Target RM4.57 (Stock Rating: HOLD)
Karex has proposed to acquire two pieces of land where its existing plants in Pontian are located. The proposed acquisition will ensure that Karex's operations could continue without any interruptions, besides offering extra room to expand its capacity in the future. We cut our FY15-17 EPS forecasts by 7-8%, mainly taking into account the dilution effect of a recent private placement. While the placement will strengthen balance sheet and provide ammunition for future expansion, the immediate effect was a dilution which pushes up valuation, making the stock less attractive. We downgrade our call from Add to Hold, with a lower target price (based on 23x CY16 P/E, a 10% premium over Hartalega) due to the EPS cut. For rubber-related stocks, we recommend Kossan.
What Happened
Karex announced that its wholly-owned subsidiary has entered into a sale and purchase agreement with Tropical Produce Company (Pte) Limited for the purchase of two pieces of land measuring approximately 4.6ha for a total cash consideration of RM14.8m. This will take three months to complete and it will be financed by the proceeds from a private placement exercise that was completed on 11 Mar 2015. In March 2015, Karex placed out 40.5m new shares which represents 10% of its paid up capital. The company intends to utilise the proceeds of RM158m mainly for business expansion purposes.
What We Think
Karex’s existing manufacturing plants in Pontian are currently located on the land to be acquired. Since 2004, the company has been leasing the land and paying an annual rental of approximately RM376.8k for its manufacturing and warehousing operations. As the tenancy agreement will expire on 31 Oct 2015, the group is now taking the opportunity to acquire the land to prevent any interruptions to its operations or the non-renewal of the tenancy agreement by the lessor. With this land purchase, Karex may also not need to relocate its existing manufacturing facilities to the new plant in Pontian that will be completed by Jun 2015. This will give Karex more room to increase its capacity to cater to future condom demand. Funding is not an issue as this purchase will be fully funded using the proceeds from the recent private placement.
What You Should Do
We advise investors to stay on the sidelines. The share price has appreciated by 58% since our upgrade on 11 Aug 2014 and we believe that this has already factored in Karex’s strong earnings growth.
Source: CIMB Daybreak - 01 April 2015
