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Morningstar | Higher Raw Material Costs Impact Ansell’s Near-Term Earnings but Outlook Remains Positive

Narrow-moat-rated Ansell reported adjusted net profit of USD 64 million for the first half of fiscal 2019, a 1% increase on last year. Earnings were constrained by higher raw material costs (primarily Nitrile), while uncertainty in the European automotive market impacted demand for Ansell’s protective gloves. However, the company is reaping the benefits of its ongoing transformation program and management now expects to exceed the original cost savings target. The board declared an interim unfranked dividend of USD 20.75 cents per share, a 1% increase on last year. We maintain our AUD 27 per share fair value estimate, and at current levels the stock is slightly undervalued.

Despite the soft start to the year the outlook remains positive. Management increased the fiscal 2019 EPS guidance range to between USD 106-112 cents per share, up from USD 100-112 cents per share previously. This is ahead of our previous projections and, as such, we have increased our fiscal 2019 EPS forecast by 9% to USD 108 cents per share. The uplift reflects the expectation of a stronger second half, which will be supported by increased selling prices, reduced raw materials cost in addition to the cost savings from the transformation program. The firm raised the annual target savings to USD 35 million by fiscal 2020, up from the original target of USD 30 million.

Healthcare sales grew by 4% during the half, although a small portion of this reflects the recently acquired Digitcare. The sales growth was supported by improving trends in the surgical business, along with strong performances in life science and single use business. Underlying EBIT fell by 8% to USD 48 million (51% of group) due to higher raw material costs, along with less favourable mix shift, neither of which we expect to persist over the long term. We forecast earnings improvement in the second half, as price increases start to flow through, while the sales mix shifts towards higher margin product.

Industrial sales were broadly flat, impacted by slowdown in European market demand from challenges in the automotive sector, along softness in Russia, Turkey, and Brazil. However, these headwinds moderated towards the end of the half, and we continue to expect revenue growth in the low- to-mid-single-digit range on average during the next five years. Within the division, the U.S. performed strongly, growing by 6%, helping to offset the weakness in Europe. The EBIT result was more positive, rising by 18% to USD 45 million (49% of group) mainly due to an improved product mix and cost savings, which should continue in the near term.

Over the next five years, we forecast EPS to grow at a high-single-digit pace on average, although a meaningful portion of this will come in the form of margin expansion. We expect the company to generate organic revenue growth of 3.5% per year on average, towards the lower end of management's targeted 3%-5% range. We forecast the group EBITDA margin to increase by 2 percentage points to 18% during the five years ending fiscal 2023, mainly reflecting ongoing transformation cost benefits, pricing, and favourable product mix shift. We remain positive on the company's ongoing transformation program, which involves streamlining operations and consolidating distribution channels, rather than separately catering to retail end customers. During the first half of fiscal 2019, the company achieved several major milestones in this program including closing two manufacturing facilities in Mexico and one in Korea, and expanding the existing facilities in Vietnam, Sri Lanka and Malaysia.