China Mengniu: Dairy Industry Outlook And Leadership Changes Are In The Spotlight

seekingalpha07-25

A Hold rating for China Mengniu considers both the unfavorable dairy market prospects and the favorable changes to the company's leadership team.The Chinese dairy sector is expected to underperform in...

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Global Income Sustainable A (mth) SGD-H","LU0175139822.USD":"AB FCP I Global Equity Blend A USD","CIADY":"蒙牛乳业ADR","SG9999014567.USD":"UOB UNITED INCOME FOCUS TRUST FUND (USD) ACC","LU0795875086.SGD":"JPMorgan Investment Funds - Global Income A (div) SGD","LU2347655156.SGD":"JPMorgan Investment Funds - Global Income A (icdiv) SGD-H","BK4585":"ETF&股票定投概念","LU1196500208.SGD":"NORDEA STABLE RETURN \"HB\" (SGDHDG) ACC","LU1670711040.USD":"M&G (LUX) GLOBAL DIVIDEND \"A\" (USD) ACC","LU1064131342.USD":"Fullerton Lux Funds - Global Absolute Alpha A Acc USD","LU1059921491.USD":"NORDEA 1 GLOBAL STABLE EQUITY \"HB\" (USDHDG) ACC","SG9999014559.SGD":"United Income Focus Trust Dis SGD","CIADF":"China Mengniu Dairy Co., Ltd."},"translate_title":"中国蒙牛：乳业前景及领导层变动成焦点","themeId":null,"isJumpTheme":false,"ttsUrl":null,"symbols_score_info":{"CIADF":1,"CIADY":1,"KO":0.7},"content_text":"A Hold rating for China Mengniu considers both the unfavorable dairy market prospects and the favorable changes to the company's leadership team.The Chinese dairy sector is expected to underperform in 2024, taking into account negative takeaways from corporate disclosures and industry data.The appointment of a new CEO and a new chairman for China Mengniu has positive read-throughs for the company's corporate growth strategy in the long run.   imagestock/E+ via Getty Images My rating for China Mengniu Dairy Company Limited (OTCPK:CIADY) (OTCPK:CIADF) [2319:HK] is a Hold. The Chinese dairy industry is likely to underperform in the near term, even though China Mengniu's long-term prospects have been boosted by having a new leadership team. Earlier, I reviewed China Mengniu's 1H 2020 financial results in my October 26, 2020 write-up. With the current article, the focus is on the dairy market in China and CIADY's leadership changes. Dairy sales in China are expected to grow slower or even decline in 2024, taking into account the latest industry metrics and corporate disclosures. On the flip side, the appointment of the new CEO and new chairman will allow China Mengniu to strike a good balance between focusing on the core and exploring new growth opportunities. Readers should be aware that China Mengniu's shares can be traded on both the Over-The-Counter market and the Stock Exchange of Hong Kong. The average daily trading values for the company's OTC shares and Hong Kong-listed shares were $0.6 million and $50 million (source: S&P Capital IQ), respectively, for the past three months. Hong Kong brokerages like Boom Securities and US stockbrokers such as Interactive Brokers provide trading services for Hong Kong-listed shares. China's Dairy Industry Is Under Pressure China Mengniu boasts the \"second-largest market share of dairy products in China\" according to Chinese credit ratings agency CSPI Ratings' research. As such, it is fair to say that CIADY's financial performance will be very much dependent on the health of the Chinese dairy sector. The dairy industry in China is facing significant headwinds in the current year, according to read-throughs from industry data and corporate disclosures. Consulting firm Bain published a research report titled \"China FMCG (Fast-Moving Consumer Goods) Settles into New Reality\" on June 27 this year. As per Bain's latest report released last month, China's packaged milk sales decreased by -2.9% YoY in the first quarter of 2024, as opposed to a +2.0% increase in sales in full-year 2023. Inner Mongolia Yili Industrial Group [600887:CH], the leader in the Chinese dairy market and China Mengniu's peer, saw its revenue decrease by -2.6% YoY for Q1 2024. As a comparison, Yili's top line grew by +2.5% (source: S&P Capital IQ) last year. Note that China Mengniu only discloses its financial performance on a semi-annual basis as a Hong Kong-listed company. Competition in the Chinese dairy market has intensified, as seen with the widening price discounts at China's 618 e-commerce festival that started on May 20 and ended on June 20 this year. This festival is described as the country's \"second-largest annual sales event, second only to the Singles' Day event in November\" by Seeking Alpha News. A June 24, 2024, Goldman Sachs (GS) report (not publicly available) titled \"China Consumer Connections: 618 Shopping Festival\" shared price discount data for the 618 e-commerce festival obtained from Chinese e-commerce platform Tmall. The average price discount for dairy products widened from 33% at last year's 618 event and 38% at 2023's Singles' Day to 46% for 2024's 618 festival, according to GS' June 24 research. The growth in retail sales for China moderated from +3.7% in May 2024 to +2.0% in June 2024 and missed the