How it started and where we are now
Earlier this month, a group of workers were tested before they were allowed to fly back their hometown, from which 12 tested positive. The Group since then did contact tracing, and tested more people; unfortunately positive cases started to rise significantly, mostly asymptomatic. As part of the Enhance Movement Control Order (EMCO) announced last week on the Group’s worker dormitories, c.5.8k workers have been tested; as many as 4k workers tested positive (updated as of Nov 24th) thus far. As previously noted, the 28 factories cited include 20 glove factories (c.50% of annual capacity), whereas the rest include condom, dental dam, face mask, chemical factories, amongst others.
What happens now
The aim is to test all workers in Klang, even those outside the EMCO area. The Group clarified that it has c.8.2k workers in Klang, out of which at least 70% have been tested; swabbing the rest could take just a few days. Those who test negative will need to isolate for 14 days before returning to work; Top Glove will utilize apartments/flats and hotels nearby for this purpose (at least 500 workers have been discharged due to minor infection and deemed not contagious). Still no details as to how/when exactly the operations of 28 facilities will be halted, but the current understanding is for the disruption to last for the two weeks of the EMCO period (Top Glove’s factories in Klang have been operating at just c.10% utilization since last week due to the EMCO), and operations can resume once all employees are tested and sites are sanitized. In the meantime, Top Glove will seek to increase more nitrile output from other factories whose lines are interchangeable. Currently, there is no indication to extend the testing to other facilities, although SOP pre-cautionary measures such as temperature checks will remain.
Zero impact to orders, ASPs still robust
No order cancellations so far; Top Glove in a reply to a recent Bursa Malaysia query noted that it expects 2-4 weeks' delay in delivery of its products with a c.3% impact to FY21E volume, no penalty expected. The Group also clarified that any contact between its workers and the end products only happens towards the end of the production process (packaging, quality control) with workers required to don the necessary equipment (gloves, masks etc). The risk of product contamination is low, as the temperature in factories is often higher than room temperature, which would reduce the virus survival rate significantly. Further to that, it is unlikely that the virus could last for the 2-4 weeks required to ship products to customers. Spot ASPs are now at US$140-150 per 1,000 pieces. NBR glove ASPs for Nov-20 deliveries already hit US$100, and management expects another 15%/10% MoM hike in Dec-20 and Jan-21 respectively.
Valuation
Our target price for Top Glove is RM16.00, derived from what we think is a conservative 15.8x CY21E EPS based on 1SD below the stock’s five-year mean. While we expect robust earnings on the back of margin expansion even in CY21E, the market may look further out and begin to bake in normalized demand and ASP. Our target PE is closer to Malaysia's market multiple.
