Hartalega Holdings Berhad (AR 2018)

Corporate Profile

• Vision - be the first glove companies that produce and deliver the best and most innovative gloves in the world. 
• World’s largest glove manufacturer by market capitalisation.
• In 2014, Hartalega invested RM2.5 Billlion (RM2,500 Million) in Next Generation Integrated Glove Manufacturing Complex (NGC) in Sepang which will boost the capacity from 14 billion to 44.6 billion gloves. So what is NGC?

• Hartalega commenced the commissioning of Plant 5 in July 2018 and will soon be undertaking the construction of Plant 6 and  Plant 7 tailored towards small order and specialty products.
• Hartalega latest revolutionary product - the world first non leaching antimicrobial glove with potential to killing up to 99.99% of microbes within 5 minutes of contact 
• The glove is the first ever to contain nonleaching antimicrobial technology with a pathogen-killing molecule. The active ingredient in the glove is a photosensitiser which generates singlet oxygen when exposed to light. This singlet oxygen oxidises proteins and lipids in bacteria, thus killing microbes that are transferred to the glove.
• Launched in Europe in May 2018 and currently in the process of securing approval from the US Federal Drug Administration to introduce this product to the US market.
• What is nitrile glove? 
• Nitrile gloves are a synthetic glove which has rubber-like characteristics. 
• Nitrile glove has almost the same flexibility, tensile strength, and durability as a latex glove. 
• The greatest benefit of nitrile gloves is that it is protein free and allergy free. Nitrile gloves are a great alternative to latex glove for people with latex allergies. 
• Nitrile gloves are highly puncture resistance - 3 to 5 times more than latex and they are also more elastic than vinly gloves. 
• Nitrile rubber is more resistant than natural rubber to chemicals, oils and acids, and has superior strength.

Glove Outlook

• Malaysia is the world’s largest supplier of rubber gloves with over 60% of the global market.
• Malaysian rubber glove exports increase 15.8% from  61.9 billion in 2016 to 71.7 billion pairs in 2017. 
• Synthetic rubber glove exports grew by 22.6% during the year to 43.4 billion pairs, from 35.4 billion pairs in the previous year.
• In 2017, market demand saw a greater shift towards nitrile gloves, which accounted for 99.5% of total synthetic rubber glove exports. 
• US remained the chief export destination for Malaysian synthetic rubber gloves, comprising 47% of Malaysia’s total export value 
• Stable growth and demand for nitrile glove (as proven by the nitrile gloves sales from Harta below)

Financial Performance

• Revenue increased by 117% from 2014 - 2018 (which is in line with their expansion plan of NGC)
• Gross profit margin is able to maintain above 25% and net profit margin above 15% from 2014 - 2018 (showing a strong management team to maintain the efficiency even after the company grow twice bigger)
• Consistently generate positive cash flow from operations over the 5 years. 
• Over the 5 years, the company spend RM 1,553 million in upgrading their plant and equipment and yet they are able to maintain a healthy level of gearing ratio of below 0.1 (signify the company has the ability to take up more expansion plan)

• Allowance for impairment is below 0.1% of its trade receivables. 

• All of their bank borrowings are denominated in USD. (However the strengthening of RM will not be a huge impact as 99.8% of their revenue are derive from export business, meaning their sales are mainly in USD)

• Hartalega manage to tap into new market at Middle East and Russia in 2018
• America remain their main export country which accounted for 40% of their revenue
• Malaysia only accounts for 0.17% of their revenue (This means the company has unlimited potential as local market is limited while export market has unlimited opportunities)
• The demand for glove and sales to export countries actually increased from 2017 to 2018

• There is one single customer in the US contributes around 20% of Hartalega revenue (however this is a very healthy level as the company do not depends on one single client to do their business)

As at 3rd Quarter of 2019

• Operating profit margin to maintain at approximately 20%
• Revenue for 3 cumulative quarters is RM 2,143 Million vs RM 2,405 in 2018 (the revenue in 2019 can easily exceed 2018)
• Net profit for 3 cumulative quarters is RM 364 Million vs RM 439 Million in 2018 (the company will most likely to perform better in 2019 as Hartalega is generating RM 120 million of profits per quarters, RM 364 Million + RM 120 Million = RM 484 Million)
• Growth in revenue was contributed by improvement in sales volume of 11.6% in tandem with growing demands for nitrile gloves and continuous expansion in improving production capacity. The increase in sales revenue is also contributed by higher average selling price. (this means that Hartalega has the ability to adjust the selling price of their glove to their customers based on the cost of their raw material and the demand for nitrile glove is still increasing)

