From Richard Koch's The Star Principle
"Be willing to accept lower profits to build a dominant market position. As long as you remain cash-positive, short-term profits are totally irrelevant to the long-term value of the business." (e.g. aggressive marketing spend by A2M)
"Since you probably won't be investing in factories, offices or other physical cash sinks, what's left is expense investment - the costs of your people, plus eternal marketing"
"...the nub here is that you should generally 'outsource' as much of your operations as possible, retaining only the few things that you do uniquely well. In particular, get other people to make thing for you." (e.g Synlait)
Thanks to member Star for the book recommendation (although it's a little cheesy/gimmicky in parts, it has some great insights).
Many investors have missed the early stages of growth in this story, but A2M is a star business and still has many years of growth ahead.
Resignation of Jayne Hrdlicka announced today, just a bit less than 17 month since taking on the role. The somehat curious reason given was:
"The a2 Milk Company is an extraordinary business and I joined the company excited about the opportunity to help define its full potential and deliver against it. Board and management have worked closely together to chart the future and it is no doubt bright and we are well advanced in executing it. I am delighted with how much progress has been made, the momentum underway in executing the strategy and the strength of the current leadership team.
“The reality however is that the next 3-5 years will continue to require the CEO being present in our core markets of China and the US and that combined with running a New Zealand company based in Australia required more travel than I had anticipated when I joined the company. The Board and I agreed that this next phase is going to be too difficult to manage alongside my other commitments whilst also managing the health and wellness priorities of my family and me."
19 November 2019
Synlait and The a2 Milk Company extend supply agreement
Synlait Milk Limited has renegotiated aspects of its comprehensive manufacturing and supply arrangements with The a2 Milk Company . Changes reinforce the companies’ long-term partnership.
Synlait Milk CEO Leon Clement commented: “Our long-term partnership is a key part of what has made Synlait and The a2 Milk Company successful. Infant nutrition is a core focus for both companies as we continue to invest in our future; building capacity and capability to support our respective growth stories. We are pleased to be able to update the market on an extension to our supply agreement.”
The supply agreement for a2 Platinum® and other nutritional products, announced to the market on 3 July 2018, provided for a minimum term of five years, with a rolling three-year term from 1 August 2020.
The key components of the revised agreement are:
The agreed variation was approved by NZX Regulation who have waived Synlait’s requirement to obtain shareholder approval under listing rule 5.1.1 and 5.2.1.
* Overall, for FY20 we anticipate continued strong revenue growth across our key regions supported by brand and marketing investment in China and the US and the development of both capability and infrastructure to support in-market execution
* As an outcome of strategic gross margin focus, full year EBITDA margin % is now anticipated to be stronger than previously communicated and in the range of 29-30% with gross margin benefiting from:
- Improved price yield
- COGS reduction (including the effects of favourable FX)
* For 1H20, we anticipate revenue in the range of $780 million to $800 million with growth demonstrating strong performance against strategy:
- China label infant nutrition sales forecast to be approximately $135 million representing a growth rate of ~84%
- CBEC infant nutrition sales forecast to be approximately $155 million representing a growth rate of ~54%
- ANZ English label infant nutrition sales forecast to be approximately $350 million representing a growth rate of ~9%
- US sales forecast to be approximately $27 million representing a growth rate of ~110%
- Australia fresh milk sales forecast to be $75 million representing a growth rate of ~12%
* EBITDA margin % in 1H20 is expected to be higher than FY20 and in the range of 31-32% as a result of:
- Increased cost of goods (including lactoferrin and packaging materials) in 2H20 and increased levels of strategically important trade marketing activation in China
- Phasing of marketing and capability investment slightly weighted to 2H20; full year marketing investment expected to be approximately $200 million
Sitting on around 1/4 billion in cash. People often ask, "when are ATM going to pay a dividend?".
Personally, being a young investor with a steady income, dividends don't hold much appeal for me. But other/older investors may be counting on ATM being a significant income source in the near future.
