Net profit soars at a2 Milk (but these two brokers still think it’s a sell)

This week, a2 Milk Company (ASX: A2M) released its first-half 1HFY23 report. The milk and infant formula company posted surprisingly strong performance in China despite difficult conditions in the region, as well as an uplift in revenue and earnings. 

However, its performance in Australia and New Zealand was less impressive. 

The stock was sold off on Monday, and continued to slide further into the red in the first hour of trade on Tuesday. 

Price history 

On July 31 2020, A2M hit an all-time high of $19.29 and became something of a sensation among retail investors looking for the next big growth story (the same was true for more sophisticated players, too). 

But by 31 May 2021, shares were trading at just $5.52.

Today, shares are $6.26, as at 10.50 AM (AEST) Tuesday 21 February 2023. 

Read on to find out how brokers Citi and Macquarie are rating the stock. 

Quick-bite: A2M’s 1HFY23 results 

• Revenue growth of 18.6% to $783.3m vs. $770m expected

• EBITDA up 10.5% to $107.8m vs. $104.9m expected 

• Net profit after tax up 22.1% to $73.8m

• Share buyback of up to $150m commenced in the first-half of FY23 and 60.1% complete

• New China National Standards registration process for China label “on track” to be achieved in 2H23 subject to SAMR approval

What does Citi say? 

Citi has rated A2M a SELL. First and foremost, the broker isn’t satisfied the company’s strong performance in China can be maintained. 

“We would expect these results may become harder to replicate going forward as the declining birth rate cycles through the company’s various stages of infant formula,” analysts wrote. 

“Further, we see downside risk to medium term consensus margins as A2M’s sales mix is shifting faster than expected to lower margin China label.”

Citi trimmed its full-year earnings estimates for A2M’s performance in FY24 (-9%) and FY25 (-12%), indicating the broker sees relatively long-term turbulence. 

While Citi conversely upgraded NPAT revisions for FY24 and FY25, leading it to boost the target price for A2M to $4.75, that is not enough to warrant the broker to recommend investors hold on. 

With shares above $6, A2M’s shares are currently trading above Citi’s target price. 

In addition, Citi is also doubtful on consensus regarding A2M’s margins.

“While a2 indicates medium term EBITDA margins will ‘probably’ be in the teens, the upside case of margins “possibly” being in the low-to-mid 20s appears less likely, in our view, given the underperformance of English label,” analysts wrote. 

What does Macquarie Research say? 

Macquarie analysts rated A2M UNDERPERFORM.

The broker gave A2M a price target of $5.00, in contrast to Citi’s $4.75. However, with the stock trading at over $6 on Tuesday morning, Macquarie is expecting to see A2M’s share price fall from here and suggested holders sell. 

Macquarie analysts highlighted that the influence of forex was more of a boon to A2M’s 1HFY23 revenue report than sales volumes. 

“We estimate A2M delivered approximately 3% volume growth in 1H23 on pcp…while the 18% revenue growth was driven more so by FX [and] price,” analysts wrote. 

While Citi left its earnings estimates for FY23 untouched, Macquarie downgraded its full-year FY23 estimates by -4%. 

Like Citi, it has also trimmed down FY24 estimates.

“Macro remains tough and this impact hits over multiple years from here, while A2M are executing well on share to hold volumes,” the analysts summised. 

As for hopes of a re-opening China? According to Macquarie’s team, the reopening of the world’s second-largest economy will be “immaterial to [A2M’s] near-term earnings.”

A2M's three month charts