Fresh Milk And Functional Nutrition Mix Upgrade Will Drive Long-Term Upside Potential

Catalysts

About China Mengniu Dairy

China Mengniu Dairy is a leading dairy company in China, offering a diversified portfolio across liquid milk, fresh milk, yogurt, ice cream, infant formula, cheese and value added dairy ingredients.

What are the underlying business or industry changes driving this perspective?

• Accelerating mix upgrade from room temperature milk toward higher value categories such as fresh milk, yogurt, ice cream, cheese and infant formula, all growing at double digit rates, should support sustained revenue growth and structurally higher gross margins.
• Rising health awareness and demand for functional nutrition, including precision products such as HMO enhanced dairy, sports nutrition under M ACTION and elderly focused nutrition, positions Mengniu to capture premium pricing and expand earnings.
• Ongoing optimization of sales and distribution spending, disciplined CapEx control and improved inventory turnover, together with strong operating cash flow growth, are set to translate operational efficiency gains directly into higher net margins and free cash flow.
• Expansion in high end and international brands such as Shiny Meadow fresh milk and Bellamy organic formula, alongside the rollout of Aice and Deluxe into Hong Kong, Macau, Southeast Asia, Africa and Latin America, opens new profit pools that can drive top line growth and margin expansion.
• Investments in high value added dairy ingredients and deep processing capabilities, including lactoferrin, demineralised whey powder and other advanced raw materials, should gradually reduce import dependence, enhance vertical integration and raise long term earnings quality.

Assumptions

This narrative explores a more optimistic perspective on China Mengniu Dairy compared to the consensus, based on a Fair Value that aligns with the bullish cohort of analysts. How have these above catalysts been quantified?

• The bullish analysts are assuming China Mengniu Dairy's revenue will grow by 5.4% annually over the next 3 years.
• The bullish analysts assume that profit margins will increase from -0.3% today to 10.1% in 3 years time.
• The bullish analysts expect earnings to reach CN¥10.1 billion (and earnings per share of CN¥2.65) by about December 2028, up from CN¥-295.8 million today. However, there is some disagreement amongst the analysts with the more bearish ones expecting earnings as low as CN¥7.4 billion.
• In order for the above numbers to justify the price target of the more bullish analyst cohort, the company would need to trade at a PE ratio of 11.4x on those 2028 earnings, up from -176.6x today. This future PE is lower than the current PE for the HK Food industry at 12.8x.
• The bullish analysts expect the number of shares outstanding to decline by 0.34% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 6.9%, as per the Simply Wall St company report.

Risks

What could happen that would invalidate this narrative?

• China's dairy industry is experiencing a prolonged and more challenging than expected down cycle, with persistent supply demand imbalances and weak consumption that have already driven a 6.9% year on year revenue decline. If this structural softness continues, it could cap top line growth and limit long-term revenue expansion.
• The core room temperature liquid milk segment still faces significant growth pressure and a slow path to full recovery. If consumer preferences continue shifting away from this mass category faster than Mengniu can upgrade its mix, the drag from this large but stagnating business could weigh on overall margins and earnings.
• Mengniu remains meaningfully dependent on imports for high value added dairy ingredients such as butter, condensed milk and lactoprotein. If global supply chains stay tight or foreign competitors retain a technological edge, input cost volatility and competitive disadvantages could constrain gross margin improvement and profit growth.
• The strategy of heavy investment in R&D, digitalization, deep processing and international expansion, while necessary for future positioning, may require sustained high spending during a weak demand environment. This could compress net margins and delay the inflection in earnings and free cash flow that bullish expectations rely on.
• Demographic headwinds in China, including low birth rates and an aging population, may structurally limit long-term demand growth for infant formula and related child nutrition products. Even with Bellamy and Reborn performing well, the addressable market risk could eventually slow revenue growth and constrain the upside to long-term earnings.

Valuation

How have all the factors above been brought together to estimate a fair value?

• The assumed bullish price target for China Mengniu Dairy is HK$27.07, which represents up to two standard deviations above the consensus price target of HK$21.59. This valuation is based on what can be assumed as the expectations of China Mengniu Dairy's future earnings growth, profit margins and other risk factors from analysts on the bullish end of the spectrum.
  
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of HK$27.96, and the most bearish reporting a price target of just HK$15.77.
  
• In order for you to agree with the more bullish analyst cohort, you'd need to believe that by 2028, revenues will be CN¥100.2 billion, earnings will come to CN¥10.1 billion, and it would be trading on a PE ratio of 11.4x, assuming you use a discount rate of 6.9%.
  
• Given the current share price of HK$14.87, the analyst price target of HK$27.07 is 45.1% higher.
  
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.