It used to be so simple for the Australian companies selling consumer goods into China, making full use of the reputation for Australia (and New Zealand) of producing clean, high-quality product.
Some of the biggest beneficiaries have been vitamin and supplements heavyweight Blackmores, which has seen up to one-third of its sales head to China, and the Australian stock market’s mini-sector of dairy infant formula makers, which experienced a sales boom in China after a deadly milk contamination scandal in 2008 eroded confidence in China’s baby formula industry.
Australian producers rode the phenomenon of the “daigou” – literally, “buy on behalf” – buyers, which is an informal market of intermediaries, who buy overseas goods for Chinese consumers, for a fee. The daigou trade is a mixture of e-commerce businesses and informal exports from Chinese tourists and students buying in Australia: reports of the shelves of supermarkets and chains like Chemist Warehouse being emptied by Chinese buyers have become commonplace. Daigou has been a wholesale channel with which Australian companies have had to engage.
But in the last 12 months, the situation has changed – and in response, the share prices of the Australian producers have seen significant falls from the glory days of 2016 onwards.
Beijing has cracked down on its e-commerce regulations, and the daigou in particular. From January 1, 2019, daigou merchants have been obligated to register their businesses, and pay taxes. Many of them decided it was no longer worth the bother. Broker Credit Suisse says the new laws have taken a “permanent toll” on the daigou trade. In effect, Beijing is seeking to bring cross-border e-commerce under strict control, while supporting its growth.
China followed-up in April and June with new e-commerce legislation covering all goods and services transacted via e-commerce platforms, including infant formula, vitamins and cosmetics – the staples of the Australian players. China has put in place a goal of 60% self-sufficiency for infant formula, and a higher market share for domestic brands, and a focus on traceability of product, further cracking-down on the daigou channel.
Analysts estimate that the Chinese wholesale infant formula market was worth US$15 billion ($21.4) in 2018, of which almost 60%, or US$8.7 billion ($12.4 billion) was imported. European companies are the largest players, led by Nestlé and Danone, with 14% and 10% of the market, but Australian and New Zealand companies are prominent: A2 Milk claims a 5.7% share of China’s infant formula market, while Bellamy’s Australia and Bubs Australia are smaller but highly active.
Here is the tale of the tape on the main China vitamins and baby-food stocks.
1. Blackmores (BKL, $93.85)
Market capitalisation: $1.6 billion
12-month total return: –30.7%
FY20 projected dividend yield: 3.1%, fully franked
Analysts’ consensus target price: $84.50 (Thomson Reuters), $86.04 (FN Arena)
Australia’s biggest vitamin and supplements company Blackmores is one of the country’s biggest success stories in the Chinese market, making close to one-quarter of its sales there. But this means that Blackmores has been the highest-profile Australian casualty of China’s regulatory and licensing moves, and it the share price is a far cry from the heady days above $210, back in early 2016. A profit warning in February – coming out of the China business – stripped 25% from the share price, and market valuation.
Blackmores has been forced to rejig its business in China, so as to rely less on the daigou channel: it is doing this by establishing a new and direct relationship with the bigger daigou operators – selling directly to them rather than through Australian retail outlets – and also by building its market capability within China. Blackmores is now selling its products via the Alibaba platform, as it cuts ties with smaller daigou operators. The company acknowledged that it overstocked channels to China in the first half, and has altered selling incentives to avoid this occurring again.
While Blackmores recasts its China strategy, brokers are not optimistic on the stock – and while it is a fully franked dividend payer, rare in this sector, a projected FY20 grossed-up dividend yield of 4.4% is not alluring enough to retain investor interest.
2. A2 Milk Company (A2M, $14.33)
Market capitalisation: $10.5 billion
12-month total return: 36.4%
FY20 projected dividend yield: 0.9%, unfranked
Analysts’ consensus target price: $13.04 (Thomson Reuters), $14.49 (FN Arena)
New-Zealand-based, ASX-listed A2 Milk Company has been a standout performer on the stock market in the 2010s, with a five-fold increase in market capitalisation in the last six years, based on its A2M branded milk, which contains only the A2 protein, rather than both A1 and A2 proteins which are found in regular cows’ milk (which means that A2 milk lacks the A1 casein protein, and can be easier to digest for many people.)
