Karex earnings to recover on OBM, glove business


KAREX Bhd’s earnings are expected to improve going forward, driven by sales shifting back to the lucrative own-brand manufacturing (OBM) channel and its new glove manufacturing business.

Hong Leong Investment Bank Bhd (HLIB) is confident of Karex’s prospect ahead as Karex claimed condom prices have nearly recovered fully after falling by about 30% to 40% since financial year 2017 (FY17).

Karex incurred higher costs in FY21 including raw material costs, which had risen considerably; freight costs, which had more than tripled; and spending incurred to curb the spread of Covid-19.

“We gathered that Karex was able to pass on the higher costs to customers due to the overall lower market supply, as a number of smaller players in the market saw operational difficulties during the pandemic or have exited the market altogether,” HLIB analyst Gan Huan Wenhe stated.

Karex’s condom business currently comprises three market segments namely original equipment manufacturer (OEM), tender (supplied mainly to governments and NGOs) and OBM.

Karex’s sales to the OBM market shrank to 10% in the second quarter ended Dec 31, 2020 (2QFY21), from 18% in FY20 due to lesser sales in the US and UK.

However, with the rollout of vaccines in the US (20.6% of the population vaccinated) and the UK (34.9% of population vaccinated) gaining traction, Gan expects OBM sales to rebound in FY22.

Karex has expressed intention to grow its OBM sales in South-East Asia as economic development would shift sales in these regions from tender to OEM or OBM.

“A high proportion of condom sales in developing South-East Asian nations (the Philippines and Indonesia) currently are purchased by NGOs and organisations (the tender market) to be distributed for free in order to curb the spread of sexually transmitted diseases.

“As these countries modernise, funding for these organisations is expected to be reduced, which would in turn lead to consumers buying condoms on the commercial market independently. This would shift sales from the tender channel to OEM or OBM,” Gan said.

According to Gan, gross profit margins are significantly better for OEM at about 20% and over 45% for the OBM trade compared to tender margins of between 10% and 12%.

Gan believes Karex is on track to begin production of medical gloves in July this year with two production lines expected to produce up to 40 million pieces per month by August.

“Our glove FY22/FY23 average selling price assumptions for Karex of US$35 (RM144.04)/US$27 (per 1,000 pieces) are below other glove counters under our coverage as we reckon Karex may not be able to achieve the pricing of their established counterparts, considering they are a new entrant in the industry,” Gan noted.

After factoring in additional earnings from Karex’s glove venture, Gan increased his FY22/FY23 forecasts by 26.8%/22.1% for Karex, though he kept his FY21 forecast unchanged as glove production is only expected to begin in FY22.

HLIB has a ‘Buy’ call on Karex with a target price (TP) of RM1.19.

“Despite raising our forecasts, we decided to keep our TP and price-to-book valuation methodology as FY21 core profit after tax and minority interest of RM13.6 million still remains far below Karex’s FY16’s peak earnings of RM80.2 million. We like Karex for its earnings recovery outlook,” Gan said.