Insights Focusing On Dairys Downstream Segment

Asian Insights SparX
China Dairy Sector

Refer to important disclosures at the end of this report
DBS Group Research . Equity 28 Jul 2017
Downstream is key HSI: 26,852

• Major China dairies in the downstream that possess good exposure
to fast-growing segments (e.g. yogurt) should lead growth. Further ANALYST
diversification, expedited by M&As will lift medium-term prospects. Alison FOK +852 2971 1938
alisonfok@dbs.com
• Over the last 3 decades, share price of Nestlé rallied over 14 times,
Mavis HUI +852 2863 8879
largely attributed to its plentiful strategic acquisitions that helped mavis_hui@dbs.com
diversifying and expanding its scale and efficiency. We believe
suitable M&A opportunities could also enhance attractiveness of Alice HUI CFA, +852 2971 1960
alicehuism@dbs.com
China dairy companies.
• The entire sector has been a laggard to the HSI rally YTD. We prefer
downstream players given more growth channels, better product-mix Recommendation & valuation
and easing selling costs. Conversely, weak raw milk prices could
continue to hammer margins and cash flows in the upstream. We Pric e T arget Upside Rec F Y 18 Mkt
reiterate our Buy call on China Mengniu, and upgrade Bright Dairy L oc al$ Pric e % PE (x ) Cap
from HOLD to BUY given that its cost pressure should be in the price. L oc al$ US$bn
Fermented dairy products to see strongest growth. We see impending
China Mengniu Dairy
opportunities across China dairies, particularly in fermented dairy products HKD 15.72 18.80 20 BUY 19.6 7.9
(2319 HK)
like yogurt, cheese and butter that should all sustain >10% CAGR in
2016-2021F. The infant milk formula segment could ride on relaxation of Bright Dairy 'A'
CNY 12.22 14.20 16 BUY 24.4 2.2
the one child policy and better visibility in product registrations (effective (600597 CH)
by 2018) to stage 6% CAGR, while plant-based milks also see 4% CAGR. China Modern Dairy
HKD 1.48 1.52 2 HOLD 93.0 1.2
Dominant downstream players are focusing on these relatively fast (1117 HK)
growing segments. Further diversification in products, branding, Inner Mongolia Yili
distribution channels, consumer markets, as well as suitable M&As should CNY 21.02 n.a. n.a. NR 19.0 18.9
'A'^ (600887 CH)
all enhance medium-term outlook, as what we have seen in Nestlé with H & H Int'l^
over 3-4 times EBIT expansion during the past 3 decades. HKD 23.90 n.a. n.a. NR 14.9 1.9
(1112 HK)
We favour downstream over upstream. Since 2008’s melamine scandal, Yashili International^
China’s dairy industry has been heavily scrutinized, with tough policies HKD 1.42 n.a. n.a. NR 72.6 0.9
(1230 HK)
and growing supplies of imported milk powder adding to the challenge.
We compared operators along the value chain and assessed their ^ Consensus
sustainability, reconfirming our preference for downstream players over
the upstream given the former's much stronger revenue & earnings Source: Thomson Reuters, DBS Vickers
growth trajectory and acquisition potentials.
Mengniu & Bright Dairy are our top picks. Among the listed players, we
like China Mengniu (2319.HK) and Bright Dairy (600597.CH) for their
sound ability to develop an integrated supply chain and capture suitable
acquisitions and JVs, domestically or globally. The leading player Inner
Mongolia Yili (600887.CH) should also benefit from a growing dairy
industry and its strong cash position for sound M&A opportunities.
ASIAN INSIGHTS VICKERS SECURITIES

ed-JLC/ sa- CW
China Dairy Sector
The DBS Asian Insights SparX report is a deep dive look into thematic angles impacting
the longer term investment thesis for a sector, country or the region. We view this as an
ongoing conversation rather than a one off treatise on the topic, and invite feedback
from our readers, and in particular welcome follow on questions worthy of closer
examination.
Table of Contents
Summary 3
How much dairy is China consuming? 5
Trends and opportunities 8
Dairy supply chain & sustainability 19
I) Dairy farms 20
II) Downstream processors 26
III) Infant formula 32
Stock Profiles 38
China Mengniu Dairy (2319 HK) 38
Bright Dairy (600597 CH) 46
China Modern Dairy (1117 HK) 53
Inner Mongolia Yili (600887 CH) 60
H & H International (1112 HK) 64
Yashili International (1230 HK) 67
Appendix 71
Note: Prices used as of 25 Jul 2017

Page 2
China Dairy Sector
Summary
Yogurt sales leading growth. China’s dairy sales, inclusive of consumer trade-up and population growth. In terms of
alternative milk, could post a healthy 5.3% CAGR in 2016- product category, yogurt (UHT yogurt, pro-biotic beverages),
2021F according to Euromonitor, driven by rising yogurt cheese and butter should continue to see a double-digit
demand (15.6% CAGR). UHT yogurt, in particular, should CAGR in the range of 10.2-15.6% for 2016-2021F (source:
post the fastest growth of >20% CAGR, as many Chinese Euromonitor), which should offset softening sales in basic
consumers are lactose intolerant and avoid milk. This UHT milk and flavoured milk beverages. While c.50% y-o-y
category does not need to be stored at low temperatures, rise in the prices of whole-milk powder (WMP) as well as
allowing it to swiftly expand into more remote areas across increases in sugar and packaging costs could lay pressure on
China. Other products like cheese, butter and plant-based gross margins, a cut in advertising and promotional
milk (e.g. walnut milk, coconut milk, soy milk, etc.) also see spending post 2016 Olympics should offset rising raw-
increasing customer demand. Some players are also looking material costs.
for new opportunities in e.g. organic products, goat milk,
IMF to resume growth. The infant milk formula (IMF)
etc. to tap the high-end segment.
segment has been affected by more stringent regulations
Globalisation is prompting more M&As. As households’ and players need to meet registration requirements before
purchasing power continues to improve and Mainland 2018. Volume growth should resume this year on the back
Chinese travel more, consumers are trading up and of the revised tax regime for purchases via cross-border e-
demanding better quality and varieties, including an commerce. Euromonitor also projects the IMF segment to
increasing amount of imported products. Diversification grow at 6% CAGR in 2016-2021F, along with relaxation of
strategies on products, brands and distribution channels, as the One Child Policy and rising demand for higher quality
well as gradual premiumisation will be required to cater to brands. The Development Plan for China Milk Industry
changing consumer behaviour. As a classic example, Nestlé (2016-2020) promotes market consolidation, targeting
has evolved over time, from initially selling infant and dairy >80% domestic IMF sales to come from Top-10 players in
products to also offering ice-cream, beverages, nutritional China by 2020E. Better performance could be achievable by
products, pet foods, confectionery, etc, through M&As. It large players as the market firms up.
has also seen its share price surge over 14 times in the last
Stock picks. To conclude, we prefer downstream operators
30 years, reaffirming the strong potential of well-executed
with financial ability to develop an integrated supply chain.
acquisitions. As non-dairy companies continue to enter the
We expect profitability to continue to aggregate at the mid-
dairy & plant-based segments – an example is soft-drink
downstream supply chain, thanks to cheaper dairy imports.
leader Coca-Cola, tapping the US premium-milk category
Among listed players, our top picks are China Mengniu
through a JV with Fairlife to produce milk with higher
(2319.HK) and Bright Dairy (600597.CH). While we do not
protein and no lactose, and spending US$575m on
cover Inner Mongolia Yili (600887.CH), as a leading player it
Unilever’s AdeS soy brand in Latin America - Chinese dairy
should also benefit from a growing dairy industry and M&A
groups should also speed up M&As to lift product quality
opportunities.
and variety.
China Mengniu (2319.HK, BUY). We like Mengniu as one of
Upstream faces pressure from imports. Since 2008’s
the leading PRC liquid milk operators. Despite being seen as
melamine scandal, China’s dairy supply chain has been
a laggard to the largest peer Yili in both market share and
heavily scrutinised and hampered by stringent government
profitability, we believe Mengniu has room for improvement.
policies. While significant improvement has been made
We also expect its yogurt sales to maintain double-digit
along the supply chain, we believe there is further room for
growth, driven by new SKUs. Maintain BUY with TP of
enhancement especially in food safety and cost
HK$18.8/sh.
competitiveness. Specifically, upstream players’ profitability
is determined by raw milk prices, feed costs, productivity Bright Dairy (600597.CH; Upgrade to BUY). Bright Dairy
and overall efficiency. With a growing supply of low-price has been a laggard to Mengniu and Yili in the past couple
imported milk powder, it seems difficult to see an inflection of years, due to market share losses and failure to inject
point in the PRC upstream sector. Further support by the Israeli Tnuva from its parent company amid unfavourable
downstream brand operators in the form of guaranteed market conditions. We believe Bright Dairy remains a key
volume commitment, capital investment or financial support beneficiary as consumers shift from UHT milk to fresh
may be required to help sustain upstream profitability. products including “Bright” and “U+”. Bright Dairy is now
trading at 25x FY18F PE, which is c.1.5 S.D below its 5-year
Downstream to see more catalysts. The downstream
trading average. Upgrade to BUY with TP of RMB14.20/sh,
segment has seen strong topline and earnings growth,
based on SOTP valuation.
supported by rising dairy consumption per capita thanks to

Page 3
China Dairy Sector
Peers valuation
Ta rge t Mkt PE PE PE Yie ld Yie ld P/Bk P/Bk ROE ROE

Curre ncy Price Price Re com Ca p 16A 17F 18F 17F 18F 17F 18F 17F 18F
Compa ny Na me Code Loca l$ Loca l$ US$m x x x % % x x % %
Liquid Milk
China Mengniu Dairy* 2319 HK HKD 15.72 18.80 BUY 7,890 n.a. 23.1 19.6 1.0 1.2 2.3 2.1 10.4 11.1
Inner Mongolia Yili 'A' 600887 CH CNY 21.02 n.a. NR 18,927 22.5 21.5 19.0 2.6 3.0 4.9 4.4 22.9 23.2
Sanyuan Foods 'A' 600429 CH CNY 6.32 n.a. NR 1,393 90.3 n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a.
Huangshi Dairy 'A' 002329 CH CNY 8.32 n.a. NR 1,026 24.0 15.1 11.2 0.0 0.0 2.3 2.0 14.8 16.8
Bright Dairy 'A'* 600597 CH CNY 12.22 14.20 BUY 2,228 26.7 26.6 24.4 1.2 1.4 2.8 2.6 10.9 11.0
Ave ra ge e x. Sa nyua n 24.6 23.7 21.0 1.6 1.8 3.3 3.0 14.7 15.1
Infa nt Formula
Yashili International 1230 HK HKD 1.42 n.a. NR 861 n.a. n.a. 72.6 0.2 0.5 1.0 1.0 (0.3) 1.3
H & H Intl. Hdg. 1112 HK HKD 23.9 n.a. NR 1,934 13.6 17.3 14.9 0.1 0.4 3.2 2.6 20.7 19.2
Beingmate Baby 'A' 002570 CH CNY 11.97 n.a. NR 1,801 n.a. 292.0 88.0 0.1 0.2 4.1 4.0 1.6 4.4
Ave ra ge 13.6 154.6 58.5 0.1 0.4 2.8 2.5 7.3 8.3
Multina tiona l Bra nds

Nestle 'R' NESN VX CHF 82.15 n.a. NR 264,744 29.8 23.5 21.7 2.9 3.1 3.8 3.7 16.3 17.0
Meiji Holdings# 2269 JP JPY 8790 n.a. NR 11,769 21.3 20.0 18.7 1.5 1.6 2.6 2.4 14.0 13.7
Danone BN FP EUR 64.35 n.a. NR 49,197 23.1 18.7 16.5 2.8 3.1 2.8 2.6 15.6 16.1
Ave ra ge 24.7 20.7 19.0 2.4 2.6 3.1 2.9 15.3 15.6
Da iry Fa rm
China Modern Dairy* 1117 HK HKD 1.48 1.52 HOLD 1,160 n.a. n.a. 93.0 0.0 0.0 1.2 1.2 (9.7) 1.3
Yuanshengtai Dairy Farm 1431 HK HKD 0.4 n.a. NR 240 n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a.
China Zhongdi Diary 1492 HK HKD 0.83 n.a. NR 231 13.6 n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a.
China Shengmu Orgc.Milk 1432 HK HKD 1.47 n.a. NR 1,196 11.8 9.5 7.5 0.0 0.0 1.1 0.9 12.8 13.5
Ave ra ge 12.7 9.5 50.2 0.0 0.0 1.2 1.1 1.5 7.4
# FY17: FY18; FY18: FY19
Source: Thomson Reuters, *DBS Vickers

Page 4
China Dairy Sector
How much dairy is China consuming? China - raw milk production
On a per capita basis, dairy consumption in China is (m)

estimated at 26.2kg in 2016 (OECD data), growing at 2% 38.0 8%
CAGR since 2010. Consumption remains low compared to 37.5 6%
both Western and neighbouring countries. It is expected 37.0 4%
that dairy consumption per capita in China will expand to 36.5 2%
33.2kg by 2025F, which will be roughly equivalent to 36.0 0%
Taiwan’s current consumption per capita.
35.5 -2%
35.0 -4%
China – dairy consumption per capita 34.5 -6%
34.0 -8%
2008
2009
2010
2011
2012
2013
2014
2015
2016
Volume % y-o-y
33 .2kg
2 6 .2kg Source: NBS, DBS Vickers
…But consumption stays on the growth track
What is driving demand? Growing population, rising

disposable income, an expanding middle class and
2 0 16 2 0 25 urbanisation are amongst the key reasons behind dairy
demand in China. We expect the relaxation of One Child
Source: OECD, DBS Vickers
policy should also bold well with the dairy sector.
Dairy consumption per capita by country (2016) Urban vs. Rural household disposable income
(kg/person) CA G R 2009/14 2014/18E

Rmb
140 132.4 Urban household 10.9% 8.6%
125.3117.2 45,000
120 113.6 Rural household 13.9% 9.7%
40,000
106.6
100 97.5 35,000
30,000
80
62.6 25,000
55.3
60 45.3 20,000
39.4
40 32.230.5 15,000
26.2
10,000
20
5,000
0 0
Germany
Thailand
China
Denmark
South Korea
UK
Mexico
France
Brazil
Japan
NZ
US
2009
2010
2011
2012
2013
2014
2015E
2016E
2017E
2018E
Taiwan
Urban Rural
Source: OECD, DBS Vickers Source: Frost & Sullivan, DBS Vickers
Domestic production is declining… Two Child Policy - positive. Since the relaxation of One
Child Policy in Oct’15, there were an additional 1.31m births
At present, China is the fourth-largest dairy producer in 2016 versus a year ago. While 17.86m babies born had
globally after USA, the EU-28, and India. Nevertheless, raw just missed the original target of 18m births for 2016, the
milk production declined at a CAGR of 1.7% in 2014-16 on impact on demand for infant milk formula should be
the back of a surge in imports. In 2016, China production positive.
declined 4.1% y-o-y to 36m tons. In terms of dairy-related
Based on our estimates, we predict around c.7% net
products, production grew at a CAGR of 3% y-o-y to 38.7m
increase in birth rates for 2017F, supported by organic
tons.
growth of 0.5% y-o-y, and the relaxation of the One Child
Policy.

Page 5
China Dairy Sector
Birth rates
m Nov'11: If both parents are Oct'15: Any parents

single child they may have a Nov'13: If one of the
25 parents is a single can have a second
second child. If both parents child starting 1st of
child, they may have
are of rural resident and only January 2016
receive a daughter, they may a second child
20
have a second child
15
10
0
2008 2009 2010 2011 2012 2013 2014 2015 2016 2017F
Source: NBS, DBS Vickers
Dairy imports also on the rise
Dairy imports have been growing at a phenomenal rate in

China. They come in various formats including liquid milk, Imported yogurt SKU formats
fresh milk, milk powder, yogurt, butter and cheese. While
last year’s largest proportion of consumption format was
milk powder, the fastest growing categories (by volume)
were yogurt (+103% y-o-y), liquid milk (+39% y-o-y),
cheese (+29% y-o-y), and butter (+15% y-o-y).
Import volume – dairy products
m tonne
1.6
1.4
Source: JD.com, DBS Vickers
1.2
1.0
What is milk powder used for? Based on our conversation
0.8 with dairy processors, milk powder can be conveniently
0.6 converted into UHT milk (reconstituted), milk beverages,
0.4 yogurt, and ice-cream. Based on USDA publication, the
whole milk powder (WMP) is typically used for infant
0.2
formula (25% of total share), fluid milk (30%), milk
0.0
beverage (20%) and bakery products (25%). In 2013-14,
2012 2013 2014 2015 2016
due to a fear of milk powder shortage, dairy imports as %
Fresh milk Milk powder Yogurt Butter Cheese of domestic production surged to 21-23%, thereafter
normalised to 13-15% in 2015-16. We expect dairy imports
Source: China Customs, DBS Vickers could see further room to stage proportionate expansion.

Page 6
China Dairy Sector
Import volume – milk powder Imported milk powder breakdown % (by origin)
MT %
100% 3.9 2.7
180,000 140 5.4 4.9 4.4
160,000 120 90% 3.6 8.7
8.4 8.7
140,000 100 80%
80
120,000 60 70%
100,000 40 60%
80,000 20 50%
60,000 0
40% 78.9 81.8 83.3
(20)
40,000 (40) 30%
20,000 (60) 20%
0 (80)
10%
May-14
May-15
May-16
May-17
Nov-14
Nov-15
Nov-16
Feb-14
Feb-15
Feb-16
Feb-17
Aug-14
Aug-15
Aug-16
0%
2014 2015 2016
Milk powder % y-o-y New Zealand EU28 Australia USA Others
Imported milk powder vs. PRC dairy production volume Import volume – liquid milk
25% MT %
80,000 300
20% 70,000 250
60,000 200
50,000
15% 150
40,000
100
23% 30,000
10% 21% 50
20,000
15% 15% 10,000 0
13%
5% 0 (50)
Oct-13
Feb-14
Oct-14
Feb-15
Oct-15
Feb-16
Oct-16
Feb-17
Jun-13
Jun-14
Jun-15
Jun-16
0%
2012 2013 2014 2015 2016 Liquid milk % y-o-y
Source: China Customs, DBS Vickers

Page 7
China Dairy Sector
Trends and opportunities Yogurt consumption per capita (2016)
Factors behind rising demand Retail value RSP, USD

100
Lactose-intolerance. China dairy sales, inclusive of
90
alternative milk, are projected to achieve a healthy 5.3%
CAGR in 2016-2021F. Nevertheless, not all types of dairy 80
products are as popular as the others. 70
60
50
The National Institutes of Health estimated that c.65% of all
humans have lactose-intolerance and are unable to digest 40
milk products, the consumption of which could lead to gas, 30
bloating, lower belly pain, vomiting and/or diarrhoea. The 20 China
rates of lactose intolerance vary between different countries,
10
from <10% in N. Europe to c.95% in certain parts of Asia
(including China) and Africa (source: NIDDK). 0
China’s dairy market

Source: Euromonitor
USD bn
120 2011-16 CAGR: 7.3% 7% Average selling price of yogurt in China (RMB/kg)
2016-21 CAGR: 5.3%
100 6%
RMB
5% 15
80
4%
60 14
3% R
40 13
2%
20 1% 12
0% 11
2016 2017F 2018F 2019F 2020F 2021F
Total Dairy& Alternative Milk (LHS) 10
YoY Growth (RHS)
9
Source: Euromonitor 8
2010 2011 2012 2013 2014 2015 2016 2017
Meanwhile, there are a few types of dairy products that Source: Wind
have minimal effects on consumers with lactose-intolerance.
They include aged cheese (e.g. cheddar, parmesan, etc.), Looking at the key growth segments across China dairy (&
butter, as well as Yogurt (probiotic or full-fat yogurt). Others alternative milk), Euromonitor projects both cheese and
like plant-based milk such as walnut milk, coconut milk, soy yogurt to see strongest demand, staging the fastest growth
milk, etc. could also be the alternatives. Hence, there is of 15.6% and 14.1% CAGR respectively in 2016-2021F.
increasing customer preference for these products in China. These are followed by a 10.2% CAGR for butter and
margarine.
In terms of market share, yogurt products could see the
Sound demand for yogurt. At present, the penetration rate
most gain of 16ppt during 2011-2021F to attain a 27.5%
of yogurt products in China in terms of per capita
share of the PRC dairy market by 2021F. The expansion
consumption remains low. As demand increase further
mainly comes at the expense of flavoured milk drinks that
while household affordability also improves, the average
could see c.14ppts squeeze in market share, to 5.3% by
selling price (ASP) of yogurt could also see room to increase
2021F.
ahead, as seen from a fairly steady ASP increase since 2010,
equivalent to >5% CAGR.

Page 8
China Dairy Sector
Flavoured milk drinks falling out of flavour. As Chinese

Consumers trading up – product premiumisation. Another
consumers become increasingly health conscious, it is
trend we see in China is the rising number of customers that
believed that the negative health perception of flavoured
are willing to pay slightly more in return for food &
milk drinks (e.g. higher sugar levels) and their more matured
beverage products with better quality. This is particularly the
product profile have caused consecutive annual sales decline,
case given lingering food safety concerns in the PRC market.
down by 14.3% y-o-y in 2015 and 12.4% in 2016 for the
segment. Flavoured milk drinks are expected to post further For example, the Top-3 premium UHT milk products in
sales declines of -11.7% CAGR in 2016-2021F. China sustained double-digit sales CAGR in 2010-2016,
versus mid-single-digit sales CAGR for UHT milk.
Segmental CAGR in China UHT Milk - premiumisation trend in China
CA G R CA G R
RMB bn
(2011-2016) (2 0 1 6 - 2 1 F ) 14
Cheese 20.8% 15.6%
12
Yogurt Products 18.4% 14.1%
10
Butter and Margarine 9.3% 10.2%
Milk F ormula 12.1% 6.0% 8
Milk Alternativ es (plant-based) 4.6% 3.9% 6
Milk 5.6% 3.5% 4
Ice Cream and F rozen Desserts 2.1% 2.0%
2
F lav oured Milk Drinks -0.9% -11.7%
T o t al dairy & alt ern at iv e milk 7.3% 5.3%
2009 2010 2011 2012 2013 2014 2015 2016
Source: Euromonitor Top 3 Premium Milk Brand Sales
Other Premium Milk Sales (Estimated)
Non-Premium Milk Sales
China dairy - market share breakdown (2011-2021F) Source: Euromonitor
2011 Another example could be fresh milk products, as there is

also a rising demand for wholesome foodstuff in China, and
fresh milk is closer to the natural form. Premium products in
2016
this category have also seen better demand.
2021F Bright: premium brands posted faster growth
0% 20% 40% 60% 80% 100% USD mn

400
Yogurt Products Milk Formula
Milk Alternatives (plant-based) Butter and Margarine 350
Milk Ice Cream and Frozen Desserts
300
Flavoured Milk Drinks Cheese
Fresh Milk Sales
Others 250
200
Source: Euromonitor
150
100
50
0
2008 2009 2010 2011 2012 2013 2014 2015 2016
Premium Brand Non-premium Brand
Source: Euromonitor

Page 9
China Dairy Sector
Fresh milk may see accelerated demand ahead. At present, More attractive growth of yogurt vs liquid milk
Bright is the leading player in the fresh milk segment. Its
own "Bright" brand and "U Best" brand took up 7% and RMB bn %
5.9% market share respectively in 2016, adding up to a 600 30
total of 12.9% share.
500 20
Certain entry barriers exist though, which include the
400 10
upstream support in terms of raw milk sources and quality,
plus cold-chain logistics infrastructure. All these could result 300 0
in the top fresh milk players still mainly comprise of 200 (10)
domestic operators. With the increase in consumer
awareness on nutritive value of fresh milk and gradually 100 (20)
improving cold-chain logistics, more of such products from (30)
domestic suppliers as well as imported fresh milk could be
2010
2011
2012
2013
2014
2015
2016
2017
2018
2019
2020
2021
demanded in China.
Milk Yogurt
PRC: Top-10 brands in fresh milk
Source: Euromonitor
T op 10 M ark et
Co mp an y N ame
B ran d N ame Sh are
Bright Dairy 12.9 Specifically, among all yogurt products, plain yogurt that
(Bright Bright F ood (Group) Co Ltd 7.0) largely consists of ambient (UHT) yogurt product currently
(U Best Bright F ood (Group) Co Ltd 5.9) has a lower base, potentially posting 21% CAGR in 2016-
Sany uan Beijing San Yuan F oods Co Ltd 10.3 2021F and take up a majority of the yogurt market in China
Weigang Nanjing Dairy (Group) Co Ltd 5.3 (source: Euromonitor).
J ia Bao J iabao Group Co 4.2
Huangshi Guangxi Roy al Dairy Co Ltd 3.3
In China, there is a rising number of consumers eating
Chenguang Shenzhen Guangming Group Co Ltd 1.8
yogurt products during breakfast, or starting to use them in
F low er Canton A merican F low er Lounge 1.8 salad dressings. UHT yogurt, in particular, does not need to
Huaxi Sichuan New Hope A gribusiness Co Ltd 1.3 be stored at lower temperatures so that consumers can
Yinqiao China Dairy Group Ltd 1.2 carry it around easily. It can also expand to the more remote
T op 10 29.2 areas for sale given that it does not require cold-chain
transportation or storage.
Source: Euromonitor
Over the past 6 years, the market share of Top-5 plain

yogurt brands had also more than doubled from 37% in
Diversification on multiple fronts 2010 to 76% in 2016. (Source: Euromonitor) These top
brands are all dominated by the largest domestic players of
Yili, Mengniu and Bright. In terms of last year’s ranking, the
i) Product diversification – Following the milk scandal in
No. 1 player was Yili’s “Ambrosial”, with Mengniu’s own
2008 plus rising variety of product offerings over the
brand stood as No. 2 and Bright’s “Momchilovtsi” as No. 3
years, it is not until recent 1-2 years that the liquid milk
in China. The No. 4 brand was Yili’s own brand, and No. 5
segment has started to resume a mild growth in China.
being Bright’s “AB100 (Jian Neng)”.
With its matured product portfolio and on-going lactose
impacts, it is wise for dairy companies to focus more into
faster growth categories, such as yogurt (+14.1% CAGR
in 2016-2021F).

