previously.
“Key catalysts include the upcoming earnings improvement across producers thus confirming the sustainability of earnings and a calculated supply addition by Chinese producers,” it said.
JP Morgan said Hartalega has emerged stronger following the closure of less efficient lines (14 billion pieces) leading to depreciation and amortization savings of RM20 million/year.
“Kossan is most well capitalised.
“It has a net cash of RM2 billion (43% of market cap) and generates circa RM40 million-RM50 million of interest income. It has also rationalised capacity by nine billion,” it said.
Overcapacity
JP Morgan earlier in April had said overcapacity may take another three full years to hit equilibrium.
It said applying the Malaysian Rubber Glove Manufacturers Association's (Margma) assumption that global glove demand will increase 10% to 15% in CY2022 to CY2023 versus pre-pandemic levels, the annual incremental demand would be about 30 billion pieces per year.
“Comparing this figure against the overcapacity situation, we calculate it will take three years for excess supply to be absorbed by the incremental demand,” it had said.