Full-Year Profit Guidance for Yili and Mengniu Could Be Tough To Reach; Lowering FVEs for Both

With weaker-than-expected dairy and infant milk formula demand, we lower our 2023 revenue and profit projections for wide-moat Yili 600887 and narrow-moat Mengniu ahead of first-half earnings. We think sluggish consumer sentiment will persist for longer, hurting demand for premium liquid milk products. Infant milk formula, or IMF, sales are also set to slow for both companies, due to headwinds from a low birthrate in 2023. Yili has larger exposure to IMF than Mengniu. We think it would be difficult for both companies to reach their full-year profit guidance, given soft consumer confidence and elevated channel spending. Our fair value estimate for Yili slides to CNY 40 from CNY 42, and for Mengniu to HKD 36 from HKD 39.

Our fair value estimates price Yili and Mengniu at 25 and 22 times 2023 price/earnings, respectively. With the demand headwinds and possible earnings downgrade for Yili, we think investors are likely to remain sidelined for now—but for buyers looking through the current cycle, both companies are attractively valued.

Our 2023 top-line growth forecasts for Yili and Mengniu are cut to 5.4% and 12.8%, respectively, from 9.6% and 16.8%, mainly due to a lower liquid milk demand. We also revise our growth assumptions for Yili’s milk powder segment and Mengniu’s cheese business. Our price checks at the retail level showed continued promotions for premium liquid milk into the third quarter, suggesting persistent demand headwinds. The trajectory of premiumization for dairy products thus far in 2023 is bumpier than we expected. We think both companies would strive to boost sales in the second half and hence, promotional expenses could continue to stay elevated. We raised our sales and marketing costs ratio estimate for Yili to account for higher channel spending across liquid milk and IMF. Our prior assumptions for Mengniu already baked in higher promotional spending.