Mengniu announced 1H20E NP to fall by 45-60%, which we think is largely priced in. Organic revenue growth accelerated from flat in 1Q20 to double-digit growth in Apr and May, ahead of previous guidance of slight revenue decline YoY in 1H20E. We maintain our Buy rating because uncertainty on 1H20 NP is removed and sales recovery is ahead of guidance.
- 45-60% NP decline in 1H20E. The reasons for the NP decline include (1) additional marketing expenses were incurred to reduce channel inventories; (2) additional expenses on epidemic prevention and control to safeguard health of employees and ensure resumption of work and production; and (3) cash and supply donations (~RMB740mn) were made to fulfill social responsibilities. Such reasons are fully expected by the market.
- Sales recovering strongly. After a flat organic revenue growth in 1Q20, organic revenue recorded a double-digit growth YoY in Apr and May 2020. We think 1H20E organic revenue growth should beat guidance of slight YoY decline.
- Channel inventory level is improved. According to our source of channel checks in Hunan, retail price of Milk Deluxe (250mL * 12 packs) in KA channel increases to ~RMB49.9 currently from RMB44.9 in late May. Marketing expenses in the channel could be reduced, which will improve Mengniu’s profitability. Channel inventories were mainly manufactured in Apr and May, at a normal level.
- Overhang is removed. Management maintained its 2H20E guidance of low-teens organic revenue growth and 30-50bps OPM expansion YoY. Based on 45-60% NP decline in 1H20, a low-teens organic revenue growth and a 0.5ppt YoY expansion of adjusted NPM in 2H20E, we estimate FY20E NP to be RMB2.9-3.2bn, which is below our previous estimate of RMB3.5bn but in the high-end of consensus’ lowest to mean estimate (RMB2.5-3.4bn). Hence, we think the 45-60% NP decline in 1H20E is largely priced in.
- Maintain Buy. We revised our FY20/21/22E NP estimates by -8%/2%/1% as we raised FY20/21/22E revenue estimates by 4%/3%/2%. Our TP is lifted from HK$34.20 to HK$37.90, representing 28.0x sum of 2HFY20E and 1HFY21E EPS (vs 28.0x average FY20E and FY21E EPS). Catalysts: better-than-expected revenue and margins; Risks: slower-than-expected recovery and food safety issues.
