A2 Milk (ASX: A2M) is a fresh milk and infant formula company. A2 sources, produces, and supplies the a2 brand milk and milk-related products in Australia and globally. Moreover, the company is the only fresh cows’ milk producer with the A2 protein type and no A1 protein.
After listing on the ASX in 2015, the A2M share price has gone from strength to strength. It became one of Australia’s largest listed companies. However, the business has been under pressure since July 2020 amid a rapidly changing infant formula market and the “daigou channel” in China. Furthermore, in 2021, A2 Milk shares have shredded half of its value.
Indeed, the A2 Milk share price experienced difficult years. However, could things turn around for the milk company in 2022?
One of the worst stocks of the ASX 100 last year
One of the dogs of the ASX 100 in 2021 was the A2 Milk share price. It lost over 50% of its value during the twelve months. Whilst A2 does not pay a dividend, it appears to have been included due to its ability to deliver a dividend if required. Moreover, the infant formula company is sitting on a mountain of cash. Although, it chooses to reinvest it rather than distribute dividends.
Whereas A2 Milk’s underperformance has primarily been driven by regulatory issues in China and falling eCommerce sales. This is not something that the company can control. Indeed, we have seen that over the last 18 months.
Overall, although the A2 Milk share price has sunk lower last year, we think investors should eventually consider it “outperforming” the market in 2022.
But from here, is the outlook good for the business? Or could things turn even more sour?
A2 Milk outlook for 2022
The Market sentiment appears to be mixed on the business.
For instance, most brokers have a neutral view on A2 Milk, with a price target in the range of $5.7 – $6.0. That implies a mid-single-digit return over the next 12 months. This would be possible if A2 starts to regain some pricing power.
Overall, we expect good recovery in the next few years. We noticed the recovery in the first quarter of infant formula with an English label.
Recovering demand but lower margins
In the fourth quarter of FY21, A2 Milk recognised stock write-downs and deliberately slowed sales. Furthermore, along with other planned initiatives, this happened to reduce inventory levels and rebalance English label infant formula pricing across channels. The company also swapped older distributor inventory with more current stock to improve on-shelf product freshness.
When A2 Milk gave its latest trading update, the company noted that English label infant formula sales in the first quarter of FY22 were down on the first quarter of FY21; however, they were substantially better in the fourth quarter of FY21. The reduced channel inventory levels constrained the fourth quarter of FY21.
English label infant formula sales are expected to be down in the first half of FY22 on the corresponding prior period, but ahead of expectations.
Turning to A2 Milk’s EBITDA margin expectations, A2 Milk has its target margin probably in the “teens” in the medium-term due to “expected” market conditions, investment and innovation.
We think that the target margin was “possibly” in the low-to-mid-20s in the medium-to-long term, subject to a better market recovery than expected, English label channel growth and market share gains.
Looking ahead to 2023, We consider that A2 Milk shares are valued at around 30 times for FY23’s estimated earnings.