Earnings Call: H2 2018

Mar 28, 2019

Investors and from the media, welcome you for the attendance of the 2018 annual results announcement of the China Mengniu Dairy Company and also Yashili International Holdings. The investors meeting and media meeting will be conducted in Mandarin. There will be also simultaneous interpretation in English. Please allow me to introduce you before this functions who will be Mr. Lu Minfang, Chief Executive Officer and Executive Director. Mr. Zhang Ping, CFO. Mr. Gao Fei, Vice President. Mr. Wen Yongping, Vice President, together with Mr. Chris Kwok, Financial Controller and Company Secretary. The management represented from Yashili includes Mr. Zhang Ping, Chief Executive Officer and Executive Director. Madam Wen Jie Ping, CFO. The announcement will be started to review the 2018 of China Mengniu and followed by Yashili. Last but not least, the Q&A session. Let me now invite Mr. Lu to brief you the performance. Let's welcome Mr. Lu. Friends of the investors and media, good morning and welcome all of you to participate the annual results announcement of Mengniu. We have a full house today, and we appreciate your support and do a little bit of stress. My team says that I am one of the CEOs, one of the best presentation skills in those. I don't know whether this is a compliment or whatever. Thinking back in the consecutive CEO, I have the worst standard in my presentation. Indeed, there is some pressure standing here. So my way to manage my stress is to offer myself setting up a very high standard, and then the investors will be lower than the standard for our expectation, and the board's expectation will be lower than the investors' standard and target, and then I will have less stress. Let me interpret on the annual results of 2018. The revenue has increased 14.7%, of which obviously it is much higher than the industry growth. On the liquid milk, it was only 7.3% up. For the adult formula, 16.7%. Infant formula, 15.8%. These are the numbers of the industry, but all of us are also exceeding them. In particular, we have also premium UHT, 20%, UHT yogurt, 27%, chilled yogurt, 10% of all the listed SKU products are having good results, and also very good performance on the new products, especially in the premium UHT that has been always for the last second few years of their high growth, also a trend for the consumer brands. The other thing that the economy was bad, but the fresh milk and also flavored milk and also stew mix and also have a double-digit growth. In other words, a very special thing is that in Davos this year, I said that with everybody's thinking the economy is bad, we find that some of the fundamental and also the premium products have also realized double-digit growth. Probably this is the kind of confidence on the consumptions in China with some of the fundamental products, which are also very good in the in-depth cultivation in the tier 3, 4 cities. Naturally, we can see that the gross profit performance was good from almost 2.2 percentage points of 37.4%. Very good structure with also optimization of the series of products and also the contribution on the formula, which is also very high in addition of the raw milk price was quite flat. Even there will be seasonal ups and downs of the year. Generally, the raw milk price will be higher than the first half of the year. The operating profit was 4.9%. Probably you said that it was a little bit down because for the second half of the year, we have some kind of visionary investments starting from last year. I said that of the overall fixed asset involvement because of the growth with the productivity and employment is also increasing. Our factories in Indonesia have already started with four fresh milk factories, and this will be very beneficial for the operation profit. With all the investments, it is based on our long-term growth consideration. In addition, let me tell you a little bit. Despite the fact that the gross margin dropped last second half of the last year, comparing to the similar period, we still have a very robust growth. In addition, as you can see that the profit margins determined on our marketing, the marketing cost was mainly on the three aspects. One is that starting on the World Cup last year, we will also enhance also our branding of China Mengniu, which is quite outstanding, and we also maximize also on the formula. In the past was our least important product, but now this is a very important growth. For the formula's gross margin, it is high, but investment is also high. Thirdly, we started to have our channels involvement to maximize. I believe, and this will be also motivate a healthy development of Mengniu in the long runs. As a result, the EBITDA has grown 29.7% and also the net profit was CNY 3.4 billion with 1.0 ppt. The EPS is also going up, so the return to Mengniu's investment is really quite favorable. Let's take a look of the revenue breakdown by segments. On the liquid milk, it was 12%, and for the consecutive three years, and was more than 10% for the ice cream. The formula was also 48.9% for the other deployment. For example, fresh milk, yogurts, and also on this other business and also catching up. This is from the business sectors. Kind of simple presentation. Probably you're also concerned about the market share. In terms of the market share, in 2018, the market share comparing all the other brands and also all going up. But I'd like to remind you that in fact, for the Nielsen's coverage of all the business, it was only less than 40%. So in other words, 40% of the products sold were being monitored by ACNielsen. But it doesn't match to our growth. The trend is that it was correct on the trend by Nielsen for our UHT, for chilled milk, and also a big difference with our competitors. The formula was also much faster in terms of growth, but it didn't fully capture the formula and the e-commerce also maintaining our leading role for the market share. The performance was quite favorable of the all UHT including also on our yogurt. The market share is also going up. This is a very good trend that I believe. The