Synlait Milk Limited

Company Profile: Synlait Milk Limited (ASX: SM1) is a dairy manufacturer which is focused on supplying higher value dairy products to leading milk-based health and nutrition companies. It is one of the leading manufacturers of infant formula products and is engaged in modern manufacturing technology. The firm’s manufacturing process is highly automated and is operated by teams of world-class experts. It also has an expertise in nutritional dairy formulations in a highly regulated manufacturing environment allowing the company to create products that will deliver true health benefits for all stages of life.

SM1 Details

Expanded Capacity and Increased Sales Volumes: Synlait Milk Limited (ASX: SM1) is a dairy manufacturer which is focused on supplying higher value dairy products to leading milk-based health and nutrition companies. As on 22 September 2020, the market capitalization of the company stood at ~$986.19 million. During FY19, the company reported an increase of 16% in sales volume to 149,730 MT (excluding liquid milk) and growth of 21% in consumer-packaged infant formula sales to 42,907 MT.

During FY19, the company surpassed a mark of $1 billion in revenue, up 17% YoY, while, net profit went up by 10% to $82.2 million, reflecting the decent underlying performance of the group and its competence to support an investment program. These results were mainly due to the progress in operational productivities and continued support from its customers.

The company is nearing the end of its second major growth phase. It has entered several new categories and completed an investment of $134 million in advanced liquid dairy packaging facility at Dunsande. During 1H20, the company witnessed pressure on its supply chain. However, this risk was managed via healthy relationships with raw material suppliers and logistics partners. Over FY15-FY19 , the company witnessed a CAGR of 22.96% in revenue and a CAGR of 22.27% in gross profit, reflecting prudent cost management and the decent platform creation for growth.

FY19 Financial Highlights (Source: Company Reports)

Synlait Joins B Corp™ Community: The company has been recognized as Certified B Corporation™. The certificate verifies that the businesses meet the highest standards of social and environmental performance, public transparency, and legal accountability to balance profit and purpose.

Investment in Major Growth and Operational Projects: During 1H20, sales volume of the company increased by 22% to 21,571 MT, and the revenue went up by 19% to $559 million. This was driven by a boost in commodity prices and increased consumer packaged infant formula sales. During the half year, milk production increased by 8.5% to 46.7 million kgMS due to the shift in product mix towards consumer-packaged infant formula. The production of consumer-packaged infant formula went up to 22,212 MT. However, the increased sales were offset by an increase in overhead costs, and hence, resulted in a decline in gross profit to $82.9 million. Net profit after tax fell by 30% to $26.2 million driven by higher expenses including interest costs, manufacturing, and SG&A costs associated with the Pokeno and Advanced Dairy Liquid Packaging facilities.

During 1H20, the company witnessed seasonality in its cash flows caused by milk production curve and reported a decline of 61% in operating cash flows to $12.2 million. However, it is expected to recover in the second half driven by higher sales and reduced inventory. SM1’s continued significant investments in growth projects resulted in a capex of $220 million. Net Debt also increased by $159.7 million to $447.4 million.

Growth in Production Volumes (Source: Company Reports)

Details of Top 10 Shareholders: The following table provides an overview of the top 10 shareholders of Synlait Milk Limited. Bright Dairy Holding Ltd. is the largest shareholder in the company, with a percentage holding of 39.02%.

Top 10 Shareholders (Source: Refinitiv, Thomson Reuters)

Key Margins: During 1H20, gross margin of the company stood at 14.8%, and net margin of the company was 4.7%. In the same time span, EBITDA margin of the company stood at 12.4%. During 1H20, Return on Equity of the company stood at 5.2%, up from 3.5% in January 2017. This shows that the company is well managing its capital and can generate profits internally. During 1H20, Assets-Equity Ratio of the company was 2.68x, and Debt-Equity ratio of the company stood at 0.89x.

Key Margins (Source: Refinitiv, Thomson Reuters)

Key Risks: The company’s key risks are split into operational and strategic risks. It is exposed to a variety of risks, including foreign exchange exposure due to its sales in the overseas markets. It is also susceptible to movement in dairy commodity prices, evolving consumer behavior, legal or regulatory breach, significant loss of revenue, profitability and earnings, food safety and quality, and market access, etc.

Future Expectations and Outlook: The COVID-19 pandemic has created a significant global uncertainty and may impact the performance of SM1 in the near time. However, the company has clear vision for growth through entering new categories. Post the competition of Dairyworks’ acquisition, the combined Talbot Forest and Dairyworks entity, is expected to achieve a pre-tax return on invested capital of ~20% including synergies.

The company does not expect to pay dividends in the foreseeable future. The company expects sustained momentum in consumer-packaged infant formula and a full year of operation of the advanced liquid dairy and lactoferrin facilities. The company expects its base milk price for 2020-2021 season to be $6.00kgMS.

The company has a highly integrated manufacturing capabilities that meet the high standards in a large nutrition market of China. The long-term agreement of the company with A2M for the supply in China, New Zealand and Australia is likely to add to the growth prospects. The company is focused on strengthening its business and seeks to leverage future growth opportunities. SM1 will release its Full-Year 2020 earnings report on 28^th September 2020.

Key Valuation Metrics (Source: Refinitiv, Thomson Reuters)

Valuation Methodology: EV/EBITDA Multiple Based Relative Valuation (Illustrative)

EV/EBITDA Multiple Based Relative Valuation (Source: Refinitiv, Thomson Reuters)

Note: All the forecasted figures are taken from Thomson Reuters, NTM: Next Twelve Months

Stock Recommendation: With a strong track record at navigating complex environmental conditions and meeting the strict criteria of several product quality and safety accreditations, the company seems well positioned to weather the impact of the current uncertainty driven by the global pandemic. The core business of the company is performing well and continues to support its growth story. The company is nearing completion of its fourth major investment cycle, having invested $470 million in growth projects over the past 24 months. As per ASX, the stock price of SM1 is inclined towards its 52-weeks low level of $4.33, offering a decent opportunity for the investors to enter the stock. On a technical analysis front, the stock price of SM1 has a support level of $ 4.656 and a resistance level of ~$6.086. We have valued the stock using the EV/EBITDA multiple based illustrative relative valuation approach and have arrived at a target price offering an upside of lower double-digit (in % terms). Considering, the current trading levels, decent financial performance, resilience of the business in the softer market conditions, and positive long-term outlook, we recommend a ‘Buy’ rating on the stock at the current market price of $5.500, with no change as on 22^nd September 2020.

SM1 Daily Technical Chart (Source: Refinitiv, Thomson Reuters)

Disclaimer

Kalkine New Zealand Limited is authorised to provide class advice only. The information on this site does not take into account any of your investment objectives, financial situation or needs. Before you make a decision about whether to acquire a financial product, you should obtain the Product Disclosure Statement from the product issuer. You should consider the appropriateness of advice taking into account your own objectives, financial situation and needs and seek independent financial advice before making any financial decisions.