This article first appeared in The Edge Malaysia Weekly on March 14, 2022 - March 20, 2022

THE share price of Top Glove Corp Bhd hit RM1.67 last Friday, the lowest level in more than two years, following the release of its second quarter earnings results. The last time the stock was trading at that level was in February 2020.

Top Glove’s share price has plummeted 80% from its peak of RM8.48 in October 2020. It is now a mere four times its trailing 12-month (TTM) earnings. Yet, analysts are telling clients to continue selling the shares of the world’s largest rubber glove maker.

Of the 23 analysts who cover the stock, 13 have “sell” recommendations while nine have a “hold” and only one has a “buy” call. This is completely the reverse of the recommendations made a year ago when Top Glove was still a screaming “buy” among many investment analysts.

Judging by the analysts’ latest recommendations, this could mean they see more downside risk to Top Glove’s earnings moving forward. Furthermore, investor interest is turning to stocks that offer exposure to the economic recovery theme, simply because of the reopening of economies and international borders.

Last Wednesday, Top Glove announced a net profit of RM87.55 million in its second financial quarter ended Feb 28 (2QFY22), only a small portion of the RM2.87 billion it made a year ago.

The magnitude of the earnings contraction may have caught some investors off guard, even though the glove maker was expected to post lower earnings against a backdrop of normalisation of demand, on top of overcapacity plus falling average selling prices (ASPs).

Top Glove’s revenue declined 8.51% to RM1.45 billion in 2QFY2022 from RM1.58 billion in the preceding quarter as the normalisation of ASPs to pre-pandemic levels offset an uptick in sales volume.

For the six months ended Feb 28 (1HFY2022), the group’s net profit was also sharply lower at RM273.27 million, compared with the bumper net profit of RM5.23 billion a year ago. Revenue slumped 70% to RM3.03 billion from RM10.12 billion.

Over the past year, the ASPs of rubber gloves have declined from about US$110 per 1,000 pieces to around US$25 per 1,000 pieces. The decline in ASPs was much faster than expected. For example, in a report dated almost exactly a year ago, CGS-CIMB Research analyst Walter Aw input an ASP assumption of US$41 per 1,000 pieces for Top Glove for the financial year ending Aug 31, 2022 (FY2022).

The ASPs may not have hit a trough. They are expected to fall further in the third quarter of FY2022. This means Top Glove will continue to face margin compression.

“We see further downside risks to ASPs in 3QFY2022F, albeit bottoming in the region of US$25 to US$26 per 1,000 pieces (-3.7% to -7.4% q-o-q),” says Aw in his March 9 report on Top Glove.

Nevertheless, the glove maker reported an increase in sales volume in 2QFY2022 following the resumption of regular glove restocking activity by customers, as ASPs dropped back to pre-pandemic levels. This shows the demand for rubber gloves is still intact and could still grow, although not as strong as at the peak of the pandemic.

Speaking at the briefing on its quarterly financial results last week, Top Glove managing director Datuk Lee Kim Meow pointed out that the majority of its US customers are expected to start placing orders by the middle of this year, after the import ban imposed by the US Customs and Border Protection (CBP) was lifted in September last year.

Between September 2021 and February 2022, sales volume to the US grew 220%, according to Top Glove. In September 2021, sales to the US made up 4% of the group’s global sales. Last month, it was 13%.

As a result of the resumption of sales to the US, Top Glove’s production utilisation increased from 60% in September 2021 to 73% last month. The higher sales volume achieved in 2QFY2022 should signal to investors that the demand for rubber gloves is still growing and that the lower ASPs at the moment is just an opportunity for customers to restock.

However, investors are not that optimistic that the ASPs will rebound anytime soon. That is because the super profit attracted many new players to the industry, which then resulted in the current overcapacity situation.

“We gather that nitrile, natural rubber, surgical and vinyl gloves recorded good sales volume [thanks to resilient demand and global economic recovery]. However, intensified competition [new market supply and competitive pricing] has led to lower ASPs among most of Top Glove’s product mix. We reiterate ‘reduce’ on Top Glove,” Aw writes in the report.

He sees stiffer pricing competition leading to a sharper-than-expected fall in ASPs and any Covid-19 outbreaks among its workers resulting in lower production volume to be potential derating catalysts for the stock.

The current situation is a stark contrast to just a year ago, when most of the analysts were calling a “buy” on Top Glove, even though selling pressure had already emerged and the group had started its share buybacks, which cost the company RM4 billion, to support the share price.

In March 2021, when Top Glove’s shares was trading at about RM5.23, after falling off their peak of RM8.48 in October 2020, of the 20 research firms that covered the stock, 12 had “buy” calls, one a “trading buy”, six “hold” and only one “underweight” recommendation.

The target prices of the analysts who called “buy” viewed an upside potential of between 10.33% and 58.51% against the prevailing share price, even as the majority of analysts were forecasting a sharp fall in earnings in FY2022. True enough, Top Glove’s earnings have headed lower since 3QFY2021.

In FY2021, Top Glove missed analysts’ earnings forecasts. It recorded a net profit of RM7.86 billion, while analysts were expecting at least RM1 billion more. This prompted some to wonder whether the investment analysts were overly bullish on the company’s profitability.

Now, gone are the glove bulls. Analysts have slashed their target prices and earnings forecasts several times after the latest quarterly earnings results.

According to Bloomberg, the market consensus estimate anticipates Top Glove posting an annual net profit of RM554 million, which is only 7% of the profit made in FY2021, on revenue of RM6.99 billion for FY2022.

The lowest target price is 91 sen by Maybank Investment Bank, which was the first to raise its target price to RM20 (pre-adjusted price for bonus issue) in 2020. JP Morgan’s target price is 99 sen.

HSBC is the most bullish among its peers, pegging the target price at RM3, according to Bloomberg. The other target prices fall between RM1.30 and RM1.90.

To whom should investors listen?

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