other data show on the OPEX and also on the net cash flows, which is already CNY 6.3 billion. This is a historical high. Similarly, in 2018 because of our increased productivity, last year, I said that at the end of 2017, the average productivity was already more than 70% for the industry. This is a very high utilization of the productions. With further investment and expansions, especially on the formula milk productions and also chilled yogurt, chilled milk, and also the premium milk, you can see some of the organic new packagings, and these are very high fixed assets. Of the CNY 3.2 billion CapEx relatively to our growth, this is quite a normal level. In addition, on the SG&A expenses I mentioned earlier, it is almost like 2.6 ppt, of which 1.8 ppt was because in the market, especially because of the World Cup-related expense. On the other, 0.8 ppt was coming from our channels, from our continuous investment on the formula. Put it this way, in 2018, of the overall marketing revenue, in terms of also the market in-depth cultivation, this is also some expenses involved in the sales. Hopefully, we can also upgrade the tier 3, 4 cities. We are looking at the Nielsen in the townships and villages. We have the fastest growth rate in those tier 3, 4 cities, and this is also a kind of result of a strategy. In terms of the operation efficiency, it is approximately 4.2%. In terms of the structure, a lot of changes. In other words, you can see that the profitability is also increasing with the R&D and also the analysis. Also starting from the end of 2016 up to now, our fundamental staff, including all our bases, are also greatly increased on the basic staff salary. It is almost like 40% increase on the salary. The good point is that because of the overall structure, it is even more streamlined. For the overall administrative expenses was not big, but with our major sales, it was also greatly increased for our salary, and this is a very good phenomenon. The other OPEX, I am not going to repeat, but basically, this is a very, very benign period. On the inventory, it was one day more because at the end of the year, we have to have the stock up because of Chinese New Year. In 2018 was closer to the end of 2017. That is why we have the situation. Receivables, we have been seeing that for the receivables, reflecting almost 20% of our business are going through with our own subsidiaries and also direct sales is a certain kind of retails accounts. So the receivables is almost 14 days. This is a very stable number, the structure of which is not going to have a big change in the future. For the payables, it is also on a reasonable level. These are some of the basics, and I believe you, in many of the numbers and data as you know already, or even more details for your studies. Now, in the Q&A situation, conditions, you may have more questions for us to answer. The numbers speaks for itself, what we have done in the past. I told my team in each and every year what we have done from 2018, a very important thing is that, what exactly we have done for the last three years? Looking back, I believe that what you can see, the kind of philosophy on our management operation. To sum up for the three years business review, we wish to set up a very defined target using a very uncertain way to realize it. What does it mean? Let me tell you what exactly it means. We have a very uncertain target by having uncertain approach to have it realized. Looking back for the last three years, basically, I have to sum up something that is quite different from the past. The first one is also, hopefully, in each of the business segments will go collectively on the new business deployment will be much better to have the initial results. Secondly, is on the Now that we spoke about also the consumer, we have to innovation to motivate also the product mix improvement. As you can see, starting from 2016 up to now, a big change on the mix and also on the change of the gross margin. Number three is also the sourcing department. This is a visionary on the raw milk, and last but not least, is on the quality and brand of the Mengniu and overall comprehensive upgrading. Looking back for the last three years, these were the four matters that we have done a very good job on that. Let me just tell you briefly one by one. In each of the business units, these are very helpful. On the room temperature, chill business, have a stable growth. Also on the chill, lately in the industry was low, but we can maintain also very good speed. Second is ice cream and formula. These were usually our pain point, but in the last three years, ice cream, what we call the turnaround business. They said also, this is a very correct way of the Chinese describing. Ice cream and formula, there will be also much better expectation. Number three is on the new business deployment. We have already have some visionary deployment. One example is on the fresh milk and also on the yogurt productivities. We have already deployed for the next three years. For the fresh milk, there will be five factories closer to the large consumption markets. A very fast growth, including on the fresh milk business. In 2018, was quite outstanding. In January 2018, the market share was ranked number 14. December 2018, in terms of the retail channels, the fresh market has already gone down to number three. One competitor for each month. In 2019, the fresh milk business is going to giving us a very strong growth engine. Similarly, for the yogurt, with regards of the children's yogurt or also on the catering yogurt, these are very robust, more than 70% of the growth. Also on the overseas Indonesian markets, and these are the new business deployment, will also offer us drivers for the long-term growth. In particular, this is a very high-end. As you can see, the products outside. Please also enjoy some of the products shown, including our children's yogurt. The productivities are unable to catch up the demand, especially on the vegetable, also on the others. Regardless of the traditional business or some of our business deployment, some of the inferior