Kossan Rubber Industries Bhd
(Oct 30, RM4.19)
Upgrade to buy with a target price (TP) of RM5.10: We expect the upcoming third-quarter 2018 (3Q18) results to be better quarter-on-quarter (q-o-q) and year-on-year (y-o-y). Sequential earnings growth could be stronger on full-quarter contribution from Plant 16. Additionally, a rising US dollar against the ringgit and an easing of nitrile butadiene rubber (NBR) cost may also lift its margin in the short term. We maintain our earnings forecasts, projecting double-digit earnings growth in financial years 2019 to 2020 estimate (FY19 to FY20E). Rolling forward our valuation to 2020, our TP is raised to RM5.10 (+11%) based on an unchanged price-earnings ratio of 26 times (a 20% discount to Hartalega’s).
3QFY18 results are scheduled to be released on Nov 16. We expect its net profit to be better q-o-q/y-o-y (2QFY18: RM43 million; 3QFY17: RM46 million) on better sales volume growth on contribution from Plant 16 (+14% to capacity; fully commercialised in August 2018); and a potentially flattish operating margin q-o-q as Kossan Rubber Industries Bhd managed to pass through the higher NBR cost (+7% q-o-q) with its average selling price (ASP) on an upward trend.
Unlike Plant 16 — delayed by water supply and former issues — Plants 17 to 19 are on track to commercialise as all the required utilities had been secured. Upon the commercialisation of Plants 17 to 19, Kossan’s annual capacity would increase to 32.5 billion pieces by end-2019 (+30%). Additionally, Plant 16 is also Kossan’s most efficient plant, with a lower worker headcount, less gas usage and lower wastage. The newer plants will replicate Plant 16, potentially lifting the group’s margins.
Earnings in 4QFY18 could be stronger on full-quarter contribution from Plant 16; a better margin as the NBR cost eased in October 2018 (-2% month-on-month) and the greenback against the ringgit is trending higher (quarter to date — 4Q18: +2% q-o-q). We maintain our earnings forecasts, underpinned by our sales volume growth assumption of 10%/15%/14% and the US dollar against the ringgit assumption of 4.05 for FY18 to FY20E.
The upsides are changes in lenient regulatory requirements in developing markets which could accelerate global glove-demand growth, a sharp fall in rubber prices and a substantial rise in the greenback against the ringgit. The downsides: A sharp fall in the US dollar against the ringgit, a substantial rise in rubber prices, and industry players’ undisciplined capacity expansion may lead to intense competition. — Maybank IB Research, Oct 30.