Page 10
China Dairy Sector
Market share of Top-5 plain yogurt brands in China 2016 retail value RSP of Top-20 Plain yogurt brands in
China
2010 2016
T o p 2 0 Plain 2016
Top 5 Y o g u rt B ran d Co mp an y N ame Sales
Brands Others
N ame ( R M B m)
37% 24%
A mbrosial Inner Mongolia Yili Industrial 11,524.8
Group Co Ltd
Mengniu China Mengniu Dairy Co Ltd 9,373.6
Momchilov tsi Bright F ood (Group) Co Ltd 6,330.1
Yili Inner Mongolia Yili Industrial 1,980.9
Group Co Ltd
A B 100 Bright F ood (Group) Co Ltd 692.2
Weigang Nanjing Dairy (Group) Co Ltd 656.0
Others Top 5 J un Le Bao China Mengniu Dairy Co Ltd 628.0
63% Brands
76% J ia Bao J iabao Group Co 613.7
Sany uan Beijing San Yuan F oods Co Ltd 592.7
A ctiv ia Danone, Groupe 459.2
Wonder Sun Wonder Sun Dairy Co Ltd 254.6
Bright Bright F ood (Group) Co Ltd 220.5
Tiany ou Sichuan New Hope A gribusiness 99.4
Co Ltd
Rushi Bright F ood (Group) Co Ltd 63.4
Huaxi Sichuan New Hope A gribusiness 45.5
Co Ltd
Yinqiao China Dairy Group Ltd 44.4
F low er Lounge Canton A merican F low er Lounge 36.5
Liv estock Co Ltd
Yantang Guangzhou Yantang Dairy Co 33.6
Ltd
Classy Kiss Green's Bioengineering 18.4
Source: Euromonitor, companies (Shenzhen) Co Ltd
F engxing Guangzhou F engxing Dairy Co 17.9
Ltd
Source: Euromonitor
ii) Brand diversification

As we can see from the above table, major dairy operators
are offering multiple yogurt brands to tap various consumer
segments. Some also diversify their brands in other product
segments to enhance market share and returns. For instance,
Bright’s “U Best” and “Zhi You” form its brand
differentiation strategy to grow market share of premium
fresh milk products. So are New Hope’s brands of “Huaxi”
and “Shuangfeng”. Synergies could include back office
support and the share of marketing & distribution resources
for different brands under one umbrella.

Page 11
China Dairy Sector
Some examples of brand diversification Sales of plant-based milk in China
RMB bn
80,000 2016-2021E CAGR: 3.9%
70,000
60,000
50,000
40,000
Source: Companies 30,000
20,000
iii) Dairy alternatives: plant-based milk products 10,000
0
In developed regions such as the US and Europe, per-capita 2016 2017F 2018F 2019F 2020F 2021F
consumption of dairy milk fell by 13% and 4%, respectively,
over 2011-2015, as consumers become more conscious Source: Euromonitor
about health and wellness while there are also increasing
controversy about saturated fats in cow’s milk being the
primary cause of heart disease.
Plant-based milk market in China
We have seen rising consumer interest in plant-based milk
produced from soy, walnut, coconut, almond, peanut, rice,
oat, etc. With soy milk being the traditional plant-based 2010
drink, during recent years there are also demand shifts from
cow’s milk towards other types of alternative milk in China.
2012
While Euromonitor’s projected 2016-2021F CAGR of 4% in
the plant-based category denotes a mild growth, we find 2014
certain flavours, such as soy, has been growing strongly. For
example, market leader Vitasoy has been reporting double-
2016
digit CAGR in the past 3-4 years with solid expansion into
e.g. Wuhan. New comers, such as Dali Foods, Want Want
0% 20% 40% 60% 80% 100%
have also entered this category.
Soy (e.g. Vitasoy) Walnut (e.g. Six Walnut)
Coconut (e.g. Coconut Palm) Peanut (e.g. Yinlu)
Almond (e.g. Lolo) Others
Source: Euromonitor

Page 12
China Dairy Sector
Quick comparison: plant-based drinks vs. cow’s milk
lac t ose- low high sat urat ed ot her

f ree c alories prot ein f at v it amin minerals healt h issue
Cow's milk √ high calcium
Almond milk √ √ no A nut allergies
potassium, soy allergies, gene-
Soy milk √ √ √ little A, B-12
isoflav ones modified soy
least allergenic among
Rice milk √ No
peers
Coconut milk √ √ high
Peanut milk √ √ little E, B-6 Magnesium nut allergies
Walnut milk √ little
M ilk and milk alt ernat iv es: Nut rit ion c omparison per 8 f luid ounc es
Cat egory (per 8 f luid ounc es) Calories Carbohy drat es (t ot al) Sugars F at (t ot al) Prot ein
Cow's milk (whole) 150 12 g 12 g 8g 8g
Cow's milk (1%) 110 12 g 12 g 2g 8g
Cow's milk (skim) 80 12 g 12 g 0g 8g
Almond milk (unsweetened) 40 1g 0g 3g 2g
Soy milk (unsweetened) 80 4g 1g 4g 7g
Rice milk (unsweetened) 120 22 g 10 g 2g 0g
Coconut milk bev erage (unsweetened) 50 2g 0g 5g 0g
Source: Healthline, Livestrong
Online dairy sales: market players in China (2016)

iv) Channel / market diversification
JD
Newer domestic distribution channels. Following the rising
popularity of e-commerce in China, plus strong demand for Tmall
overseas foods & beverages amid lingering concerns about Yi Hao Dian
food safety, we have seen a substantial increase in the
Su Ning
online sales of dairy products. Such demand has been
expedited via “daigou” services that are made available by GOME
online agents, as well as the roll-out of free-trade zones and
Wo Mai Wang
cross-border e-commerce channels in the PRC. Hence, the
proportion of online dairy sales surged from <1% in 2010 Dang Dang
to 8% in 2016, particularly driven by strong demand of Amazon
imported dairy items such as infant milk formula (“IMF”)
products. 0% 10% 20% 30% 40% 50%
Sales Amount Sales Volume
So far, e-commerce players, including JD.com and Alibaba’s Source: Syntun

T-mall channel, have dominated online demand of dairy
products in China, altogether taking up about 80% of the
total in both sales and volume terms. Such strong online
demand has also been lifted by major promotional
campaigns each year, especially during Single’s Day on 11th
of November.

Page 13
China Dairy Sector
Seasonality of online dairy sales UHT yogurt last year. As e-commerce and overall logistics
infrastructure develop across China, we expect the online
RMB bn Single's Day % channel to increase in importance for the overall dairy
Promotion market.
JD Anniversary (Nov 11th)
2.7
Promotion (Jun 18th)
3.0 200
2.5 1.7
150
2.0
100
1.5
50
1.0
0.5 0
0.0 (50)
May-16
Feb-16
Oct-16
Mar-16
Apr-16
Sep-16
Jan-16
Aug-16
Jun-16
Jul-16
Nov-16
Sales (LHS) Growth (RHS)
Source: Syntun
Sales of IMF products have stayed strong as PRC consumers

continue to like imported milk powders for their infants. Yet,
their weighting in the overall online dairy sales fell 11% y-o-
y in 2016. This was mainly due to a doubling of online sales
of imported liquid milk, and 50% growth in online sales of
More dairy categories demanded via e-commerce (sales breakdown by category)
Imported Milk
High-end milk
Liquid
Room temperature milk Baby
yogurt 31%
Flavor milk
Infant
Ordinary pure milk powder
69%
Function milk
Milk beverages Adult
Children's milk
Low temperature
milk
0% 50% 100%
0% 5% 10% 15%
Source: Syntun

Page 14
China Dairy Sector
M&As – The large gets larger

A summary of the provision of Development Plan for
Milk Industry 2016-2020E
Globalisation. As overall trade networks and global
2015 2020
transparency on products and prices continue to improve
Dairy production (m ton) 39 41
over time, it is inevitable that the top brands with the best
Self-sufficiency ratio (%) 1 >70%
merchandise will be most preferred by consumers. Large
Dairy and related products (m ton) 28 36
players with relatively more abundant resources to enhance
Sampling test rate success (%) 99 >99
research & development, marketing and promotion, as well
Milk powder sampling success rate (%) 97 >99
as acquire some good operations both domestically and
100 heads and above scale farm (%) 48 >70
overseas, etc. should help them grow even bigger and
Macha nisized dairy production (%) 95 >99
capture a larger market share.
Milk yield per annum (ton/annum) 6 8
Meanwhile, some medium-term questions could include Quality Alfalfa production (m ton) 2 5
whether food safety concerns in China could be further Waste use efficiency (%) 50 75
minimised, so that the local perception of domestic products Infant formula companies with sales
1 3-5
could improve and compete head-to-head with imported above RMB5bn
merchandises. This is particularly the case as Chinese Top 10 domestic infant formula market
n.a. 80%
consumers continue to look for better merchandise and are share (%)
more willing to trade up. Such a development could be even
Source: Ministry of Agriculture, NDRC
more apparent for the dairy industry, especially in products
for new-borns and young children.
In recent years, Chinese dairy companies have continuously
extended their sourcing to overseas markets. These include Through the Internet, social media, and direct exposure to
the acquiring or partnering with infant milk powder overseas markets as the Chinese travel more, consumers are
manufacturers in New Zealand, Europe, etc. to enhance also increasingly aware of the trendier dairy products in
overall customer confidence. The PRC Development Plan for overseas markets, arousing their desire for overseas
Milk Industry 2016-2020 also highlights the government’s products. As such, to safeguard sales, we believe Chinese
target to further consolidate the dairy sector towards best dairy companies will increasingly seek more M&As or
players, through more stringent registration process and collaboration with compatible overseas brand players. For
product quality control. example, Sanyuan & Fosun are negotiating to purchase St
Hubert Brand, a French margarine maker in July-17.

Page 15
China Dairy Sector
Nestlé – a classic case
Nestlé, currently the world’s largest food & beverage

company, has completed many M&As over the years to
reinforce its businesses and develop into a global group.
First established in 1867 to sell infant formula products, the
company merged with the condensed milk operator Anglo-
Swiss Milk Company in 1905, and continued to extend into
dairy, confectionery, coffee, ice-cream, water, frozen foods,
pet foods, etc. through multiple corporate transactions.
At present, Nestlé owns over 8,500 brands with a total of
about 500 factories in over 80 countries. The company
initially leverage on M&As to diversify its business segments,
and then ride on acquisitions to further expand
geographically.
Just focusing on its more recent acquisitions since 2001, its
share price largely increased following each major deal
announcement, revealing investors’ confidence in its
execution and possible synergies from the acquisitions.
More importantly, Nestlé designs its acquisition process with
standard protocol and well-defined acquisition criteria.
Aside from a strong M&A team, the company also invites
the respective operational team plus geographical units to
assess outlook of a potential deal. Besides, no acquisition
will be concluded should the operational management not
being prepared to support the deal. Post-deal reviews will
also be carried out.
Nestle’s new CEO, Mr. Mark Schneider, recently reveals
interest to do more acquisitions and speed growth.
Although on a larger base already, such strategy should be a
favourable move to strengthen performance and investors’
returns ahead.
Some China dairy companies have also been increasingly
looking for overseas brands and markets. For instance, Inner
Mongolia Yili, currently the 8th largest dairy group
worldwide, aims to get into Top-5 in the near future and
achieves over RMB100bn. The company has already invested
RMB3bn to establish the world’s largest integrated dairy
production centre in New Zealand during 2014, with current
annual production of nearly 50,000 metric tons of infant
formula. The second stage of expansion in New Zealand
starting this year will also include UHT milk and whole
powder milk production.

Page 16
China Dairy Sector
Recent major acquisition of Nestle (by segment)
Dat e T arg et c o mp an ies Deal siz e Cu rren c y Pay ment
B ev erag es- No n - alc o h o lic

M&A 03-12-01 Aqua Cool Pure Bottled Water ops 220 U.S. Cash
M&A 03-02-03 Powwow bottled water div ision 603 F rance Cash
M&A 04-09-07 Sources Minerales Henniez SA 61 Switzerland Cash
M&A 16-10-07 Sources Minerales Henniez SA 69 Switzerland Cash
Nu t rit io n & M ed ic al
M&A 26-05-00 Summit Technology Inc/MA 839 U.S. Cash
M&A 19-06-06 J enny Craig Inc 600 U.S. Cash
M&A 14-12-06 Medical nutrition business 2,500 Switzerland Cash
M&A 11-02-14 Galderma Pharma SA 4,272 Switzerland Stock
M&A 28-05-14 Aesthetic dermatology assets 1,400 U.S. Cash
Ic e Cream
M&A 09-12-96 Ault ice cream div ision 163 Canada Cash
M&A 26-12-01 Ice Cream Partners USA LLC 641 U.S. Cash
M&A 17-06-02 Drey er's Grand Ice Cream Holdings Inc 2,595 U.S. Cash
M&A 23-01-03 Moev enpick ice cream business N/A Switzerland Undisclosed
M&A 24-05-04 V aliojaatelo ice cream business N/A F inland Undisclosed
M&A 19-12-05 Delta Ice Cream SA 288 Greece Undisclosed
B ab y F o o d
M&A 12-04-07 Gerber Baby F oods 5,500 U.S. Cash
M&A 23-04-12 Pfizer Nutrition 11,850 U.S. Cash
R ead y F o o d
M&A 28-04-88 Buitoni SA 1,100 F rance Cash and Stock
M&A 06-08-02 Chef America Inc 2,600 U.S. Cash
M&A 05-01-10 North American pizza business 3,700 U.S. Cash
M&A 04-02-16 Osem Inv estments Ltd 849 Israel Cash
Can d y
M&A 23-05-06 Uncle Toby s Unit 673 Australia Cash
M&A 11-07-11 Hsu F u Chi International Ltd 1,519 China Cash
Dairy
M&A 17-08-94 Av idesa, Miko & Castillo de Marcilla N/A Spain Undisclosed
M&A 31-01-02 Brand + Yogurt facility 205 U.K. Cash
M&A 18-11-05 Sv enska Glasskiosken AB N/A Sweden Undisclosed
M&A 18-04-11 Yinlu F oods Group N/A China Undisclosed
Pet F o o d
M&A 04-02-98 Spillers Petfoods 1,185 U.S. Cash
M&A 16-01-01 Nestle Purina PetCare Co 11,856 U.S. Cash
Source: Bloomberg Finance L.P.

Page 17
China Dairy Sector
Nestle stock price performance with respect to M&As
USD
100
90
i j
80
70 h
60 f
50 d e g
40
a b
30 c
20
10
0
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
A n n o u n c emen t A c q u ired Co mp an y T ran sac t io n V alu e Pay men t T y p e EV /EB IT DA
T ime ( US$ m) (x)
a 16-J an-01 Nestle Purina PetCare Co 11,856 Cash

b 17-J un-02 Drey er's Grand Ice Cream Holdings Inc 2,595 Cash
c 06-Aug-02 Chef America Inc 2,600 Cash
d 14-Dec-06 Medical nutrition business 2,500 Stock
e 12-Apr-07 Gerber Baby F oods 5,500 Cash
f 05-J an-10 North American pizza business 3,700 Cash
g 11-J ul-11 Hsu F u Chi International Ltd 1,519 Cash 123.7
h 23-Apr-12 Pfizer Nutrition 11,850 Cash
i 11-F eb-14 Galderma Pharma SA 4,272 Cash 17.9
j 28-May -14 Aesthetic dermatology assets 1,400 Cash
Source: Bloomberg Finance L.P.
Nestle - Revenue/EBIT/EBITDA Nestle - EBIT margin/EBITDA margin
CHF m CHF m %
20,000 120,000 20
18,000 18
16,000 100,000
16
14,000 80,000 14
12,000 12
10,000 60,000 10
8,000 8
6,000 40,000
6
4,000 20,000 4
2,000 2
0 0 0
2018F
1988
1990
1992
1994
1996
1998
2000
2002
2004
2006
2008
2010
2012
2014
2016
1988
1990
1992
1994
1996
1998
2000
2002
2004
2006
2008
2010
2012
2014
2016
EBIT (LHS) EBITDA (LHS) Revenue (RHS) EBIT Margin EBITDA Margin
Source: Bloomberg Finance L.P. Source: Bloomberg Finance L.P.

Page 18
China Dairy Sector
Dairy supply chain & sustainability

In this section, we provide a detailed walkthrough of key
segments across the dairy supply chain, including dairy
farms, processors and infant formula manufacturers.
Dairy industry’s supply chain – more vertical integration ahead
R a wm a t erial U p stream f arming D o w nstream processor R e t ail channels
Corn Raw milk Liquid milk M odern retail
Soybean Imported milk powder Infant formula

M om & Baby specialty
Imported alfalfa Yogurt

E-commerce
Imported hiefer, calf Ice -cream
Traditional channels
Imported yogurt, ice -

cream , UHT milk etc.
Build production plants overseas to be closer to sourcing
Build partnerships with overseas processors
Acquire equity stakes in upstream farms
Building downstream brands to reach consumers
Acquiring upstream raw material sourcing
House brand
Source: DBS Vickers

Page 19
China Dairy Sector
I) Dairy farms
The dairy farming sector has witnessed significant changes Dairy production volume (tonne/annum)
along with the rise of large-scale commercial farming.
Tighter government policies and the introduction of private Co mp an y 2016 %
financing etc. have all expedited the process. We estimate China Modern Dairy 1,009,854 2.8%
farm size contribution with <100 heads to drop from 57% Shengmu 598,379 1.7%
in 2009 to 37% in 2019F, while those with >1,000 heads Bright Dairy * 350,000 1.0%
will expand from 3% in 2009 to 10% by 2019F. J apfa 372,500 1.0%
Zhongdi Dairy 224,094 0.6%
Dairy farm size breakdown YST Dairy 258,675 0.7%
Su b t o t al 2 ,8 1 3 ,5 0 2 7 .8 %
No. of farms
*DBS estimates
20,000
18,000 Source: Company data, news sources, DBS Vickers
16,000
14,000
12,000 Market consolidation continues. Top 5 (excluding Bright
10,000
8,000 Dairy) listcos’ production volume grew at a CAGR of 27% in
6,000 2013-2016, suggesting fast market consolidation. With
4,000 lower raw milk prices, production volume grew 19% y-o-y
2,000
0 in 2016 (2015: 17% y-o-y). In 2017F, we expect sales
volume to remain fairly stable and grow at high single digit
2013
2014
2015
2016
2017F
2018F
2019F
rate given softer raw milk prices.

