This article first appeared in The Edge Malaysia Weekly on March 11, 2024 - March 17, 2024

AFTER a challenging period during the Covid-19 pandemic, Karex Bhd — which posted net losses for the first time over two consecutive years — turned the corner last year. The condom maker will now focus on growing its range of offerings with the highest margins — its own branded products as well as yet-to-be-launched synthetic condoms for an undisclosed commercial brand.

Karex breaks down its business into original brand manufacturing (OBM); tender market; and commercial (comprising private labels and other brands, essentially original equipment manufacturer [OEM]). The OBM (20%) and commercial (60%) segments collectively represent about 80% of total sales with the tender business making up the balance.

“You would have imagined condom consumption to increase during the pandemic [since people stayed at home] but the opposite happened as social interactions decreased. Government tenders declined significantly too as allocations moved from HIV to Covid-19-related funds. Its contribution to revenue in 2016 and 2017 was about 40% but stood at only about 20% last year. Therefore, we have been systematically moving out of the government tender segment and growing our own brands,” Karex CEO Goh Miah Kiat tells The Edge.

Karex’s own branded segment was created a few years after its initial public offering on the Main Board of Bursa Malaysia in November 2013.  Karex said that the move would fatten its margins. 

“Our own brand and commercial segments are expected to grow quite a bit but the tender segment is expected to remain where it is now. There have been questions such as how long the government will continue to distribute free condoms as the United Nations has managed to curb HIV infections to 1.2 million new infections a year, whereas STIs (sexually transmitted infections) are down to about one million new infections today,” says Goh, describing some of the rationale shaping government decisions.

Product offerings are categorised into three divisions: (i) sexual wellness, representing more than 90% of the group’s total sales mix; (ii) medical (7%, comprising strobe covers, catheters and gloves); and (iii) other distributed products making up the balance. Personal lubricants, which come under Karex’s sexual wellness suite of offerings, have continued to gain momentum amid a changing regulatory environment, leading sales to grow more than 200% over the last five years.

Goh explains that lubricants were not very well regulated in the past and were manufactured by cosmetic companies.

“However, in the past few years, with sexual health education improving, medical product regulators realised that personal lubricants are sensitive products as they are used in sensitive regions and internally most of the time. Therefore, authorities have classified them as medical products. This made them too troublesome for non-medical product manufacturers to produce. Hence, we have been getting a lot of this business as we do have the certifications and know how to service this market as a medical product manufacturer,” he says.

While a recovery in condom sales mainly contributed to the division’s performance, personal lubricants grew more than 25% from the previous year’s record sales total.

“There remains a huge potential for this product subcategory as the market for personal lubricants continues to become increasingly regulated and sexual health education surrounding the product improves,” says Goh.

Karex’s net profit jumped threefold to RM7.32 million for the second quarter ended Dec 31, 2023 (2QFY2024), from RM2.03 million a year earlier, despite revenue slipping 0.89% to RM127.37 million from RM128.51 million earlier.

For the six months ended Dec 31, 2023 (1HFY2024), Karex’s net profit close to tripled to RM12.58 million from RM4.32 million in 1HFY2023, though revenue fell 6.09% to RM256.88 million from RM273.54 million.

Karex attributed the revenue achieved to strong condom sales and another quarterly sales record from personal lubricants. It said the quarter’s sales mix comprised more commercial market (65%) and OBM (18%) sales, coupled with the continued normalisation of raw materials prices and freight rates, resulting in an improvement in profitability.

Karex’s financial performance beat the expectations of Kenanga Research, which initiated coverage on the stock on Feb 5. It later raised its target price on the counter from RM1 to RM1.06, based on a price-earnings ratio (PER) of 25 times on FY2025 earnings, and maintained its “outperform” call.

Currently, Karex owns more than 20 brands that are available in fewer than 10 markets including Africa, the US, the UK, Malaysia and Thailand, whereas as a contract manufacturer for government tenders and commercial brands, Karex exports to more than 140 countries.

Karex acquired condom companies such as UK-based condom maker Pasante Healthcare Ltd and US-based Global Protection Corp (GP Corp), spending at least RM100 million in total. 

Owning these companies, which distribute Karex’s products for its commercial and OBM segments, have apparently played a big part in establishing Karex as a serious OBM player.

