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August, 201712:21 AM



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ASX Health and Dairy Stocks: Buy, Stay Away, or Wait and See?

ASX Health and Dairy Stocks:  Buy, Stay Away, or Wait and See?

By Bob Kohut 31.07.2017


Long term investors should always be on the lookout for megatrends.  An article by agricultural journalist Jon Condon highlighted five such trends in the Agricultural Sector, as depicted in the following chart.


Relevant statistics from the article include the following:

• Population growth to 2050 is expected to increase 70% increasing demand for food between 60 and 70% from current levels;

• Consumption of dairy products is expected to double by 2050;

• Consumers in 2050 are likely to prefer healthier, more nutritional foods;

• By 2060 income in Asia is expected to increase from US$12,000 to US$44,000 per person

One of the early companies to achieve “market darling” status benefiting from this megatrend was Bellamy’s Australia (BAL), listing on the ASX in August of 2014 with a float price of $1.00 and ambitious plans to expand in China with its line of infant and toddler formulas and foods.  A scandal in China involving domestic Chinese producers adding tainted ingredients to infant formula led to several deaths and an exploding demand for imported formula.

Bellamy’s quickly received certified organic accreditation in China and the stock price was off to the races. Within a few years, the online resellers polluted the market and the Chinese government stepped in with new regulations, with devastating results for Bellamy’s shareholders.  Here is a price movement chart for BAL since in came on the ASX.


Before the fall, Bellamy’s had attained the status of a yardstick stock against which market commentators measured newcomers, breathlessly claiming is this new company the next Bellamy’s.

What investors and analysts alike forgot was that Bellamy’s serves a niche market, with no revenue streams to fall back on should troubles appear in the niche, as they did and have done again.  Once it became obvious in early 2017 the new Chinese regulations would not result in the end of imported infant formula now and forever, the stock price began to climb until another piece of bad news from Chinese regulators popped up.

Bellamy’s had acquired a new manufacturing facility – Camperdown Powder – and announced a capital raise to pay for it, only to see the facility’s export licence suspended by the Chinese.  The stock went into a trading halt during which the company announced revised earnings guidance, in the wrong direction.

There are four other stocks on the ASX exporting to China, three with varying degrees of diversified product offerings and a newcomer, starting out as a “pure play” provider of infant and toddler formula.  The following table includes price information for all and earnings guidance for the three more established players.


Newcomer Wattle Health Australia (WHA) listed on 15 March of this year and a flurry of positive announcements propelled the stock to heights beyond the solid performance of another hot agricultural stock, a2 Milk Company (A2M).  The following performance chart compares the two.


Wattle is already being hailed as a possible “next Bellamy”, although in truth that prognostication should scare investors away, not attract them.  What is attractive is the succession of sound moves the company has made since listing.  

The company’s business model calls for outsourcing manufacturing to third parties, a risky proposition, but Wattle has impressed investors, beginning with a production agreement for the company’s three infant formula products for progressive developmental stages and a full cream milk powder with privately held Baby Mode.

Wattle also has three staged infant formula products for distribution in China, with products produced by another privately held company, Blend and Pack.  To safeguard this supply source, Wattle later acquired a 5% ownership stake in Blend and Pack.  Blend and Pack has a CNCA (Certification and Accreditation Administration of the People’s Republic of China) licence to manufacture infant formula.  Wattle is already generating revenue from these products.

The company also signed an agreement with a major Chinese retailer focusing on mothers and babies – Aiyindago Zhuhia Business Chain Limited – to supply 100 stores prior to a national rollout; and another agreement with Malaysia’s Abby Healthcare.

Next came an agreement with our own Metcash Limited (MTS) to supply the Metcash network with Wattle’s Australian formulations of its three stages of infant formulas.  The company went into a trading halt prior to the equity acquisition in Blend and Pack, adding an announcement of agreements with a major Chinese retailer for distribution -- Tesco Lotus -- and with the Organic Dairy Farmers of Australia for a joint venture to produce organic powdered milk.  On 27 July Wattle went into voluntary suspension pending announcement of a capital raise.

The company plans to expand into natural baby food and healthy and nutritional supplements for adults.

Bega Cheese (BGA) and a2 Milk Company (A2M) both have analyst consensus Outperform ratings. Bellamy’s fall from grace has earned a consensus Underperform rating, with two analysts recommending investors sell the stock.

With healthy dairy products in demand, a2 Milk has an advantage in that its milk is unique, eliminating A1 beta-casein proteins, a source of discomfort for many milk drinkers.  The company is New Zealand based, and since its beginnings in 2000 has expanded into Australia, the UK, the US and China.  The company’s product line includes Liquid Milk, Infant Formula, Cream and Yoghurt, and other dairy products.  The company has been successfully distributing its a2 Platinum infant formula into the Chinese market since 2014, selling product to Chinese reseller, who then offer the formula in China.

The Chinese infant formula sales are booming at a2 Milk Company, with management upgrading its sales forecast.  Australian sales still exceed the Chinese and wider Asian revenue, but it is worth noting that market commentators speculate the company’s current share of the infant formula market is 3%.

Blackmores Limited (BKL) can trace its roots back more than 80 years when its founder opened a natural health food store in Brisbane in 1938.  Today the company distributes somewhere around 196 products, ranging from vitamins to treatments for arthritis and muscle disorders to digestive health, and even pet health.

The company handsomely rewarded its investors, with average annual rates of total shareholder return (price appreciation and dividends) of 19.6% over 10 years; 29.4% over five years; and 50.7% over five years.

In October of 2015 the company announced a healthy profit guidance along with the news of a joint venture with Bega Cheese to produce infant formula for distribution into the Chinese market, red-hot at the time. Investors liked what they heard, driving up the BKL share price around 30% while Bega’s rose about 14%.

The troubles began one year later, when oversupply and regulatory concerns in China led to rampant discounting and product dumping, cutting into the revenue expectations of the joint venture.  Add to that the later regulatory changes put in place in China and investors headed for the exits.  A two-year price movement chart for the two companies shows the rise and fall.


Blackmores remains one of the Top Ten ASX performers over ten years with share price appreciation over the period of more than 350%.  Health products remain in demand and the company recently announced its intention to jump into the medical marijuana space.  The company’s Bioceutical division is looking to get authorisation to distribute medical cannabis products through medical professionals. 

While shares of BKL continued a downward trajectory in 2017, Bega Cheese is on the upswing.  The company’s history bests that of Blackmores, going back to 1899.  After more than 100 years primarily producing a variety of dairy products, the company is diversifying. 

In January of this year Bega paid $460 million to acquire the grocery assets of the Australian operations of US Based Mondelez International (NASDAQ: MDLZ), including the fabled Vegemite brand.  The company then sold two of its infant formula operations for $200 million to Mead Johnson to help fund the acquisition without totally abandoning the operations.  Bega signed a 10-year agreement with Mead, preserving supply and income streams.

A successful $160 million capital raise in June significantly reduced the cash outlay for the Mondelez acquisition. The stock price dipped at the end of June as the acquisition was delayed due to a global outage in the Mondelez IT network.  The deal was completed in early July.

Bega expects to add about $40 million to $45 million in EBITDA (Earnings Before Interest Taxes Depreciation and Amortisation) from the first full year revenues generated from the new Mondelez brands.  Although results to date have been disappointing, the Blackmores/Bega infant formula joint venture is still in the game and Bega is also one of Bellamy’s suppliers for its products. 
 
 

>> BACK TO THE NEWSLETTER: Click here to read other articles from this week's newsletter



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