Dairy is important to the NZ economy. NZ is the biggest dairy exporter in the world making up 35% of the worlds dairy trade. NZ exports almost all production. 

What is dairy? It is more than milk, and unsurprisingly there are more than a few players. Since I spent time trying to understand this and A2, you get to read it too. 

Producers in NZ there some 11,000 farms across 1.7M hectares or around 6% of the landmass taking up a quarter of the pastural land to keep upwards of 5M cows fat and happy. These ladies produce 21B litres of milk annually which ultimately results in NZ$19B of export revenue which equates to about 20% of the national export revenue and getting close to half the agricultural export revenue.

China plays a huge part of this export consumption at around 40% although their consumptions is predominately powdered milk. High volume, low margin. It appears Ms Ardern hasn’t upset the Chinese like Morrison. The fact the Chinese government has told the population dairy is good for the immunity helped. 

While China is big, dairy exports go to more than 130 other countries with Australia, Indonesia key large markets. 

Processing – this is the world of Fonterra with 80% of the market and about 10 others making up the rest. Fonterra are focused on developing high margin products in medical, sport science and nutrition research such as fermented products.  

Distributors and Marketers – this is predominately the space a2 plays in although, like Fonterra they are across the whole supply chain. A place where quality, consistency and ESG are playing an increasingly importantly role. 

A2 Milk chair David Hearn recently said “While the issues that arose in FY21 were undoubtedly a challenge, the business remains at its heart a very robust, differentiated branded business with exceptionally strong financials.”

Understatement much?

The share price looks like a graph of flights through Auckland airport – ok possibly not that bad, but it is down 70% from ATH. That, and supply chain issues set off a chain of multiple profit downgrades.

Add in new leadership team and a Slater and Gordon class action distraction, shareholders went looking elsewhere. 

The strong Chinese market and a government attempt to stimulate the infant population again could help a2 although not immediately. The strong ESG and view that all things NZ are fresh and clean can contribute, although the Chinese government is pushing to increase local consumption. a2 remain embedded in the Chinese market and you need to put faith in this continuing.

While the company remains profitable, with net profit in FY20 NZ$385M on gross margins of 56%, falling to NZ$81M in FY21 on an also lower gross margin of 42%, it is not completely broken. Still, I would want to see the numbers climbing again and happily miss some upside to ensure there is not further downside. 

I think today's news pretty much sums up A2's year. If I held I'd be jumping out as quickly as possible. As sentament is very much against A2 and feel the best way forward for holders now is a takeover and hope it comes to fruition for you all.

6/9/18

Adding on valuation grounds.

Continues to show strong growth in China and Australia plus ongoing expansion into the US attracts.

Nestle entry has shown no signs of impacting sales thus far

A2 share price rose by 12% today on speculation of a take over by Nestle.

I think no further action would take place with this until A2 releases there FY2021 report.

As mentioned in my valuation I am happy to hold and expect A2 to keep trading between $6-$8.
 

Risks
Theres no clear end of the lockdowns and travel restrictions preventing the return of the Diagou channel.
 

Market Cap                          5.5b NZ
Expected Revenue FY21    1.2b NZ
Expected EBTDA (11%)      132m NZ
ROE                                       27%
ROC                                      38%
 

I'll be interested to see information about direct sales into China in the upcoming FY2021 report.

It is important to consider the headwinds generated from the increase in popularity of plant based "milks". In essence these often solve the problems that A2 is focused on. In my opinion the acceptance of these plant based alternatives and the plant based culture, especially with elite level athletes, is going to have a substantial impact on milk and all its byproducts. Just take note next time you are in the supermarket.

Disclosure-I have a small holding, have been looking to add more.

The last result displays how much A2 relied on the retail daigou channel. this has been almost wiped out and IMO the big question going forward is will this channel re-establish itself and will it be as relevant.

BULL POINTS 

Smaller biz's like US and Aust Liquid milk doing ok. Brand still strong in China in IMF. Mgt trying to clean up inventory situation, took a $23m provision (enough?). Progress in MBS was good, although i consider this a good biz not a great biz. Corporate daigou seeing some green shots?

BEAR POINTS

Business momentum still negative, downgrading. Sales poor which is understandable given the situation but hard to accept mgt's initial bullish read. Hard to see high profitable growth without retail daigou, ie channel mix is deteriorating, mainly because retail daigou was so high. that is good but not great. the recent acquisition of MVM looks overly optimistic given the lower growth, hard to see it making sense in next several years. CBEC channel is problematic, pricing poor and inventory slooshing around. same for everyone. Competition has become tougher but with A2 at 2-3% share still room to grow.

WHERE TO FROM HERE

I think it is now obvious that the retail daigou channel made A2 a great biz and without it A2 is only a good biz. will this channel come back? probably needs intl borders reopened, which is not soon. will it still be as efficient and profitable?..dont know ..maybe. I think A2 is a good biz but I would like to buy it without paying for the retail daigou return. so that becomes the big potential upside. My best guess of this is good risk adjusted buying $7.50-8.

this is only an opinion not advice. DYOR

22-May-2020:  https://www.livewiremarkets.com/wires/a2-milk-the-story-of-the-2-200-monster-next-door

Matt Joass from Maven Funds Management:  a2 Milk: The Story of the 2,200% Monster Next Door

"This is the story of how a little company from New Zealand grew to become a 14 billion dollar giant, the signs that indicated a big future ahead, and the tale of one of the greatest blunders in Australian business history. It is also the story of how we can apply the principles of what I call monster hunting to our own investing, and use the lessons on our quest to find the next potential winner while it is still small and undiscovered."

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