“Both of those businesses have been growing and diversifying our business mix and giving us distribution networks and close accessibility to retailers in the UK and the US. We have noticed a trend of [populations] moving towards house brands in many developing countries, such as with products like paracetamol and tissue paper, which are available in house brands such as Boots and Tesco in the UK. And what supermarket and pharmacy chains are making sure of is that there are weekly deliveries to make. Our subsidiaries there give us the ability to service that space,” says Goh.

“Sales trends [for condoms] have been moving towards house brands. People acknowledge that condoms are a medical device whether it’s branded or not. For Karex, having subsidiaries in the UK and the US gives us close proximity to retailers.”

The changes in market trends for the condom business are reflected in Karex’ gross profit (GP) margins. In the past, GP margins from Karex’s government tender and commercial sales were about 25% to 30%. But over the years, price competition in the tender market caused the GP margins to whittle down to the high single digits, says Goh, circling back to the reasons for having an OBM segment.

“Meanwhile, the GP margin in the commercial market continues to expand as it is typically the segment with the most innovation. It is now about 30%, whereas our own branded segment commands the highest GP margin in excess of 50%. The blended gross profit margin across Karex’s businesses comes to a GP margin percentage of 30% in recent periods.”

   Since Karex got into the OBM business — a segment that it identified as a sweet spot nearly eight years ago — it is worth noting that the OBM segment is still not a core contributor to group revenue. Its commercial segment is still the group’s main revenue contributor, at 60%, with OBM sales below a fifth of total sales as yet.

How is the situation different now compared with eight years ago when Karex took on the expensive route of entering the OBM business? Looking at the group’s earnings record, revenues then were lower than now but profits were higher.

“Synthetic condoms will be the next big thing on the shelves today, since the current condom technology, which is over 100 years old, is being relooked. Manufacturers are having to rethink how condoms can be more user-friendly, hence, synthetic condoms which have already been pushed out in the market, such as polyurethane (PU) condoms made popular by the Japanese, and polyisoprene (PI) condoms started by Ansel and Durex. For their benefits, synthetic condoms are priced at a premium to natural rubber,” he says, adding that the sales of Karex’s synthetic condoms, which will be launched under the OEM segment, will be reflected in its next financial year onwards.

For context, the average rubber condom retails at 80 US cents apiece, a branded one fetches about US$1 (RM4.70). The PU and PI variety are selling for about US$3 to US$5 apiece.

Goh points broadly to the cost of raw materials: 1kg of natural latex is RM5 to RM6, and the price of synthetic materials is in excess of US$10.

He says the synthetic condoms that Karex will be producing will use a proprietary synthetic material which will cost close to the price of natural latex. “Hence, we think it will offer significant cost advantages to existing products on the market.”

He declines to comment further as the product has yet to be launched, and merely hints that the new product will offer the same or better properties than synthetic condoms currently in the market at a fraction of the cost.

Goh explains that the demand for synthetic condoms will be significant without cannibalising Karex’s natural rubber market. “As with any product, a switch takes years. However, the barrier to entry is even greater. Such a launch is like launching a new vaccine as there are clinical trials and such. Karex has had its clinical trials done and is now onto its regulatory pathway. And once they reach scale, synthetic condoms will be cheaper than natural latex condoms.

“In the next few years, Karex’s growth will come from synthetics. It will have a much higher margin, albeit it will be an altogether different ball game with an even higher barrier to entry than that of the traditional rubber condom business.”

Goh declines to name the brand under which the new product will be launched except to hint that “a big brand launching, it will add credibility to the product”.

The new offering’s regulatory approvals will be secured by June, he adds.

Meanwhile, the group also has a glove manufacturing facility in Hat Yai, Thailand, with a production capacity of 2.5 billion pieces, which has not yet commenced operations.

“Retailers still carry high inventories of gloves, therefore we won’t be doing anything with this segment for now,” says Goh.

Karex has a dividend policy of distributing a minimum of 25% of its profit after tax. The company paid a single-tier interim dividend of 0.5 sen per ordinary share, totalling RM5.27 million, for FY2023.

Shares in Karex have risen 53.8% to an intra-day high of 87.5 sen apiece on Feb 14 since last August, before closing at 81.5 sen last Thursday, valuing the company at RM858.6 million.

At the closing price of 81.5 sen apiece, Karex shares were trading at a PER of 82.32 times and 34.2 times, based on FY2023 earnings and annualised 1HFY2024 earnings of 1.19 sen, respectively. 

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