1000 heads and above 100-199 heads
50-99 heads 500-999 heads Production volume
200-499 heads
2013-16 2013-16 2013-16 2013-16 2013-16
Source: China Dairy Yearbook, DBS Vickers estimates CAGR: CAGR: CAGR: CAGR: CAGR:
14% 48% 12% 94% 44%
1,200,000
The PRC dairy farming industry has remained very
1,000,000
fragmented, with the largest dairy player, China Modern
Dairy (CMD), taking up merely 1.6% market share in 2016. 800,000
Other upstream listed players include Shengmu, Bright Dairy, 600,000
Japfa, Zhongdi Dairy and YST Dairy each commanded a 400,000
market share of 0.4-0.9% in terms of herd size. Based on
200,000
raw milk production volume, we estimate the top 6 players
to account for 7.8% of market share in 2016 (vs. herd size 0
China Shengmu YST Zhongdi Japfa
of 4.4%).
Modern Dairy
Dairy
Total herd size 2013 2014 2015 2016
Compan y 2 01 6 % Source: Company data, DBS Vickers

China Modern Dairy 229,200 1.6%
Shengmu 123,329 0.9%
Bright Dairy 90,000 0.6%
J apfa 80,000 0.6%
Zhongdi Dairy 55,263 0.4%
YST Dairy 54,749 0.4%
San Yuan * 50,000 0.4%
New Hope 50,000 0.4%
F onterra 30,000 0.2%
Wenshi 20,000 0.1%
Su bt o t al 7 82 ,5 41 5 .6 %
*DBS estimates
Source: Company data, company websites, news sources, DBS Vickers

Page 20
China Dairy Sector
Raw milk price remains under pressure due to imports. In Scale matters
the overseas market, Fonterra whole-milk powder prices
i) Cost efficiency. Production cost per kg has been reducing
(WMP) surged from a low of US$2,070/ton in Aug’16 to
on improving scale and lower raw material costs. However,
US$3,110/ton in July’17 (+45% y-o-y), still far from
the decline is not enough to offset raw milk price volatility.
historical peak of c.US$5,000/ton in 4Q13 . Yet, despite the
In 2016, for instance, production cost per kg ranged
surge in overseas prices, there was no rally for Chinese
between c.Rmb2.5-2.8/kg, which translates into Rmb0.97-
domestic prices, as overseas milk powder still trades at a
1.75/kg of gross profit.
discount to domestic prices. Since January 2017, we
estimate the discount of imported milk powder price to
domestic price has narrowed from 32% to 17%. Cost per kg (before biological fair value adjustment of
dairy farming business)
The attractiveness of import pricing continues to place
pressure on all the large-scale players in 2017. In 1H17, raw
Rmb/kg
milk price has dropped 11% y-o-y to Rmb3.67/kg. This trend 3.5
is expected to continue into 2H17 due to rising milk import. 2.9 2.8
3.0 2.7 2.8 2.7 2.7
That being said, imported milk powder volume growth began 2.5
to slow to 5% y-o-y in 5M17 (vs. 1H15/16 at 16% y-o-y). 2.5
2.0
Raw milk price vs. Fonterra WMP prices (converted to
1.5
raw milk pricing)
1.0
RMB/kg
5.0 0.5
4.5 0.0
4.0 China Modern Shengmu YST Dairy Zhong di
3.5 Dairy
3.0 2014 2015 2016
2.5
2.0 Source: Company data, DBS Vickers
1.5
1.0 Feed costs, comprised of corn, soybean, alfalfa and wheat,
Jan/09
Jan/10
Jan/11
Jan/12
Jan/13
Jan/14
Jan/15
Jan/16
Jan/17
Jul/09
Jul/10
Jul/11
Jul/12
Jul/13
Jul/14
Jul/15
Jul/16
Jul/17
have been reducing over the years. CMD and YST Dairy’s
feed cost/ton declined at a FY14-16 CAGR of 4.4% and
2.7%, respectively. Corn and soybean reported mixed price
China Raw milk International raw milk (est.) changes of -16% and +10% YTD y-o-y. Hence, we expect
overall cost per kg improvement to be limited in FY17F.
Source: Bloomberg Finance L.P., Holstein Farmer, DBS Vickers
Feed cost per kg

Average selling prices – Raw milk prices
RMB/kg
ton/annum 3 2.84
6 5.4 2.44 2.45 2.48
5.3 5.3
4.8 2.15 2.11 2.14
5 4.5 1.98
4.1 4.0 2
4
3
1
2
1
0
0 China Modern Dairy YST
China Modern Dairy Shengmu YST 2013 2014 2015 2016
2013 2014 2015 2016
Source: Company data, DBS Vickers

Page 21
China Dairy Sector
ii) Yield per annum. CMD, YST Dairy and Zhongdi Dairy had
Negative cash flow generation. While major dairy farmers
largely reported improvement in yield/annum, achieving a
(excluding biological assets) are still generating profits, their
2014-16 CAGR of 1.8%, 2.1% and -0.3% respectively to
free cash flow has remained in negative territory. Hence, all
yield 9.40-10.7 tonnes/annum in 2016. This, compared with
four companies of CMD, Shengmu, YST Dairy and Zhongdi
the industry average of 6 tonnes/annum, reflects higher
Dairy reported deteriorating financial position over 2014-
efficiency at large-scale farms.
2016, with increasingly higher net gearing ranging from
30%-80% in 2016 (vs. 2015: 20-67%), except for YST Dairy
Yield per annum which sustained a net cash position.
ton/annum
Negative free cash flow *
12
10.7
10.0 9.8
9.4 RMBm
10
8.4 9.0 9.4
0
8 (200)
6 (400)
(600)
4 (800)
(1,000)
2
(1,200)
0 (1,400)
China Modern Dairy YST Zhongdi Dairy
(1,600)
2013 2014 2015 2016 (1,800)
CMD Shengmu YST Dairy Zhongdi
2014 2015 2016
Sector potential vs. major markets. China’s average milk Source: Company data, news sources, DBS Vickers
yield of 6 tonnes/annum still lags that of developed
countries such as the US and the UK. Based on 2016 data, *Includes addition of biological assets & purchase of heifer and calves
average milk yield in the PRC represented a 42% discount
to that in US, and 21% discount to the UK’s, suggesting
room for improvement. Deteriorating financial liquidity – Net cash (debt)
position
Yield per annum – global
RMB m
2,000
12
1,000
10.3
0
10
(1,000)
8 7.6 (2,000)
6.0 (3,000)
6
(4,000)
(5,000)
4
(6,000)
CMD Shengmu YST Dairy Zhongdi
2
2014 2015 2016
0
China USA UK
Source: Company data, news sources, DBS Vickers
Source: China Dairy Yearbook, USDA, AHDB, DBS Vickers

Page 22
China Dairy Sector
Efforts to improve profitability Options for sustainability

In an effort to raise profitability, upstream companies have (i) More support from downstream processors. Upstream
culled cows to reduce cost and control herd size, (ii) received players could strive to seek technical or financial support
government support, (iii) converted raw milk into milk from downstream operators. A change in business model
powder to extend the shelf life, and (iv) expanded that could ensure fairer payout to dairy farmers could also
downstream gradually. work. Anyhow, if large scale farms are facing declining
Culling of cows. In view of weaker raw milk prices, dairy profits and unsustainable cash flow, it is likely that small
players have slowed their herd size growth through the farms are under even higher pressure. Should more small
culling of cows and reducing the number of imported calves. farms exit the industry at a rapid rate, this could create a
sharp shortage of raw milk and could potentially affect the
Total herd size growth (% y-o-y) stability of the supply chain.
Change the price equation. Overseas dairy farmers, for
200% instance, typically collect a market price of their produce
176%
180% (less manufacturing, packaging and marketing costs) plus
160% 143% retentions for future capital costs through their cooperative.
140% Without processors taking up some responsibility of the
120% upstream expansion, it is difficult to cover the high fixture
100% costs.
80%
57% Speed up the fresh trend. Upstream players could forge
60%
partnerships with supermarkets and online players to
40% 24%
12%
8% 11% 12% accelerate the fresh dairy trend. By encouraging the
20% 10%
8% 10% consumption of fresh milk, this may improve raw milk
2%
0%
demand. For example, Bright has a stable business
China Shengmu YST Zhongdi Dairy
Modern Dairy delivering fresh milk to consumers in Shanghai on a daily
basis. This could be replicated in other 1st tier cities to start
2014 2015 2016
off with.
Source: Company data, DBS Vickers Look for more partners. Based on our conversation with
major dairy farm operators, most of them have already been
Government subsidies. Dairy farmers could receive small supplying to the top downstream players (Mengniu, Yili and
sums of subsidies for building additional farms (e.g. Bright). Seeking more new partners could also be a good
environmental compliance, equipment purchases, etc.), in opportunity. For example, foreign players who seek to enter
addition to agricultural tax at 0%. China could consider collaboration with local milk producers
to develop fresh products.
Exploring downstream with suitable partners. Dairy farmers,
such as CMD and Shengmu, had been selling fresh milk
under their private labels to try and absorb any surplus of
their raw milk supply. However, due to the fairly high entry
barrier (e.g. high advertising & promotional spending, lack
of bargaining power with distributors), upstream farmers
found it difficult to manage excess inventory by simply
going downstream on their own.
Starting in May’17, CMD has allowed Mengniu to operate
its downstream business. In return, CMD will receive a 3%
gross profit margin. While this could cap the returns from its
downstream business, we believe such an agreement could
at least guarantee a stable payout for CMD although
essentially keeping it as an OEM play.

Page 23
China Dairy Sector
Case study: Arla
Arla is a European dairy cooperative owned by 12,000 dairy

Arla - Processed milk (m kg)
farmers. All farm owners agree to equally share the earnings
from their produce, which helps them to agree to a
m kg
common goal for profitability and sustainability along the
16,000
supply chain. Its core markets now span across Europe,
14,000
including Sweden, Denmark, Finland, the UK, Germany, and 1,729 1,554
1,832
the Netherlands. 12,000 531 515
3,202 403
10,000 2,886 3,320 3,210
Market consolidation is key. Arla was the largest upstream 253 3,088
8,000 53 1,254
player in Denmark, with a strong market share; it enabled 286 1,332 1,526 1,741 1,758
685
steadier margins, and opportunity to grow beyond its core 6,000 2,016 2,035 1,995 1,909
2,059
market. We reckon China’s dairy farming industry could 4,000
also adopt a dairy co-operative model amongst smaller 2,000 4,419 4,508 4,550 4,705 4,728
farms, on top of rapid market consolidation and large-scale
0
farming to improve bargaining power, and reduce capital 2012 2013 2014 2015 2016
cost outlay.
Denmark Sweden Germany UK
Belgium Luxembourg Netherlands Others
Why cooperative could work. A cooperative also guarantees

Source: Bloomberg Finance L.P, DBS Vickers
a floor price to farmers regardless of dairy price volatility.
This weakens dairy farmers’ option to negotiate, but it also
offers a buffer when prices decline significantly. This also
allows better planning by farmers in terms of capacity
expansion to match market demand. Players also offer Arla - EBITDA rerating through M&As
more favourable credit terms to alleviate the farmers’
burden, similar to Yili’s model. Rmb m Acquisition of UK Acquisition
7,000 Merger of farmer - Express of Milk Link
Dairies; UK farmers
MD Foods &
6,000 Arla became part owners
Downstream is key. In 2016, Arla processed 13.9b kg of raw of Arla Food UK
milk, which is 13x the volume of the largest player in China 5,000
(CMD). With a strong foothold in the upstream, Arla also
4,000
invested in downstream operations to ensure margin
stability. Despite a downturn in dairy prices in 2014-16, 3,000
Arla’s margin improved y-o-y.
2,000
1,000
Arla – Margin remained largely stable despite dairy price 0

2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
volatility
%
30
25
20
15
10
0
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
Gross margin Operating martin Net margin

Page 24
China Dairy Sector
Arla’s business model
Arla’s milestones
Dat e Desc rip t io n

2000 Arla F oods amba is formed
2001 Arla F oods closed 17 dairies and reduced 1k employ ees
2002 Arla F ood merges with Hellev ad Omegns A ndelsmejeri
2004 Arla F oods' subsidiary acquires National Cheese Company (Canadian cheese importer)
2005 Arla F oods and Mengniu Dairy began a partnership in the production of powdered milk
2006 Arla acquired White Clov er Dairy (US), and Tholstrup Cheese. Thereafter, A rla acquires 30% of Ingman F oods Oy Ab (F innish
dairy company )
2007 Arla merges with Express Dairies (UK).
2008 Arla F ood acquires remaining 50% of Cocio Chokolademaelk A/S. UK farmers became part owners of Arla F ood UK
2009 Hirtshals Co-op joins Arla
2011 Arla F oods acquires F resh Nijkerk from F rieslandCampina, and merges with Hansa Milch (Germany )
2012 Arla F oods merges with Milk Link (UK), and Milch-Union Hocheifelin (Germany ).
2016 Arla F oods agrees to a partnership with Dairy F armers of America to build a new dairy plant for cheddar cheese and premium
product opportunities.

Page 25
China Dairy Sector
II) Downstream processors fresh consumption trend will see sound growth from a low-
base. Hence, players that place stronger focus in these fast-
Chinese processors have experienced the fastest market growing product categories could see a more sustainable
consolidation, with the top 3 players (Yili, Mengniu, Bright business performance.
Dairy) accounting for >60% of market share by 2016.
Industry growth – by product category (2016)
Market share – Liquid milk
50%
43.9%
100%
90% 40%
80% 38.5% 38.2%

30%
70%
60% 20%
8.5% 7.6% 12.6% 11.2%
50%
10%
40% 25.7% 26.8% 3.8%
30% 0%
20% -2.3%
27.3% 27.4% -10%
10% Liquid milk UHT Premium Chilled Basic UHT
yogurt UHT Yogurt
0%
2015 2016
Source: AC Nielsen, DBS Vickers
Mengniu Yili Bright Dairy Others
Premium pricing is a plus. Based on our sampling, we found
Source: AC Nielsen, DBS Vickers that premium UHT brands were priced at c.14% premium
to fresh milk on a per litre basis. On the other hand, UHT
Categories seeing rising demand. In 2016, UHT yogurt grew yogurt was priced at a c.87% premium against domestic
43.9% y-o-y, outperforming premium UHT milk (+12.6% y- UHT milk. This helps to explain why processors have been
o-y), and chilled yogurt (+11.2% y-o-y). On the flip side, targeting at yogurt categories.
basic UHT milk saw a mild decline of 2.3% y-o-y as the
product becomes too commoditized. We believe UHT
yogurt and chilled yogurt will remain the key drivers, while
basic UHT milk will remain under pressure from growing
imports. In addition, we expect plant-based alternatives and

Page 26
China Dairy Sector
Domestic versus overseas SKUs
Pro d u c t T y pe D eliv er t o O rig in R mb / L
A rla F armer Milk F resh milk UK A sda 4.8
A rla Big Milk F resh milk UK Tesco 7.7
A rla Organic F arm M ilk F resh milk UK Tesco 7.7

Overseas
Tesco UHT Whole M ilk UHT Milk UK Tesco 7.9 pasteurised milk
ASP: Rmb8.8/L
Yeo V alley Organic F resh Semi- Skimmed F resh milk UK Tesco 10.1
A rla Semi-Skimmed (Lactofree) UHT Milk UK Tesco 11.4
A 2 Whole Milk F resh milk UK A sda 12.2
Oldenburger Pure Milk UHT Milk China J D.com 8.3
Yili Satine UHT Milk China J D.com 8.8

China UHT milk:
Rmb10/L
Yili Pure Milk UHT Milk China J D.com 10.8
A nchor Pure Milk (imported) UHT Milk China J D.com 13.2
Mengniu Milk Deluxe UHT Milk China J D.com 8.7
Yili A mboshilv is UHT y ogurt China J D.com 22.8
Bright Dairy Momchiltov si UHT y ogurt China J D.com 15.7

China UHT yogurt
ASP: Rmb19.3/L
San Yuan Iceland UHT y ogurt UHT y ogurt China J D.com 15.6
Bright Dairy Momchiltov si (2 F ruit 3 V egetable) UHT y ogurt China J D.com 23.0
Mengniu Chun Zhen UHT y ogurt China J D.com 19.4
Yeo V alley Organic Yogurt F resh y ogurt UK Tesco 24.2

Overseas yogurt
A lpro F resh y ogurt UK Tesco 26.4 ASP: Rmb33.2/L
Weetabix On the GO Breakfast Drink Breakfast Drink UK Tesco 48.9
Source: JD.com, supermarket.co.uk, DBS Vickers
Plant-based alternatives. Aside from yogurt, one of the

fastest growing trends is plant-based alternative products
such as almond, soy, rice and cereal milk. Many players
have already begun to step into this category, particularly in
plant-based drinks. According to Euromonitor, the top 5
players altogether already accounted for 32.4% market
share (based on retail sales value) in 2016.

Page 27
China Dairy Sector
Plant-based alternatives market share (%) Imported milk powder ASP vs. Fonterra whole-milk
powder prices
% US$/ton
30 7,000
25 6,000
20 5,000
15 4,000
3,000
10
2,000
5
1,000
0
Jan-10
Jan-11
Jan-12
Jan-13
Jan-14
Jan-15
Jan-16
Jan-17
Jul-10
Jul-11
Jul-12
Jul-13
Jul-14
Jul-15
Jul-16
2011
2012
2013
2014
2015
2016
Imported milk powder
Coconut Palm Yinlu
Whole milk powder (Fonterra)
Lolo Vitasoy
Skim milk powder (Fonterra)
Daliyuan
Source: Euromonitor, DBS Vickers Source: China Customs, Bloomberg Finance LP, DBS Vickers
Gross margin should contract in 2017. With a surge in raw

material prices such as imported milk powder, packaging
and sugar, it is expected that the gross margin will Milk Production (Major exporters) – On a mild increase
contract. In 1Q17, Bright and Yili reported gross margin
contraction of 5.6ppt and 3.6ppts to 34.6% and 37.9% m t ons 2016 2017
respectively. Argentina 10.2 10.4
Australia 9.4 9.1
Gross margin trend (%) EU-28 151 151.3
New Zealand 21.2 21.9
% United States 96.4 98.1
40 T o t al 288.2 290.8
38
Source: USDA, DBS Vickers
36
34
32
30
28
26
24
22
20
2013 2014 2015 2016
Mengniu Bright Yili
Source: Company data , DBS Vickers

Page 28
China Dairy Sector
Downstream could be more sustainable. Downstream prices. Separately, while China’s dairy demand is expected
processors have been remarkably more profitable due to to grow steadily, we believe major downstream operators
several reasons. First, with strong bargaining power, with strong balance sheet could be in a better position to
processors are able to put price pressure on upstream look beyond China via M&As to further strengthen their
players. Second, due to the large price disparity between domestic portfolio as well as exploring into overseas growth
domestic and overseas sourcing, processors have opportunities.
increasingly opted to use imported sources that offer better
Dairy M&As
M ark et
Dat e Company T arget St ak e Loc at ion M et ric V aluat ion Complet e?
v alue
J ul-10 Bright Dairy Sy nlait Dairy (Private) 51.0% Overseas NZD m 58 Y
Dec-10 Mengniu J unlebao (Private) 51.0% Domestic RMB m 470 Y
China Modern Dairy 16.9x FY13 P/E or 1.6x
May-13 Mengniu 26.9% Domestic HK$m 3,175 Y
(1117.HK) P/B
23.7x FY13 PE or 3.35x
J un-13 Mengniu Yashili (1230.HK) 76.6% Domestic HK$m 9,540 Y
PB
Nov -13 Mengniu YST Dairy (1431.HK) ~4% Domestic HK$m 470 25.6x FY13 PE Y
Mengniu &
J an-14 Whitewav e Yashili Zhengzhou Plant 100.0% Domestic RMB m 377 Y
(51/49)
39.5x FY13 PE, or 5.0x
F eb-14 Danone, COFCO Mengniu (2319.HK) 6.2% Domestic HK$m 5,153 Y
P/B
Mar-14 F osun International Sanyuan Food (600429:CH) 20.5% Domestic RMB m 2,000 187.7x FY14 PE, or 3.7x
May-14 Bright Food Tnuv a (Private) 56.1% Overseas US$m 2,500 43.2x FY14 PE Y
J ul-14 Mengniu Shengmu Dairy (1432.HK) ~4% Domestic HK$m 112 17x FY14 PE or 2.9x PB Y
Oct-14 Danone Yashili (1230.HK) 25.0% Domestic HK$m 4,390 44x FY14 PE Y
F eb-15 Bright Food Tnuv a (Private) 20.7% Overseas US$m 1,290 60.5x FY14 PE Y
Mar-15 F onterra Beingmate (002570:CH) 18.8% Domestic RMB m 775 80.3x FY14 PE Y
New J ufeng Packaging新巨
J un-15 Yili 20.0% Domestic RMB m 96 Y
丰 (Priv ate)
Xinjiang Western Yili Shihei Company (Milk
Aug-15 100.0% Domestic RMB m 90 Y
Animal powder, Liquid milk)
Oct-15 Yashili Mengniu Arla (51/49) 100.0% Domestic RMB m 1,050 13.3x FY14 PE
J an-16 Ornua Ambrosia Dairy (Priv ate) 100.0% Domestic Y
Herman Shao-ming
Mar-16 V an Diemen's Land (Private) 100.0% Overseas AUS m 220 Y
Hu, Kenny Zhang
23.4x EV /LTM Adjusted
Sep-16 Danone Whitewave Foods 100.0% Overseas US$m 12,500 Y
EBITDA (2016)
17.5x FY16 PE or 1.9x
Oct-16 Yili Shengmu Dairy (1432.HK) 37.0% Domestic HK$m 5,290 N
P/NAV
China Modern Dairy
J an-17 Mengniu 33.3% Domestic HK$m 4,671 Y
(1117.HK)
May-17 Yili Stonyfield (Danone) 100.0% Overseas US$m 850 N
J un-17 Sy nlait Dairy New Zealand Dairy Company 100.0% Domestic NZD m 57 Y
Shanghai Holstein (RRJ
J ul-17 Bright Dairy 45.0% Domestic US$m 315 Pending
Capital)
J ul-17 Lactalis Stonyfield (Danone) 100.0% Overseas US$m 875 Y
Source: Company compilation, DBS Vickers

Page 29
China Dairy Sector
Sustainability check list
M e n g n iu Y ili B rig h t D a iry

2319.HK 6 0 0 8 8 7 : CH 6 0 0 5 9 7 : CH
1. Small inv estment in Shengmu 1. Initially started a J V w ith RRJ

& Huishan Dairy at Pre-IPO stages Capital to build ow n farms. In
1. 61.4% stak e in China M odern
2. Offer financial support to J uly '17, Bright repurchased the
F arm profitability and Dairy
farmers 45% stak e from PE fund.
support 2. Strategic milk supply agreement
3. Strategic milk supply 2. Strategic milk supply
w ith large-scale farmers
agreement w ith large-scale agreement w ith large-scale
farmers farmers
1. Partnership agreement w ith 1. A cquired majority stak e in

1. Yashili - Began production in
Dairy F armers of A merica to build Sy nlait Dairy (NZ )
infant formula plant set up in NZ .
Ov erseas sourcing milk pow der plant 2. Signed supply agreement w ith
2. A cquired majority stak e in Burra
2. A cquired Oceania Dairy (NZ ) Pactum Dairy (F reedom F ood) for
F oods (A US) for dairy processing.
to build dairy processing plants UHT milk products
Product grow th trend

Yogurt 3 2 2
Premium UHT milk 2 3 1
Pastuerised milk 1 2 3
A 51/49 J V w ith Whitew av e
Plant based Walnut flav oured
F oods, established in 2015.
1. Signed R&D agreement to

A rla & M engniu inv ests in China- research on cheese w ith Wisdom
Began to export cheese products
Cheese Denmark M ilk T echnology Lab to V alley
from Israeli T nuv a
target cheese. 2. A grees to sell M ilk Link 's
Cheese under Yili's Pureday brand
1. Yashili - A cquisition of
1. A grees to jointly dev elop
M engniu's Oumei, Danone's
Increasing brand w ith Sterilgarda A limenti 1. Bright F ood (Parent) acquired
Dumex, and A rla's M erla
competitiv eness: S.p.A under Perfectland T nuv a (Israel), the largest dairy
2. Danone and A rla as
Ov erseas collaboration 2. Place bid on Danone's cooperativ e in Israel w ith strong
shareholders - A 20 (Danone)/80
& M &A s Stony field (US-based y ogurt) for expertise in cheese and butter.
v enture to dev elop Bio (A ctiv ia) -
US$850m, but failed
Danone's largest y ogurt brand.
Net gearing (x) 18.8% (F Y17F ) Net cash (F Y16) 15% (F Y17F )
Collaboration w ith Danone on

R&D and supply chain operation 1. Set up an ov erseas R&D Center
F ood security & R&D 1
in infant formula and pastuerised in the Netherlands
milk businesses
Net profit 2 3 1
T o t al 2 3 1

Page 30
China Dairy Sector
Upstream sustainability list
China M odern
F Y 16 Shengmu Dairy Y ST Dairy Z hongdi
Dairy
1117.HK 1432.HK 1431.HK 1492.HK
Produc t iv it y met ric M et ric
Herd size k heads 230 123 54.7 55.3
Herd size growth % y -o-y 1.6% y -o-y 10.7% y -o-y 9.9% y -o-y 23.7% y -o-y
Sales v olume m tonnes 1m 0.6m 0.3m 0.2m
Sales v olume growth % y -o-y 9% y -o-y 16% y -o-y 11% y -o-y 123% y -o-y
ASP Rmb/kg 4.08(conso.) 4.45 3.98 3.82
F eed cost Rmb/kg 2.48 n.m 1.98 1.88
Total cost Rmb/kg 2.74 2.21 2.67 2.44
Milk y ield Tonne/annum 9.4 n.m 10 10.7
F inanc ial met ric
Sales % y -o-y % 1% 12% 0% 99%
2016 Rmb m 4,862 3,467 1,029 962
2015 Rmb m 4,826 3,101 1,033 483
Upstream sales % 2% -6% 0% 100%
2016 Rmb m 3,384 1,360 1,029 856
2015 Rmb m 3,324 1,445 1,033 428
Gross margin (conso.) % 33.0% 48.3% 33.0% 33.7%
Gross margin (upstream)
2016 % 30.7% 47.4% 33.0% 36.2%
2015 % 31.7% 46.1% 36.8% 42.6%
SG&A expenses % of sales% 22% 12% 9% 11%
Net debt (cash) Rmb m 5,955 1,503 Net cash Net cash
Current ratio x 0.5 1.6 1.9 0.5
ROE (%) % -10.0% 13.8% -2.0% 5.7%
ROA (%) % -4.2% 6.8% -1.8% 3.1%