• Gearing ratio remain at 0.11 (11%) which is about the same as 2018 (kudos to the management team)

• Cash flow generated from operating remain strong. 
• For 3 cumulative quarters, the company spend RM 317 million in expansion on their NGC (bringing it up to RM 1,870 millions of investment in PPE since 2014. Therefore, i expect the full expansion plan of NGC to be completed in another 2 years time to make it up to RM 2,500 millions of expansion plan)

Future Prospect

•  Nitrile glove accounts for 63% of Malaysian rubber glove export (increased from 50% in 2018) 
• Plant 5 of NGC facility has commissioned 6 out of 12 lines with remaining production lines to come on progressively.
• Construction of Plant 6 structure have started 
• Plant 5 and Plant 6 will each have annual installed capacity of 4.7 billion pieces. A new plant – Plant 7 is also in the expansion pipeline catering to small orders focusing more on specialty products. Plant 7 will have an annual installed capacity of 2.6 billion pieces. 
• Since the launch of antimicrobial gloves (AMG) in UK, Hartalega has received orders from customers in over 10 countries (this is some great progress as compared to only Europe in 2018)  
• The company is also working on securing Federal Drug Administration (FDA) approval for US market where there is greater awareness among US healthcare professionals on the dangers of healthcare-associated infections. The FDA approval will provide a strong third party testament to the safety and effectiveness of the product. As the new medical product is in its introduction and education phase, we expect AMG to contribute meaningfully in the coming years. Sales of the AMG is also expected to gain momentum as it will be priced competitively to ensure quick market acceptance.

Strength 

• Strong management team with strong cash flow management
• Management team are far sighted enough to actually wanna invest RM 2,500 million in 2014 when their profit during that point of time is only around RM 230 million (the amount they invest is 10 times more than what they can make every year in 2014)
• The plan to build their NGC from plant 1 to plant 7 gradually is actually a very smart move as this do not jeopardize their cash flow and the market is able to absorb all the supply slowly. 
•  The new anti bacteria glove is expected to contribute positively to the company (continue its double digit growth legend maybe?) once they start selling it to US by end of 2019 as well as other countries. 
• Hartalega has lowest number of workers per glove output as compared to its peers (not too sure is how much, cant find info).
• Highest profit margin among industry (Harta - 17%, Topglove - 8.9%, Kossan - 9.5%, Supermx - 9.8%)
• Factory utilization rate of approximately 90%
• Have strong R&D as the company has the ability to be the pioneer in its industry (as proven from its nitrile glove over the year and also the new anti bacterial glove)
• Production right now is 32 billion gloves per year and to be increased to 44 billion gloves per year when the whole NGC is completed (that is another 37% growth in production capacity)
• Dividend payout ratio of 45% (the dividend yield is still very low as the valuation of Hartalega is on the high side however it is consider pretty good still)
• Latex price will not affect the company earning as 95% of their gloves are nitrile glove where the raw material cost is more stable than latex. 

Weakness

• Growth in revenue and profit slows down as compare to previously (as mentioned above, the profit is only expected to grow from RM 440 million in 2018 to RM 484 million in 2019 which is 10% as compared to a 55% growth in 2018)
• Supply might be greater than demand and is the market able to absorb so much supply in short term? (as everyone is increasing their production capacity)

Valuation at RM 4.63

• As we can see that the PE for Harta is trading at its historical high in 2018 with its PE reaching 45. 
• As at 30/3/2019, its share price is RM4.63 with PE of 32.18 (so is Harta a good buy at PE 32.18?) 
• Moving forward, if Harta is able to continue with double digit growth, at RM4.63, its PE can be easily below 30 (Assuming EPS for 2019 is 14.65 sen, with a double digit growth of 10% in 2020, the EPS is 16.11 sen. At RM4.63 a share, its PE will be 28)  
• PE comparison among peers (Harta - 32, Topglove - 27, Kossan - 22, Supermx - 17

Technical Analysis

• Harta is currently trading in a downtrend by forming lower low and the price is below its 20MA with support at 4.3 follow by 3.8. 

