Bega's (BGA) joint venture with Blackmores (Bemore) is taking time to gain traction. BGA has taken the highly unusual step of providing guidance at its AGM with FY17e EBITDA to be broadly consistent with FY16 levels, before the impairment of the Bemore JV by $5-7m. From our standpoint, we see two key drivers at play. In FY16 the JV contributed a loss to BGA of $0.8m on proportional sales revenue of $3.3m, while also generating $13.4m in revenue for BGA in the form of high margin nutritional sales to the JV. We interpret the impairment against the carrying value of BGA’s investment as an indication that the Blackmores product has failed to gain material market traction in its short life. As such we see the double whammy of a lower JV contribution and lower product sales to the JV occurring in FY17e.

Milk production volumes:  YTD milk production volumes across SE Australia are down 11% YOY and BGA will not be immune to this despite its milk supply growth initiatives and recent market outperformance.

Changes to estimates: We have adjusted our forecasts to account for lower milk production volumes, slower ramp up in IMF sales in the Bemore JV and a materially lower level of sales from BGA to the Bemore JV. The net effect of these changes is downgrades to our NPAT forecasts of 22% in FY17e, 21% in FY18e and 17% in FY19e. Our target price falls to $5.19ps (prev. $6.32ps) as a result of these changes countered in part by the natural roll forward of our valuation model.

Investment view: retain Hold rating. BGA is a company transitioning from largely a commodity and contract manufacturing revenue base towards a consumer facing higher value product mix and at current share price levels investors are paying for execution of this strategy. The slower than forecast traction of the Bemore JV creates a headwind for the business in FY17e, a year that milk supply looks likely to contract. At this stage we retain our Hold rating with a downwardly revised target price of $5.19ps.

Recommendation: Hold

Previous close: $5.40

Price target: $5.19

Full report attached below.



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