Page 31
China Dairy Sector
III) Infant formula

PRC infant formula imports – by country origin (2016)
A sustainable model. In the past few years, infant formula
was plagued by shifts in the PRC consumption channels and
Holland Ireland
regulatory changes. 2017 marks an important year for 36% 14%
China Food & Drug Administration (CFDA) registration, to
be implemented starting Jan’18, as the government targets Germany
to streamline the infant formula import markets that have 9%
seen accelerated growth via e-commerce. We believe this
sector could likely be among the more sustainable segments
given regulatory actions to secure the supply chain.
France
Infant formula – Distribution of baby food by format (% 7%
value) – 2011-2016
% NZ
80
Others 11%
70
23%
60
50 Source: China Customs, DBS Vickers
40
30 Other channels. Despite prior regulations required by the
20 Certificate & Accreditation Administration (CNCA) for offline
10 channels, brands are able to bypass this through basic
0 registration via bonded warehouses in China, or even by
2011
2012
2013
2014
2015
2016
“dai-gou” arrangements being the grey channel that does

not need any registration at all.
Modern Channel Baby & Mom
Euromonitor estimates that consumers in China took in
Internet retailing
roughly 760,000 tonnes of infant formula products in 2016.
About 220,000 tonnes, or 29% were estimated to come
Source: Euromonitor, DBS Vickers
from imports. We expect much of the transactions through
grey channel has not been captured in the official data;
Cross-border e-commerce. With a rapid change in hence the percentage of import sourcing should be even
distribution channels in recent years, the government aims higher.
to better regulate brands that enter the Chinese market
through cross-border e-commerce. Hence, the purpose of
Infant formula import volume
the latest CFDA registration is to narrow the play field
between offline and cross border channels in addition to
refining the number of brand offerings. (ton)
250,000 50%
220,000
45%
200,000 179,900 40%
35%
150,000 122,000 123,100 30%
25%
100,000 20%
15%
50,000 10%
5%
0 0%
2013 2014 2015 2016
Infant formula (LHS) Yoy growth (RHS)
Source: China Customs, DBS Vickers

Page 32
China Dairy Sector
Baby, Infant and Toddler Milk Formula Registration. In months. This, coupled with more marketing & promotion,
Oct’16, a new set of guidelines was issued for domestic and should drive a recovery in the top-line.
foreign infant formula manufacturers. Infant formula brands
Actions taken by brands. There are currently 68 overseas
exported to China must register with CFDA by 1-Jan-2018,
plants registered with CNCA (see Appendix: page 74). Due
before marketing in China. Infant formula registration will
to the time consuming nature of the registration process,
involve product testing, technical evaluation, on-site
selected infant formula brands have taken the initiative to
inspection of manufacturing plants, sample inspection,
purchase equity stakes in manufacturing bases already
development capacity, and the approval & issuance of
registered with CNCA. That being said, CNCA license is not
certificates. In principle, each company may only apply for at
a guaranteed safe pass, as Camperdown International had
most 9 formula products with 3 series. This includes stage 1
its license suspended recently.
(0-6 months), stage 2 (6-12 months) and young children
formula (12-36 months) in each plant. Based on our latest
understanding, some firms have started to submit their Taking a stake in registered infant formula
manufacturing plants
applications in early Jan-Feb, and are expected to receive a
response by Aug 2017 at the earliest. D at e Co mp an y T arg et Paid St ak e
Reducing inventory. Given the current regulatory changes, Bright Dairy
distributors have been cautious in holding onto inventories Sep-10 (Pure Sy nlait Dairy NZ$82m 51%
before the visibility of registration approvals become clearer. Canterbury )
This is also reflected by the weaker sales recorded across 50% of

A rla F oods A rla's cap
infant formula players. J un-12 H&H Int'l HK$108m
(A rcinco) expansion in
2015
Changes in sales Isigny Sainte
J ul-13 H&H Int'l EUR 20m 20%
Mere
YoY, % Roy al
120 Mar-14 F riesland Sy nlait Dairy NZ$14.8m 2.5%
Campina
100
New Zealand
80 Nov -14 A spen US$15m 50%
New Milk
60 Yashili New
Nov -15 Yashili NZ$220m 100%
40 Zealand
20 Mar-17 A2 Sy nlait Dairy NZ$47.8m 8%
0 A ustralian
May -17 A usnutria Rmb170m 100%
Milk Pow der
(20)
New Zealand
(40) J un-17 Sy nlait Dairy Dairy NZ$56.5m 100%
2010 2011 2012 2013 2014 2015 2016 Company
Camperdow n
Yashili Biostime Beingmate J un-17 Bellamy 's A US$28.5m 90%
Int'l
Mason
Source: Company data, DBS Vickers F inancials
J ul-17 Blend & Pack A US$80m 80%
(A iy ingdao-
What to expect next? Local manufacturers are reducing retailer)
production capacity in China, and shifting to overseas plants Watton
as Chinese consumers still prefer infant formula products J ul-17 Health Blend & Pack A US$5m 5.0%
A ustralia
that are 100% made in developed markets abroad, such as
Europe, New Zealand, etc. For example, H&H’s Changsha Source: Company data, DBS Vickers
infant formula plant, or Yashili’s manufacturing plants will
start to produce other nutritional products and adult milk
powder instead. Looking ahead, infant formula players will
likely begin to restore inventory levels once better
transparency of registration approvals is seen in the coming

Page 33
China Dairy Sector
Infant formula regulations
Regulations Description
CNCA require infant formula produced overseas to comply with Chinese labelling requirements, such as
CNCA
translated label, nutrient information etc. New advertising laws must be complied.
China label product must comply with the new Advertising Law. This bans formula makers from making
claims to replace mother's milk, in addition to misleading content such as express and imply the function
New China Advertising Law
of disease prevention or treatment, health function, improving intelligence, "zero-added", "no
added,""do not contain “ in products, exaggerated wording etc.
China Cross Border E-commerce
New taxation on both E-commerce Bonded mode and Cross Border mode (1) imports
tax change
Administrative Rule for Recipe
CFDA Formula registration; domestic / imported product to be compliant with WTO submission on 3
Registration of Baby Formula
product lines (9 formulas). All recipes must be registered under CFDA.
Powder (CFDA)
Source: AISIQ, MoA, news sources

Page 34
China Dairy Sector
Cold Storage Capacity (‘0000 ton)

Cold chain to support the growth of fresh dairy
'0000 ton
Strong demand for cold-chain logistics. According to China
Cold-Chain Logistics Association and HNA Cold Chain 1,800
1,569
Logistics, cold chain logistics is expected to grow at a CAGR 1,600
of 15% in 2016-2030E. With rising infrastructure support, 1,400 1,252
we expect fresh dairy will be a key growing trend. 1,200
1,000
Cold storage per ‘0000 (by province) (2016) 800 689
576 624
600 428
352 297
ton/'0000 400
1600
200
1400
0
1200 Eastern Northern Central Southern
1000
2015 2016
800
600
Source: China Cold Chain Logistics Association
400
200
Opportunity to grow in rest of the region. According to
0
China Warehousing Industry Bluebook 2016, the cold chain
Shanghai
Shaanxi
Zhejiang
Guangdong
Shanxi
Qinghai
Gansu
Jiangsu
Guangxi
Hebei
Yunnan
Jiangxi
Sichuan
Tianjin
Henan
Hainan
Hubei
Beijing
Hunan
Liaoning
Guizhou
Inner Mongolia
Fujian
Anhui
Jilin
Xinjiang
Ningxia
Chongqing
Heilongjiang
Shandong
warehouse capacity grew by 12% in 2016 to 42m tonnes,

with cold chain warehouse space per capita reaching 78
litres (vs 53 litres in 2011). The penetration, however,
remains far below global level. US, for example, has a per
capita space of 357 litres, more than 6x that of China. A
report by ITA in 2016 also revealed that China’s cold storage
penetration has been lower than some developing countries
Cold chain concentrated in certain areas. Based on China such as India and Brazil.
Cold Chain Logistics Association, we find cold-chain logistics
and trucking services are well-penetrated in 1st tier cities, Aside from that, China is also deficient of refrigerated trucks,
particularly in the Eastern region. This coincides with the which only accounted for 1/11 of U.S.’s total number, as
dominance of local dairy players, for example San Yuan in reported by China Cold-chain Logistics Association.
Beijing, or Bright Dairy in Shanghai. In 2016, cold storage in
Shanghai per capita space of 1,400 ton, equivalent to 4x
China Cold Chain Logistics Capacity (2016)
over the national average.
cu. meters
0.40
0.35
0.30
0.25
0.20
0.36
0.15
0.10
0.05 0.10 0.08 0.06 0.05 0.04
0.00
United India Brazil China Indonesia Mexico
States
Cold Storage Per Capita
Source: ITA, US Department of Commerce, DBS Vickers

Page 35
China Dairy Sector
Large players are emerging. Among the latest 2016 top 10

cold-chain logistic companies in China, there is a rising new
comer - Shanghai Exfresh Logistics. Established in 2005,
Shanghai Exfresh Logistics is a wholly-owned subsidiary of
Yiguo Group (易果生鲜), one of the leading fresh produce
e-commerce platforms in China. Yiguo has received
financing led by several reputable names, such as Alibaba,
KKR and Suning Group.
Top ten logistics providers in China (2016)
R an k /
Co mp an y O w n er ( s ) Co re B u s in es s
( n et c h an g e)
1 Rokin Logistics CJ Korea Express Refridgerated ground transport
2 (+1) Xiany i Supply Chain Xiany i Holdings Integrated cold chain logistics solution
3 (+3) SF Express M ingde Holding (Wang Wei) Express mail and parcel
4 (-2) Shuanghui Logistics Shuanghui Group Refridgerated ground transport
Refridgerated ground transport &
5 (-1) Speed F resh Logistics Bright Dairy & F ood
w arehouse
Shanghai Exfresh Logistics Refridgerated ground transport &
6 (New ) Yiguo Group
Technology w arehouse
7 (+4) HNA Cold Chain Logistics HNA Group Integrated cold chain logistics solution
8 (-1) Hav i N/A Specialty food cola-chain logistics
9 DCH Logistics N/A Specialty food cola-chain logistics
Refridgerated ground transport &
10 China M erchants A mericold China M erchant Port, A mericold
w arehouse
Going forward, we expect E-commence giants, such as JD

and Yiguo, will continue to penetrate into the cold chain
logistic industry to secure delivery from production,
warehousing to last-mile delivery.

Page 36
China Dairy Sector
STOCK PROFILES

Page 37
China / Hong Kong Company Guide
China Mengniu
Version 6 | Bloomberg: 2319 HK EQUITY | Reuters: 2319.HK
Refer to important disclosures at the end of this report
BUY Tracking good numbers

Last Traded Price ( 25 Jul 2017):HK$15.72 (HSI : 26,852)
Price Target 12-mth: HK$18.8 (20% upside) (Prev HK$17.45) Organic growth on track. China Mengniu (Mengniu) is on track to
Analyst improve its market share. In 5M17, organic sales has achieved double
Alison FOK +852 2971 1938
digit growth y-o-y, driven by star SKUs such as Milk Deluxe (double
alisonfok@dbs.com
digit growth), and Chun-Zhen (+40% y-o-y). Mengniu has also
Mavis HUI +852 2863 8879
mavis_hui@dbs.com added new SKUs under key brands such as YoYi C with CL37,
Alice HUI CFA, +852 2971 1960 premium yogurt under Milk Deluxe (Rmb9.9-10.9/cup) and Champion.
alicehuism@dbs.com We expect gross margin to be flattish with better procurement
What’s New execution offsetting higher imported dairy prices, while operating
cost to sales ratio could remain flat versus FY16, suggesting selling
 On track with double digit sales growth y-o-y,
expenses remain high. We have reduced our earnings by -10% on
outperforming peers
softer subsidiaries’ contribution. Our new TP is at HK$18.8/sh as we
 Cut earnings on weaker contribution from shift our valuation base to FY18. Reiterate BUY.
subsidiary
Where we differ. We expect that gross margin pressure will not be as
 Reiterate BUY on steady recovery and better
significant, due to a change in procurement, and likely higher
performance than peers, TP at HK$18.8/sh
percentage of domestic dairy sourcing compared with peers.
Price Relative
Subsidiaries: work-in-progress. Yashili is still undergoing restructuring,
pending registration process on infant formula brands, with potential
for a mild earnings recovery in 2H17 on an easier base. The company
is focusing on channel adjustments, and raising utilisation rates.
There are ongoing discussions between Mengniu and Yashili to
manufacture bulk-pack powder to raise the utilisation rate in its New
Zealand plant. As for China Modern Dairy (CMD), Mengniu will help
operate CMD’s downstream business.
Forecasts and Valuation Valuation:

FY Dec (RMB m) 2016A 2017F 2018F 2019F Our TP of HK$18.8/sh is premised on 23.5x (unchanged) FY18F PE.
Turnover 53,779 57,076 61,757 66,943
EBITDA 891 4,349 5,044 5,565
Mengniu’s 11.2x FY18F EV/EBITDA is undemanding against recent
Pre-tax Profit (461) 2,972 3,535 3,926 acquisitions (Whitewave at 23.4x LTM EV/EBITDA, or Stonyfield
Net Profit (751) 2,285 2,692 2,979 Yogurt at 20x FY16 EV/EBITDA).
EPS (RMB) (0.19) 0.59 0.69 0.77
EPS (HK$) (0.22) 0.68 0.80 0.89 Key Risks to Our View:
EPS Gth (%) N/A N/A 17.8 10.7
Diluted EPS (HK$) (0.22) 0.68 0.80 0.89 Demand, cost, competition and food safety are key risks. Slower-
DPS (HK$) 0.10 0.16 0.19 0.21 than-expected demand, raw material cost fluctuations, competition,
BV Per Share (HK$) 6.20 6.89 7.53 8.23 food safety concerns, and management transition could be key risks.
PE (X) nm 23.1 19.6 17.7
P/Cash Flow (X) 11.7 15.1 11.0 11.1
P/Free CF (X) 42.4 88.5 27.8 28.5 At A Glance
EV/EBITDA (X) 68.7 14.2 11.8 10.2 Issued Capital (m shrs) 3,926
Net Div Yield (%) 0.7 1.0 1.2 1.3 Mkt. Cap (HK$m/US$m) 61,612 / 7,890
P/Book Value (X) 2.5 2.3 2.1 1.9 Major Shareholders
Net Debt/Equity (X) 0.1 0.2 0.1 CASH
COFCO, Arla, Danone (%) 31.5
ROAE (%) (3.5) 10.4 11.1 11.3
Commonwealth Bank of Australia (%) 10.1
Earnings Rev (%): (10) (10) New JPMorgan Chase & Co. (%) 6.0
Consensus EPS (RMB) 0.64 0.75 0.85 Free Float (%) 68.5
Other Broker Recs: B: 17 S: 4 H: 5 3m Avg. Daily Val. (US$m) 16.9
Source of all data on this page: Company, DBSV, Thomson Reuters, ICB Industry : Consumer Goods / Food Producers
HKEX

ed-TH / sa- DL
Company Guide
China Mengniu
Correlation with dairy prices Share price vs. whole milk powder prices (Fonterra)
Mengniu’s share price is largely uncorrelated with China raw
milk prices. We believe the proportion of domestic raw milk US$/ton HK$
used as raw material has declined in the past few years, and 6,000 4.50
replaced by imported milk powder. 4.00
5,000
3.50
4,000 3.00
Share price vs. China raw milk prices 2.50
3,000
2.00
RMB/kg HK$ 2,000 1.50
4.5 25 1.00
1,000
0.50
4.0 20 0 0.00
May/13
Oct/13
Feb/12
Mar/14
Apr/11
Sep/11
Apr/16
Sep/16
Jan/15
Aug/14
Dec/12
Jun/15
Nov/10
Jul/12
Nov/15
3.5
15
3.0
10
2.5 WMP China Modern Dairy (RHS)
2.0 5
Source: Company data, Bloomberg, DBS Vickers
1.5 0
May/13
Feb/12
Oct/13
Mar/14
Apr/11
Sep/11
Apr/16
Sep/16
Jan/10
Jan/15
Aug/14
Dec/12
Jun/10
Jun/15
Nov/10
Jul/12
Nov/15
Share price vs. milk powder volume % y-o-y
China Raw Milk (LHS) China Mengniu (RHS)

% y-o-y HK$
200 23
Source: Company data, Bloomberg, Holstein, DBS Vickers 21
150
19
100 17
On the other hand, we find there is positive correlation with 15
Fonterra Whole Milk Powder (WMP) prices prior to (1) 50
13
acquisition of Yashili, and (2) increase in shareholding by 0 11
Danone. Thereafter, valuation may have been too lofty 9
(50)
against demand growth. We expect going forward; whole 7
milk powder prices will still serve as one of the key factors for (100) 5
Jan/10
Jan/11
Jan/12
Jan/13
Jan/14
Jan/15
Jan/16
Jan/17
Jul/10
Jul/11
Jul/12
Jul/13
Jul/14
Jul/15
Jul/16
its share price, as Fonterra dairy prices serve as a good
indicator to China demand (>70% of China exports come
from New Zealand), and it has a direct impact on Mengniu’s Imported milk powder (LHS)
gross margin. China Mengniu (RHS)
Source: Company data, Bloomberg, DBS Vickers

Page 39
Company Guide
China Mengniu
Sales
CRITICAL FACTORS TO WATCH
Ice cream
Yogurt 4%
Critical Factors 28%
Milk Other dairy
Sales growth is a critical driver for China Mengniu, as it offers
beverages products
insight on the market demand growth, in addition to 17% 1%
performances of core and new product offering.
Infant
formula
Milk Deluxe’s performance. Mengniu’s largest sales contributor is UHT milk 6%
liquid milk segment (89.4% of FY16 sales), which comprises of 44%
UHT milk, milk beverages, and yogurt. UHT milk accounts for
44% of liquid milk sales, and sales at this division is largely driven
by Milk Deluxe (特侖蘇), a premium UHT milk. Within the UHT Yogurt sales
milk range, Mengniu also offers milk targeted at children - Future RMB m
Star (未来星) series, Arla UHT milk - and Awakening Youth Milk 25,000 60%
（煥輕）targeting the elderly. Mengniu’s UHT product market 20,000 50%
share grew marginally by 0.6ppts to 27.9% in FY16. We expect 40%
15,000
UHT milk sales to expand by 6% CAGR in FY16-18F. 30%
10,000
20%
5,000 10%
Yogurt product offerings. The strongest driver in recent years
0 0%
under liquid milk has been yogurt, comprising of Just Yogurt (純 2014 2015 2016 2017F 2018F
甄), Champion （冠益乳） and Bio+. We expect yogurt sales to Sales Growth (%)
deliver CAGR of 17% in FY16-18F, driven by new SKUs and
product mix enhancement. Mengniu has launched new SKUs
Gross margin (%)
under Champion and Milk Deluxe (premium series). In FY16, 34.0%
Mengniu’s chilled yogurt market share saw a mild contraction of 34% 34%
33.5% 33%
0.6ppt to 31.4%.
33.0% 33%
Pressure on gross margins should be less than peers. Mengniu’s 32.5%

cost of sales comprises of imported bulk powder, domestic raw 32.0%
31%
milk, sugar and packaging materials, of which all except raw milk 31.5%
prices reported y-o-y increases in 1H17. Excluding Yashili, 31.0%
Mengniu’s gross margin at 32.2% (FY16) is below Yili’s (37.8%) 30.5%
and Bright Dairy’s (38.1%), suggesting room for improvement. At 30.0%
the end of FY16, Mengniu’s combined bulk-powder and raw milk FY15 FY16 FY17F FY18F FY19F
purchase departments have initiated improvements on the overall
procurement process. We also expect a stabilisation in Yashili’s Operating cost & % of sales
gross margins, with the completion of the recent acquisition, and 40%
the NZ plant ramp-up.
30%
5% 4% 4% 4%
4%
Operating cost control. One of the key cost controls is related to 20%
operating expenses. Currently, selling expenses account for 25%
of FY16 sales vs. Yili at 27.8% or Bright at 23.2%. 22% 25% 24% 24% 24%
10%
Yashili and CMD’s performance. Despite stable growth in sales 0%

volume, China Modern Dairy (CMD) remains under pressure from FY15 FY16 FY17F FY18F FY19F
soft raw milk prices. With a new management team in place, Selling expenses Admin
Yashili is focused on restructuring its channels towards specialty
Source: Company, DBS Vickers
stores and e-commerce, and the ramp-up of its New Zealand
plant. Mengniu’s CEO, Jeffrey Lu, also announced during an AGM
that he expects Yashili to turn profitable by next year.

Page 40
Company Guide
China Mengniu
CRITICAL FACTORS TO WATCH
(HK$/sh) China Mengniu 2319.HK

24.0 Event
22.0
20.0 B
C D
18.0 G
F
16.0 H
A
14.0 E
12.0
10.0
Jan-14
Jan-15
Jan-16
Jan-17
Jul-13
Jul-14
Jul-15
Jul-16
Oct-13
Oct-14
Oct-15
Oct-16
Apr-13
Apr-14
Apr-15
Apr-16
Apr-17
We chronicled our views on the drivers and events that have shaped China Mengniu’s share price, as follows:
(A) Subsequent to Danone becoming a strategic shareholder of Mengniu in May’13, Mengniu share price rallied with the increase
in stake in Yashili (1230.HK)
(B) Mengniu introduces a change in shareholding structure, with strategic alliances with Danone and Arla.
(C) Mengniu sold 25% of its Yashili stake to Danone and other shareholders to comply with free-float requirement to maintain its
listing status
(D) Imported milk powder volume dropped 41% y-o-y – investors cautious on a supply glut
(E) Weaker than expected FY15 results expected
(F) Mengniu saw a surprising overhaul of the management of Sun-Yi-ping, replaced by Yashili’s CEO Jeffrey Lu.
(G) Profit warning announced, primarily due to an one-off provision write-off on Yashili, weaker profits from China Modern Dairy,
and booking bulk powder losses
(H) Mengniu announces an increase in stake in China Modern Dairy
Source: Thomson Reuters, DBS Vickers

Page 41
Company Guide
China Mengniu
Balance Sheet:
Strong refinancing ability. In Mar’17, Mengniu completed a Leverage & Asset Turnover (x)
partial cash offer for CMD for HK$2,798m (c.23.5% of CMD’s
share capital), and raised its shareholding from 25.4% to
61.3%. As part of its refinancing, Mengniu also entered into a
subscription agreement for zero-coupon exchangeable bonds of
US$194.8m, with a maturity date in Jun’22, and exchangeable
into 684.4m CMD shares (11.24% of share capital) at
HK$2.1995/sh.
Besides, robust operating cash flow (est. >Rmb3bn p.a.) should

be sufficient to cover its upcoming capex (est. Rmb3bn). We
expect net gearing to be 17% in FY17F (FY16: 12.1%). Capital Expenditure
Share Price Drivers:

Maintain market share. We expect solidifying its market share to
be Mengniu’s key priority. The company remains in a solid
position to ride on the overall industry trend.
Gradual positive impact from two-child policy. We expect the

two-child policy to have a gradual, but positive impact on
Mengniu, as it seeks to expand its infant formula and baby-
related products in the longer run.
ROE
Stronger-than-expected margin expansion. Persistently soft raw
milk prices and milk powder prices could offer further room for
margin improvement.
Key Risks:
Food safety issues
Mengniu may be affected by dairy-related industry news
concerning food safety issues.
Raw material price volatility

Mengniu may be affected by dairy price changes. Forward PE Band
x
Company Background 35
One of the leading giants. Mengniu is one of the leading dairy 30 +1SD: 26.6x
giants in China. Mengniu, through its subsidiaries, 25 Avg: 21.1x
manufactures and distributes dairy related products (UHT milk, 20
15
yogurt, and milk beverages), ice cream, and other dairy -1SD: 15.5x
10
products, such as infant formula powder.
5
Key listed companies. Mengniu has controlling stakes in two 0
Jan-13
Jan-14
Jan-15
Jan-16
Jan-17
listed companies – Yashili (1230.HK) (51% stake) and China

Modern Dairy (1117.HK) (c.61.3% stake) – which secures
Mengniu’s upstream supply chain as well as improves its infant PB Band
formula capabilities. It also holds minor equity stakes in other
upstream players such as Shengmu and YST Dairy. As for
downstream operations, Mengniu holds a 51% stake in
Junlebao, a private company, which is known for its yogurt.
Partnerships with international players. Mengniu has formed

partnerships with its stakeholders such as Danone and Arla;
Danone holds a 20% stake in Mengniu’s cold-chain business
that includes yogurt offerings. In addition, Mengniu has also
formed a 51%/49% JV with US-based Whitewave Foods,
which has launched plant-based products. Source: Company, DBS Vickers

