SUPERMAX Corp Bhd has long traded at a discount to its peers but with a number of catalysts in the pipeline, it might be worth keeping the glovemaker on the radar. After all, the current weakness in its share price presents an opportunity for investors to accumulate the stock.

Recall that Supermax is in the process of commissioning its new manufacturing plants (Plants 10 and 11) in Meru, Klang. Long delayed due to water supply problems, these plants should add 5.6 billion gloves per year to the group’s capacity.

In addition, the group has its contact lens manufacturing business, although that venture may take longer than hoped to contribute to the group’s bottom line.

However, these catalysts are somewhat offset by the group’s latest quarterly results. It announced last week that its net profit for the three months ended June 30 dropped 72.6% year on year to RM6.79 million, from RM24.74 million a year ago. It blamed higher taxes for the poor results as its taxes for the quarter shot up to RM27.9 million from RM4.6 million a year ago.  The additional taxes came as a surprise. They stemmed from prior years’ assessments and provisions for deferred tax. (Supermax has changed its financial year-end from December to June.)

The group’s share price not unexpectedly took a hit as well, falling to a 10-month low of RM2.03 last Tuesday. This was 43% lower than the counter’s 52-week high of RM3.56 at the beginning of the year.

But the dip in the company’s share price prompted some investors to accumulate the stock. Supermax’s share price has since recovered 7% to close at RM2.17 last Friday.

At this price, Supermax is valued at 14.3 times earnings. In contrast, its three peers listed on Bursa Malaysia — Top Glove Corp Bhd, Kossan Rubber Industries Bhd and Hartalega Holdings Bhd — are currently valued at 20.6 times, 20.7 times and 28.6 times earnings respectively.

It is worth noting that Supermax’s valuation is distorted by the one-off tax hit. Its revenue actually grew 16.2% y-o-y to RM266.54 million in the April to June quarter, while profit before tax rose by 17.8% y-o-y to RM34.78 million (see chart). This was a result of the group being able to increase its average selling price during the quarter under review.

On this basis, the group’s core performance looks much healthier. If it can be maintained, forward earnings will be much higher as well.

“We understand that the one-off tax paid is not expected to recur in subsequent quarters. As such, we expect normalised profit of between RM33 million and RM35 million per quarter going forward,” says Kenanga Research in an Aug 30 note to clients.

The research firm has a more aggressive net profit estimate of RM148.4 million for the financial year ending Dec 31, 2017 (FY2017), while TA Securities has a slightly more conservative estimate of RM131.1 million. This values Supermax at 9.7 times and 10.9 times earnings respectively. This is still a substantial discount to its peers, which have forward price-earnings ratios ranging from 13.5 times to 25.9 times.

Can Supermax close the valuation gap?

Analysts say closing the valuation gap will hinge on the group’s ability to roll out its capacity expansion without additional problems. The glovemaker had previously undershot expectations with long delays in the commissioning of new plants. Even if some of the challenges are external, like the lack of water for Plants 10 and 11, they have hurt Supermax’s valuation.

“The discount is premised on risk of delays from medium- to longer-term expansion plans that have been hampering growth previously. As such, we reiterate our ‘sell’ recommendation on the stock,” writes TA Securities.

However, it notes that tangible progress in Supermax’s expansion would act as a rerating catalyst.

It is understood that Supermax has already begun commissioning Plants 10 and 11, which will produce nitrile gloves. The lines are already contributing 2.2 billion pieces per year, a 12% increase from the 19.8 billion pieces in FY2015, notes Kenanga Research.

“The remaining 3.4 billion pieces (per year) are expected to be commercially ready over the next six to 12 months,” it adds.

Supermax also has longer-term expansion in the pipeline — the Glove City Project in Bukit Kapar, Klang, that will add 31.6 billion gloves per annum, and the Integrated Glove Manufacturing Complex in Serendah, Selangor, that will add 15.5 billion gloves per year.

Meanwhile, analysts and investors appear to have discounted contributions from Supermax’s contact lens venture, at least in the near term.

The plant has the capacity to produce 40 million lenses a year and Supermax had previously indicated plans to increase capacity to 70 million pieces by this time next year. But so far, it has not contributed substantially to the group’s operations. In fact, the contact lens business was not mentioned at all in the glovemaker’s quarterly financial announcement last week.

Put it all together and the risk for Supermax looks to be well on the upside. Its deep discount to its peers has put a floor for its share price. On the other hand, it has several catalysts in the pipeline, although it is questionable how soon these will kick in.

It is also important to note that the sentiment for glovemakers turned on its head this year. The four glove counters have seen a collective RM8.53 billion in market capitalisation evaporate since the beginning of the year when the shares hit record highs.

A weakening US dollar against the ringgit has reduced and reversed foreign exchange gains. At the same time, increased competition both domestically and internationally has eaten into margins.

Note that demand for rubber gloves is projected to grow at only 8% to 10% per year. That said, fears of an oversupply could be overstated as the country’s four glovemakers appear to be staggering new capacity expansion.

“Slower-than-expected ramp-up in new production capacity further reinforces our positive outlook on the sector by allaying concerns over competitive pressure and oversupply issues. Separately, from our channel checks, we gather that players’ average utilisation rate is 80% to 85%,” Kenanga Research said in a separate report in the middle of the year.

It points out that the maximum utilisation rate is about 90% to accommodate downtime for maintenance. Hence, the 80% to 85% utilisation is relatively high.

“We have seen strong price competition this year, but margins can only fall so far. Nobody wants to make a loss. I think prices are already stabilising, and the margin compression will ease,” says one industry executive. 

Against this backdrop, it is interesting to note that Supermax’s own-brand manufacturing approach gives it more flexibility to increase prices, while its peers have to compete on price to secure contract manufacturing.

That said, Supermax is expected to continue trading at a discounted valuation to its peers, at least until its earnings show substantial improvement. 

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