The special ingredients in A2's spectacular success

A2 Milk chief executive Geoff Babidge says the success is down to A2's clear focused strategy.

A2 CEO Geoff Babidge on the Fonterra alliance and first-half results.

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A2 Milk has become the country's largest listed company after its shares soared 27% in trading today following reported 150% profit rise for the half year.

The shares have hit a record $11.85 during trading before easing to $11.81, taking its market capitalisation to $8.6 billion.

A2 Milk’s chief executive Goeff Babidge says the company’s success is the result of its clear and focused strategy to sell A2-branded products globally.

The company reported a $98.5 million net profit for the six months ended December, 150% up from $39.4 million in the same period a year earlier.

It also announced a strategic alliance with Fonterra, signalling a stunning reversal of the dairy giant’s previous stance of disputing the science behind A2’s proposition.

Fonterra also passed up opportunities to buy A2 before its performance – and value – started to skyrocket.

Mr Babidge says A2 has focused on building a broad range of brands using A2 milk only, targeting attractive regions globally and continuing to invest in its proprietary “knowhow,” its brands and its A2 protein expertise.

“This clear strategic focus has been consistent over recent years and the board and management would say the reason we’re getting these results through is a clear focused strategy to deliver in respect of those key factors,” Mr Babidge told journalists.

But exceptionally strong as A2’s results were, they were almost overshadowed by its sweeping agreement with Fonterra relating to manufacturing, packaging and managing A2 milk supplies, and allowing A2 to piggy-back on Fonterra’s expertise in products such as butter and cheese.

Fonterra also has the exclusive licence to supply A2 milk in the New Zealand market.

A2’s milk supply management, manufacturing and packaging arrangements with Synlait Milk remain.

Key takeaways from the results include a 70% jump in revenue to $434.7 million in the latest six months while earnings before interest, tax, depreciation and amortisation rose 123% to $143 million.

Operating cash flow was $116.4 million, taking A2’s cash balance to $240.2 million, raising the issue of how long A2 can sit on such a fast-growing pile of cash.

Manufacturing investment in prospect
The company says it hasn’t ruled out investing in its own manufacturing facilities – it already owns one of several fresh milk facilities producing fresh A2 milk in Australia.

Infant formula now accounts for 78.4% of A2’s sales and sales of infant formula grew 85% to $341 million in the latest six months.

Direct sales into China now account for 26.3% of total sales and much of the sales of infant formula in Australia and New Zealand is bought by Daigou (the grey market – Chinese buyers who then ship the products to China) for sale in China.

Sales of the China label on its own now represents 12% of infant formula sales, up from 8% in June last year – the company also sells its “English” label infant formula in China through online channels.

The company’s market share of that vast market continues to grow rapidly, reaching 5.4% in the December quarter compared with 3.5% in the June quarter last year.

Not surprisingly, producing sufficient infant formula to keep up with demand has been a major focus and the company says its inventory levels at December 31 had climbed to $53.6 million from $28.4 million at June 30.

Nevertheless, it plans to continue building inventory.

While the company has been building its range of products, it says it’s expecting broader interest in the A1 protein-free category (A2) and is well positioned to respond.

Mr Babidge says the company’s performance in January this year was “pleasing” and he’s expecting marketing spend in the second half to exceed the first half by between $35-40 million, driven by increased spending in China and the US.

The company is expecting its gross margin to be broadly the same in the second half as the 49.8% achieved in the first half.

But, in keeping with Mr Babidge’s cautious approach, he has provided no further guidance on the outlook.

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3 Comments & Questions

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What an amazing success story. Congratulations to Mr Babidge and his team.
Meanwhile back in the cutting edge knowledge economy - which apparently is our future - Wynyard has gone bust and Orion is looking more and more like Rakon with the next rights issue likely to be at 50c or less.

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I don’t know much about A2 but they seem to be doing phenomenally well. I can’t understand the $8B valuation on $200m profit though - a huge amount of future growth already priced in here

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A2 is actually all about the royalty on the brand use. Outright sale of the brand is an option.
These figures . . . turnover, valuation, profit etc. all require some scrutiny. It seems that there is some toll-processing and some own-manufacture, and some royalty from brand -licensing. The relative proportions of these income -streams will vary with time .
It needs to be picked apart.

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