So what are the options for this company?:
Would love to hear any others thoughts on ATM's cash - just reply in the forum section if you'd like to discuss.
About a quarter of milk protein is beta-casein. It is thought that, long ago, all beta-casein in cows milk was a2. One day, a gene mutation resulted in the production of a1 beta-casein, which has a different shape.
The presence of a1 in the gut can exacerbate lactose-interolerance.
The traits are codominant - a cow with both the a1 and a2 allele will express both, making milk with both proteins. Only cows with two a2 alleles will make the desired a2-only milk.
To make a2 milk, a factory has to take milk from a farm which is only milking a2a2 cows and process it separately.
The process of making a herd of cows soley a2a2 involves DNA testing all cows and heifers (specific a2 DNA testing has often been funded by milk companies). If the farm is part of a larger group, shuffling cows between herds may be sufficent to provide the farm with enough a2a2 cows. The second option is to buy and sell cows to quickly acheive a2 status. The third option is to gradually breed for a2 - selecting only a2 bulls and cows to breed replacements, and to preferentially cull cows with a1 alleles. A higher replacement rate (number of heifer calves kept to replace cull cows 2 years later) will facilitate this - 25-30% compared to a typical 22%. Keeping some extra a2a2 carryovers (non-pregnant dry-cows kept for a season to breed again instead of culling) can also contribute faster accumulation of an a2 herd.
Often a farm will use several of these options and reach a2 status in about 2-4 years. Some big corperates can acheive a2 status in some herds in a single year by shuffling animals.
A premium is paid for a2 milk, making the process worthwhile. There has often been a waiting list in the past to ensure supply doesn't outpace demand (or processing capacities).
Apparently the Chinese regulators have announced:
Item 1 may limit the potential market share of A2M, however, it seems aspirational, more than anything else.
Item 2 is a potential lever should trade wars widen, and could be used as a trade barrier. This risk has always been there.
Item 3: Could be a positive, but companies like A2M may have to accept partial Chinese ownership to guarantee market access.
Item 4: Daigou channel may be blocked. a Big risk. But the good news is this will become apparent through rising stocks on supermarket shelves.
At this stage, I can't see a reason to act on this news, but it is important to monitor those infant formula shelves for stock levels. Full supermarket shelves is a leading indicator of a blocked Daigou channel.
With increased concern around trade with China and the tightening of regulations in China regarding IF, I thought I'd point out the significant link between A2M and China, which may help protect A2M's Chinese market share somewhat.
All of A2M infant formula sold into China is manufactured, canned and labelled by Synlait in Canterbury, NZ.
The biggest Synlait shareholder is Chinese company, Bright Dary, which holds ~40%.
Synlait hold exclusive rights to supply A2M's Chinese products until 2023.
The a2 Milk Company currently sources it's a2 milk from Canterbury-based company Synlait.
In fact, a2 Milk's main product line - the a2 Platinum infant formula range - is produced and tinned by Synlait. This makes a2 Milk effectively a marketing/reselling company, which is capital-light high-margin business compared to traditional dairy companies.
Synlait has built a new factory in the North Island (currently on hold due to land title disputes) which will double a2 production potential.
a2 Milk will take product from other suppliers to diversify its product range and increase potential for growth. However, only the IF from Synlait has approval for the Chinese market.
The world's two largest economies are the USA and China.
In the US, they say, "Don't fight the Fed".
With regard to China, I would say, "Don't under-estimate the resolve of the central government of the People's Republic of China."
They tend to set targets, and then achieve them, one way or the other.
Disclosure: I don't hold A2M or BAL shares.
Short term - Chemist shelves are out of stock of A2M formula on the eve of singles day in China. This bodes well for the upcoming results.
Long term - USA and UK markets are a huge opportunitiy, with wellness products such as A2 only milk in high demand and highly valued - great long term runway. This will reduce the regulatory risk associated with China trade.