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What can A2 Milk (ASX:A2M) investors learn from the Synlait (ASX:SM1) FY21 result?

The Synlait Milk Ltd (ASX: SM1) share price is rising after revealing its FY21 result. What can A2 Milk Company Ltd (ASX: A2M) investors learn from this?

For readers that don’t know, Synlait is a key supplier for A2 Milk.

Synlait’s FY21 result

Synlait reported that its total revenue increased by 5% to $1.37 billion for the 12 months to 31 July 2021. Nutritional sales fell by 35% to 34,362 MT. However, ingredient sales increased 29% to 125,914 MT.

Turning to profitability, EBITDA (EBITDA explained) fell 78% to $37.3 million. The bottom line was a net loss after tax of $28.5 million.

The company acknowledged that FY21 was very challenging for the business. It said it did a review in the last quarter of FY21 and outlined a few different things.

Synlait is confident in its strategy, though acknowledged that execution needs improvement. The structure has been aligned to the strategy, it has appointed a CEO and it’s proposing governance changes to shareholders. Synlait has reset its banking arrangements. It’s making changes to release cash from inventory and improve working capital management. Finally, it has built a plan to return to profitability.

The company said strong demand continues for dairy and has resulted in its forecast milk price being at $8 per kg of milk solids for the 2021/2022 season.

New CEO

The new CEO of Synlait is Grant Watson, who will start in January 2022. Mr Watson is currently the CEO of dairy company Miraka. Before that, he spent 10 years in various management roles at Fonterra Shareholders’ Fund (ASX: FSF). He started his executive career at McDonalds New Zealand, where he became the chief operating officer.

Synlait Chair Graeme Milne said:

Grant has a track record of materially transforming and accelerating businesses by setting clear strategies, surrounding himself with diverse and talented people, and relentlessly driving execution to deliver strong sustainable results.”

What can A2 Milk investors learn from this?

I think the most interesting part of the update came from guidance and thoughts on the future.

Synlait said that it expects its net profit after tax to return to “robust profitability” in FY22.

It’s expecting a return to normal trading conditions and tighter management of the ingredients business. Synlait is also expecting improved infant base powder volumes. Third, Synlait is expecting a growing contribution from its liquids and consumer foods business units. Finally, there is a targeted and significant cost savings from Synlait, Dairyworks and Talbot Forest Cheese.

FY22 will also include a one-off gain on sale of approximately $17 million from the sale and leaseback of the land and building at Synlait Auckland.

Planned reductions in inventory at Synlait and Dairyworks are expected to generate operating cashflow more than its net profit. This cashflow will allow the business to complete its capital expenditure and reduce debt to comfortable levels over the next two years.

By the end of FY23, the recovery plan will see Synlait return to “similar levels of profitability, operating cash flows and debt ratios as the years leading into FY21.”

A2 Milk shareholders may be boosted by the idea that normal trading conditions could return. Don’t forget, A2 Milk is a sizeable shareholder of Synlait, so a return of profit and growth of the Synlait share price is a clear positive.

At the current prices, A2 Milk and Synlait could be opportunistic ideas. But there are still risks, particularly relating to Chinese consumer demand. So there could be there other ASX growth shares that may be better options.

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At the time of publishing, Jaz does not have a financial or commercial interest in any of the companies mentioned.
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