The a2 Milk Company Limited

A2M Details

H1FY21 Result Update: The a2 Milk Company Limited (ASX: A2M) enriches the lives of its customers by harnessing the nutritional values of nature through the naturally occurring a2 Milk difference.

Total revenue of the company was reported at $677.4 million, down 16.0% YoY and EBITDA stood at $178.5 million, down 32.2% YoY resulting in EBITDA margin contraction to 26.4% (27.0% removing Mataura Valley Milk acquisition costs). The company reported strong performance in China label infant nutrition, with an increase in revenue by 45.2% YoY, on the back of an increase in market value share to 2.4%, rise in in-store velocities as well as growing distribution to 22.0k mother and baby stores (MBS).

Further, it reported strong performance in liquid milk in Australia with 16.3% revenue growth led by a rise in in-home consumption and a record value share of 11.7%. In addition, changes in the USA execution approach resulted in revenue growth of 22.3%, led by a rise in average velocities in key stores, distribution growing to 22.3k stores, and an improvement in EBITDA. Net profit after tax for the interim period declined by 35% YoY to $120 million.

Financial Snapshot (Source: Company Reports)

Update on Q3FY21 Sales Performance: The company reported Q3FY21 sales performance that was broadly in line with the revised plan at $295.0 million. It appears that the measures taken by the company have not resulted in sufficient improvement in pricing, sales, and inventory levels in the daigou/reseller and CBEC channels required to deliver the forecast significant uplift in 4Q21 sales. Further, the trading condition in the China infant nutrition market is under pressure for the company and many international competitors.

Outlook: The company is taking aggressive measures in 4QFY21, largely focused on inventory imbalances to stabilize the current situation and to create a platform for a return to growth in the future. Further, the company has extended its investments in building a brand and driving consumer demand/offtake through this rebalancing phase and into the future. It plans to grow the level of investment in marketing, particularly in digital marketing in Q4FY21 to help drive consumer demand into FY22. In addition, it aims revenue for FY21 in the ambit of $1.20 billion to $1.25 billion. In line with this, it expects EBITDA to sales margin for FY21 in the ambit of 11% to 12% (excluding MVM transaction costs). The cash balance of the company at the end of FY21 is expected to be broadly in line with FY20.

Key Risks: The company is facing unprecedented levels of uncertainty and volatility due to COVID-19 which has phenomenally impacted the markets in which the company trades. Further, the company is closely monitoring imbalanced inventory levels under challenging times. Further uncertainty in the business environment due to Covid-19 circumstances is still lingering, which may impact the financial performance of the company in the short term.

Valuation Methodology: Price/Earnings per Share Based Relative Valuation (Illustrative)

Technical Overview:

Weekly Chart –

Source: REFINITIV

Note: Purple colour lines are Bollinger Bands® with the upper band suggesting overbought status while the lower band oversold status, and yellow lines are Fibonacci retracement lines which measure price rebound and backtrack. https://www.bollingerbands.com/

Experiencing a low volatility, the stock has given a flattish close at $5.70 for the ongoing week in a broadly down trending market. The technical indicator RSI with a reading around 22, suggests a highly oversold zone for the stock thereby limiting the potential of further downside.

Going forward, the stock may have resistance around $7.00 where a gap on the weekly chart exist whereas support could be around the previous low of $4.98.

Stock Recommendation:

A2M posted a 3-month and 6-month returns of ~-36.4% and ~-56.6%, respectively. It is currently trading below the average of the 52-week low price of $5.04 and the 52-week high price of $20.05, indicating an opportunity for accumulation. We have applied P/E based relative valuation (on an illustrative basis) and the target price reflects a rise of low double-digit (in % terms). We have applied a slight discount to P/E Multiple (NTM) (Peer Average) as the trading dynamics in the China infant nutrition market are under pressure for the company and many international competitors. Further, the level of channel inventory is higher than previously anticipated. For the purposes of relative valuation, we have taken peers such as Sanford Ltd (SAN.NZ), Synlait Milk Ltd (SML.NZ), Treasury Wine Estates Ltd (TWE.AX), to name a few.

Considering the aforesaid facts, we give a “Buy” recommendation on the stock at the current market price of $5.700 per share on 9^th June 2021.

Note 1: The reference data in this report has been partly sourced from REFINITIV.

Note 2: Investment decisions should be made depending on the investors’ appetite on upside potential, risks, holding duration, and any previous holdings. Investors can consider exiting from the stock if the Target Price mentioned as per the analysis has been achieved and subject to the factors discussed above alongside support levels provided.

Technical Indicators Defined: -

Support: A level where-in the stock prices tend to find support if they are falling, and downtrend may take a pause backed by demand or buying interest.

Resistance: A level where-in the stock prices tend to find resistance when they are rising, and uptrend may take a pause due to profit booking or selling interest.

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