Page 42
Company Guide
China Mengniu
Segmental Breakdown (RMB m)

FY Dec 2015A 2016A 2017F 2018F 2019F
Revenues (RMB m)
Liquid milk 43,327 48,103 52,235 56,631 61,515
Ice cream 2,141 2,180 2,289 2,403 2,524
Other dairy products 330 346 363 381 400
Infant formula 3,229 3,151 2,190 2,341 2,504
Total 49,027 53,779 57,076 61,757 66,943
Operating profit (RMB m)
Liquid milk 3,167 2,708 3,134 3,454 3,752
Ice cream (235) (259) (183) (168) (177)
Other dairy products (245) (133) (110) (110) (110)
Infant formula (67) (2,724) (155) (80) (33)
Unallocated expenses 28 (12) 266 68 92
Total 2,648 (420) 2,952 3,165 3,525
Income Statement (RMB m)

FY Dec 2015A 2016A 2017F 2018F 2019F
Revenue 49,027 53,779 57,076 61,757 66,943
Cost of Goods Sold (33,651) (36,144) (38,022) (41,145) (44,516)
Gross Profit 15,375 17,635 19,054 20,612 22,427
Other Opng (Exp)/Inc (12,728) (18,055) (16,101) (17,447) (18,902)
Operating Profit 2,648 (420) 2,952 3,165 3,525
Other Non Opg (Exp)/Inc 0 0 0 0 0
Associates & JV Inc 138 (225) (280) 51 81
Net Interest (Exp)/Inc 245 184 300 320 320
Dividend Income 0 0 0 0 0
Exceptional Gain/(Loss) 0 0 0 0 0
Pre-tax Profit 3,030 (461) 2,972 3,535 3,926
Tax (510) (351) (558) (645) (708)
Minority Interest (153) 62 (129) (199) (239)
Preference Dividend 0 0 0 0 0
Net Profit 2,367 (751) 2,285 2,692 2,979
EBITDA 4,180 891 4,349 5,044 5,565

Growth
Revenue Gth (%) (2.0) 9.7 6.1 8.2 8.4
EBITDA Gth (%) (1.5) (78.7) 388.2 16.0 10.3
Opg Profit Gth (%) (0.6) (115.9) (802.9) 7.2 11.4
Net Profit Gth (%) 0.7 N/A N/A 17.8 10.7
Margins & Ratio
Gross Margins (%) 31.4 32.8 33.4 33.4 33.5
Opg Profit Margin (%) 5.4 (0.8) 5.2 5.1 5.3
Net Profit Margin (%) 4.8 (1.4) 4.0 4.4 4.4
ROAE (%) 11.0 (3.5) 10.4 11.1 11.3
ROA (%) 4.8 (1.5) 4.5 4.9 5.1
ROCE (%) 5.6 (1.1) 6.2 6.1 6.3
Div Payout Ratio (%) 23.2 N/A 23.3 23.3 23.2
Net Interest Cover (x) NM NM NM NM NM

Page 43
Company Guide
China Mengniu
Interim Income Statement (RMB m)

FY Dec 2H2014 1H2015 2H2015 1H2016 2H2016
Revenue 24,213 25,564 23,462 27,257 26,522

Gross Profit 7,052 8,143 7,233 9,181 8,454
Other Oper. (Exp)/Inc (5,608) (6,671) (6,056) (7,656) (10,400)
Operating Profit 1,444 1,472 1,176 1,525 (1,946)
Associates & JV Inc 95 143 (6) (155) (71)
Net Interest (Exp)/Inc 130 139 105 127 58
Pre-tax Profit 1,669 1,754 1,276 1,498 (1,959)
Tax (207) (321) (189) (313) (38)
Minority Interest (160) (94) (59) (107) 169
Net Profit 1,302 1,339 1,028 1,077 (1,828)
Growth
Revenue Gth (%) 6.7 (1.1) (3.1) 6.6 13.0
Opg Profit Gth (%) 49.1 20.6 (18.5) 3.7 (265.4)
Net Profit Gth (%) 47.7 27.7 (21.0) (19.5) N/A
Margins
Gross Margins (%) 29.1 31.9 30.8 33.7 31.9
Opg Profit Margins (%) 6.0 5.8 5.0 5.6 (7.3)
Net Profit Margins (%) 5.4 5.2 4.4 4.0 (6.9)
Balance Sheet (RMB m)

FY Dec 2015A 2016A 2017F 2018F 2019F
Net Fixed Assets 11,638 12,698 13,922 14,993 15,934

Invts in Associates & JVs 4,186 4,132 6,930 6,930 6,930
Other LT Assets 12,408 12,457 12,457 12,457 12,457
Cash & ST Invts 7,931 6,070 5,626 7,908 10,055
Inventory 4,340 4,196 4,271 4,622 5,000
Debtors 7,991 6,867 6,872 7,065 7,278
Other Current Assets 2,159 2,705 2,732 2,759 2,787
Total Assets 50,653 49,124 52,810 56,734 60,441
ST Debt 6,125 3,098 3,098 3,098 3,098

Creditors 9,634 11,917 11,459 12,400 12,806
Other Current Liab 218 288 356 442 506
LT Debt 4,970 6,750 6,750 6,750 5,542
Other LT Liabilities 3,092 1,568 3,224 3,763 5,616
Shareholder’s Equity 22,136 20,845 23,135 25,294 27,647
Minority Interests 4,479 4,659 4,788 4,987 5,225
Total Cap. & Liab. 50,653 49,124 52,810 56,734 60,441
Non-Cash Wkg. Capital 4,637 1,563 2,061 1,603 1,753

Net Cash/(Debt) (3,163) (3,778) (4,222) (1,939) 1,415
Debtors Turn (avg days) 66.1 50.4 43.9 41.2 39.1
Creditors Turn (avg days) 108.5 113.6 117.4 110.7 108.1
Inventory Turn (avg days) 49.1 45.0 42.5 41.3 41.3
Asset Turnover (x) 1.0 1.1 1.1 1.1 1.1
Current Ratio (x) 1.4 1.3 1.3 1.4 1.5
Quick Ratio (x) 1.0 0.8 0.8 0.9 1.1
Net Debt/Equity (X) 0.1 0.1 0.2 0.1 CASH
Net Debt/Equity ex MI (X) 0.1 0.2 0.2 0.1 CASH
Capex to Debt (%) 27.4 33.2 29.4 29.4 33.6
Z-Score (X) 2.9 2.8 3.2 3.2 3.2

Page 44
Company Guide
China Mengniu
Cash Flow Statement (RMB m)

FY Dec 2015A 2016A 2017F 2018F 2019F
Pre-Tax Profit 3,030 (461) 2,972 3,535 3,926

Dep. & Amort. 1,392 1,541 1,677 1,829 1,959
Tax Paid (660) (551) (351) (558) (645)
Assoc. & JV Inc/(loss) 0 0 0 0 0
(Pft)/ Loss on disposal of FAs 0 0 0 0 0
Chg in Wkg.Cap. (1,063) 1,897 98 909 433
Other Operating CF (790) 2,088 (900) (920) (920)
Net Operating CF 1,909 4,513 3,496 4,795 4,753
Capital Exp.(net) (3,043) (3,268) (2,900) (2,900) (2,900)
Other Invts.(net) 2,939 (1,387) (2,798) 0 0
Invts in Assoc. & JV 0 0 0 0 0
Div from Assoc & JV 0 0 0 0 0
Other Investing CF 641 649 900 920 920
Net Investing CF 537 (4,005) (4,798) (1,980) (1,980)
Div Paid (585) (553) (349) (532) (627)
Chg in Gross Debt 523 (3,250) 0 0 0
Capital Issues (70) 1 0 0 0
Other Financing CF 918 1,433 1,208 0 1
Net Financing CF 785 (2,369) 858 (532) (626)
Currency Adjustments 51 0 0 0 0
Chg in Cash 3,282 (1,861) (444) 2,282 2,147
Opg CFPS (RMB) 0.76 0.67 0.87 1.00 1.11
Free CFPS (RMB) (0.29) 0.32 0.15 0.49 0.48
Target Price & Ratings History
S.No. Dat e Closing 12- mt h Rat ing

HK$
Pric e T arget
17.0 45 6 7
1 2 Pric e
16.5
1: 25-Aug-16 HK$13.02 HK$15.20 Buy
16.0 3 2: 19-Sep-16 HK$14.74 HK$15.20 Hold
15.5
3: 30-Sep-16 HK$14.40 HK$15.20 Hold
15.0 4: 21-Nov -16 HK$15.08 HK$16.50 Buy
14.5 5: 1-Dec-16 HK$15.90 HK$16.50 Buy
14.0 6: 15-Dec-16 HK$15.40 HK$16.50 Buy
13.5 7: 30-Mar-17 HK$15.94 HK$17.45 Buy
13.0
12.5
12.0
Mar-17
Sep-16
Jan-17
Dec-16
May-17
Jun-17
Nov-16
Jul-16
Jul-17
Oct-16
Feb-17
Apr-17
Aug-16
Source: DBS Vickers
Analyst: Alison FOK

Page 45
Bright Dairy
Version 2 | Bloomberg: 600597 CH Equity | Reuters: 600597.SS Refer to important disclosures at the end of this report
BUY (Upgrade from HOLD) Cost pressure priced in

Last Traded Price ( 25 Jul 2017):RMB12.22 (CSI300 Index :
3,720) A laggard versus Mengniu and Yili. Headquartered in Shanghai, Bright
Price Target 12-mth: RMB14.20 (16% upside) (Prev RMB14.50) Dairy (Bright) is the third largest dairy company in China by volume. It is
Analyst one of the leading suppliers of fresh milk and yogurt, with other
Alison FOK +852 2971 1938
alisonfok@dbs.com offerings in probiotic beverages, UHT milk, butter and cheese. In the
Mavis HUI +852 2863 8879 past couple of years, Bright was a laggard against its peers, and
mavis_hui@dbs.com underperformed the Shanghai Index by c.12% YTD, on softer sales
Alice HUI CFA, +852 2971 1960 performance and raw material cost concerns. With stabilising dairy
alicehuism@dbs.com price trends seen in July in the Fonterra auction, we believe this should
What’s New support recovery to come in FY18. We now value Bright Dairy based
on Sum of the Parts valuation, with existing operations based on 11.6x
 Bright Dairy has underperformed Shanghai Index
FY18F EV/EBITDA, coupled with Synlait Dairy at market price. Upgrade
by 12.7% YTD on raw material cost concerns; we
to Buy with TP at RMB14.2/sh.
believe this has been priced in with stabilising
dairy price trends
Where we differ. Contrary to Company’s guidance to reach 6.4% y-o-y
 Stabilising dairy trend should support FY18 in top-line growth, and 6.6% in earnings growth in FY17F, we expect
earnings growth of 9% Bright to record flat earnings of 0.5% on higher raw material costs y-o-
y (imported milk powder (whole milk powder prices (+50% y-o-y),
 Upgrade to Buy, TP at RMB14.2
sugar (+6% y-o-y) and packaging costs), partly offset by lower A&P
Price Relative expenses (higher FY16 spending on Olympics). We expect top-line
RMB Relative Index growth to remain steady at FY17-19F CAGR of 7% with stable dairy
29.3
216
196
demand.
176
24.3 156
136 Potential catalysts. We expect improving performances in Central and
19.3 116
96 Southern regions could enable Bright to diversify its geographic
14.3
exposure, supporting by improving sales from newer SKUs
76
56
9.3
Jul-13 Jul-14 Jul-15 Jul-16
36
Jul-17 (Momchilotvsi vegetable fruit mixture). Besides, Synlait Dairy has been
Bright Dairy & Food Co Ltd (LHS) Relative CSI300 Index (RHS)
gaining market share in dairy processing in New Zealand due to greater
demand for overseas milk powder and access of registration for infant
Forecasts and Valuation
FY Dec (RMB m) 2016A 2017F 2018F 2019F formula products. We expect the consolidation of infant formula sector
Turnover 20,207 21,632 23,162 24,807 could place a premium on the overseas-regulated plants.
EBITDA 2,055 1,471 1,541 1,605
Pre-tax Profit 1,017 845 880 902 Valuation:
Net Profit 563 566 616 632 We value Bright on SOP valuation, with its existing operations at 11.6x
EPS (RMB) 0.46 0.46 0.50 0.51
EPS Gth (%) 34.6 0.5 8.8 2.6
EV/EBITDA, while we value Synlait Dairy at market price (Rmb1.5bn),
Diluted EPS (RMB) 0.46 0.46 0.50 0.51 and exclude net debt of Rmb1.1bn.
DPS (RMB) 0.20 0.15 0.17 0.17
BV Per Share (RMB) 4.06 4.36 4.70 5.04 Key Risks to Our View:
PE (X) 26.7 26.6 24.4 23.8 Food safety concerns, raw material cost volatility.
P/Cash Flow (X) 5.8 nm 17.9 17.7
P/Free CF (X) 11.4 nm nm nm At A Glance
EV/EBITDA (X) 7.0 11.7 11.3 10.9
Issued Capital (m shrs) 1,231
Net Div Yield (%) 1.7 1.2 1.4 1.4
P/Book Value (X) 3.0 2.8 2.6 2.4 Mkt. Cap (RMBm/US$m) 15,038 / 2,228
Net Debt/Equity (X) CASH 0.1 0.1 0.1 Major Shareholders
ROAE (%) 11.8 10.9 11.0 10.5 Bright Food Group (%) 54.4
Free Float (%) 45.7
Earnings Rev (%): 11.5 15.6 New
Consensus EPS (RMB) 0.48 0.52 0.57 3m Avg. Daily Val. (US$m) 8.0
Other Broker Recs: B: 4 S: 2 H: 3 ICB Industry : Consumer Goods / Food Producers
Source of all data on this page: Company, DBSV, Thomson Reuters,
HKEX

ed-TH / sa- DL
Company Guide
Bright Dairy
CRITICAL FACTORS TO WATCH Dairy products

Other
dairy
Critical Factors
products
Dairy consumption per capita growth and Star SKUs. Liquid (milk
milk comprises fresh milk, yogurt, pro-biotic beverages, UHT powder)
milk, and more. The segment accounts for 71% and 92% of 17%
Dairy
FY16 sales and gross profit respectively. Dairy consumption per
products
capita is at 36.1kg, which is still one-third lower than the 71% Dairy
Farm
global average. This suggests ample room for growth. Star 10%
SKUs such as Momchilovtsi (UHT yogurt), UBEST (pasteurised
Others
milk) and Chang-You (probiotic beverage) are also critical in 2%
dictating the company’s top-line performance.
Geographic breakdown (%)
Imported milk powder – key raw material component. Direct Shanghai

Overseas 27%
material costs account for 85% of cost of sales in liquid milk 10%
segment, which comprises raw milk, imported milk powder,
sugar, and packaging materials. All except raw milk prices were
on an uptrend in 1H17, which is likely to lead to a gross margin
contraction to 44% from a historical high of 48.5% (Liquid
milk), in our view. When Fonterra WMP prices breached
US$5,000/ton, Bright’s gross margin was largely stable at
33.8%. In 1H17, Fonterra WMP breached US$3,000/ton, Others
which is still a far way from peak at US$5,000/ton in Feb’14. 63%
Gross margin trend vs. Imported milk powder ASP
Geographic coverage. By region, Bright is most profitable in US$
the East, Central, and by operations, in UHT milk. In FY16, 6,000
Bright was also able to narrow its losses in the North due to 47%
5,000
lower raw material costs, and targeted sales in the premium 42%
4,000 37%
channels. In FY17F, Bright plans to expand production plant
3,000 32%
and lines in Wuhan (Central China) and Eastern China. 32%
2,000 27%
1Q08
4Q08
3Q09
2Q10
1Q11
4Q11
3Q12
2Q13
1Q14
4Q14
3Q15
2Q16
1Q17
Upstream sector weakening performance. On 6 July, Bright
agreed to buy back RRJ Capital’s 45% stake of Shanghai Imported milk powder
Holstan, a dairy services company, for c.US$315m (Rmb2.1bn). Bright Dairy Gross margin
To recall, Bright’s joint-venture agreement stipulates Shanghai
Holstan should proceed for public listing in five years' time Sales volume changes (%)
(from 2014), or Bright will return RRJ its capital investment with tonne 2014-16
1,000,000 CAGR = 7%
a guaranteed 10% IRR. Due to a soft raw milk price
environment, upstream sector has been under pressure in the 800,000 2014-16
past few years. Currently, most of the raw milk produced is CAGR = -1%
600,000
sold to Bright Dairy. 2014-16
400,000 CAGR = 13%
200,000
0
Fresh milk Yogurt Milk powder
2014 2015 2016

Page 47
Company Guide
Bright Dairy
Bright Dairy share price
30
25 E
B
D
C
20 F
A
G H I
15
10
5
Sep‐13
Sep‐14
Sep‐15
Sep‐16
Jul‐17
Jul‐13
Jul‐14
Jul‐15
Jul‐16
Mar‐16
Mar‐17
Mar‐13
Mar‐14
Mar‐15
Nov‐15
Jan‐16
Nov‐16
Jan‐17
Jan‐13
Nov‐13
Jan‐14
Nov‐14
Jan‐15
May‐16
May‐17
May‐13
May‐14
May‐15
px last
Source: Company data
A) Jul’13 - Synlait Dairy successfully lists on New Zealand stock exchange at NZ$2.2/sh (or 21.5x/16.4x FY13/14 PE) – Bright’s
shareholding reduced to 39.1% (Prior: 51%) on new share offering.
B) Sep’13 – Bright Food in talks to acquire Israel's Tnuva.
C) May’14 – Bright Food finalises 56% stake acquisition of Tnuva for NIS4.8bn (NIS8.6bn) from Apax Partners. Based on 2014
figures, Bright valued Tnuva at 23x forward PE. Tnuva is a dairy cooperative with over 70% market share in Israel,
and engages in the sales and production of meats, eggs and other packaged food.
D) Mar’15 – Chinese authority approves Bright Food’s acquisition of Tnuva, and Bright was negotiating to increase its stake up
to c.76.8%. Bright subsequently suspends its shares until July 23rd 2015.
E) Jun’15 – Bright approves of the acquisition of Tnuva from Parent Company, Bright Food. Tnuva was valued at EUR1bn. On
the same day, Bright announces the potential new-share placement of not more than 559m shares at Rmb16.1/sh,
raising not more than Rmb9bn of gross proceeds. to six parties including 信晟投资 (39% of placement shares), 晟创
投资 (c.33.2%) ,益民集团 (11%) ,上汽投资 (5.6%),国盛投资 (5.6%) ,浦科源富达壹(5.6%). This implied 45.7x FY15
PE.
F) Jul’15. – Bright applies for a temporary trading halt as a result of acquisition of Bright Food’s assets and the pending new
share placement.
– Bright’s upstream venture with RRJ Capital agrees to acquire upstream assets from its Parent Company.
G) Mar’16 – Bright suspends new-share placement due to a disagreement in pricing.
H) Mar’17 – Bright releases FY16 results – Sales increased 7.1% y-o-y, while earnings declined 5.5%. Of which, liquid milk
reported flat sales versus Mengniu (+11%) or Yili (+5%), which suggests potential market share losses in key
categories.
I) Jul’17 – Bright repurchases 45% stake from RRJ Capital of Shanghai Holstein for US$315m.

Page 48
Company Guide
Bright Dairy
Balance Sheet:
With the repurchase of Chatsworth (upstream assets) for Leverage & Asset Turnover (x)
US$315m, we expect Bright Dairy will turn net gearing of 14% 1.4
0.50 1.4
(FY16: net cash). We expect capex to remain unchanged at 1.4
Rmb900m-1bn in FY17F from new plants and production lines 0.40
1.3
in Central (Wuhan) and Southern China (Guangdong). 0.30

1.3
1.3
Dividend payout ratio will be no less than 30% (pre-tax). 1.3
0.20
1.3
Share Price Drivers: 0.10 1.2

1.2
Product mix. With stabilising dairy demand, improving product 0.00 1.2
mix will improve the company’s profitability. 2015A 2016A 2017F 2018F 2019F
Gross Debt to Equity (LHS) Asset Turnover (RHS)
Capital Expenditure
Favourable government policy. Government-led market RMBm
consolidation will be favourable to the largest dairy players in 2,500.0
the market. 2,000.0
1,500.0
Key Risks:
Raw milk cost, feed cost, imported milk powder cost has an 1,000.0
impact on the Company’s gross margin 500.0
0.0
Food safety issue 2015A 2016A 2017F 2018F 2019F
Capital Expenditure (-)
Company Background ROE

Bright Dairy (Bright) is a Shanghai-based state-owned dairy-
based processor ranked third nationwide by volume, with a 10.0%
strong presence in Eastern region. Bright operates in three 8.0%
key segments, including liquid milk (fresh milk, fresh yogurt,

6.0%
pro-biotic beverages, and UHT yogurt), milk powder (infant
formula and adult powder), dairy farming and others (butter 4.0%
and cheese). The company has six sales centres nationwide 2.0%
(East, North, Central South, UHT products, whey protein
0.0%
materials, and dairy cows), and operations platform (milk 2015A 2016A 2017F 2018F 2019F
powder, logistics, and overseas). Bright holds a 39% stake in Forward PE Band
New Zealand-based Synlait Dairy, its first offshore milk (x)
processing facility. 76.5
66.5
56.5
+2sd: 58.5x
46.5
+1sd: 48.4x
36.5
Avg: 38.4x
26.5
‐1sd: 28.4x
16.5 ‐2sd: 18.4x
Jul-13 Jul-14 Jul-15 Jul-16 Jul-17
PB Band
(x)
7.9
6.9
+2sd: 6.58x
5.9
+1sd: 5.48x
4.9
Avg: 4.37x
3.9
‐1sd: 3.27x
2.9
‐2sd: 2.16x
1.9

Page 49
Company Guide
Bright Dairy

FY Dec 2015A 2016A 2017F 2018F 2019F
Revenues (RMB m)
Dairy products 14,266 14,294 15,234 16,238 17,311
Other dairy related
3,075 3,522 3,769 4,033 4,315
products (milk powder)
Others 2,032 2,390 2,629 2,892 3,181
Total 19,373 20,207 21,632 23,162 24,807
Gross Profit (RMB m)
Dairy products 6,255 6,938 6,977 7,372 7,859
Other dairy related
485 631 641 678 725
products (milk powder)
Others 159 128 129 142 156
Total 6,899 7,697 7,747 8,191 8,740

FY Dec 2015A 2016A 2017F 2018F 2019F
Revenue 19,373 20,207 21,632 23,162 24,807
Gross Profit 6,899 7,697 7,670 8,117 8,663
Other Opng (Exp)/Inc (6,091) (6,432) (6,589) (6,967) (7,459)
Operating Profit 808 1,266 1,029 1,083 1,125
Associates & JV Inc 0 0 0 0 0
Net Interest (Exp)/Inc (140) (290) (239) (258) (278)
Pre-tax Profit 705 1,017 845 880 902
Tax (209) (342) (211) (220) (226)
Minority Interest (78) (112) (68) (44) (45)
Net Profit 418 563 566 616 632
EBITDA 1,378 2,055 1,471 1,541 1,605
Growth
Revenue Gth (%) (6.2) 4.3 7.1 7.1 7.1
EBITDA Gth (%) 5.9 49.2 (28.4) 4.7 4.2
Opg Profit Gth (%) 4.3 56.6 (18.7) 5.3 4.0
Net Profit Gth (%) (26.7) 34.6 0.5 8.8 2.6
Margins & Ratio
Gross Margins (%) 35.6 38.1 35.5 35.0 34.9
Opg Profit Margin (%) 4.2 6.3 4.8 4.7 4.5
Net Profit Margin (%) 2.2 2.8 2.6 2.7 2.5
ROAE (%) 9.2 11.8 10.9 11.0 10.5
ROA (%) 2.9 3.6 3.3 3.2 3.2
ROCE (%) 6.3 8.5 7.1 6.7 6.7
Div Payout Ratio (%) 119.8 44.6 33.0 33.0 33.0
Net Interest Cover (x) 5.8 4.4 4.3 4.2 4.0

