A2 Milk - Sour taste disappearing

A2 milk (ATM) is capitalised at $3.2B NZD ($2.96B AUD at $4.10/share).  The company has decent cash balances of $757M net cash as at 30 June 2023.  Broadly speaking the company has an enterprise value of $2.44B NZD, with the market expecting $1.64B NZD in Sales in 2024, or EV/Sales of 1.5X and an 2024 EV/EBITDA of 10.8X.  The market is expecting $163 million NPAT in 2024. which places ATM on 19.6X, while the EV/NPAT sits at 15X after adjustment for the large amount of cash.

 Investment Angles 

• The company had 722 million shares on issue (August 2023) and completed a $149 million buy back in 2023, with similar capital return contemplated for 2024.   This could be another similar sizes buy back, or even a 20c dividend.

• On 30 July 2021 A2M acquired a 75% controlling interest in Mataura Valley Milk Limited, a dairy nutrition business, located in Southland, New Zealand for $214M (net of cash acquired).   This was acquired on an EBITDA breakeven basis with anticipated EBITDA positive contribution in 2025 (looks tough given $27M EBITDA losses in 2023).
• ATM claims 4.5% to 5% market share in its key Chinese market, with the largest challenge being Chinese population growth declining 10% to 11% in recent periods.  If the company can add a further growth leg investors fixation with declining birth rates may decline.

• ATM owns ~20% of Synlait Milk (SM1) This is capitalised at $40M NZD currently.

• 2024 is the Year of the Dragon in China.  The Chinese zodiac is a system that assigns an animal to each year in a repeating 12-year cycle. Each animal sign is believed to represent different personality traits, fortunes, and prospects for the people born in that year. The 12 animals in the zodiac cycle are the Rat, Ox, Tiger, Rabbit, Dragon, Snake, Horse, Sheep, Monkey, Rooster, Dog, and Pig. Each animal has its unique characteristics, symbolism, and cultural significance, which have been passed down through generations.  The Dragon, which shares a great bond in the zodiac with the Monkey, will play a big role in bringing some extra luck.

•  The company is targeting sales of $2B by 2026, with EBITDA margins in the teens.  There is some conjuncture this teens margin guidance is conservative, given EBITDA margins were 13.8% in 2023.

• The US business lost $23 million EBITDA on $105 million revenues, while Mataura Valley Milk lost $27M EBITDA in 2023 on $114M revenues.  The company could change strategy around one or two of these businesses which could have a significant impact on group gains. 

• Gross margins have risen from 42.3% (2021) to 46.5% (2023) which is very positive.  Marketing costs as a percentage of sales have risen from 14% (2021) to 16.4% (2023), while administration costs as a percentage of sales have been stable at 14.4% in 2023.

•  Chinese label sales up 27% to $559M in 2023, with Chinese brand metrics looking positive.

• Corporate interest has to be a possibility, with the company trading on 15X EV/NPAT.  FMCG acquirers could be looking at potential synergies in the $260 million spent on marketing and $229 million NZD on administration annually.  Simplistically a 10% saving here ($49M NZD) would make todays 15X EV/NPAT look more like 11.5X EV/NPAT (adjusted).  Given expectations of reasonable Asian/Chinese medium term growth, then 17.5X EV/NPAT (adjusted) is not unreasonable at all and suggests $6.20/share for ATM, or a circa 50% premium.