Top Glove injects initiatives to mitigate margin erosion
KUALA LUMPUR: Top Glove Corporation Bhd (Top Glove) is taking up measures to mitigate pressure on its margins, but these measures are only expected to see fruition over the longer term, the research team at Kenanga Investment Bank Bhd (Kenanga Research) observed.
“We believe all the negatives could have been priced in with valuations trading at a more palatable price earnings ratio (PER) of between mean and one standard deviation (SD) five-year forward average which appears undemanding,” it said in a report yesterday.
“However, the sector lacks positive catalysts over the shortto-medium term.”
The research team noted that in an effort to further mitigate rising cost and reliance on manual labour and hence maintain margins, Top Glove is embarking on more automation in the production processes.
“The group is embarking on automation in three key areas, including an artificial intelligence system to detect and removed defective gloves (trial started in March 2019), automated warehouse management system (expected to commence in mid2019), and automated glove packing system (expected to commence by mid-2019).
“The total estimated saving is about 10 per cent reduction in manpower or an estimated five per cent of our financial year 2020 (FY20) earnings forecast,” it said.
In the near term, Kenanga Research noted that competitive pressure is rising as demand is tapering off.
“Top Glove has faced lower quarterly sales volume growth for two consecutive quarters. From our channel checks, we gather that competition in the nitrile gloves segment has intensified leading to pressures on ASPs.
“As such, coupled with the moderating demand and in anticipation of new capacities ramp-ups, we would not be surprised if ASPs come under further pressure over the next two quarters,” it said.
“We understand that over the past six months, delivery lead times (the time frame between order and delivery) have shortened from 60 to 70 days to 30 to 45 days, potentially indicating that strong demand is tapering off,” it added.
Meanwhile, on Top Glove’s second quarter of 2019 (2Q19) results, Kenanga Research said the company’s 2Q19 revenue was dragged down by flat sales volume (up one per cent) due to lower nitrile (down 0.5 per cent) and surgical (down four per cent) but was mitigated by higher latex powdered (up two per cent) and latex powdered free (up one per cent).
“However, 2Q19 net profit was dragged down by external factors, including lower ASPs and weaker ringgit against the US dollar. ASPs for nitrile and latex gloves ASPs fell eight and five per cent, respectively.
“While the ringgit appreciated one per cent against the US dollar. 1H19 net profit rose 0.6 per cent y-o-y due largely to higher volume sales (18 per cent),” it added.
Separately, following the expiry of the three years’ special reinvestment allowance in 2018, the research team expect normalised effective tax rate to be around 17 to 20 per cent.
“In terms of geographical markets, y-o-y volume sales in all markets in 1H19 grew across the board, including Asia (up 18.5 per cent), Western Europe (up 38 per cent), Eastern Europe (up 39.6 per cent), Latin America (up 11.6 per cent), North America (up 28 per cent), Middle East (up 6.8 per cent) and Africa (up 14 per cent) that continued to dominate overall sales.
“The group is upbeat on demand for nitrile and latex gloves in the China market (accounts for an estimated four per cent of sale volume) whereby the usage is still low compared to the developed countries,” the research team said.
All in, Kenanga Research maintained its ‘market perform’ call on the stock despite the lack of positive catalysts.