5 Risks To Note Before Jumping Onto The Glove Mania
August 26, 2020
Most of the companies around the world saw their share prices receiving a real hammering when COVID-19 struck. But, not all of them suffer the same fate. The US tech giants and Malaysian glove makers, in fact, had one of the best bull runs in their share prices.
However, I still think valuation for the big US tech stocks is still fair. But it is a little bit the other way round for glove companies.
Do not get me wrong. Glove demand is much higher now and higher in the future. But there are a few bearish cases that you should consider. This is especially true if you are having the “fear of missing out” urge to jump right in now.
1. Permanent Pandemic-Driven Demand?
Malaysia is well known to be supplying around 60% of the global glove demand. It is home to the top 4 biggest glove makers in the world – Top Glove Corporation Berhad, Hartalega Holdings Berhad, Kossan Rubber Industries Berhad and Supermax Corporation Berhad.
COVID-19 has pushed up the demand for gloves significantly. Pandemic drive sales volume helps glove makers to lower their fixed costs. As many parts of the world are still scrambling for more supply, it is easy to rationalize their high P/E ratio.
But this is not the first time we encounter outbreaks and pandemics. Will demand for gloves maintain at the current levels to justify the current price to earnings ratio of all glove makers?
2. Permanent Higher Average Selling Price (ASP)?
Buy when there is blood on the street. Or sell higher when there is a ravaging pandemic. Glove makers with stellar results attributed it to a higher selling price.
Most of the glove makers are operating at breakneck capacity while expediting their expansion. Even as of currently they all admit that demands still far outweigh the supply they can provide. Glove prices are not spared from the natural laws of supply and demand. And right now, glove companies are holding onto the trump card and calling the shots on the selling price.
So will the higher average selling price persist, even when things start to improve? Food for thought!
3. Permanent Favourable Foreign Exchange Rate?
Malaysia’s GDP relies heavily on its manufacturing and exports. Semiconductor, electronics, gloves are manufacturing sectors that play a big role in Malaysia’s GDP. Companies in the export business have their positive earnings buoyed by favourable exchange rates. Exports are usually denominated in USD. A weaker ringgit does contribute positively to a company with huge export business.
One of the key factors that vaulted glove companies’ quarterly results was the favourable USD:MYR exchange. But will a favourable foreign exchange always be on the side of the glove makers?
4. Permanent Favourable Raw Material Prices?
Low input raw material prices is also another factor that impacts manufacturing companies. The key 2 raw materials into making gloves are natural latex and nitrile. Most glove makers have switched their product mix to be more focused on nitrile gloves given its popularity.
Nitrile prices have been trending down as guided by Top Glove and Supermax’s quarterly reports. Prices of nitrile latex have been coming down for successive 3 quarters. This contributed significantly to the latest bumper quarterly reports.
Source: Supermax Corporation Berhad Q3’20 report
Source: Top Glove Corporation Q1 & Q2’20 reports
5. Permanent Global Demand Relying on Malaysia For Gloves?
COVID-19 might not be the most lethal pandemic, but it is contagious. Healthcare gloves are one of the basic consumables that will see its usage increased. The giant glove makers have seen positive fortunes during this unprecedented time.
But there are plenty of smaller glove manufacturers within Malaysia and other countries too. These companies also have been enjoying the bull ride. Glove making is not a high barrier industry. Apart from the antimicrobial gloves that Hartalega is launching, normal rubber gloves and nitrile gloves do not hold significant differences from each other. There is little intellectual property or cutting-edge technology. The barrier of entry would be from a cost perspective, which is to decrease the thickness of the gloves.
Will we see other countries investing and venturing into the glove making scene as well? All top 4 glove makers are highly profitable, and their businesses do generate high operating cash flow. Profits and cash have been reinvested to grow their businesses over the time.
But that does not prevent other companies or countries from joining the scene. Will we see other countries putting more efforts in setting up manufacturing facilities for healthcare consumables? It is the new normal, and it is possible for countries and companies to adapt accordingly.
Verdict That said, with the current pandemic outlook still cloudy, it is difficult to be bullish or bearish when it comes to picking a side for the glove makers. But, if you have not invested in any glove companies yet, the current downsides pose more risks than rewards. Hoping for a prolonged pandemic and a delay in vaccines as an investing thesis to enter the glove bandwagon, could be a little too late.
Also, most glove makers are reporting bumper results as most of the stars are aligned. Higher average selling price could persist the bull case for glove makers to maintain their stellar results. But any hiccups in unfavourable foreign exchange, raw material prices, and delay in capacity expansion would see prices correcting downwards.
Ong Joo Parn is the co-founder of MyKayaPlus.com, a website that aims to spread financial literacy to the mass public. It aims to prove that financial freedom is possible through hard work and determination, even though without a degree in finance and accounts. Being a Malaysian based in Singapore, has allowed him to see the beauty not only from both stock markets, but also any great potentials around the world.