SCGM Q3 2019

• SCGM reported a loss making quarter for the first time since 2009 even though its revenue grow by 6%.
• Profit margin reduced from 11.5% in 2018 to 3.9% in 2019 due to higher depreciation, higher raw material prices, increased finance costs, and higher operating expenditure incurred in both the old and new plants in the transition period. (expect to see the operating expenditure to reduce in next 2 quarters after the new factory is in full operation)
• Finance cost continue to rise to 4 million in 3 quarters which accounted 56% of its operating profit.

• Inventories increased by 27% (signify that the business is in line with its growth plan)
• Gearing ratio increased from 0.47 in 2018 to 0.69 in 2019 (borrowing increased from RM84 million to RM123 million). 

• Depreciation and finance cost accounted for RM14.8 million vs profit before tax of RM3.1 million (that is almost 4 times of its profit)
• Cash flow of SCGM worsen as the company sort of survive based on borrowings. 
• Money spend in investing reduced meaning they can now focus on their operations. 

• Export sales remain flat while local sales grow by 5.5%. 

Future Prospect

• Demand for environmentally-friendly packaging solutions is on the rise both locally and globally due to higher social awareness. 
• The Group is also in the midst of moving operations to its new Kulai plant, with the factory expected to be fully commissioned in the fourth quarter ending 30 April 2019. 

Comments

• Although the company is making a loss of 0.36 sen per share for the quarter, it is still declaring 0.25 sen of dividend per share. (the company is basically paying the dividend with bank borrowings)
• Wait for sign of recovery in their operation before enter. 

SCGM Berhad (AR 2018)

Corporate Profile

• 34 years in business and listed on bursa malaysian in 2008
• Plastic solution for F&B, electronic and medical industry
• Obtain eco label mark from SIRIM for "Benxon" brand
• Currently has 2 manufacturing plant - Kulai (Johor -  Grow its 170,000 sqft facilities in 2009 to 600,000 sqft in 2017) & Banting (Selangor - setup in 2017 with 47,000 sqft and capacity of 5 million KG)
• Exclusive provider of decompose-able lunch box & food trays for 29th SEA games and 9th Asean Para games (good for their brand awareness and exposure)

Financial Highlight

• Revenue doubled from 2014 - 2018 (main reasons being growth in Malaysia market where sales increase from 70 million in year 2016 to 136 million in year 2018)
• Interest expenses and gearing remain at a healthy level (Gearing in year 2018 being 0.45)
• Main reasons for EPS to drop significantly from 2016 is due to increase in number of shares
  
• F&B remain as their major segment which contribute 80% of their revenue. 
• Generous with its dividend payout with about 70% of its profit are used to pay dividend (minimum 40% dividend payout policy)
• Cash reduced significantly due to the construction of its Kulai manufacturing plant.
• Depreciation expenses increased by 3 fold from 4.7 million in year 2014 to 11.2 million in year 2018 (due to its new Kulai factory)

Operation Highlights

• The thermo-form industry in Malaysia continued its uptrend during the year, with the ban on polystyrene packaging implemented in Klang Valley and Johor. 
• New government’s support in banning the use of polystyrene packaging nationwide, which could become a catalyst for the Group to enter next high growth phase.
• The Group also doubled our efforts in expanding our customers base, both locally and regionally. These initiatives translated into the Group gaining 138 new local customers and 13 new foreign customers during in year 2018, comprising vendors, manufacturers and retailers. We also penetrated the African market for the first time by securing a distributor for our products in Nigeria. (Obviously this is due to the ban of polystyrene where most local user will switch to SCGM for their eco friendly product)

Financial Review

• Increasing crude oil prices during the year inevitably led to higher prices of resin, which is a key raw material in our products.
• The construction of the new Kulai manufacturing plant and acquisition of machinery necessitated higher borrowings, and led to the corresponding surge in finance costs in FY2018 to RM1.6 million from RM0.7 million a year ago. Hence, the Group’s strong sales was tempered by all these factors, leading pre-tax profit to drop 28.1% to RM19.1 million, compared to RM26.6 million in the previous year. Net profit also followed in tandem, declining 28.7% to RM16.4 million in FY2018, versus RM23.0 million previously

Challenges

• Increase in global crude oil price
• Labour shortage and higher labour cost

Growth Prospect

• The new Kulai plant will contain technologically advanced machinery, which will reduce our reliance on labour and increase production capacity. 
• Together with machinery which will be relocated from the existing factory, the Group’s total extrusion capacity will expand to 67.6 million kg per year from 41.0 million kg per year currently, inclusive of the facility in Klang Valley.
• Aim to be a leading thermo-form plastic packaging providers in the region.  

