Former high flier A2 Milk takes a tumble on earnings downgrade

Shares in former sharemarket darling a2 Milk took a battering after the alternative dairy company slashed its revenue and earnings forecasts for the 2021 financial year.

It was its fourth consecutive downgrade.

By late trading the shares were at $6.75, having bounced off their session low of $6.05 but still well down from Friday’s close of $7.59.

The dual listed company is now targeting revenue for 2021 of $1.20 billion to $1.25b, down from an earlier forecast of $1.4b.

A2 Milk now expects an earnings before interest, depreciation and amortisation (EBITDA) to sales margin for 2021 in the order of 11 per cent to 12 per cent (excluding Mataura Valley Milk transaction costs). The guidance in February was for EBITDA margins of 24 to 26 per cent.

Under the revised guidance, a2 Milk’s ebitda would come in at between $132 and $150m, down from $549.7m in the 2020 year, which was based on a margin of 31.7 per cent.

The company said the trading dynamics in the China infant nutrition market have been and continue to be challenging for a2 Milk and many international competitors.

“While a2 Milk’s third quarter trading was broadly in line with plan, it is clear that the actions taken to address challenges in the daigou/reseller and CBEC channels will not result in sufficient improvement in pricing, sales and inventory levels to meet its previous guidance,” it said.

As a result of the inventory review, it was clear that the challenges in the daigou/reseller and cross border e-commerce channels had been made worse by excess inventory.

A2 Milk said an immediate recovery in the business was not expected.

The downgrade was the market’s worst kept secret, but a2 Milk’s new chief executive David Bortolussi defended its timing.

Bortolussi, who has been in job since January, said told the Herald that when the board met over the weekend it had become clear that a downgrade was necessary.

“When we updated the market at the half year, we said then that our plan was to do several things, so while the third quarter would be quite modest the actions that we were taking would lead to a significant improvement in the fourth quarter on the third quarter.

“It really only became apparent to us that the actions that we had taken were not going to be sufficient to deliver that fourth quarter uplift what we were looking for,” he said.

A2 Milk’s latest sales and inventory data had been disappointing.

“Together these two pieces of information led us to update the market today.”
Bortolussi said the retail component of the daigou trade had reduced substantially, although it was better than it had been.

“The corporate daigou channel – which involves multiple routes to markets – is still operating, albeit at a reduced scale – but it is still operating in a healthy way.

He said he empathised with shareholders who had seen the share price tank from $21.50 just eight months ago.

“I know it’s been painful for our investors but it’s been a business that has delivered $1.3 billion in revenue and 20 per cent EBITDA margin.

“We have a very strong balance sheet and a very strong brand.

“We are not in a crisis. It’s just that the company’s performance is not in line with expectations.”

A2 Milk has about $850m in the bank – with about $400m yet to be spent on its Mataura Valley Milk acquisition.

The company has already signalled that it is looking at its capital management options.
“We have plenty of cash and capital available to us. There is nothing wrong with our financial position.”

On that score, a2 Milk will report back to shareholders at its annual result in August.
Among the options is a share buyback.

Daigou, until the onset of Covid-19 restrictions, has played a major role in a2 Milk’s success – making it at one point New Zealand’s biggest company by market cap.

A2 said it would take time to rebalance inventory levels to normal.

A stock provision of $80-$90m was made, in addition to the $23m stock provision recognised in the first half.

Oyvinn Rimer, senior research analyst at Harbour Asset Management, said the market had been expected a downgrade “for quite some time”.

Rimer said a $90m provision “sounded sensible” but may not be enough.

A2 Milk said the revised outlook did not reflect the underlying performance or strength of the business.

“The board and management have determined that it is appropriate to address the inventory imbalances aggressively in order to allow the business to return to growth as quickly as possible and to deliver acceptable margins,” the company said.

“Most of the actions that we are taking are non-cash in nature with the result that company’s balance sheet will remain strong, and we would expect to see improved performance during 2022,” it said.

Separately, the company also announced the resignation of one of its veteran executives – chief executive Asia Pacific, Peter Nathan.

Nathan has been a key figure in a2 Milk’s success in recent years due to his expertise in the unofficial daigou trade into China.

Chairman David Hearn said Nathan had been a driving force behind the business and integral in building the brand since he started with the company over a decade ago, when a2 Milk’s revenue came to just $7m.

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