Page 50
Company Guide
Bright Dairy

FY Dec 2H2014 1H2015 2H2015 1H2016 2H2016
Revenue 10,778 10,061 9,312 10,270 9,937

Gross Profit 4,844 3,989 2,874 3,673 2,571
Other Oper. (Exp)/Inc (9,215) (7,688) (5,231) (6,820) (4,404)
Operating Profit 473 291 517 527 739
Other Non Opg (Exp)/Inc 9 29 8 (16) 57
Associates & JV Inc 0 0 0 0 0
Pre-tax Profit 419 263 442 445 572
Tax (74) (36) (172) (124) (218)
Minority Interest 16 (26) (52) (81) (31)
Net Profit 361 201 217 241 322
Growth
Revenue Gth (%) 21.8 1.9 (13.6) 2.1 6.7
Opg Profit Gth (%) 6.3 (3.7) 9.5 81.0 42.8
Net Profit Gth (%) 39.9 (4.0) (39.8) 19.7 48.4
Margins
Gross Margins (%) 44.9 39.7 30.9 35.8 25.9
Opg Profit Margins (%) 4.4 2.9 5.6 5.1 7.4
Net Profit Margins (%) 3.3 2.0 2.3 2.3 3.2

FY Dec 2015A 2016A 2017F 2018F 2019F
Net Fixed Assets 5,925 6,325 6,846 7,354 7,845

Invts in Associates & JVs 0 0 0 0 0
Other LT Assets 1,967 2,155 3,174 3,268 3,368
Cash & ST Invts 3,320 3,366 2,015 1,954 1,912
Inventory 1,853 1,849 2,064 2,224 2,387
Debtors 1,629 1,647 1,754 1,878 2,011
Other Current Assets 753 738 2,691 2,691 2,691
Total Assets 15,447 16,080 18,544 19,370 20,213
ST Debt 1,441 1,153 2,000 2,000 2,000

Creditors 4,351 4,174 4,760 5,129 5,504
Other Current Liab 1,277 1,925 1,925 1,925 1,925
LT Debt 1,089 415 1,000 1,000 1,000
Other LT Liabilities 2,025 2,252 2,252 2,252 2,252
Minority Interests 725 1,167 1,234 1,278 1,324
Total Cap. & Liab. 15,447 16,080 18,544 19,370 20,213
Non-Cash Wkg. Capital (1,393) (1,866) (176) (262) (341)

Net Cash/(Debt) 789 1,798 (985) (1,046) (1,088)
Asset Turnover (x) 1.4 1.3 1.2 1.2 1.3
Current Ratio (x) 1.1 1.0 1.0 1.0 1.0
Quick Ratio (x) 0.7 0.7 0.4 0.4 0.4
Net Debt/Equity (X) CASH CASH 0.1 0.1 0.1
Net Debt/Equity ex MI (X) CASH CASH 0.2 0.2 0.2
Capex to Debt (%) 85.6 82.3 31.8 31.9 32.0
Z-Score (X) NA NA NA NA NA

Page 51
Company Guide
Bright Dairy

FY Dec 2015A 2016A 2017F 2018F 2019F
Pre-Tax Profit 705 1,017 845 880 902

Dep. & Amort. 569 790 443 458 480
Tax Paid (1,191) (996) (211) (220) (226)
Assoc. & JV Inc/(loss) 0 0 0 0 0
Chg in Wkg.Cap. (576) (772) (1,690) 85 79
Other Operating CF 2,359 2,570 (1,268) (362) (387)
Net Operating CF 1,866 2,609 (1,882) 841 848
Capital Exp.(net) (2,166) (1,290) (954) (957) (960)
Other Invts.(net) 0 0 0 0 0
Other Investing CF 138 225 239 258 278
Net Investing CF (2,028) (1,065) (715) (699) (682)
Div Paid (501) (251) (187) (203) (208)
Chg in Gross Debt 85 (1,315) 1,432 0 0
Capital Issues 2 277 0 0 0
Other Financing CF 1,858 (208) 0 0 0
Net Financing CF 1,444 (1,497) 1,245 (203) (208)
Chg in Cash 1,283 47 (1,351) (61) (42)
Opg CFPS (RMB) 1.98 2.75 (0.16) 0.61 0.62
Free CFPS (RMB) (0.24) 1.07 (2.30) (0.09) (0.09)
S.No . Da te Cl o s i n g 1 2 -mth R a ti n g
RMB
Pri c e Ta rg e t
17.0
Pri c e
15.0 1 1: 21-Nov-16 RMB13.95 RMB14.50 Hold
13.0
11.0
9.0
7.0
5.0
3.0
Jul-16
Dec-16
Jul-17
Oct-16
Feb-17
May-17
Source: DBS Vickers
Analyst: Alison FOK

Page 52
China Modern Dairy
Version 6 | Bloomberg: 1117 HK Equity | Reuters: 1117.HK Refer to important disclosures at the end of this report
HOLD Stay on the sidelines

Last Traded Price ( 25 Jul 2017):HK$1.48 (HSI : 26,852)
Price Target 12-mth: HK$1.52 (2% upside) (Prev HK$1.54) Turbulent times; stay on the sidelines. In June, China Modern
Analyst Dairy (CMD) issued a profit warning and expect a consolidated
Alison FOK +852 2971 1938
net loss of not less than Rmb500m in 1H17 (1H16: Rmb566m),
alisonfok@dbs.com
due to three reasons: 1) market price for raw milk in China
Mavis HUI +852 2863 8879
mavis_hui@dbs.com dropped by 11% to Rmb3.56/kg in 1H17 (vs. 1Q17:
Alice HUI CFA, +852 2971 1960 Rmb3.79/kg), (ii) non-cash loss arising from the cancellation of
alicehuism@dbs.com share options (Rmb90m), and (iii) allowance for doubtful debt
What’s New relating to trade receivables (Rmb140m). Despite a stable herd
 Expect raw milk price to remain soft on the back size and improving production efficiency, these are unable to
of surging import volume growth offset raw milk price volatility. Separately, despite now
confirmed change in model which started in May for its
 Downstream model change may lower selling
downstream business, we expect selling expenses could still
expenses
remain high in 2017. Maintain HOLD, with TP mildly cut to
 Maintain HOLD; new TP at HK$1.52 HK$1.52.
Price Relative
HK$ Relative Index Where we differ. We expect raw milk prices to remain on a
4.4
218
198
decline in 2H17 on growing dairy imports. Thereafter, we
3.9 178 expect raw milk prices to recover mildly by 2% y-o-y in 2018,
3.4 158
2.9 138 partly due to higher feed costs forecast. Excluding one-offs
(cancellation of share options, biological changes and doubtful
118
2.4
98
1.9
1.4
78
58
debts), we expect earnings of CMD to recover in FY18F on the
0.9
Jul-13 Jul-14 Jul-15 Jul-16
38
Jul-17
back of lower selling expenses mainly.
China Modern Dairy (LHS) Relative HSI (RHS)
Potential catalysts. A recovery in raw milk prices could support
an upstream recovery. This is dependent on consumer
FY Dec (RMB m) 2016A 2017F 2018F 2019F
Turnover 4,862 4,901 5,352 5,827 demand, and international pricings. In our view, it is difficult
EBITDA 946 822 989 1,104 for upstream players to see this recovery, given the excess
Pre-tax Profit (785) (645) 86 137 supply situation from imports. In addition, deteriorating cash
Net Profit (742) (646) 84 135
Net Pft (Pre Ex) (core profit) 317 154 284 385 flow may place greater need on more debt or equity fund
EPS (RMB) (0.14) (0.11) 0.01 0.02 raising in the future.
EPS (HK$) (0.16) (0.12) 0.02 0.03
Core EPS (HK$) 0.07 0.03 0.05 0.07
Valuation:
Core EPS (RMB) 0.06 0.03 0.05 0.06
Core EPS Gth (%) (63.0) (57.1) 84.9 35.3 Our TP of HK$1.52 is based on DCF valuation. Key
Diluted EPS (HK$) (0.16) (0.12) 0.02 0.03 assumptions include WACC at 9.1%, and terminal growth of
DPS (HK$) 0.00 0.00 0.00 0.00 3%.
BV Per Share (HK$) 1.50 1.20 1.21 1.24
PE (X) nm nm 93.0 58.2
Core PE (X) 21.9 50.9 27.6 20.4 Key Risks to Our View:
P/Cash Flow (X) 6.1 8.1 7.4 6.7 An increase in stake by Mengniu, or government intervention.
P/Free CF (X) nm nm 29.9 24.0
EV/EBITDA (X) 13.3 17.9 14.9 13.4 At A Glance
Net Div Yield (%) 0.0 0.0 0.0 0.0
P/Book Value (X) 1.0 1.2 1.2 1.2
Net Debt/Equity (X) 0.8 1.0 1.0 1.0 Mkt. Cap (HK$m/US$m) 9,059 / 1,160
ROAE (%) (10.0) (9.7) 1.3 2.1 Major Shareholders
Earnings Rev (%): nm nm New China Mengniu Dairy Company Limited (%) 61.3
Consensus EPS (RMB) 0.98 1.11 1.27 Free Float (%) 27.5
Other Broker Recs: B: 20 S: 0 H: 2 3m Avg. Daily Val. (US$m) 0.5
Source of all data on this page: Company, DBSV, Thomson Reuters, ICB Industry : Consumer Goods / Beverages
HKEX

ed-TH / sa- DL
Company Guide
China Modern Dairy
CRITICAL FACTORS TO WATCH Raw milk price (CMD)

RMB/kg
6.0
Critical Factors: Raw milk prices, feed cost and sales volume 5.02
5.0 4.39
are critical factors towards CMD’s performance. With the 3.95
3.67 3.75
inclusion of the distribution company, selling expenses also 4.0
became a critical issue on the downstream business. 3.0
2.0
Critical Factors
1.0
Raw milk prices. As the leading dairy farm in China, CMD is
subjected to domestic raw milk price volatility, sales volume 0.0
2014 2015 2016 2017F 2018F
and feed costs. Due to trade influx, raw milk price is driven by
Milk yield (tonne/annum)
supply. As such, the company is planning to absorb the
RMB/tonne
upstream supply through expansion into downstream business. 9.80
However, this did not work out well due to high cost of entry 9.59
9.60 9.49
into the modern trade channel. We expect avg. raw milk prices 9.40
9.40
to decline by 7% y-o-y to Rmb3.67/kg, thereafter a mild 9.10
9.20
growth of 2% in 2018F. 8.90
9.00
8.80
International dairy prices. CMD’s share price is positively
8.60
correlated to international dairy price changes, as the price acts
8.40
as a function of demand of China. However, we believe this 2014 2015 2016 2017F 2018F
relationship will diverge given the general lack of correlation Milk yield (tonne/annum)
between domestic raw milk prices and international prices.
9.88 9.4 9.5 9.6 9.7
9.1
Production cost. The largest component in production cost is 7.90
feed. Feed comprises corn, soybean, and alfalfa, of which the

5.93
latter two are imported. In 2013-16, production cost per kg
had decreased steadily on the back of improving scale, and 3.95
production efficiency (improving yield). We expect production

1.98
cost to stay largely stable y-o-y.
0.00
2015A 2016A 2017F 2018F 2019F
Capacity expansion. As of FY16, CMD had a herd size of
230,000 heads. In FY17, CMD plans to more or less maintain Sales volume ('000 tonnes)
its herd size, in efforts to improve cash flow generation, 1,298
1,177.9
1,272.1
thereafter grow by 5% y-o-y via organic growth. 1,009.9

1,090.6
1,038
924.1
779
519
260
0
2015A 2016A 2017F 2018F 2019F

Page 54
Company Guide
China Modern Dairy
China raw milk prices vs. CMD share price International dairy price vs. share price
RMB/kg HK$ US$/ton HK$

4.5 4.5 6,000 4.50
4.3 4.0 4.00
4.1 5,000
+1SD 15.6x 3.5 3.50
3.9 3.0 4,000 3.00
3.7 Avg. 12.4x 2.50
2.5
3.5 3,000
‐1SD 9.3x 2.0 2.00
3.3
3.1 1.5 2,000 1.50
2.9 1.0 1.00
1,000
2.7 0.5 0.50
2.5 0.0 0 0.00
May/13
Feb/12
Oct/13
Mar/14
Apr/11
Sep/11
Apr/16
Sep/16
Jan/15
Aug/14
Dec/12
Jun/15
Nov/10
Nov/15
Jul/12
May/13
Feb/12
Oct/13
Mar/14
Apr/11
Sep/11
Apr/16
Sep/16
Jan/15
Aug/14
Dec/12
Jun/15
Nov/10
Jul/12
Nov/15
China Raw Milk (LHS) China Modern Dairy (RHS) WMP China Modern Dairy (RHS)
Source: Company data Source: Bloomberg Finance L.P.
We chronicled our views on the drivers and events that have shaped China Modern Dairy’s share price, as follows:
May’13 – China Mengniu agrees to buy 984m shares from KKR (20.4%) and 312m shares from CDH (6.5%) at HK$2.45/sh. This
amounted to HK$3.2bn.
Aug’13 – CMD issued a profit alert on EBITDA to rise by 50% to Rmb670m.
Sept’13 – KKR, CDH to lead a joint-venture to build two 10,000-head cow farms over a 2-year period with CMD. The joint venture
will be 82% owned by KKR and CDH, and 18% owned by CMD.
Mar’14 – Fonterra milk powder prices began on a decline after a quick surge in 2H13. Subsequently, China raw milk prices
declined in 2014.
Jan-May’15 – Stock outperformed on speculation of stock connect.
Jun’16 - In exchange for acquiring a 45% equity interest in its downstream sales and distribution Company, CMD agrees to issue
338.6m new shares at HK$1.46/sh to the holders.
Aug’16 – Resignation of Chief Financial Officer.
Jan’17 – KKR, CDH sell their stake to China Mengniu for HK$1.87bn. This is equivalent to 956.5m shares at HK$1.94/sh. At the
same time, Mengniu placed a partial offer to the open market at the same price. As a result, Mengniu’s effective stake rose to
61.4%.

Page 55
Company Guide
China Modern Dairy
Balance Sheet:
Lower capital expenditure. FY17 capex is budgeted at around Leverage & Asset Turnover (x)
Rmb800m. We expect weaker raw milk price to likely have a 1.20
0.4
0.4
negative impact on cash flow. Hence, we expect net gearing to 1.00 0.4
rise in FY17F (FY16: 80%). 0.3
0.80
0.3
0.60 0.3
Share Price Drivers: 0.3
Rebound in raw milk prices. A rebound in raw milk prices will 0.40 0.3
lift upstream sales, as well as margins. As the largest upstream 0.20

0.2
0.2
player in China, we expect CMD to be one of the key 0.00 0.2
beneficiaries should this happen. 2015A 2016A 2017F 2018F 2019F
Gross Debt to Equity (LHS) Asset Turnover (RHS)
Capital Expenditure
Stronger growth in downstream operations. CMD is RMBm
expanding its product range progressively to lower its reliance 2,500.0
on upstream earnings. New products such as UHT yogurt have 2,000.0

been launched, which will expand the company’s SKU range.
1,500.0
Key Risks: 1,000.0
Sector and capital risks. Key earnings risks include animal 500.0
disease which could hurt milk production, fluctuation of raw
0.0
material prices, reduction of intake by Mengniu which is one 2015A 2016A 2017F 2018F 2019F
of its key customers, as well as food safety issues. Capital Expenditure (-)
ROE
4.5%
Company Background
4.0%
Largest upstream dairy player. Established in 2005 in 3.5%
Maanshan, Anhui, China Modern Dairy (CMD) is the largest 3.0%
upstream dairy company in terms of herd size as well as the 2.5%
largest raw milk producer in China. As of end-2016, CMD had 2.0%
a total of 230k dairy cows at 26 farms across China, with an 1.5%
average milk yield of 9.4 tons per annum. 1.0%
0.5%
0.0%
A pioneer in large-scale dairy farming. CMD is among the first 2015A 2016A 2017F 2018F 2019F
to adopt a free-stall dairy farming business model in China to Forward PE Band

ensure higher yields and cost efficiency compared with small- (x)
scale backyard farmers. CMD previously relied on imported 65.8
heifers from Australia to ensure higher productivity as well as 55.8 +2sd: 55.9x

faster herd size growth; this has since halted as CMD has 45.8
reached a sustainable herd size. 35.8

+1sd: 40.7x
25.8 Avg: 25.6x
Expand operations downstream. CMD has expanded its 15.8
‐1sd: 10.4x
operations downstream under the brand Modern Farming. 5.8
-4.2
PB Band
(x)
2.8
+2sd: 2.51x
2.3
+1sd: 1.99x
1.8
Avg: 1.46x
1.3
‐1sd: 0.93x
0.8
0.3
‐2sd: 0.4x
Dec-13 Dec-14 Dec-15 Dec-16

Page 56
Company Guide
China Modern Dairy
Key Assumptions
FY Dec 2015A 2016A 2017F 2018F 2019F
Raw milk price (CMD) 32.3 30.9 27.4 26.6 25.5
Milk yield (tonne/annum) 9.1 9.4 9.5 9.6 9.7
Sales volume ('000
924.1 1,009.9 1,090.6 1,177.9 1,272.1
tonnes)

FY Dec 2015A 2016A 2017F 2018F 2019F
Revenues (RMB m)
Dairy farming 3,324 3,384 3,351 3,702 4,177
Downstream 1,502 1,479 1,550 1,650 1,650
Total 4,826 4,862 4,901 5,352 5,827

FY Dec 2015A 2016A 2017F 2018F 2019F
Revenue 4,826 4,862 4,901 5,352 5,827
Gross Profit 1,659 1,604 1,465 1,535 1,616
Other Opng (Exp)/Inc (989) (2,021) (1,777) (1,096) (1,128)
Operating Profit 670 (416) (311) 439 489
Other Non Opg (Exp)/Inc 458 1,045 800 200 250
Associates & JV Inc 5 (2) 0 0 0
Exceptional Gain/(Loss) (475) (1,059) (800) (200) (250)
Pre-tax Profit 355 (785) (645) 86 137
Tax (12) (1) (1) (1) (2)
Minority Interest (22) 43 0 0 0
Net Profit 321 (742) (646) 84 135
Net Profit before Except. 796 317 154 284 385
EBITDA 1,406 946 822 989 1,104
Growth
Revenue Gth (%) (4.0) 0.7 0.8 9.2 8.9
EBITDA Gth (%) 4.6 (32.7) (13.1) 20.2 11.7
Opg Profit Gth (%) (35.3) (162.1) (25.2) (240.8) 11.4
Net Profit Gth (%) (69.8) N/A 12.9 N/A 59.8
Margins & Ratio
Gross Margins (%) 34.4 33.0 29.9 28.7 27.7
Opg Profit Margin (%) 13.9 (8.6) (6.4) 8.2 8.4
Net Profit Margin (%) 6.7 (15.3) (13.2) 1.6 2.3
ROAE (%) 4.5 (10.0) (9.7) 1.3 2.1
ROA (%) 2.0 (4.2) (3.6) 0.5 0.7
ROCE (%) 4.6 (2.8) (2.2) 3.0 3.3
Div Payout Ratio (%) 0.0 0.0 0.0 0.0 0.0
Net Interest Cover (x) 2.2 (1.2) (0.9) 1.2 1.4

Page 57
Company Guide
China Modern Dairy

FY Dec 1H2015 2H2015 1H2016 2H2016
Revenue 2,437 2,389 2,229 2,633

Cost of Goods Sold (1,548) (1,619) (1,504) (1,754)
Gross Profit 889 770 725 879
Other Oper. (Exp)/Inc (217) (746) (1,119) (901)
Operating Profit 672 24 (394) (23)
Other Non Opg (Exp)/Inc 187 245 501 560
Associates & JV Inc 4 1 (2) 0
Net Interest (Exp)/Inc (142) (160) (196) (173)
Exceptional Gain/(Loss) (199) (250) (499) (560)
Pre-tax Profit 522 (141) (590) (195)
Tax (15) 3 0 0
Minority Interest (30) 8 24 19
Net Profit 477 (130) (566) (177)
Net profit bef Except. 676 120 (66) 383
Growth
Revenue Gth (%) N/A N/A (8.5) 10.2
Opg Profit Gth (%) N/A N/A (158.6) (194.0)
Net Profit Gth (%) N/A N/A N/A (35.8)
Margins
Gross Margins (%) 36.5 32.2 32.5 33.4
Opg Profit Margins (%) 27.6 1.0 (17.7) (0.9)
Net Profit Margins (%) 19.6 (5.4) (25.4) (6.7)

FY Dec 2015A 2016A 2017F 2018F 2019F
Net Fixed Assets 5,498 5,202 5,845 6,095 6,329

Invts in Associates & JVs 25 2 2 2 2
Other LT Assets 9,032 9,052 9,052 9,052 9,052
Cash & ST Invts 1,017 1,208 541 967 659
Inventory 834 981 941 1,046 1,154
Debtors 1,098 1,348 1,276 1,393 1,517
Other Current Assets 4 15 4 4 4
Total Assets 17,508 17,809 17,661 18,559 18,716
ST Debt 5,226 4,116 4,200 4,200 4,200

Creditors 2,013 2,782 2,824 3,138 3,461
Other Current Liab 0 927 927 927 927
LT Debt 1,022 2,690 3,100 3,600 3,300
Other LT Liabilities 1,297 171 171 171 171
Minority Interests 168 101 101 101 101
Total Cap. & Liab. 17,508 17,809 17,661 18,559 18,716
Non-Cash Wkg. Capital (78) (1,365) (1,530) (1,622) (1,714)

Net Cash/(Debt) (5,230) (5,598) (6,759) (6,833) (6,841)
Asset Turnover (x) 0.3 0.3 0.3 0.3 0.3
Current Ratio (x) 0.4 0.5 0.3 0.4 0.4
Quick Ratio (x) 0.3 0.3 0.2 0.3 0.3
Net Debt/Equity (X) 0.7 0.8 1.0 1.0 1.0
Net Debt/Equity ex MI (X) 0.7 0.8 1.1 1.1 1.0
Capex to Debt (%) 32.6 25.7 24.9 10.3 11.3
Z-Score (X) 1.0 0.8 0.8 0.9 0.9

Page 58
Company Guide
China Modern Dairy

FY Dec 2015A 2016A 2017F 2018F 2019F
Pre-Tax Profit 355 (785) (645) 86 137

Dep. & Amort. 273 319 334 350 365
Tax Paid (18) (1) (1) (1) (2)
Assoc. & JV Inc/(loss) (5) 2 0 0 0
Chg in Wkg.Cap. (86) 310 166 92 92
Other Operating CF 922 1,293 1,118 536 584
Net Operating CF 1,442 1,137 971 1,062 1,176
Capital Exp.(net) (2,038) (1,752) (1,815) (800) (850)
Other Invts.(net) 846 751 0 0 0
Other Investing CF (9) 7 16 17 18
Net Investing CF (1,111) (969) (1,799) (783) (832)
Div Paid 0 0 0 0 0
Chg in Gross Debt 846 1,463 494 500 (300)
Capital Issues (49) 0 0 0 0
Other Financing CF (1,201) (1,263) (334) (353) (352)
Net Financing CF (404) 201 160 147 (652)
Chg in Cash (73) 368 (668) 426 (308)
Opg CFPS (RMB) 0.30 0.15 0.13 0.16 0.18
Free CFPS (RMB) (0.12) (0.11) (0.14) 0.04 0.05
S.No . Da te Cl o s i n g 1 2 -mth R a ti n g
HK$
Pri c e Ta rg e t
3.0 3 4 5 Pri c e
2.5 1 2 1: 24-Aug-16 HK$1.21 HK$1.10 Hold
2: 25-Oct-16 HK$1.94 HK$1.70 Hold
2.0 3: 21-Nov-16 HK$1.89 HK$1.70 Hold
4: 29-Mar-17 HK$1.77 HK$1.69 Hold
1.5 5: 27-Apr-17 HK$1.66 HK$1.54 Hold
1.0
0.5
0.0
Jul-16
Jul-17
Aug-16
Jun-17
Oct-16
Nov-16
Feb-17
May-17
Sep-16
Jan-17
Mar-17
Apr-17
Dec-16
Source: DBS Vickers
Analyst: Alison FOK

