Waiting for Health Results
Shares in Blackmores Limited (ASX:BKL) have been one of the best performers on the market in recent months, having surged over 70% since bottoming in August. We have avoided the shares previously, but revisit the case for the vitamin company, and following developments in the infant milk formula sector.
What’s New?
As recap, we previously covered Blackmores as a company of interest in our Special Report on “The Infant Milk Formula sector” at the end of March 2017 (FAT-AUS-816).
We initially were compelled to look at the sector given that the global infant milk formula segment is the fastest growing category in the larger baby food market following the abolition of China’s One-Child Policy and local scandals related to contaminated milk powder. At the time, we noted that it wasn’t prudent to initiate a position given China’s toughening stance in cross-border trade worsened with the apparent lack of clarity on an actual solution.
Since then, some key developments have taken place that have compelled us to revisit the sector and review the case for Blackmores. The first is the company’s August announcement which showed that 4Q17 results bucked the trend, with a massive 33% quarter-on-quarter growth in sales.
The reason for this uplift was the jump in direct sales to China which surged 71% to $132 million. If factoring in sales through Australian retailers, China accounts for approximately $250 million of Group sales. Total sales to Asia also surged 36% year-on-year to $216 million.
Following that, another kicker was following China’s decision in November to drop Tariffs on consumer products. The biggest drop in tariff rates, specifically, were in Baby Formula from 20% to 0%.
Following our special report last March, Blackmores’ share price continued to decline and our ‘avoid’ seemed well warranted. Clearly with hindsight, buying at the lows seen in August would though have been the right call. The shares as it has turned out, bottomed in August at a price of $87.26 and are now trading at almost double the price levels.
So, the key question to answer now is whether there is more to go in the company’s share price rally, and is Blackmores a buy now? First, we will provide a brief overview of the company and the most recent trading update.
Company overview
Blackmores Limited (ASX:BKL) is primarily engaged in the development, sales and marketing of health products, selling specifically vitamins, herbal and mineral nutritional supplements. The company’s main business categories cover pet health; infant formula; superfoods; and human health.
The company has actually been in operation for some time, having been founded in the 1930s and listing on the ASX in 1985. Blackmores first entered markets in Asia in the 1980s and in more recent times acquired Pure Animal Wellbeing in 2010 and BioCeuticals in 2012 and launched Blackmores Institute in 2013.
Source: Blackmores (ASX:BKL)
At present, the company’s products are sold in Australasia (Australia & New Zealand), the United States, and in Asia, covering ASEAN (Cambodia, Thailand, Malaysia & Singapore), Korea, China (including Hong Kong, Taiwan and Macau), Kazakhstan and Japan.
Source: Blackmores (ASX:BKL) Annual Report
Investment Case
In our view, there are a few key factors in the company’s favour, first being the (i) defensive nature of its products, the (ii) rapid growth and market acceptance, (iii) diverse customer base, and (iv) expanding product range.
Defensive
Note that the company has been in operations for over 80 years proving its defensive attributes in an unsexy industry, having survived a World War and all the market turbulence over that time period.
The vitamin business also creates a steady stream of recurring revenue once a consumer takes a daily supplement especially once a customer is satisfied.
Growing sales
Despite being in an old market and fragmented market, sales have exhibited rapid growth as of late with the 4-year average sales growth (2013-2016) at 29.9% a year and Asia being the company’s fastest growing market given the rise in incomes and attractive demographics.
Health products are also continuing to become an accepted and mainstream option to improving personal health, and we believe that Blackmores is poised to take advantage of growth in the markets they serve.
Diverse customer base
On that note, Blackmores (ASX:BKL) has a variety of different customers in different countries as we’ve mentioned above, covering Australasia, Asia, and the United States. Management is also keen on expanding their geographical footprint. As Blackmores enter more markets, the bigger its potential customer base gets.
Expanding Products
We also note that Blackmores is constantly adding more products to its range to address different ailments and tailoring the offerings to a specific region/market. As of the latest count, the company has over 1,300 products across all brands and markets.
