Falling feed costs to benefit margins
- China Modern Dairy (CMD) has issued a profit warning for FY23F, guiding that net rofit likely fell 66-72% yoy to Rmb160m-200m due to weak raw milk selling prices.
- We now estimate revenue climbed 12.2% yoy to Rmb13.8bn in FY23F but net profit plunged 67.7% yoy to Rmb181.5m.
- For FY24F, we expect feed costs to decrease and raw milk price to slide 2% yoy, narrowing from a 5.5% yoy fall in FY23F, leading to margin improvement.
- Reiterate Add with lower DCF-based TP of HK$0.89.
Raw milk price decreased by a greater quantum in 2H23F vs. 1H23
CMD’s raw milk selling price fell 4.4% yoy in 1H23 and we estimate it decreased 5.5% in FY23F, likely leading to hoh margin contraction in 2H23F, we believe. The company said in the call that raw milk segment GPM fell 3% pts yoy to 28.1% in FY23F (vs. 28.3% in 1H23), and we forecast overall GPM to be 22.1% and 21.3% for FY23F and 2H23F (1H23: 22.9%), respectively, mainly due to the lower raw milk selling price. For FY24F, we expect raw milk selling price to dip 2% yoy before increasing in FY25F. For FY24F, the US Department of Agriculture (USDA) forecasts total cow herd size in China to decrease yoy. Hence, production volume is likely to stay low, resulting in an improved supply and demand situation in FY25F, in our view. According to China’s Statistics Bureau, China dairy output increased by 1.6% yoy and 3.1% in Dec and 2023, respectively, due to a low base in 2022. CMD announced its herd size expanded 11% yoy to 450,000 heads by end-FY23F, with milk yield of 12.6 tonnes, up 3% yoy. The company targets to achieve 13 tonnes milk yield p.a. by 2025F.
Falling feed costs likely to benefit margins in FY24F
In 2H23F, domestic corn, soybean meal and alfalfa prices fell by 3%, 13% and 44% yoy, respectively, according to financial data provider Wind. CMD’s feed costs increased 5.8% yoy in 1H23 but stayed yoy flattish in FY23F. We expect CMD’s feed costs to stay on its downward trend in FY24F, which should boost its margins. We now expect CMD’s GPM to expand by 1.8% pts yoy to 23.9% in FY24F, leading to net profit growth of 206% yoy to Rmb556m. Capex for FY24F should be similar to that in FY23F at roughly Rmb3bn, to be used mainly for the maintenance of farms and milkable cows, according to management. Management also guided for capex to decrease from FY25F due to less investments.
Solid growth of new business
CMD also said in its announcement that its new businesses (mainly the feed business) achieved revenue of Rmb3.3bn in FY23F, up 40% yoy, and recorded a net profit. The company’s feed business posted GPM of 10% and NPM of c.1-2% in 1H23. CMD targets to increase its feed business’s contribution to 30% of total revenue in FY24F (c.24% in FY23F, based on our forecasts) and expects its NPM to expand to mid-single-digits in the medium-to-long term. The feed business has an asset-light operation and no need for fixed asset investment.
Reiterate Add with a lower DCF-based TP of HK$0.89
We cut our FY23F-25F EPS forecasts by 38.7-68.3% to reflect the lower-than-expected raw milk selling price. This pushes down our DCF-based TP to HK$0.89 (WACC: 9.9%, terminal growth rate: 1%, Beta: 0.95). However, we reiterate Add as we believe falling feed costs should benefit CMD’s margin expansion in FY24F. The key re-rating catalysts are lower-than-expected feed costs and better margin improvement in 1H24F; while key downside risks are 1) weaker-than-expected raw milk selling price, affecting margins, and 2) higher-than-expected feed costs.