Page 59
China Dairy Sector
Inner Mongolia Yili Industrial-A
Bloomberg: 600887 CH Equity | Reuters: 600887.SS Refer to important disclosures at the end of this report
NOT RATED A northern darling

Last Traded Price ( 25 Jul 2017):RMB21.02 (CSI300: 3,720)  No.1 dairy player in China with leading market shares in
Analyst UHT milk, ice-cream and yogurt
Alison FOK +852 2971 1938
 Despite higher raw material prices, Yili appears diligent in
alisonfok@dbs.com
containing costs
Mavis HUI +852 2863 8879
mavis_hui@dbs.com  Trading at 18.4x FY18F consensus PE, valuation appears
Alice HUI CFA, +852 2971 1960 attractive with appetite for M&As
alicehuism@dbs.com
Stellar financial outperformance; valuation re-rating. Yili is the
Price Relative leading dairy player in China with 5-year sales CAGR (2012-16)
RMB Relative
Index
of c.10%, coupled with earnings CAGR of 34.8% over the
same period, driven by favourable product mix, raw material
23.40 221
201
21.40
19.40
181
161
costs and improving operational leverage. Yili is the no.1 in
17.40
141 market shares for UHT milk, ice-cream and yogurt in China. As
15.40 121
13.40 101 for infant formula, Yili is the no.2 domestic brand, after
11.40
9.40
81
61
Beingsmate. Previously trading at a discount to Mengniu, Yili
has rerated from 17x PE (2-year average) to 19x in FY16-FY17
Inner Mongolia Yili Industrial-A (LHS) Relative SHSZ300 Index (RHS) YTD since the stock-connect proceedings. Its Hong Kong-based
depository percentage ratio rose from 2.15% to 8.54% of total
F Y D ec ( R M B m) 2013A 2014A 2015A 2016A share capital as of 19 July 2017.
Turnov er 47,545 54,251 60,109 60,189 Cost pressure mitigated by lower A&P spending. Similar to
EBITDA 3,617 5,860 6,729 6,698
peers, Yili will face rising raw material cost pressure. That being
Pre-tax Profit 3,060 4,786 5,524 6,632
Net Profit 3,187 4,144 4,632 5,662 said, all dairy peers are focusing on cost control this year. We
Net Pft (Pre Ex.) 3,187 4,144 4,632 5,662 expect A&P expenses to be reduced after higher spending for
EPS (RMB) 0.55 0.68 0.95 0.93 Olympics last year and higher milk powder costs recorded now
EPS Gth (%) 55.5 21.7 40.3 (1.4)
y-o-y. In 1Q17, selling expenses as a percentage of sales fell
Diluted EPS (RMB) 0.55 0.68 0.95 0.93
DPS (RMB) 0.27 0.40 0.45 0.60 4.8ppts y-o-y against gross margin contraction of 3.6ppts.
BV Per Share (RMB) 2.63 3.04 3.30 3.81
On the prowl for M&As. Yili was outbid by Lactalis Dairy for
PE (X) 37.9 31.1 22.2 22.5
P/Cash F low (X) 21.9 54.7 10.9 9.9 Stonyfield (organic yogurt brand) in 1H17. With a net cash
P/F ree CF (x) 68.4 n.m. 31.0 18.8 position of Rmb13bn, we expect Yili to still be on the lookout to
EV /EBITDA (X) 32.4 21.4 14.5 17.2 enhance its existing product portfolio. Yili is trading at ex-cash
Net Div Yield (%) 1.3 1.9 2.1 2.9
PE of 18.4x FY1x PE which is attractive versus peers.
P/Book V alue (X) 8.0 6.9 6.4 5.5
Net Debt/Equity (X) Cash Cash Cash Cash
ROA E (%) 27.2 23.8 24.0 26.3
At A Glance
ICB Industry: Consumer Goods
Mkt. Cap (RMBm/US$m) 127,781 / 18,927
ICB Sector: Food Producers
Principal Business: Leading dairy player in China Major Shareholders
Hohhot Investment Co Ltd (%) 9.9
Source of all data on this page: Company, DBSV, Thomson Reuters, Free Float (%) 83.6
HKEX 3m Avg. Daily Val. (US$m) 187.9
Page 60
ed-TH / sa- DL
DBSV's discussion of the issuer in this report will not be continuously followed. Accordingly, this report is being provided as a stand-alone analysis and recipients of this report should not expect
additional reports relating to this issuer, unless so decided by DBSV
China Dairy Sector
FY16 earnings improvement from favourable raw material cost margin contracted 3.6ppt to 37.9% (1Q16: 41.5%) on higher
and product mix. In FY16, Yili's liquid sales (82% of FY16 sales) raw material costs.
grew 5% y-o-y (volume +3%, ASP +2%), while ice-cream sales
grew 2% (ASP +12%, volume -9%). Milk powder sales SG&A as % of sales trend
declined 15% y-o-y mainly on weaker sales volume. In FY16,
new SKU contribution reached 22.7% (+7ppt y-o-y), while star
35%
SKUs' (Satine, Anmuxi, Changqing, Pro-Kido, and Chocolat)
contribution reached 49% of sales (+3.2ppt y-o-y) 30%
25%
Sales growth (%) – by segment
20%
40% 15%
30% 10%
20%
5%
10%
0%
0% 2010 2011 2012 2013 2014 2015 2016
-10% Ad expenses Selling expenses Admin expenses
-20%
-30%
Liquid milk Ice-cream Milk powder &
dairy related
Commands strongest GPM among peers. Yili’s gross margin is
2010 2011 2012 2013 2014 2015 2016
the highest among peers at 38.2% in FY16, due to its higher
sales contribution from infant milk formula. Since August 2016,
Source: Company data, DBS VICKERS
imported milk powder’s upswing began to have a negative
impact on Yili’s gross margin.
FY16 sales breakdown (%) – By segment Gross margin trend
45%
Ice-cream
7% 40% 38%
Milk
powder & 35%
dairy
related 30%
9%
25%
Liquid milk
20%
82% Others
2% 15%
3Q08: Melaninine scandal
10% impacted dairy sector
5%
1Q08
3Q08
1Q09
3Q09
1Q10
3Q10
1Q11
3Q11
1Q12
3Q12
1Q13
3Q13
1Q14
3Q14
1Q15
3Q15
1Q16
3Q16
1Q17
Source: Company data, DBS VICKERS Source: Company data, DBS VICKERS
Cut in SG&A spending to match raw material cost inflation in

FY17. In FY17, Yili set out to achieve sales and net profit
growth of 7.2% and 9.5% y-o-y respectively. In 1Q17, the
company recorded sales and net profit growth of 3% and 12%
y-o-y respectively. This was driven by SG&A spending cut of
5.4ppt y-o-y, continuing the trend from 4Q16. However, gross
Page 61
China Dairy Sector
Cash ready for M&As. Yili’s capital expenditure averaged at
Rmb3.6bn in 2013-16, mainly focused on liquid milk capacity
expansion (5.9% free cash flow yield). This is similar to Hong Kong Northbound Trading (shareholding)
Mengniu’s capex spending of roughly Rmb3bn p.a. Yili is cash
rich against peers, with a net cash position at Rmb13.7bn. As Hong Kong De pository Re se rve
Yili failed to acquire US-based yogurt producer Stonyfield from No. of sha re s %
Danone for US$850m, we expect Yili to be on the prowl for 4Q14 66 2.15%
overseas acquisitions. Compared with its peers, Yili has been 1Q15 197 6.44%
more prudent in M&As. 2Q15 375 6.12%
3Q15 321 5.23%
4Q15 256 4.22%
Cash flow generation
1Q16 284 4.68%
2Q16 377 6.22%
15,000 3Q16 416 6.86%
4Q16 348 5.74%
10,000 1Q17 394 6.48%
2Q17* 519 8.54%
5,000
* Based on Stock Connect Shareholding 19/7/17
0 Source: Company data
(5,000)
(10,000)
(15,000)
2010 2011 2012 2013 2014 2015 2016
Net OCF CFI CFF
Source: Company data, DBS VICKERS
Shareholding structure (as of 1Q17)
Hohhot Investment 9.9%

Hong Kong Central Depository 6.5%
Pan Gang 3.9%
China Securities Finance Co., Ltd. 2.3%
Sunshine Insurance 1.8%
Others 75.6%
Source: Company data
Page 62
China Dairy Sector
Income Statement (RMB m) Balance Sheet (RMB m)
F Y Dec 2013A 2014A 2015A 2016A F Y D ec 2013A 2014A 2015A 2016A
Rev enue 47,545 54,251 60,109 60,189 Net F ixed Assets 12,786 14,981 16,269 15,474
Cost of Goods Sold (34,083) (36,400) (38,376) (37,427) Inv ts in Assocs & J V s 34 26 122 1,631
G ro ss Pro f it 13,462 17,851 21,733 22,762 Other LT Assets 3,590 3,487 3,454 1,964
Other Opg (Exp)/Inc (10,968) (13,414) (16,728) (17,617) Cash & ST Inv ts 8,140 12,461 12,217 13,211
O p erat in g Pro f it 2,495 4,437 5,005 5,145 Inv entory 3,683 5,008 4,663 4,326
Other Non Opg (Exp)/Inc 524 449 650 1,484 Debtors 522 652 719 686
Associates & J V Inc 4 (2) 6 (8) Other Current A ssets 4,122 2,880 2,187 1,969
Net Interest (Exp)/Inc 37 (99) (137) 10 T o t al A sset s 32,877 39,494 39,631 39,262
Exceptional Gain/(Loss) - - - -
Pre- t ax Pro f it 3,060 4,786 5,524 6,632 ST Debt 4,251 8,338 6,753 488
Tax 141 (619) (869) (963) Creditors 5,192 5,281 6,079 6,753
Minority Interest (14) (22) (23) (7) Other Current Liab 6,074 5,138 5,370 7,667
Preference Div idend - - - - LT Debt 0 704 0 0
Net Pro f it 3,187 4,144 4,632 5,662 Other LT Liabilities 1,047 1,212 1,283 1,119
Net Profit before Except. 3,187 4,144 4,632 5,662 Shareholder's Equity 16,125 18,634 19,984 23,082
EBITDA 3,617 5,860 6,729 6,698 Minority Interests 188 188 162 154
Rev enue Gth (%) 13.9 14.1 10.8 0.1 T o t al Cap . & L iab . 32,877 39,494 39,631 39,262
EBITDA Gth (%) 42.7 62.0 14.8 (0)
Opg Profit Gth (%) 52.3 77.9 12.8 2.8 Non-Cash Wkg. Cap (2,940) (1,878) (3,879) (7,439)
Effectiv e Tax Rate (%) (4.6) 12.9 15.7 14.5 Net Cash/(Debt) 3,889 3,419 5,463 12,723
Cash Flow Statement (RMB m) Rates & Ratio

F Y Dec 2013A 2014A 2015A 2016A F Y D ec 2013A 2014A 2015A 2016A
Pre-Tax Profit 3,060 4,786 5,524 6,632 Gross Margin (%) 28.3 32.9 36.2 37.8
Dep. & Amort. 1,123 1,423 1,724 1,553 Opg Profit Margin (%) 5.2 8.2 8.3 8.5
Tax Paid (2,504) (2,740) (3,654) (3,920) Net Profit Margin (%) 6.7 7.6 7.7 9.4
A ssoc. & J V Inc/(loss) - - - - ROA E (%) 27.2 23.8 24.0 26.3
(Pft)/ Loss on disposal of F As 59 15 26 23 ROA (%) 12.1 11.5 11.7 14.4
Non-Cash Wkg. Cap. 1,539 (3,714) 2,621 5,960 ROCE (%) 16.2 15.4 14.8 16.7
Other Operating CF 2,250 2,586 3,181 2,662 Div Pay out Ratio (%) 16.3 38.8 52.9 48.0
Net O p erat in g CF 5,528 2,356 9,422 12,910 Interest Cov er (x) n.a. 45.0 36.5 n.a.
Capital Exp. (net) (3,241) (3,946) (3,652) (3,419) A sset Turnov er (x) 1.8 1.5 1.5 1.5
Other Inv ts. (net) (3,150) 2,837 102 43 Debtors Turn (day s) 3.6 4.0 4.2 4.3
Inv ts. in A ssoc. & J V (3) - - - Creditors Turn (day s) 51.2 52.5 54.0 62.6
Div from Assoc. & J V - - - - Inv entory Turn (day s) 35.8 43.6 46.0 43.8
Other Inv esting CF - - - - Current Ratio (x) 1.1 1.1 1.1 1.4
Net In v est in g CF (6,394) (1,110) (3,550) (3,376) Quick Ratio (x) 0.8 0.9 0.8 1.1
Div Paid (521) (1,610) (2,451) (2,719) Net Debt/Equity (X) Cash Cash Cash Cash
Chg in Gross Debt 1,496 4,690 (2,586) (6,038) Capex to Debt (%) 76.2 43.6 54.1 700.7
Capital Issues 6,118 - - - N. Cash/(Debt)PS (RMB) 0.63 0.56 0.90 2.10
Other F inancing CF 223 (6) (1,079) 218 Opg CF PS (RMB) 0.96 0.38 1.93 2.13
Net F in an c in g CF 7,317 3,074 (6,116) (8,539) F ree CF PS (RMB) 0.31 (0.52) 0.68 1.12
Chg in Cash 6,451 4,320 (244) 995
Interim Income Statement (RMB m) Segmental Breakdown (RMB m) / Key Assumptions

F Y D ec 1H15 2H15 1H16 2H16 F Y Dec 2013A 2014A 2015A 2016A
Rev enue 30,024 30,085 29,910 30,279
Cost of Goods Sold (19,473) (18,902) (18,268) (19,160) R ev en u es
G ro ss Pro f it 10,551 11,183 11,642 11,119 F luid Milk Products 37,116 42,406 47,151 49,522
Other Oper. (Exp)/Inc (7,391) (9,337) (8,676) (8,940) Powdered Milk 5,512 6,013 6,447 5,456
O p erat in g Pro f it 3,160 1,845 2,966 2,179 Manufacturing
Other Non Opg (Exp)/Inc 113 544 833 621 Cold Bev erages 4,243 4,284 4,098 4,194
A ssociates & J V Inc (1) 23 Other Operating Income- 325 472 1,100 698
Net Interest (Exp)/Inc (84) (54) (14) 25 Technical Consulting
Exceptional Gain/(Loss) - - - - Mixed A nimal F eed 583 783 1,058 408
Pre- t ax Pro f it 3,188 2,335 3,807 2,825 Interest Income - 477 496 297
Tax (514) (355) (585) (378) Guarantee Income - - 9 33
Minority Interest (12) (11) (11) 3 Sales Tax (234) (185) (251) (420)
N et Pro f it 2,662 1,970 3,211 2,450 Adjustment - 0 - -
Net profit bef Except. 2,662 1,970 3,211 2,450
T o t al 47,545 54,251 60,109 60,189
Page 63
China Dairy Sector
H&H International
Bloomberg: 1112 HK Equity | Reuters: 1112.HK Refer to important disclosures at the end of this report
NOT RATED Cross-border e-commerce beneficiary

Last Traded Price ( 25 Jul 2017):HK$23.90 (HSI: 26,852)
Price Target 12-mth: n.a.  Top line spearheaded by recovering infant formula sales;
higher operating expenses planned to expand nutrition
Analyst sector growth
Alison FOK +852 2971 1938
alisonfok@dbs.com  Regulatory concerns priced in
Mavis HUI +852 2863 8879
mavis_hui@dbs.com  Valuation appears undemanding at 15x FY18F PE
Alice HUI CFA, +852 2971 1960
alicehuism@dbs.com
Previously known as Biostime International, Health & Happiness
Price Relative International (H&H) is a leading infant formula, adult nutrition
HK$ Relative Index
supplement and probiotic provider in China. It is notably known
70.8
210
190
for the brand offerings: Biostime and more recently, its
60.8 170 acquisition of Swisse. We believe regulatory issues may be
150
50.8
130 largely priced in. We are positive on the volume recovery in
40.8 110
90
infant formula as distributors begin to restock, while adult
30.8
20.8
70 nutrition might be mildly impacted by a change in stock
50
10.8 30 discounting structure implemented in 4Q16. Though consensus
expects an earnings decline in FY17F, valuation appears
H & H International (LHS) Relative HSI (RHS)
undemanding at 15x FY18F PE (based on consensus estimates),
Forecasts and Valuation versus its 5-year average of 23.7x.
F Y D ec ( R M B m) 2013A 2014A 2015A 2016A
Turnov er 4,561 4,732 4,819 6,506
EBITDA 1,261 1,150 627 1,949 Infant formula top-line recovery on pick-up in inventory level.
Pre-tax Profit 1,162 1,118 503 1,457
With stricter formula registration rules, competition and price
Net Profit 821 807 251 954
Net Pft (Pre Ex.) 821 807 251 954 risk were high in FY16 as players sought to reduce the number
EPS (RMB) 1.37 1.34 0.41 1.52 of product series offerings. Biostime reported a 3.7% y-o-y
EPS (HK$) 1.59 1.55 0.48 1.76 decline in FY16 baby and nutrition care (BNC) sales, dragged by
EPS Gth (%) 10.5 (2.2) (69.4) 270.7
Diluted EPS (HK$) 1.34 1.31 0.40 1.50
mid-tier Adimil brand, while Biostime brand rose 4.4% y-o-y.
DPS (HK$) 1.11 0.61 - - The company also launched an organic brand, Healthy Times
BV Per Share (HK$) 4.84 5.57 6.06 5.81 (acquired in July 2015), to capture the growing demand for
PE (X) 15.1 15.4 50.3 13.6 organic products. We expect inventory to resume healthier
P/Cash F low (X) 17.4 11.9 36.2 9.7
P/F ree CF (x) n.m. 30.0 296.9 10.3
levels in FY17 after cautiousness in the cross-border e-
EV /EBITDA (X) 9.1 10.0 30.5 9.3 commerce positive list announcement in April’16. In fact, H&H
Net Div Yield (%) 4.7 2.6 - - reported sales increase of 9% y-o-y from super premium and
P/Book V alue (X) 4.9 4.3 3.9 4.1 premium products, while baby nutrition and care sales rose
Net Debt/Equity (X) Cash Cash 1.9 1.7
ROA E (%) 33.9 29.7 8.1 29.6
10.8% y-o-y, driven by volume in 1Q17. The company has
already filed its CFDA registration and is now awaiting approval.
ICB Sector: Food Producers At A Glance
Principal Business: One of the top infant formula companies in China Issued Capital (m shrs) 633
under Biostime and Adimil Mkt. Cap (HK$m/US$m) 15,104 / 1,934
Source of all data on this page: Company, DBSV, Thomson Reuters, Major Shareholders
HKEX Biostime Pharmaceuticals (China) Limited (%) 71.6
Free Float (%) 28.4
3m Avg. Daily Val. (US$m) 4.6
Page 64
ed-TH / sa- DL
China Dairy Sector
H&H International
Adult nutrition and care. H&H paid RMB6.5bn for an 83% Quick solutions. To overcome the long registration period for
stake in Swisse (c.13x FY15 EBITDA), with the remaining 17% each SKU, H&H began to roll out certain offline products in
stake held by its founder. The deal was funded by new shares selected retail outlets such as Watsons and Sam’s clubs. These
(20.5m shares at HK$13.48/share) and a series of debt products pass off as normal goods (e.g. Hero products Hair,
issuances (HK$3.1bn convertible bonds due 2019). Swisse is the Skin and Nails, and Cranberry Concentrate) and help to balance
no. 1 nutrition brand in the healthcare category in both Tmall the company's overall channel mix.
and Taobao. In 1Q17, adult nutrition sales declined 0.5% on
tightening of discount policy, and higher base on regulatory
changes on CBEC. With the pending collaboration agreement on China, the
market expects P&G to allow H&H to operate and take up the
royalty fee. This reduces the operating risks for P&G in the long
The sector faces a few key issues: run. In May, the company derived a 4-year sales and marketing
investment plan to expand sales in Swisse adult nutrition which
will result in a significant jump in sales, marketing, distribution
(1) Cross-border e-commerce regulation, which was and other operating expenses. Compared with peers,
announced in April 2016, stipulated Positive Lists of items Herbalife's 5-year SG&A expense-to-sales was at c.38%, versus
which are exempted from an import license, while H&H's 35.5% in FY16.
products (infant formula and nutrition supplements)
under CFDA rules will require registration prior to import.
Improving operating leverage to partly offset increase in raw
 Administrative Measures for Registration and Filing of
material costs. H&H’s cost of sales comprises mainly milk
Health Food requires filing for certain imported
powder and packaging materials, whose prices are mostly on
vitamin and mineral supplements using approved raw
an uptrend y-o-y. That being said, improving infant formula
materials. The sector is waiting for supporting rules to
volumes should have some operating leverage to offset the
be fully released, following which the company will
increase in raw material prices.
commence the filing and registration procedures for
certain products.
Net gearing exceeds 100%. With the acquisition of the
remaining 17% equity interest in Swisse for AUD311m (or
(2) The company is tied to a Collaboration Agreement where
RMB1.56bn), net gearing now exceeds 186%. In January 2017,
PGT Healthcare (P&G) has the right to develop markets
the company issued senior notes for US$200m which was used
for Swisse’s products globally, except for the markets of
to fund the acquisition of the remaining stake. Free cash flow
Australia, New Zealand, North America and Canada. The
turned positive in FY16, which suggests some support from
agreement also grants an option to either (i) transfer its
improving financial position.
China business to P&G and receive 50% of operating
profit as well as a fee of between 4-7.75% based on net
outside sales (NOS), or (ii) to operate in China and pay
Valuation discounted on regulatory risks, focus on top-line
P&G a royalty (4.75%) based on NOS achieved after
growth. H&H is trading at 15x FY18F PE, which is at a 37%
exercise date. The earliest time for this to take place will
discount to its 5-year trading average. In the long run, we
be September 2020 with a 12-month prior notice. As of
believe both segments command strong growth potential,
2016, Swisse sales within China accounted for 6% of
supported by industry-wide policy changes (2-child policy) and
total net sales.
health consciousness. We believe distributors have begun
restocking their inventory levels (previously cautious on the
CBEX regulation's Positive List) as seen in 1Q operating metrics.
Page 65
China Dairy Sector
H&H International
FY D e c 2013A 2014A 2015A 2016A FY D e c 2013A 2014A 2015A 2016A
Re ve nue 4,561 4,732 4,819 6,506 Ne t Fixe d Asse ts 391 541 609 591
Cost of Goods Sold (1,586) (1,805) (1,834) (2,447) Invts in Assocs & JVs 41 40 35
Gr o s s P r o fi t 2 ,9 7 5 2 ,9 2 7 2 ,9 8 5 4 ,0 5 9 Othe r LT Asse ts 1,384 1,714 8,557 9,146
Othe r Opg (Exp)/Inc (1,741) (1,827) (2,446) (2,282) Ca sh & ST Invts 1,663 3,347 1,198 1,506
O p e r a t i n g P r o fi t 1 ,2 3 4 1 ,0 9 9 538 1 ,7 7 7 Inve ntory 972 797 856 775
Othe r Non Opg (Exp)/Inc (149) (8) 0 29 De btors 15 12 623 517
Associa te s & JV Inc 1 (0) (5) Othe r Curre nt Asse ts 216 179 1,961 1,634
Ne t Inte re st (Exp)/Inc 77 26 (35) (344) To t a l As s e t s 4 ,6 4 1 6 ,6 3 1 1 3 ,8 4 4 1 4 ,2 0 5
Exce ptiona l Ga in/(Loss) - - - -
P r e - t a x P r o fi t 1 ,1 6 2 1 ,1 1 8 503 1 ,4 5 7 ST De bt 751 4,740 1,974
Ta x (341) (312) (210) (405) Cre ditors 355 290 611 524
Minority Inte re st (42) (98) Othe r Curre nt Lia b 939 978 1,328 2,739
Pre fe re nce Divide nd - - - - LT De bt 2,411 2,659 4,785
N e t P r o fi t 821 807 251 954 Othe r LT Lia bilitie s 81 36 904 986
Ne t Profit be fore Exce pt. 821 807 251 954 Sha re holde r's Equity 2,516 2,917 3,293 3,162
EBITDA 1,261 1,150 627 1,949 Minority Inte re sts 309 35
Re ve nue Gth (%) 34.9 3.7 1.8 35.0 To t a l Ca p . & Li a b . 4 ,6 4 1 6 ,6 3 1 1 3 ,8 4 4 1 4 ,2 0 5
EBITDA Gth (%) 22.8 (8.8) (45.5) 211
Non-Ca sh Wkg. Ca p (91) (279) 1,501 (337)
Opg Profit Gth (%) 22.9 (10.9) (51.0) 230.0
Ne t Ca sh/(De bt) 912 937 (6,201) (5,253)
Effe ctive Ta x Ra te (%) 29.4 27.9 41.8 27.8
Pre -Ta x Profit 1,162 1,118 503 1,457 Gross Ma rgin (%) 65.2 61.9 61.9 62.4
De p. & Amort. 27 51 88 172 Opg Profit Ma rgin (%) 27.1 23.2 11.2 27.3
Ta x Pa id (347) (338) (280) (401) Ne t Profit Ma rgin (%) 18.0 17.1 5.2 14.7
Assoc. & JV Inc/(loss) - (1) 0 5 ROAE (%) 33.9 29.7 8.1 29.6
(Pft)/ Loss on disposa l of FAs 0 2 0 8 ROA (%) 20.1 14.3 2.4 6.8
Non-Ca sh Wkg. Ca p. (167) 151 5 (236) ROCE (%) 29.0 18.2 3.7 11.4
Othe r Ope ra ting CF 36 58 31 331 Div Pa yout Ra tio (%) 75.8 61.1 78.2 n.m.
N e t O p e r a t i n g CF 7 1 1 1 ,0 4 1 3 4 8 1 ,3 3 6 Inte re st Cove r (x) n.a . n.a . 15.2 5.2
Ca pita l Exp. (ne t) (136) (135) (109) (84) Asse t Turnove r (x) 1.1 0.8 0.5 0.5
Othe r Invts. (ne t) (5) (403) (4,094) (801) De btors Turn (da ys) 0.6 1.1 24.0 32.0
Invts. in Assoc. & JV - - - - Cre ditors Turn (da ys) 71.0 65.2 89.6 84.7
Div from Assoc. & JV - - - - Inve ntory Turn (da ys) 172.0 178.9 164.5 121.7
Othe r Inve sting CF - - - - Curre nt Ra tio (x) 1.4 3.4 0.7 0.8
N e t I n ve s t i n g CF (1 4 0 ) (5 3 8 ) (4 ,2 0 3 ) (8 8 5 ) Quick Ra tio (x) 0.9 2.8 0.6 0.7
Div Pa id (622) (493) (196) - Ne t De bt/Equity (X) Ca sh Ca sh 1.9 1.7
Chg in Gross De bt 480 1,664 4,740 (1,261)
Ca pe x to De bt (%) 18.1 5.6 1.5 1.2
Ca pita l Issue s (64) 9 12 5
N. Ca sh/(De bt)PS (RMB) 1.51 1.54 (9.84) (8.33)
Othe r Fina ncing CF (1) (1) (2,033) 982
Opg CFPS (RMB) 1.19 1.73 0.57 2.13
N e t Fi n a n c i n g CF (2 0 7 ) 1 ,1 7 9 2 ,5 2 4 (2 7 4 )
Fre e CFPS (RMB) (0.08) 0.69 0.07 2.00
Chg in Ca sh 364 1,682 (1,332) 177
FY De c 1 H1 5 2 H1 5 1 H1 6 2 H1 6 FY D e c 2013A 2014A 2015A 2016A
Revenue 1,963 2,856 3,008 3,497 R e ve n u e s
Cost of Goods Sold (820) (1,014) (1,080) (1,366) Infa nt Formula 3,752 3,982 3,356 3,204
Gro s s Pro fi t 1 ,1 4 3 1 ,8 4 2 1 ,9 2 8 2 ,1 3 1 Adult Nutrition a nd Ca re
Other Oper. (Exp)/Inc (866) (1,580) (1,156) (1,126) - - 850 2,683
Products
O p e ra ti n g Pro fi t 277 261 772 1 ,0 0 5
Othe r Pe dia tric Products - - 613 619
Other Non Opg (Exp)/Inc (12) 12 22 4
Drie d Ba by Food Products 199 151 - -
Associates & JV Inc (0) (3)
Ba by Ca re Products 152 173 - -
Net Interest (Exp)/Inc 15 (50) (130) (214)
Probiotic Supple me nts 458 425 - -
Exceptional Gain/(Loss) - - - -
To t a l 4 ,5 6 1 4 ,7 3 2 4 ,8 1 9 6 ,5 0 6
Pre -ta x Pro fi t 280 223 662 795
Tax (75) (135) (257) (148)
Minority Interest (42) (48) (50)
Ne t Pro fi t 205 46 357 597
Net profit bef Except. 205 46 357 597
Page 66
China Dairy Sector
Yashili Int'l
Bloomberg: 1230 HK EQUITY | Reuters: 1230.HK Refer to important disclosures at the end of this report
NOT RATED Poised for a comeback