product lines, this can also support our long-term robust growth. That is why you can see for the last couple of years, we can see a very favorable growth rate. The second one is also on the consumption upgrade. We firmly believe that going forward with innovation to drive the different brands and products. Originally, people think that regarding Mengniu as an innovation, but we will treat innovation as our core competitiveness in our premium fresh milk. As you can see the products outside, this is selling like hot cakes. This is already a total leading product. This is not an easy task growth. The other one is also on some of the other yogurts. On the premium UHT yogurt and also the Bio. You can see on the premium products, on the zero fat, you can also enjoy. Some of them have you really try and this kind of zero fat fresh milk, comparing to the flavor is quite good. So try if somebody's lying on that. On the kids yogurt, a very strong growth. On the formula, we are focused on the infants organic and also on the goat's milk formula. Now that we have the organic formula, we are already ranked number one in China. Hopefully in this two business, this will be a very robust growth. As a kind of a product mix, innovation, upgrading, and the result of which is that starting from 32.8% to 37.4% in less than two years of the gross profit margin growth. This is also the result of the elevation of the product mix. This is the second thing. Number three is that we'll really have the visionary deployment on the raw milk. When investing in the husbandry, people are asking us and questioning us. When we are talking about on the Shengmu, people saying that probably we are doing a good job. Now going back on the large size modern farming, the rank top number two and number three, we also have the strategic investment supporting totally our premium business growth. That is why we can be so fast, and the target is that three times per year on the fresh milk, just because we have the deployment of the raw milk. It is worth the while to spend billions of CNY of investment on Shengmu. This is the first one on the organic raw milk supply in China. If you happen to visit the Shengmu farming, we have 60 kilometers desert as a kind of natural barrier to do the farming, especially on the organic milk. We have taken down this resource on the long term, premium organic raw milk. Naturally, we have a saying on the deployment. Out of this is a very proactive, visionary deployment, including our overseas deployments. Next, I'm going to show you why the resources deployment, the real thing is to support us. Now, speaking about large size farming is useless, but the Mengniu group's all raw milk is coming from the branded farms instead of only a farm. This is also a very important thing to support our future development. Naturally, overseas deployment will be also helpful for us to have the supply. You can see that with all this action taken, this is also a vision deployment, in particular on the very low end of the farming industry. We have to do it, and we have our own consideration, a very important thing to support our high-quality growth in the future. Last but not least, is on our brand image. For quality, this is a very basic thing. If you cannot achieve quality, you cannot call yourself a real brand. You can see, thanks to our efforts in the past few years, especially in 2018, our brand image, compared with last 7-8 years, for the first time, we have overtaken our competitor. It was for the first time that we are able to really build the brand into all the consumers' heart. Just now, I talked about the situation of the past 3 years. Sometimes I think, actually looking back, you can see that our operation thinking is very determined, and this is why I say have a very clear goal and to use various methods and uncertain methods to realize our goals, and some of these methods might be surprise in the market. What I want to talk more about and what you might be more concerned about is the outlook. Well, people talk about the Chinese economic situation, the milk price going up, and all these are challenges. However, I think that these are also great opportunities. If we're able to maintain double-digit growth in the downward trend of economy, this shows the strength of the company. For our industry, I think that we're still a very stable industry. Perhaps 30 years ago, people might have this doubt whether the Chinese milk industry is a stable one. However, now looking at it, this is a very sustainable business. I have talked about this in 2016, 2017, and 2018. The more I talk about it, the more people will believe. In terms of our consumption at the moment, actually, you can see, if you look at our consumption per capita, it's still very low, only 20 kilos. Compared with developed countries, it's only one-third of developed countries compared with Japan and Korea. It is still quite low, and I think that there is still a lot of room for growth. In addition with the new sale, new retail, and new business and the new model it has brought. I believe that there are a lot of opportunities. Talking about 2019, what are we going to do exactly? I think that the first 4 points, I have summarized the previous 3 years. Looking at 2019, first of all, we need to adhere to our brand building, and second, sales. For this part, if there is only one thing, one important thing that we are going to do, it would be this. In addition, digitalization. In terms of our R&D investment, our high efficient operation, I can spend some time and elaborate on this. First of all, on our sales, you can see in 2018, we had worked on the upgrade communication of our mother brand. Last September, we had already obtained basically all the top IP in China. If any of you have lived in China for a long time, I believe that you must have watched these shows. For example, "Sing China," "Super Vocal," "Produce 101," "Back to Field," "Chinese Restaurant," et cetera, on these shows. This year, I believe that anyone who has watched these shows, you would have remembered the brand Mengniu. So this is our layout