Synlait Milk is on track to rebuild its profits after posting its largest ever loss during the Covid-19 pandemic, but investors remain cautious.
The Dunsandel, Canterbury-based milk processor turned to a profit of $38.5 million in the year to July 31, from a loss of $28.5m the previous year, in line with expectations.
Synlait was caught up in the turmoil of its largest customer, The a2 Milk Company, during the pandemic as orders from the key Chinese market initially surged as families stocked up on infant formula, then slumped when pantries were full, resulting in surplus stock. That’s now rebalancing, with Synlait last year reducing its inventory by 40% which boosted its cashflow and allowed it to pay down debt.
“They’ve done a phenomenal job in coming back from what last year was just a terrible year,” said Harbour Asset Management senior research analyst Oyvinn Rimer. “It’s good to see them back, and it’s good to see the return to profitability.”
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Still, Rimer said that like other dairy companies, Synlait had to invest a lot to achieve its earnings.
He said it was disappointing that Synlait had reduced its expectations for return on capital in its long-term strategy out to 2027 to 15% from 20%.
“It probably suggests that they don’t think they will generate as much profitability per dollar of capital that they invest into the future,” he said.
Prior to the pandemic, Synlait spent $280m on a new factory at Pokeno in Waikato, $125m on a new liquid plant at Dunsandel and $150m to buy cheese companies Talbot Forest Cheese and Dairyworks as it sought to diversify its products, markets and customers away from its heavy reliance on A2.
It spent an extra $70m to fit out Pokeno to manufacture plant-based milk for a new multinational customer which it hasn’t named, citing commercial sensitivity.
Synlait is trying to reduce its reliance on A2 as the specialty milk marketer looks to move more manufacturing into its own majority-owned Mataura Valley plant in Southland.
Craigs Investment Partners investment adviser Peter McIntyre said there were concerns about Synlait’s ability to replace A2 volumes.
Synlait has released few details around its new multinational customer for Pokeno.
“That is the big unknown in terms of how successful that will be,” said Harbour’s Rimer. “I think Synlait has huge hopes on that being a great partnership and a profitable one.”
Synlait expects to start distributing the plant-based product in Southeast Asia from the second quarter of this financial year, and to Australia and New Zealand by the end of the 2023 calendar year.
“It’d be great if they have success in getting another A2-type customer,” Rimer said.
Forsyth Barr analyst Matt Montgomerie said it was still very early days in Synlait’s turnaround.
“There’s still plenty more work to be done for investors to gain confidence from here,” he said.
Investors wanted to see the company diversify its earnings away from its reliance on A2, and improve the utilisation of its Pokeno plant by adding more customers.
He noted China’s re-registration process for infant formula was a key risk hanging over the company.
Synlait holds the licence for manufacturing A2’s Chinese-label infant formula and is working on re-registration under new food safety legislation in China.
The company said gaining re-registration was a “top priority”, although it didn’t expect infant formula volumes to be impacted by the process. It has approval under its current registration until late February next year.
Synlait said by the end of this financial year it will have completed its two-year recovery. It expects to enter the 2024 financial year with a similar level of profitability as that experienced before its 2021 financial year.
Jarden analyst Adrian Allbon noted the average profit through the 2018 to 2020 years was $77m, ranging between $75m to $82m.
Still, Synlait said it was managing several risks, including the Chinese product re-registration timeline, a tight labour market, high inflation and supply chain pressures – all of which could materially impact its guidance for this year.
Shares in Synlait closed down 5.3% to $3.37 on the NZX on Tuesday.
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