Better FY19, FY20 profit margins expected for Kossan

Kossan Rubber Industries Bhd
(Jan 14, RM4.15)
Maintain buy with an unchanged fair value (FV) of RM4.65:We like Kossan Rubber Industries Bhd for its expansionary plans and efforts in improving quality and operational efficiency through revamping and upgrading its older plants.

We visited Kossan’s Plant 18 last week. Key highlights are Kossan expecting newer plants to achieve higher efficiency; Kossan can now run Plant 18 at full capacity as the group had hired ample workers; the group is confident about passing on costs, despite the influx of capacity; and Kossan’s first plant in Bidor, Perak is expected to be completed in the financial year ending Dec 31, 2022 (FY22).

Kossan’s new plant is expected to achieve higher efficiency. The lines run at 40,000 pieces of gloves per hour and 2.6 million pieces of gloves for every worker. Currently, the packing line requires heavy manpower — about 50% of its production workers. Kossan plans to introduce an automated packing system to reduce reliance on labour.

Plant 18 also uses a supervisory control and data acquisition system to ensure the lines are run optimally, helping to reduce operating costs in the long term. We believe Kossan’s long-term profit growth would be underpinned by an increased automation and efficiency.

We expect labour costs for Kossan to increase in FY20 due to a higher minimum wage, zero-cost recruitment system and more workers required as the workers must be given a day off per week. However, we expect labour costs to decline gradually due to the automated packing machine instalment.

The group is confident about passing on costs, despite the influx of capacity. However, we believe in six to 12 months, there will be a downward pressure on selling prices as a 14% increase in industry capacity exceeds the 8% to 10% growth in demand. Lower nitrile prices are also expected to exert a downward pressure on the average selling price.

Kossan’s Plant 19 is expected to be completed by FY20 with 10 lines and three billion pieces of annual capacity, increasing the group’s total capacity by 10.3% to 32 billion pieces per year. Kossan plans to expand in Bidor next and to complete its first plant there in FY22.

We expect Kossan’s net profit margins for FY19 and FY20 to improve to 9.6% and 10.5% respectively, from 9.3% in FY18, underpinned by capacity expansions, an improved internal efficiency and strong demand growth. — AmInvestment Bank, Jan 14