The company sells fresh milk and infant milk formula products in Australia, New Zealand, China, the US and UK, with its infant milk formula sales into China a major driver of profitability. As such, A2M is very sensitive to the news flow in terms of Chinese regulatory activity and trade-related concerns – the infant formula stocks are seen as a proxy on the stock market for trade-war worries.
A2 Milk saw the light early, and lowered its reliance on diagou channels with a “multi-channel” strategy highlighted by a relationship with Chinese chain Mother and Baby, which stocks a2 Platinum infant formula in 12,250 of its stores at last count. The company says Chinese shoppers view its formula as an “ultra-premium” product, in a market that is “premiumising.”
A2 says its baby formula brand is the number-one player in Australia, with a market share of 35.7%, up from 26% just two years ago. But China remains the main story. While the company has a very promising business there, and its profit growth prospects are very sound, brokers feel it is still over-valued as it retraces from its peak above $15.50 back in April. And again, the yield is nowhere near attractive enough in the meantime.
3. Bellamy’s Australia (BAL, $8.36)
Market capitalisation: $948 million
12-month total return: –34.5%
FY20 projected dividend yield: 1.6%, unfranked
Analysts’ consensus target price: $8.53 (Thomson Reuters), $9.48 (FN Arena)
Tasmanian-based baby formula and food company Bellamy’s Australia showed the difficulties of the China market in its half-year result, which saw a 64% slump in net profit, with delays in registering its products in China one of the main reasons. Three approvals for the company’s branded infant formula flowed through in April – for formula to be produced at its ViPlus Dairy plant in Victoria – and the company is also waiting on separate approval for its organic series to be produced at Camperdown Powder.
The delay in getting registration was a direct effect of the new regulations that kicked in from January 1: Bellamy’s needed SAMR (The State Administration of Markets Regulations) registration approval to sell Chinese-labelled products, as part of its move away from relaying on daigou. Bellamy’s also has a deal with Mother and Baby stores, and following its new approvals, the company is cleared to sell a non-organic formula directly in offline channels in China. The formula will be sold at a discount to existing super-premium brands and targeted at consumers in China’s tier-3 and tier-4 cities.
Bellamy’s is expected to show a 24% profit fall in FY19, but analysts expect it to rebound strongly in FY20. SAMR approval to sell the organic range in China would be a major positive for the stock which, like its peers, is a long way from peak share price amid the euphoria of the Chinese market – in Bellamy’s case, this was above $22, back in March 2018. But brokers are more positive on Bellamy’s than on its China-selling peers, with reasonable share price appreciation expected – but once again, with an unattractive yield situation.
4. Bubs Australia (BUB, $1.175)
Market capitalisation: $655 million
12-month total return: 55.6%
Estimated FY20 dividend yield: no dividend expected
Analysts’ consensus target price: $1.30 (Thomson Reuters)
Bubs is a specialist manufacturer of infant milk formula made from goat’s milk, and organic baby food, which has been a spectacular success on the ASX since it listed in January 2017 at 10 cents (after a reverse take-over of previously ASX-listed Hillcrest Litigation Services). The shares have been a “ten-bagger” for fortunate subscribers, and although it is not yet profitable, brokers believe it has not peaked yet.
Bubs Australia has reacted to the market turmoil in China with some adroit deals. In May, it signed a joint venture with Chinese food manufacturer, Beingmate, and that relationship flowed into a strategic partnership the company announced last month with China’s number-one baby store chain, Kidswant. The Kidswant deal sees Bubs Organic food products available in 275 Kidswant stores in major shopping areas in 123 cities throughout China, and through the company’s online sales channel, which is expected to result in an additional $6 million in sales in the first year. The joint venture partners believe that the beneficial effects of goat’s milk offer a big point of differentiation in the increasingly premium-conscious Chinese market.
Bubs is also growing its domestic market, with a four-year deal signed in April under which Bubs products will be promoted and sold in Chemist Warehouse retail stores throughout Australia, including its domestic and Tmall online stores.
Bubs is still expected to post a loss in FY19 and FY20, although narrowing from 5 cents a share to 1 cent a share, and investors will be looking for profitability breakthrough in FY21.
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