Rubber gloves not going anywhere yet

Written by Financial Daily
 Thursday, 14 July 2011 11:01


Rubber gloves
Maintain neutral: The cost of latex has come down while nitrile has risen. But we retain our preference for nitrile glovemakers premised on our view that latex cost remains on a long-term rising trajectory due to the inflexible production, in light of rising demand from the growing auto industry. We downgrade Top Glove Corp Bhd to “sell” (from “hold”), with a lower discounted cash flow-derived target price (TP) of RM4.40 (from RM5.10). We maintain our “buy” calls on Hartalega Sdn Bhd (TP RM6.80) and Kossan Rubber Industries Bhd (RM3.60).

The average selling price (ASP) disparity between latex and nitrile gloves has narrowed substantially. Current glove quotations still favour nitrile gloves with the ASP about 10% lower than powder free latex gloves and on par with to slightly higher than powdered latex gloves.

The ASP gap was 20% to 30% in 1Q11, favouring nitrile over latex powder free gloves. We believe the ASP gap will widen again in 4Q11 on seasonally higher latex cost and lower nitrile cost (in tandem with the falling crude oil price).

We see downside risk on consensus estimates for Top Glove’s FY12/FY13 earnings, which imply a 46% year-on-year growth in FY12 and 15% growth in FY13. Brokers’ earnings expectations in FY12/FY13 are banked on a sharp pick-up in sales volume (15% to 20%), at levels above the Influenza A H1N1 period and also above the 8% to 10% global glove demand growth. We cut our earnings estimates for Top Glove  by 14% after lowering our sales volume assumption by between 4% and 5%.

Hartalega could see its near-term margins crimped by the higher nitrile cost year to-date and upcoming 1QFY12 results may see a quarter-on-quarter dip. Nevertheless, this is within our expectation as we impute for lower margins in FY12 to FY14 (-3.5 to 4.5 basis points). We continue to like Hartalega for its superior margins and return on equity, which enable the company to defend its market share, especially in a higher cost and overcapacity environment.

We are lukewarm on the sector as there are no fresh catalysts. The falling latex cost theme is fully played out with Top Glove’s recent share price performance (+5% in one week) and forward price-earnings ratio valuation of 20 times.

Hartalega remains our top pick but we think  share price momentum will be slow as the market takes note of the rising nitrile cost. The lull provides a good opportunity to accumulate the stock. — Maybank IB Research, July 13

This article appeared in The Edge Financial Daily, July 14, 2011.