As at 2nd quarter of 2019

• Revenue were historical new high in 2Q2019 (RM57million) however margin remain low and there is no sign of recovery (2.3% in year 2019 vs 10.3% in year 2018)
• Gearing ratio remain remain high at 0.62 (increase from 0.45 in year 2018) 
• Interest expense for 1Q2019 is RM1.2 million, 2Q2019 is RM1.38 million. (This is a huge concern as finance cost constitute 90% of its net profit)

• Depreciation remain high at 7 million for 2 quarters as compared to 11 million in year 2018. 

• Export sales slow down in in 2019 as compared to 2018. However the drop was offset by the gain in local sales. 

• The lower Profit before Tax was due to higher resin prices, higher finance costs, higher utilities expense, higher depreciation charges and higher labour cost incurred during the current quarter.
• The transition of the Group’s main operations from the old premises to the new headquarters is currently midway, and is targeted to operate fully from the new base in the third quarter ending 31 January 2019.The Group will strive to achieve better financial performance in the coming financial quarters when the new Kulai plant is commissioned.

Strength

• Impairment on trade receivable remains low which is less than 1%. (meaning their clients are mainly 好脚)
• 80% of their product are for F&B such as vegetables, fruits and confectionery (these products are actually defensive in nature)
• Plans to dispose the old Kulai plant for RM70 million to pair down their debts (theirs bank borrowing up to date was RM110 million, if the above plan is being materialized, gearing will reduce from 0.62 to 0.19 and this will greatly reduce its interest expense)
• The new automated plant at Kulai utilization rate is currently 50%, with the increased automation as well as larger power supplies, there will be lots of room to achieve greater economies of scale and margin improvements going forward.
• The new Kualai Plant actually double up its production capacity from 36 million KG/annum to 61 million KG/annum. 
• The new Kulai plant actually build on the concept of industry 4.0 which is fully automated, from raw material -> thermoforming -> packaging through the conveyor belt. A large scale production basically only requires one person to operates. (展望未来，李福成说，对餐盒包装的市场需求甚大，因此将生产迁移至新工厂，新工厂的面积约19英亩，面积比旧工厂多出1倍左右，不过，员工仍维持500人，无需增加人手。)
• It also complies with green building index so basically there is no need to turn on lights during the day (utilities saving). 
• Reinvestment allowances, which can offset up to 70% of taxable income and has not yet kicked-in despite the commencement of operations at its new plant as current earnings are still not favourable (not too sure how long is this reinvestment allowance).
• SCGM product are in line with SIRIM environment requirement which is decompose-able in 21 days. 
• Regardless of tight cash flow, Dato Lee Hock Seng (Chairman cum founder) mention that dividend payout ratio will maintain at least 40% of its profit and would strive to do better. 
• Ability to customize the plastic box according to clients' requirements. 
• Ability to mitigate the cost increment to their clients. 

Weakness

• Resin cost constitute 70% of its operating cost. 
• Margin remain compressed due to high depreciation, high finance cost, high raw material cost. 
• Price war between peers on the lunch box. 
• Can the company deliver what it mentioned above? In term of new factory utilization rate as well as maintaining the labour cost when production double. 

Valuation @ 1.14

• Dividend yield remain low (assuming the company is giving out 0.5sen every quarter, that is 2 sen per year, at 1.14, the yield is only 1.7%)
• Highest PE in the industry (current PE is 26). Bpplas (PE9.8), Tguan (PE7.6), Scientx (PE15.9)
• SCGM managed to deliver higher than peers gross profit margin (> 20%) and net profit margin (>10%). Industry net profit margin are usually below 10%

• After all the automation and increment in production capability, will SCGM gross profit and net profit margin shine again? 

Technical Analysis

SCGM are still forming lower low after the share price plunge in 2017, however the room for new low are shrinking. At 1.14, the price is still below its 20MA and there is no sign of recovery be it fundamentally or technically.