Riverstone Holdings - DBS Research 2019-05-16: Margins Under Pressure

RIVERSTONE HOLDINGS LIMITED (SGX:AP4) | SGinvestors.io RIVERSTONE HOLDINGS LIMITED (SGX:AP4)

Riverstone Holdings - Margins Under Pressure

  • Riverstone's higher revenue in 1Q19 led by volume growth but earnings were weak.
  • Margin pressure due to change in product mix and weaker ASP.
  • Expansion plans on track; aims to increase production by 15.6% to 10.4bn by end-2019.
  • Maintain HOLD; Target Price reduced to S$1.03 on lower earnings estimate.



Margins under pressure

  • Maintain HOLD with a lower Target Price of S$1.03. Margins are still under pressure from rising competition, especially in the healthcare space. We have cut RIVERSTONE HOLDINGS LIMITED (SGX:AP4)'s earnings by 19% for FY19F and 17% for FY20F to account for lower margin assumptions.
  • We see value in Riverstone’s hard-to-replicate cleanroom business that sets it apart from its competitors. This segment also commands significantly higher margins. Glove makers are generally regarded as defensive and relatively more stable given their resilient demand. An increase in the production of cleanroom gloves could spark a re-rating of the stock.


Where We Differ:

  • We are less optimistic on the margins front amid uncertainties in the broader macro environment..


Potential Catalysts:

  • Further capacity expansion, sustained increase in cleanroom glove mix (and thus margins), and inorganic growth.


Valuation:


Maintain HOLD; Target Price reduced to S$1.03 based on 16.8x blended FY19F/FY20F PE.

  • Our Target Price of S$1.03 is pegged to average PE of 16.8x, which is also a 20% discount to larger peers, on blended FY19F and FY20F earnings. Maintain HOLD.


Key Risks to Our View:

  • Global economic slowdown. While margins for cleanroom gloves tend to be resilient, demand for these gloves could be threatened in the event of a slowdown in the global economy.


WHAT’S NEW - 1Q19 results below expectations on weaker margins


Higher revenue led by volume growth.

  • Riverstone's 1Q19 revenue rose 14.6% y-o-y to RM240.5m. The group saw growing sales volume for both its healthcare and cleanroom gloves, which partly offset the lower average selling prices. In terms of volume split, the healthcare vs cleanroom split is about 86:14, similar to 4Q18.
  • Overall ASP was down y-o-y but similar to 4Q18.

Lower gross profit margin.

  • Gross profit margin contracted 2.9 percentage points to 19.4% vs 22.3% in 1Q18. This contraction was mainly attributable to a change in product mix to a higher proportion of lower-margin healthcare gloves, and also a decrease in average selling prices of healthcare gloves.

Lower ASP for healthcare gloves.

  • Apart from heightened competition in the market, the downward price revision reflects the falling prices of Butadiene, a key raw material used in the production of the group’s nitrile-based gloves.
  • Most of the savings from the lower raw material price are passed on to the customers due to keen competition in this space. The cleanroom segment is more stable as prices are negotiated on a longer-term basis.

1Q19 results below expectations.

  • Overall, net profit eased 2.8% y-o-y to RM30.2m, accounting for 19% of our FY19F forecast, while revenue accounted for 23%; below expectations.

Strong balance sheet.

  • Riverstone’s core business continues to generate strong positive operating cash flows of RM50.6m for 1Q19, bolstering its balance sheet strength to a net cash position of RM110.6m.


Outlook and Recommendation


Expansion plans on track.

  • Phase 5 expansion plans in Taiping, Perak, Malaysia is completed, bringing total production capacity to 9bn pieces of gloves per annum. Riverstone aims to increase production by 15.6% to 10.4bn by the end of 2019, in Phase 6 of its expansion plans.
  • Riverstone has also acquired approximately 14.64 acres of land in Taiping for future expansion in production capacity. Utilisation rate remains high at about 92%, despite the capacity expansion.

Raw material butadiene prices are stabilising, the most ideal environment for Riverstone.

  • Butadiene prices have been fluctuating within a narrower band of between US$900/metric tonne and US$1,200/metric tonne YTD, since the 40% plunge in price in 2H18. The steep drop in price was mainly on the back of the US-China trade tensions. A high raw material price affects ASP, especially for the healthcare glove segment as most of the cost savings are passed on to customers.
  • On the inventory front, lower raw material prices would allow the group to lock in more inventory at a lower cost, though there would still be a one-to two-month lag before the old stock is cleared. A more stable butadiene price is the most ideal environment for the group, allowing a more manageable inventory environment.

Keen competition for healthcare segment vs cleanroom.

  • Competition in the healthcare space remains keen as existing players are expanding their capacity while new players, including those from China, are entering this space. Going forward, competition, raw material prices and the forex risk (sales in USD, costs mainly RM) will continue to affect the ASP of this segment.
  • The cleanroom segment is more isolated from competition. ASP is more stable as it is usually negotiated on a yearly basis. Furthermore, the requirement is also much more stringent compared to healthcare gloves, and not many players can be in this space.


Maintain HOLD; Target Price reduced to S$1.03 on lower earnings estimate.

  • Margins are still under pressure from rising competition, especially in the healthcare space.
  • We have cut earnings by 19% for FY19F and 17% for FY20F, mainly to account for lower margin assumptions. We are now projecting a GP margin of 19%, vs 23% previously. As such, our Target Price is reduced to S$1.03 (previously S$1.19), pegged to average PE of 16.8x, which is also at a 20% discount to larger peers, on blended FY19F and FY20F earnings.
  • Maintain HOLD.





Lee Keng LING DBS Group Research | https://www.dbsvickers.com/ 2019-05-16
SGX Stock Analyst Report HOLD MAINTAIN HOLD 1.03 DOWN 1.190



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