Blackmores (ASX:BKL) also has an option to acquire business to diversify their offerings and cater to unique markets. Case in point was their May 2016 acquisition of Global Therapeutics to enter the Chinese Herbal Medicine market for a total consideration of $23 million.
Recent Financials
The company recently announced their 1Q18 results which proved to be a promising start for 2018. NPAT came in 28% higher year-on-year to $15.4 million after achieving net sales of $134 million, 9% up compared to 1Q17. These results are summarised in the graphic below.
Source: 26 October 2017 Filing
According to management, this was mostly due to a solid start in China’s direct sales which expanded 28% following the launch of a new product for children, while supplementing the bottom-line with tight cost control. Sales to China grew in anticipation of the famous Double 11 sales event.
Excluding China, sales to other markets in Asia were up 12% year-on-year. The biggest contributors were in Hong Kong, up 25% year-on-year (+32% same currency basis) and Malaysia which expanded 16% in sales year-on-year (+26% in local currency) following the launch of the community-focused marketing campaign Project Kindness.
Going forward, management is still forecasting a full year NPAT growth above the prior year noting that growing demand for its products across Asia remains attractive.
That said substantial ‘good news’ has been priced in already, and with our ‘value’ oriented strategy, it is difficult to justify considering Blackmores at current (or even somewhat lower) levels. The shares are currently trading at around 34x FY18 estimated earnings, with this falling to 28 times in FY19.
Turning to the daily chart, initial support is evident at the mid-January low of $148.12 as shown by the horizontal thin-blue line. Should the bears drag prices below this level, then an additional layer of support is indicated between $123.45 and $128.83. This is made up of the 200-day moving average (green line) and October 2017 low (horizontal blue line) respectively. In order for the short-term technical landscape to improve, a sustained break above the 16th January high of $163.99 (horizontal thin-red line) is required. If this favourable scenario was to unfold, then momentum would be confirmed to have rotated north, and thus increase the probability of a short-term advance towards overhead resistance sighted at the December 2017 high of $178.00 as denoted by the horizontal solid-red line. Furthermore, from a medium-term momentum perspective, this remains in favour of the bull-camp, as backed by the bullish moving average crossover present since September 2017. This occurs when the 50-day moving average (red line) crosses above the 200-day moving average (green line).
With reference to the monthly chart, the share price of Blackmores reached an all-time high of $220.90 in January 2016. A deep correction then followed which lasted until July 2017. Price stabilisation then evolved at the long-term 61.8% Fibonacci retracement of $96.65 (solid-blue set of retracements) between June and August 2017, which eventually led to a stern bullish rotation to ensue. More recently, the rally was capped at the 61.8% Fibonacci retracement of $169.41 (red set of retracements) in December 2017 to form an exhaustion candle, otherwise referred to as a ‘bearish doji’. Therefore, the probability now swings towards a short-term correction to unfold. Should our analysis prove to be correct, then a decline down towards a zone of support located between $142.96 and $132.14 could result. This is made up of the 38.2% and 50% Fibonacci retracement levels as represented by the thin-blue set of retracements respectively.
Conclusion
All in all, there is a lot to like about Blackmores (ASX:BKL) given the aforementioned strengths of its business and thematic appeal in Asia.
Going forward, management is still forecasting a full year NPAT growth above the prior year noting that growing demand for its products across Asia remains attractive.
That said substantial ‘good news’ has been priced in already, and with our ‘value’ oriented strategy, it is difficult to justify considering Blackmores at current (or even somewhat lower) levels. The shares are currently trading at around 34x FY18 estimated earnings, with this falling to 28 times in FY19.
For us to become more positive on Blackmores (ASX:BKL)’ shares (and thus transition it from a Traffic Light to a Buy), we would need to see more positive developments in China and in Asia, and also some moderation of the lofty valuation. The latter could well be on the cards with a short term technical correction in the offing.
Accordingly, we currently rate Blackmores (ASX:BKL) as a Traffic Light and we will continue to monitor developments and look for an appropriate entry point.
