Ann: Business Update, page-285

For anyone still drinking the coolaid...

Management have handled this and arguably the past couple years of shareholder communications poorly in my opinion. The rubbish dumped on us out of the blue this morning was a earnings downgrade no doubt about it covered up in unclear messaging.

Management not answering various questions mentioned in the AFR article of analysts only further reduces their credibility. I have no idea how the company plans to address the issues and not only restore growth but have it anywhere near the levels brokers wanted for FY18/FY19.

I don't know where this SP will be but I do know that my trust of management is at all time lows.  

Bellamy's management suffer huge credibility loss after share price collaps
Bellamy's Australia chief executive Laura McBain...issued a confusing and opaque "business update" which said revenue in the first half of 2017 would be $120 million. Mark Jesser
by Tony Boyd
The collapse in the value of organic baby formula company Bellamy's came as a surprise to just about everyone in the Australian market with the exception of a handful of people.

Analysts at the majority of broking houses that cover the stock were tipping Bellamy's shares would rise by between 30 per cent and 65 per cent over the next 12 months.

Clients of Ord Minnett, Bell Potter, Wilsons and Morgans were advised to buy the shares. Citi analyst Sam Teeger recently initiated coverage on the stock with a "sell" rating.

It is often difficult for analysts to stick their head up above the parapet and take a contrarian position. It is particularly difficult for analysts employed by firms which either advise the company or have raised capital for the company.

One fund manager who saw the writing on the wall and warned earlier this year about the risks associated with Bellamy's was Tim Hannon, chief investment officer at alternatives investment management company Newgate Capital Partners.

Hannon, a former Goldman Sachs banker, is a Tasmanian who doubted a company based in Launceston could have a good handle on its supply chain in China.

Hannon looked at the company's accounts and questioned whether it had the IT systems to understand its supply chain in sufficient depth.
Supply chain concerns

He told Chanticleer that Bellamy's was a classic example of a company that suffered from the bullwhip effect. That refers to a situation whereby forecasts yield supply chain ineffeciencies.

Hannon studied supply chain inefficiencies during his MBA at Melbourne University, in particular a supply simulation game called the beergame.

Newgate was one of several fund managers with short positions in Bellamy's shares. Short sellers attempt to profit from the collapse in the price of a company's shares.

Hannon took the view that the market was far too optimistic about the prospects for the company.
In October, Hannon took the consensus market view, which was full of blue sky, and saw trouble.

The consensus was that fiscal 2017 revenue would rise by 45 per cent to $375 million, earnings before interest, tax, depreciation and amortisation would rise 50 per cent to $83.3 million and earnings per share would rise 58 per cent to 63c a share.

On Friday, Bellamy's issued a confusing and opaque "business update" which said revenue in the first half of 2017 would be $120 million.

Also, the company said total revenue rose 24 per cent in the year to November and the EBIT margin would be "moderately below" 20 per cent this financial year.

A spokesperson for the company could not confirm that Friday's statement amounted to a profit downgrade.

But the company did warn it would "continue to experience temporary volume dislocation until regulatory registrations are completed in China", which is its biggest market.
Problematic expectations

Hannon's suspicions about Bellamy's were fuelled by two things.

First, he noted the selling of Bellamy's stock earlier this year by the chairman Robert Woolley and the chief executive Laura McBain. Woolley sold 200,000 shares at $14.60 in March. McBain sold 165,000 shares at $14.54.

Bellamy's was a market darling that went from a market capitalisation at the end of 2014 of $165 million to $1.2 billion in mid 2016.

The second issue that worried Hannon was the fact the overall market was expecting Bellamy's to earn a 100 per cent return on invested capital.

"It is a rare company that has been able to do this sustainably," he said in a note to clients.
His concerns about the stock were exacerbated by recent financial disclosures including the rapid expansion in the company's EBIT margin from 18 per cent to 25 per cent in the second half of 2016, the enormous growth in the company's inventory from $18 million to $65 million and the planned capital expenditure in 2017 of $15 million to $20 million.

"So, to keep earnings momentum going – sales have to do the heavy lifting, margins won't be doing it!" Hannon said.
Distorted demand

The other notable Bellamy's sceptic was Singapore-based Lloyd Moffatt at independent research house, Religare Institutional Research.

Moffatt is an Australian who has been living in Singapore for five years. His firm prepares research for hedge funds and others involved in special situations.

He initiated coverage of the stock in June with a "sell" rating and a price target of $6.40, which was 40 per cent below the then share price.

"We believe Bellamy's is a well-run company affected by a demand spill-over from China following several food scandals, which has distorted demand for infant milk formula within Australia," he said.
"We thus believe that the company's revenue growth rate is unlikely to sustain, going forward."Moffatt estimate that more than 70 per cent of the company's sales were directed to China.

"Our research revealed that sudden changes to trade regulations in April 2015 stifled sales through this channel, and we expect the company to fall short of its FY16 revenue guidance."
Moffatt said Bellamy's would eventually have to spend money to achieve higher sales and that would be very expensive.

"We note that in 2010, when Chinese competitor Biostime was a similar size, it incurred $US1.35 billion of selling expenses over five years to achieve revenue growth similar to analyst's expectations for Bellamy's, which only had a cash balance of $27 million as of first half 2016.

"We are concerned by a trend of insider selling and low hurdles for the management's employee stock ownership plan," Moffatt said.

"We see a high likelihood of the company's FY16 results falling short of expectations, leading us to believe that now is the time to SELL the stock."

On Friday, Moffatt told the story of how he had been unable to ask McBain questions when the Bellamy's earnings call in August was closed down after 51 minutes. He has found the company difficult to deal with and unable to answer specific questions about financial data that would normally be answered by public companies.

"I think the company is going to have to increase transparency significantly to regain the credibility of the market," he told Chanticleer.

The credibility of Bellamy's management has been shot to pieces with Friday's announcement. An estimated 40 per cent profit downgrade so soon after saying nothing at the annual meeting in October is worthy of an investigation by the ASX and the Australian Securities and Investments Commission.

An institutional fund manager in Bellamy's said rival company A2 Milk had shown an ability to cope with the change in China's regulatory landscape. Its sales in the four months to October rose 96 per cent to $155.2 million compared to the previous corresponding period.

Bellamy's reported a 26 per cent growth in revenue to $93 million in the five months to November 30. In order to achieve its forecast of half yearly revenue of $120 million Bellamy's revenue this month will have to be 42 per cent higher than the average monthly revenue for the previous five months.

McBain's failure to answer questions put by analysts on a conference call on Friday will inevitably raise doubts about the company's understanding of its capital expenditure plans.

The 19,000 shareholders in Bellamy's must now cope with the twin challenges of a significant downgrade in earnings per share forecasts and a significant reduction in the earnings multiple appplied to the stock.