Ansell: COVID disruptions…temporary, but duration unknown

About the author:

Dr Derek Jellinek
Author name:
By Dr Derek Jellinek
Job title:
Senior Analyst
Date posted:
01 February 2022, 10:00 AM
Sectors Covered:
Healthcare

  • 1H trading update disappointed, with underlying earnings -25% on pcp and margins -470bp, albeit sales grew c8% despite soft medical glove demand.
  • It appears multiple issues are to blame (supply chain disruption; increased costs; inventory destocking; price inflation < cost inflation; ramping productivity), coupled with a recent one week plant shutdown for COVID and major US supplier of Exam/SU gloves unable to import due to a labour law investigation, all conspiring to shave 27% off the mid-point of prior FY22 EPS guidance (US$1.35 vs US$1.85).
  • While there are numerous issues at play, the majority are COVID-related, so we believe are more temporary than structural in nature, but timing is everything and the slippage already seen makes us more cautious that there could be more.
  • We adjust FY22-24 estimates materially lower, with our DCF/SOTP price target decreasing to (login to view). Move to Hold.

Event

Ansell (ASX:ANN) flagged soft 1H trading and downgraded FY22 guidance on multiple operational challenges (eg supply chain disruptions; increased labour/freight costs; lower demand for medical gloves; inventory destocking; selling price out of step with costs; and lower fixed cost recovery on prior manufacturing plant shutdowns).

1H sales were US$1,009m (+8%); EBIT US$111m (-25%); EPS US$0.61 (-25%).

ANN also flagged the closure (27 Jan-22 for one week) of one of its Malaysian plants on increased COVID infections and recent (28 Jan-22) issue of a Withhold Release Order (WRO) by the US Customs and Border Protection (CBP) against YTY Industry Holdings Sdn Bhd (YTY), a major supplier of medical gloves to ANN, which will prevent its disposable gloves from being imported into the US.

FY22 guidance: US$1.25-1.45 (-35% to -25%; prior US$1.75-1.95, -9% to +2%).

Analysis

1H sales increased c8%, reflecting strong demand across multiple segments (eg Surgical, Life Science; Mechanical) and pricing is as expected, but demand is outstripping supply, with sale shortfalls due to limited labour availability and logistics disruptions limiting the recovery from early FY22 COVID plant shutdowns. 

Demand in Medical Exam/Single Unit (SU) and Chemical appears slower than anticipated, with outsourced volumes lower on channel inventory destocking.

1H operating margins fell 470bp to 11.0% on multiple factors, including: softer medical gloves demand; increased freight/labour costs; lower fixed cost recovery on manufacturing shutdowns; and price inflation lagging cost inflation.

It appears most factors responsible for the weak performance are COVID-related and so we believe should be viewed as temporary and not structural, with demand (outside medical gloves) likely to remain strong, margins recovering as high cost inventory normalises, productivity continues to ramp and costs reduce (additional price increase taken from 1 Jan-22).

However, timing of a recovery is uncertain and resolution of the YTY WHO order adds more complexity into the mix, with ANN yet to develop plans on other product substitutions.

Forecast and valuation update

We lower FY22-24 NPAT by 28%/19%/16%, respectively, mainly on lower margins.

Our blended DCF, SOTP valuation decreases to (login to view).

Investment view

While we expect demand for PPE to slow and COVID disruptions to fade, the trajectory of that decline has been more rapid and COVID impacts more long lasting, with visibility on recovery uncertain and difficult to forecast.

Price catalyst

1HFY22 results 15 Feb-22; FY22 results 23 Aug-22.

Risks

Lower volumes than expected; limited pass-through pricing; modest gains from manufacturing efficiencies; margin compression; regulatory intervention; market share loss; risk from acquisitions/divestures; and unfavourable FX.

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