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Focus On These 6 Factors When Evaluating A Glove Company

This is the second part of the article on the six factors to focus on when evaluating a glove company. The first part can be found here.

As a quick recap, I highlighted that one of the best performing industries in the last five years in South East Asia’s stock market, especially Singapore and Malaysia, was the gloves sector.

Companies like Top Glove (SGX: BVA) and Riverstone Holdings Limited (SGX: AP4) or their peers listed in Malaysia like Kossan Rubber Industries Berhad (KLSE: KOSSAN), Hartalega Holdings Berhad (KLSE: HARTA), SUPERMAX CORPORATION BHD (KLSE: SUPERMX) are some of the best-performing companies in the those years.

Thus, to evaluate these businesses, we will need to focus on a number of key factors, three of which I mentioned in my previous article – industry demand, company’s capacity and revenue growth.

In this article, we will look at the remaining three factors:

4. Gross margin

5. Operating cost as a percentage of revenue

6. Return on equity

Gross margin

Gross margin indicates the percentage of the sales that are left over after removing the cost of production.

This is important because an increase in gross margin will result in higher profitability, and vice versa.

So what are the factors that will have an impact on gross margin?

Here, we need to pay attention to pricing of products (subjected to fluctuation due to imbalances in supply and demand of gloves) and the cost of production (mainly due to fluctuation in raw material prices – rubber and nitrile).

Generally, an increase in raw material prices will have an adverse impact on gross margin.

Operating costs as a percentage of revenue

Operating costs are mainly made up of distribution, administration, sales and marketing costs.

Generally, we should see a decline in operating costs as a percentage of revenue over time, especially as the glove companies grow bigger in scale.

Thus, what we want to see here is that operating cost as a percentage of revenue remaining constant, if not declining, over time. Also, we would like to see that the overall operating cost growing at a slower rate as compared to revenue growth.

Return on equity (ROE)

ROE is a measure of the profitability of each dollar of investor’s capital when invested in a business.

For example, an ROE of 20% means that a company generates $0.20 for every dollar of shareholders’ capital invested in the business. Generally, the higher the ROE, the more profitable each dollar of investor’s capital is.

This is the ultimate measure of how well a company is run.

Ideally, we want to see that a glove manufacturer maintains, if not expands, its ROE over the long-term.

Conclusion

These six factors – industry demand, company’s capacity, revenue growth, gross profit margin, operating cost as a percentage of sales, and ROE – are the keys to evaluate a glove business.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice.The Motley Fool Singapore has recommended shares of Riverstone Holdings. Motley Fool Singapore contributor Lawrence Nga doesn’t own shares in any companies mentioned.