at end of 2018. For 2019, we are very determined to improve the brands of our sub-brands. You can see that these are super matched. Even my wife, Annie, is saying that she wants to watch the "Super Vocal" show. Well, it is a pity that I have spent money on this, but I did not even watch the show. This TV show called "Back to Field," and they have even invited me to go on their show and be their guest, appearer. I felt that it was a bit inappropriate, so I did not accept this invitation. I think that for Mengniu, for all these sub-brands and the building of the IP brand, it has fully reflected our confidence in building our brands. Second part, this is an area where, in 2019, we will spend a lot of effort on, which is to further redesign and further deepen our RTM reform. You can see here we have the redesign, for RTM for future growth, improve supply chain model, reinforce channel management, increase POS coverage, et cetera. This would help us to really control the endpoints. People say that we are not as competitive as our competitors in terms of our control of the endpoints. We have always been trying hard. This year we are going to work even harder, and we are going to find a breakthrough in this area. So we hope that by end of this year and next year, when we stand here, we can tell you guys that we have had a major breakthrough. The core in here is that we have a few policies. Of course, empowering distributor, this is very important. You know that our intelligent network has already passed the testing. By end of this year, for all the distributors, they must have been connected. The good thing is that all our visibility will be very clear, where our money is going and how much inventory we have. We also have normalization of the storefront, standardized POS management, visible POS execution, et cetera. So this is an area of business that we are very determined to. The second part is the B2B new retail model. B2B is developing very fast at the moment, and we have also enjoyed benefits in this regard. In this industry, I believe that we are one of the fastest in the B2B new retail model. That is why our penetration into towns and villages has already been successful. Now we are planning to roll out this project in full force nationwide. This helps to increase the traditional sales volume. In addition, looking at our digital capabilities, we have established a digital marketing team. This is basically to build a through channel from our B2B to e-commerce to new retail, especially for our smart retail model and for the Tianxianpei brand. This is a very new business model, and we have established a JV with Alibaba. I am not going to talk about details, and I will tell you next year how much breakthrough we have obtained. Number 4 is for our R&D capabilities continuously strengthening. For our product, this is our core capability. Just now, Xiaofang was asking me, "How come the zero fat milk compared with the low fat milk is different." This is because we have used the new technology. You can actually try it out, taste it yourself. This is one of our key capabilities. In addition, we have also enhanced our basic investment. We also pay attention to the packaging. For example, thinking about environmental awareness, our packaging is also in line with the future. You can see that Just Yoghurt Grapefruit, Mengniu Cereal Contain Milk, and Mengniu Cheese Yogurt Shiny Meadow Fat-Free Fresh Milk, these are the new products that we have launched into the market. In the second half of this year, we will also have some new products into the market. You can take a look and wait and see, and we will continue to improve our investment in this regard. In terms of operating capabilities for the past 3 years, we have been successful. Going forward, if Mengniu continues to double, how much milk do we need? What kind of quality of milk do we need? What sort of supply chain do we need to support our growth? We already have our strategies in mind. We will continue to adhere to our strategies. In addition, for our resources, we will also have new thinkings. Right now, nationwide and overseas, we have 16 factories. We work on digitalized logistics, smart supply chain, et cetera. We hope that when our business continues to double in the future, our operating efficiency would be the best in the industry. Finally, what is most important is people. What we said earlier, we have a very defined target, and to use uncertain methods, but there is also one thing in the middle, which is to use a group of very certain and reliable people. These are people working on R&D, marketing, and they help us to build our base. In the meantime, when Mengniu grows bigger, how do we improve our efficiency? How do we have the agile and responsive organization in a large company? A lot of people say that for large companies, they cannot have innovative businesses. This is an area where we work on in our room temperature business, for example, in the quantum plan that we have. How do we have new breakthroughs in our new businesses in different departments? Finally, we want to talk about the wolf culture, as well as our corporate culture that values integrity. We had an integrity meeting a few days ago at the company. I made one point. Can we please establish a target so that Mengniu can become the company with the highest integrity among all the Chinese consumption companies? When I go out and meet my customers, can my customers tell me that they are happy to work with Mengniu because Mengniu is a company with integrity? I also hope that this is my expectation for my team and my expectation for the company. I also believe that this is a very important impetus for driving the company forward, to be a respectable company with integrity. All my management team, and this is the hope and expectation I have for them. I would like to thank the investors. I would also like to thank my team for their hard work for the past few months. We have a long way to go. We do not think that our performance is excellent. I hope that we can deliver better and better results for our investors every year.