Riverstone Holdings (RSTON SP) - UOB Kay Hian 2017-08-04: Hold Until Greater Clarity

Riverstone Holdings (RSTON SP) - UOB Kay Hian 2017-08-04: Hold Until Greater Clarity RIVERSTONE HOLDINGS LIMITED AP4.SI

Riverstone Holdings (RSTON SP) - Hold Until Greater Clarity

  • Riverstone’s 2Q17 results were lacklustre and below our expectations. 
  • While revenue rose 36.1%, profit dipped slightly with gross margin shrinking 3.9ppt yoy on raw material costs and forex weakness. 
  • While capacity expansion is smooth, we question the margin contraction and the growth of the healthcare gloves segment over cleanroom gloves and opine that it may be better to take a wait-and-see approach. 
  • We revise earnings downwards and downgrade to HOLD with a new target price of S$0.96 based on 20% discount to 21.8x FY17 peers’ average PE.



WHAT’S NEW


2Q17 results below expectations. 

  • Riverstone’s 2Q17 results were below our expectations as profit dipped slightly by 0.8% yoy to RM27.1m despite revenue rising 36.1% yoy due to higher raw material costs and losses due to volatility in foreign exchange. 
  • Dividends of RM0.0013 were also announced.

Surge in raw material prices and exchange rate volatility pressured profits. 

  • In 1Q17, raw material prices had suddenly rallied to a five-year high and its effects continued to spill-over into 2Q17, shrinking gross margin by 3.9 ppt yoy to 20.5% (1Q17: 25.2%, 2Q16:24.4%). 
  • Meanwhile, volatility in forex led to a loss of RM2.4m compared to a RM3.0m gain in 2Q16 (the RM/US$ weakened from RM4.43 on 1 Apr 17 to RM4.28 on 1 Aug 17).

To add capacity of 1.4b/p.a. in Phase 4 of its expansion plan. 

  • Riverstone has raised its capacity expansion target to 1.4b gloves/p.a. for its Phase 4 Taiping expansion. This will bring total capacity to 7.6b/p.a. by end-17. Management indicated that Phase 5 of the expansion plan is on track and will continue as planned.


STOCK IMPACT


Cleanroom glove growth below our expectations. 

  • Our checks indicate that for 2Q17, the cleanroom gloves (which yield the highest margins) segment saw slower-than-expected yoy revenue growth which was in the single-digit range. This means that the revenue growth was likely supported by the healthcare gloves segment which sees lower margins and is hence more heavily impacted by costs pressures such as high raw material prices. 
  • While the spike in raw material prices is unlikely to be permanent, this does bring some concerns to the table.

Gross margin contraction worrying. 

  • The growth of the healthcare glove segment over the cleanroom glove segment is worrying, given that the latter is also a key contributor to the overall gross margin contraction (-3.9ppt yoy and -4.7ppt qoq). 
  • Unlike competitor Top Glove in 3QFY17 (ending 31 May 17), it also appears that Riverstone is unable to pass on costs to its healthcare customers and has to absorb it internally.


EARNINGS REVISION/RISK


Cut 2017-19 earnings forecasts. 

  • Given the lower gross margins and a weakening US dollar, we lower 2017-19 earnings forecasts by 1.2%, 5.3% and 7.5% respectively.


VALUATION/RECOMMENDATION


Downgrade to HOLD with new target price of S$0.96. 

  • On the back of our earnings forecast cuts, we downgrade our recommendation to HOLD with a new target price of S$0.96 based on a 20% discount to FY17 peers’ average PE of 21.8x
  • With competitors maintaining their gross margins, we believe a 20% discount is fair given Riverstone's gross margin shrinkage. We opine that more time is needed to see how Riverstone would eventually handle the challenges ahead and investors need not hastily add to their portfolio now.




Edison Chen UOB Kay Hian | http://research.uobkayhian.com/ 2017-08-04
UOB Kay Hian SGX Stock Analyst Report HOLD Downgrade BUY 0.96 Down 0.990



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