consensus forecast by +130 basis points according to a July 15 Seeking Alpha News article. It will be reasonable to assume that weak consumer confidence in China has led to below-expectations retail sales, a decline in dairy demand, and more aggressive price competition for dairy products. The market anticipates that China Mengniu's 2024 results won't be as good as that of 2023. Specifically, CIADY's top line expansion is projected to slow from +6.5% last year to +3.4% this year, while the company's EBITDA margin is forecasted to contract by -40 basis points to 9.7% in 2024. These consensus estimates are sourced from S&P Capital IQ. Considering the unfavorable read-throughs from Yili's Q1 results and recent dairy industry data, expectations of slower revenue growth and weaker operating profitability for China Mengniu in 2024 are pretty realistic in my view. Changes At The Top For China Mengniu CIADY has made changes to the company's leadership this year. Although the Chinese dairy sector's short-term prospects are negative as outlined in the previous section, recent leadership changes are likely to boost China Mengniu's outlook for the intermediate-to-long term. In late March 2024, Gao Fei became the new CEO of China Mengniu in place of the outgoing Jeffrey Minfang Lu. Subsequently, Qing Lijun replaced Chen Lang as the new chairman of the company's board on May 22 this year. I take the view that there are a number of positives associated with the appointment of the new CEO and the new chairman. Firstly, CIADY is most probably going to place a stronger emphasis on organic growth with the exit of the old leadership team that had Jeffery Minfang Lu and Chen Lang as the CEO and Chairman, respectively. In the past couple of years, China Mengniu has made a couple of investments in other dairy companies like China Modern Dairy [1117:HK] and Shanghai Milkground [600882:CH]. But CIADY's investees haven't performed well in recent times, which has raised doubts about the company's past inorganic growth initiatives. China Mengniu raised its equity interest in upstream dairy business China Modern Dairy from 25% to 40% in 2017. Notably, China Modern Dairy's net profit dropped by -36% (source: S&P Capital IQ) between 2021 and 2023. Separately, China Mengniu \"became the major shareholder of Milkground\" in 2023 as disclosed on its corporate website. Cheese producer Shanghai Milkground's top line and bottom-line fell by -16% and -89%, respectively, last year, as per S&P Capital IQ data. It is likely that the new leadership team for China Mengniu will pivot away from the previous leadership team's aggressive inorganic growth approach, and this could reduce the risk associated with value-destructive M&As or investments. Secondly, the new CEO represents a renewed focus on the company's core business and key product category. Gao Fei was formerly the head of China Mengniu's UHT (Ultra-High Temperature) milk business before he took over as the new CEO. Liquid milk, including UHT milk, accounted for as much as 83% of CIADY's fiscal 2023 top line, and China Mengniu has more than 40% share of the Chinese UHT milk market. It makes a lot of sense for CIADY to allocate more time and effort to growing the company's core (liquid milk, including UHT milk) under the leadership of the new CEO. Thirdly, the new chairman could help the company to explore new growth engines. Qing Lijun is currently \"the deputy general manager of COFCO Corporation\" and \"the chief executive officer of COFCO Coca-Cola (KO) Beverages\" according to China Mengniu's May 22, 2024 announcement. COFCO Corporation is \"China's largest food and agriculture company\" as indicated on its corporate website, while COFCO Coca-Cola is a bottler for KO, as its name suggests. In its 2023 annual report, China Mengniu revealed that it \"launched the first liquid protein nutritional supplement in China\" as part of its strategy to \"supply a diverse range of 'more nutritious' dairy and nutritional products covering the full lifecycle of consumers.\" As such, the new chairman's experience with a wide range of food and beverages businesses will come in handy, as CIADY seeks opportunities in fast-growing segments. Final Thoughts I think that China Mengniu's long-term future is bright with the change in leadership. But the company's 2024 results might be impacted by unfavorable dynamics (e.g., weak demand, aggressive discounting etc.) for the Chinese dairy market. As such, I have a Neutral view of China Mengniu as a potential investment. The Hold rating for CIADY is also supported by my assessment of its valuations. China Mengniu's 9.6 times consensus next twelve months' normalized P/E is aligned with the company's consensus FY 2023-2027 normalized EPS CAGR forecast of +9.4% (source: S&P Capital). The stock's implied PEG (Price to Earnings Growth) multiple is 1.02 times (9.6/9.4).  Editor's Note: This article discusses one or more securities that do not trade on a major U.S. exchange. 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