A2 Milk shares sell off despite earnings beat: Should investors buy the dip?

It's one step forward and one step back for A2 Milk (ASX: A2M) shares, up 6% last Friday thanks to a positive Chinese regulatory update but down ~7% on Monday following the release of its half-year FY23 results.

The results read well at face value, with key financials including (NZ$):

• Revenue of $783.3m, up 18.6%

• EBITDA of $107.8m, up 10.5%

• EBITDA to sales margin of 13.8%

• Net profit after tax of $68.5m, up 22.1%

• On-market share buyback of up to $150m commenced in the first half, currently 60.1% complete

Both revenue and EBITDA figures were slightly ahead of market expectations of $783m and $106m respectively.

Looking ahead, A2 Milk said it expects FY23 revenue growth of "low double-digit and EBITDA % margin similar to FY22."

UBS' First Pass

"Despite large COVID headwinds, results slightly ahead of market consensus but below UBS estimates," the analysts said. Some key takeaways from their first read include:

• EBITDA was below UBS estimates as lower infant formula sales offset higher gross margins

• Daigou sales were heavily impacted by Covid-related lockdowns in China ,with market activity down circa 40%

• Gross margin beat was driven by stronger US liquid milk and Mataura Valley

• Outlook consistent with market expectations

All things considered, UBS reaffirmed a BUY rating with a NZ$9.45 target price (A$8.58).

Citi's Bearish View

Citi took an opposing view, with a SELL rating and $4.51 price target.

IMF sales growth, China brand health metrics and reduced US losses were the key positive takeaways for Citi. Of note, A2's Mother and Baby Stores (MBS) market share increased to 3.2% (from 3.0% in FY22) making it the "fastest growing international brand over [the] last 12 months."

Conversely, Citi flagged the 29.9% jump in inventories to $182m ahead of the all-important State Administration for Market Regulation (SAMR) approval. "We see potential for a write off over CY23 should the registration arrive soon," the broker warns.

In summary, Citi said "A2 seems to be doing a reasonable job executing in challenging market conditions in China, however the Australian performance is lagging."\

"The ongoing mix shift towards China may have downside implications for longer term margins. A2 is now trading on 39x FY23 PE after the share price increase since the end of October 2022."

A2 Milk 12-month share price chart (Source: Market Index)