Mengniu: Liquid Milk Demand Remains a Headwind for Profit; Retain Fair Value Estimate

We review our 2024-25 earnings projections for narrow-moat China Mengniu Dairy and reduce our net income forecasts by 1%-6% to account for continued soft demand in the liquid milk segment. While the lower cost of raw milk would be a tailwind to margins, we expect impairment of raw milk inventory and higher interest expenses due to increased short-term borrowings to remain a drag on net margins through 2025. But these earnings adjustments are insufficient to alter our fair value estimate of HKD 21 per share, due to largely unchanged long-term forecasts. We see shares as undervalued and believe that excess supplies of raw milk and competition from small brands will ease over the long run, while Mengniu could leverage its extensive distribution to grow sales and earnings.