Last Traded Price ( 25 Jul 2017):HK$1.42 (HSI: 26,852)  Net losses to narrow in FY17F
Price Target 12-mth: n.a.
 While pricing risk remains, volume is expected to recover in
2018
Analyst
Alison FOK +852 2971 1938 alisonfok@dbs.com  Valuation appears expensive at 72x FY18F PE on consensus
Mavis HUI +852 2863 8879 mavis_hui@dbs.com estimates as earnings have yet to normalise. On a P/B basis,
Alice HUI CFA, +852 2971 1960 alicehuism@dbs.com the counter trades at 1.06x versus 5-year average of 1.9x.
Price Relative Smaller losses in FY17. Yashili is a leading domestic infant

HK$ Relative Index formula manufacturer in China with a 4% market share (FY15:
5.7 209 4.2%). FY17F losses is expected to narrow as the company
5.2
4.7
189
169
continues to refine brand portfolio, to ramp up its New Zealand
4.2 149 plant and to reduce selling costs (channel changes). Due to the
3.7 129
3.2 109 pending infant formula registration, distributors have been
2.7
2.2
89
69
cautious and are holding fewer inventories, which resulted in a
1.7 49 sector-wide sales volume decline. However, this is likely to
1.2 29
Jul-13 Jul-14 Jul-15 Jul-16 Jul-17 bottom out, as peers like Biostime began to report sales growth
Yashili Int’l (LHS) Relative HSI (RHS) in 1Q17, driven by volume. Moreover, as better news flow on
accepted infant formula brands materialise in 2H, this will be
F Y D ec ( R M B m) 2013A 2014A 2015A 2016A positive to Yashili. The stock is trading at 72x FY18F PE (based
Turnov er 3,890 3,554 2,762 2,203 on consensus estimates), which appears expensive as earnings
EBITDA 567 477 92 (291) have yet to normalise. On a P/BV basis, the counter is trading at
Pre-tax Profit 577 393 123 (333) 1.06x against its 5-year average of 1.9x.
Net Profit 438 333 118 (320)
EPS (RMB) 0.12 0.09 0.03 (0.07)
EPS (HK$) 0.14 0.11 0.03 (0.08) Recovery in sales volume. Yashili will spearhead top-line growth
EPS Gth (%) (7.5) (24.4) (72.0) (357.7) with Alpha Golden and Super Golden formula brands, as well
Diluted EPS (HK$) 0.12 0.09 0.03 (0.07) as improvement in Scient, Dumex, Oishi and Arla brands. The
DPS (HK$) 0.04 0.02 0.01 - company has secured overseas processing capabilities with the
BV Per Share (HK$) 1.01 1.12 1.46 1.39
PE (X) 10.0 13.2 47.1 n.a. establishment of the NZ plant, as well as strategic agreements
P/Cash F low (X) 25.7 10.0 23.3 n.m. with Arla and Danone in Europe. Elsewhere, the company still
P/F ree CF (x) n.m. n.m. n.m. n.m. has five plants in China. We expect Yashili to shift some of the
EV /EBITDA (X) 5.8 6.4 30.0 (16.6) lines towards adult nutrition SKUs to lift its utilisation rate.
Net Div Yield (%) 3.0 1.7 0.6 -
P/Book V alue (X) 1.4 1.3 1.0 1.0 According to Euromonitor, infant formula market volume is still
Net Debt/Equity (X) Cash Cash Cash Cash expected to grow at 5-10% CAGR in 2016-19F (vs. 2013-16F
ROA E (%) 12.2 10.1 2.5 (5.5) CAGR of 12%).
ICB Sector: Food Producers At A Glance
Principal Business: One of the top infant formula companies in China Issued Capital (m shrs) 4,746
Mkt. Cap (HK$m/US$m) 6,727 / 861
Source of all data on this page: Company, DBSV, Thomson Reuters,
Major Shareholders
HKEX
China Mengniu (%) 51.0
Danone (%) 25.0
Free Float (%) 24.0
3m Avg. Daily Val. (US$m) 0.2
Page 67
ed-TH / sa- DL
China Dairy Sector
Yashili Int'l
Infant formula FY13-16 sales declined at a CAGR of 23%, Margin trend (%)
underperforming nutrition sector which grew 14% over
the same period 60% 53% 51% 51%
47%
50%
4,500
40%
4,000
30%
3,500 546
20% 11%
3,000 9%
10% 4%
2,500 534 12%
757 0% 9%
2,000
3,321 668 -10% -1% -15%
1,500
2,271 -20%
1,000 1,992
1,462 -30% -20%
500 2013 2014 2015 2016
0 Gross margin Operating margin Net margin
2013 2014 2015 2016
Infant formula Nutrition
Capital expenditure. With the completion of NZ plant, Yashili’s

Pricing risk will persist. With the pending CFDA registration to
capex of Rmb50-60m mainly pertains to maintenance and
have no more than three product series, or nine product recipes
production line upgrades. We expect Yashili to resume dividend
by 2018, Yashili has already established each product's
payout when it returns to the black. Separately, with a net cash
positioning in the market. Besides that, Yashili has penetrated
of Rmb1.3bn, we see possibility of M&A as another share price
deeper into professional formula products (allergy, digestive
catalyst.
related) through Dumex brand. That being said, while official
channels will see fewer candidates of brands available to
consumers, we still expect grey channels to have a strong Company background. Since 1998, Yashili has been engaged in
selection of brand offerings from overseas with cheaper options the production and sales of infant formula products and
available. nutrition foods. With the recent acquisitions, Yashili now has
six key brand offerings under Yashily, Scient, Dumex, Oumei
and Arla. The company has plants in Guangdong, Shanxi, Inner
Cost savings offset by higher raw material prices. Due to
Mongolia, Heilongjiang and New Zealand. Leveraging on its
operational deleveraging, Yashili's gross margin contracted to
strategic shareholders, Yashili also has base powder and dairy
47.0% in FY16 (vs. FY14 peak at 51.3%), while SG&A expenses
ingredient sourcing agreements for Danone and Arla. As for
to sales surged to 71% in FY16 (FY14: 46%) due to weak
adult nutrition, the company has Youyi (milk powder for adults
utilisation rate in the new NZ plant and employment layoff
and teenagers), Huanqing (adult milk powder) and Zhengwei
compensation (net reduction of 930 employees). In 1H17,
(cereal). In addition, infant rice cereal is also sold under Yashily
Fonterra whole milk powder prices reported a 50% y-o-y
brand.
increase. Aside from this, packaging costs also saw an increase
y-o-y (tin 13% y-o-y).
Page 68
China Dairy Sector
Yashili Int'l
Infant formula sales trend
2,000
Inclusion of Dumex, &
1,800 Oushi Mengniu (incl. Arla)
369
1,600
349 No longer disclose
1,400 each brand's
305 292 performance
1,200 274
1,000
164
800 113 68
1,521 86 50
1,334 163
600 1,144 1,140
1,030 59
400 803 774 695 637
200 486
0
1H12 2H12 1H13 2H13 1H14 2H14 1H15 2H15 1H16 2H16
Infant formula Yashily Formula Scient Formula Oushi Mengniu Dumex Arla
Yashili timeline
Da te De s c rip tio n
Se p-13 Me ngniu Group e nte re d into stra te gic coope ra tion with Ya shili by wa y of ge ne ra l offe r a t HK$3.5/sh for HK$12.46bn,
e nding with a 75.3% sta ke .
Oct-14 Da none e nte rs into sha re subscription a gre e me nt for 25% sta ke from Me ngniu a t HK$3.7/sh for HK$3.49bn, with the
de a l close d in Fe b'15. Me ngniu's sta ke wa s subse que ntly re duce d to 51%
Nov-15 Ya shili e nte rs into a stra te gic coope ra tion supply a gre e me nt with Da none to supply ba se powde r products a nd da iry
ingre die nts.
Nov-15 Ne w Z e a la nd pla nt forma lly comme nce d production in Nov'15. The pla nt cost NZ $220m with 52,000 tonne s in
ca pa city.
De c-15 Ya shili a cquire s Me ngniu's infa nt formula pla tform, Oushi Me ngniu, for Rmb1,050m a nd officia lly be ca me the sole
milk powde r pla tform for Me ngniu. The de a l va lue d Oushi Me ngniu for 13.2x FY14 PE. The e ntity he ld 1 fa ctory in
He lin.
Ma y-16 Ya shili a cquire s Dume x China for EUR150m (HK$1,230m) for its sa le s cha nne ls in 1st-2nd tie r citie s, a s we ll a s re -
optimising re source s with its production fa cilitie s in Sha ngha i. Dume x China wa s loss-ma king a t the time .
Se p-16 Cha irma n Je ffre y Lu le a ve s Ya shili to be come Me ngniu's Cha irma n.
Ja n-17 Chopin Z ha ng joins a s the e xe cutive dire ctor a nd CEO of the Compa ny from Dume x China .
Brand offerings
Name Brand Pric e t ier

Super α-Golden Yashily Ultra-high end
Ambery Golden Yashily Ultra-high end
Rui Bu En Mengniu Ultra-high end
Diamor Dumex Ultra-high end
Baby & Me Arla Ultra-high end
α-Golden Yashily Mid-high
Golden Scient Mid-high
Beauty Mengniu Mid-high
Precinutri Dumex Mid-end
Ordinary Pack Scient Mid-end
Oushi Mengniu Mid-end
Newwit Yashily Low-mid end
Milex Arla Low-mid end
Page 69
China Dairy Sector
Yashili Int'l

Re ve nue 3,890 3,554 2,762 2,203 Ne t Fixe d Asse ts 1,412 1,794 1,800 1,921
Cost of Goods Sold (1,810) (1,735) (1,359) (1,166) Invts in Assocs & JVs
Gr o s s P r o fi t 2 ,0 8 0 1 ,8 1 9 1 ,4 0 2 1 ,0 3 7 Othe r LT Asse ts 718 505 822 1,945
Othe r Opg (Exp)/Inc (1,598) (1,486) (1,468) (1,498) Ca sh & ST Invts 1,255 2,090 3,354 2,120
O p e r a t i n g P r o fi t 482 333 (6 5 ) (4 6 1 ) Inve ntory 886 833 641 620
Othe r Non Opg (Exp)/Inc 48 36 90 43 De btors 32 47 72 161
Othe r Curre nt Asse ts 214 424 975 1,199
Associa te s & JV Inc
To t a l As s e t s 4 ,5 1 7 5 ,6 9 3 7 ,6 6 4 7 ,9 6 6
Ne t Inte re st (Exp)/Inc 47 25 98 85
Exce ptiona l Ga in/(Loss) - - - -
ST De bt 154 141 462 1,143
P r e - t a x P r o fi t 577 393 123 (3 3 3 )
Cre ditors 346 294 272 238
Ta x (137) (61) (5) 12 Othe r Curre nt Lia b 834 1,163 941 873
Minority Inte re st (2) LT De bt 47 621
Pre fe re nce Divide nd - - - - Othe r LT Lia bilitie s 25 23 8 11
N e t P r o fi t 438 333 118 (3 2 0 ) Sha re holde r's Equity 3,110 3,450 5,981 5,702
EBITDA 567 477 92 (291) Minority Inte re sts
Re ve nue Gth (%) 6.4 (8.7) (22.3) (20.2) To t a l Ca p . & Li a b . 4 ,5 1 7 5 ,6 9 3 7 ,6 6 4 7 ,9 6 6
EBITDA Gth (%) (11.5) (15.9) (80.7) (416)
Opg Profit Gth (%) (13.9) (31.0) (119.6) 605.3 Non-Ca sh Wkg. Ca p (49) (154) 475 870
Effe ctive Ta x Ra te (%) 23.8 15.5 3.7 3.7 Ne t Ca sh/(De bt) 1,053 1,327 2,892 977

FY D e c 2013A 2014A 2015A 2016A
FY D e c 2013A 2014A 2015A 2016A
Pre -Ta x Profit 577 393 123 (333)
Gross Ma rgin (%) 53.5 51.2 50.8 47.1
De p. & Amort. 86 145 157 170
Opg Profit Ma rgin (%) 12.4 9.4 (2.4) (20.9)
Ta x Pa id (196) (78) (97) (58)
Ne t Profit Ma rgin (%) 11.2 9.4 4.3 (14.5)
Assoc. & JV Inc/(loss) - - - -
ROAE (%) 12.2 10.1 2.5 (5.5)
(Pft)/ Loss on disposa l of FAs 5 45 34 8
ROA (%) 8.7 6.5 1.8 (4.1)
Non-Ca sh Wkg. Ca p. (257) 81 107 (168)
ROCE (%) 9.4 7.4 (1.2) (6.7)
Othe r Ope ra ting CF (46) (150) (80) 5
Div Pa yout Ra tio (%) 321.7 39.5 63.0 (11.1)
N e t O p e r a t i n g CF 169 437 243 (3 7 5 )
Inte re st Cove r (x) n.a . n.a . n.a . n.a .
Ca pita l Exp. (ne t) (255) (713) (344) (72)
Asse t Turnove r (x) 0.8 0.7 0.4 0.3
Othe r Invts. (ne t) 53 (380) (1,570) (416)
De btors Turn (da ys) 2.8 4.1 7.8 19.3
Invts. in Assoc. & JV - - - -
Cre ditors Turn (da ys) 76.4 67.4 76.0 79.8
Div from Assoc. & JV - - - -
Inve ntory Turn (da ys) 155.2 180.9 197.9 197.4
Othe r Inve sting CF - - - -
Curre nt Ra tio (x) 1.8 2.1 3.0 1.8
N e t I n ve s t i n g CF (2 0 2 ) (1 ,0 9 3 ) (1 ,9 1 4 ) (4 8 7 )
Quick Ra tio (x) 1.1 1.6 2.6 1.5
Div Pa id (1,408) (131) (75) (35)
Ne t De bt/Equity (X) Ca sh Ca sh Ca sh Ca sh
Chg in Gross De bt (15) 399 (298) -
Ca pe x to De bt (%) 126.6 93.5 74.5 6.3
Ca pita l Issue s 31 - 3,469 -
N. Ca sh/(De bt)PS (RMB) 0.30 0.37 0.61 0.21
Othe r Fina ncing CF (38) (12) (357) (265)
Opg CFPS (RMB) 0.05 0.12 0.05 (0.08)
N e t Fi n a n c i n g CF (1 ,4 2 9 ) 2 5 6 2 ,7 3 9 (3 0 1 )
Fre e CFPS (RMB) (0.42) (0.11) (0.04) (0.10)
Chg in Ca sh (1,462) (400) 1,068 (1,163)
FY D e c 1H15 2H15 1H16 2H16 FY D e c 2013A 2014A 2015A 2016A
Re ve nue 1,465 1,600 1,147 1,057 R e ve n u e s
Cost of Goods Sold (743) (761) (566) (600) Infa nt Milk Formula - - - 1,462
Gr o s s P r o fi t 722 839 580 457 Nutrition Products 546 799 757 668
Othe r Ope r. (Exp)/Inc (709) (879) (676) (822) Othe rs-Sa le s of Pa cking
O p e r a t i n g P r o fi t 13 (4 1 ) (9 5 ) (3 6 6 ) 23 20 13 73
a nd Ra w Ma te ria ls
Othe r Non Opg (Exp)/Inc 56 34 31 12 Ya shily Pe dia tric Milk
Associa te s & JV Inc 2,661 1,833 1,470 -
Formula Products
Ne t Inte re st (Exp)/Inc 55 40 51 34 Oushi Me ngniu Milk
Exce ptiona l Ga in/(Loss) - - - - - 464 323 -
Formula Products
P r e - t a x P r o fi t 123 33 (1 3 ) (3 2 0 ) Scie nt Pe dia tric Milk
Ta x (14) 10 28 (15) 661 438 199 -
Formula Products
Minority Inte re st
To t a l 3 ,8 9 0 3 ,5 5 4 2 ,7 6 2 2 ,2 0 3
N e t P r o fi t 109 43 15 (3 3 5 )
Ne t profit be f Exce pt. 109 43 15 (335)
Page 70
China Dairy Sector
Appendix
Prices - corn Prices - alfalfa
Rmb/ton US$/ton
2,800 250
2,600
2,400 200
2,200
2,000 150
1,800
1,600 100
1,400
50
1,200
1,000
0
May/13
May/14
May/15
May/16
May/17
Sep/13
Sep/14
Sep/15
Sep/16
Jan/14
Jan/15
Jan/16
Jan/17
2010 2011 2012 2013 2014 2015 2016
Prices – Soybean meal Prices - Sugar
US$/ton RMB/ton
550 8,000
7,500
500
7,000
450 6,500
6,000
400
5,500
350 5,000
4,500
300
4,000
250 3,500
May/14
Oct/14
Feb/16
Mar/15
Sep/15
Jan/17
Dec/13
Jun/17
Jul/16
May/10
May/11
May/12
May/13
May/14
May/15
May/16
May/17
Nov/10
Nov/11
Nov/12
Nov/13
Nov/14
Nov/15
Nov/16
Packaging prices - PET Packaging prices - Aluminium
RMB/ton RMB/ton
13,000 18,000
12,500
12,000 16,000
11,500
11,000 14,000
10,500
10,000 12,000
9,500
9,000 10,000
8,500
8,000 8,000
Mar/17
Mar/17
Jan/16
Jan/17
Jan/16
Jan/17
Jan/14
Jan/15
Jan/14
Jan/15
Jun/17
Jun/17
Jul/16
Jul/16
Jul/14
Jul/15
Jul/14
Jul/15
Nov/13
Nov/13
Oct/16
Oct/16
Oct/14
Oct/15
Oct/14
Oct/15
Apr/16
Apr/16
Apr/14
Apr/15
Apr/14
Apr/15
Source: Bloomberg Finance L.P, USDA, DBS Vickers

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China Dairy Sector
China’s yogurt growth vs. overseas Growth trend of UHT milk
30% YoY Growth Rate

50%
25% 45%
40%
20% 35%
30%
15% 25%
20%
10% 15%
10%
5% 5%
0%
2010
2011
2012
2013
2014
2015
2016
0%
2012 2014 2016 2018F 2020F
World APAC China Top 3 Premium UHT Milk Brands UHT Milk
Source: Euromonitor, DBS Vickers

Page 72
China Dairy Sector
Market share – Upstream Market share – Infant formula
China Shengmu
Modern Dairy 1.7%
2.8% Nestle
16%
Bright Dairy
1.0%
Japfa Danone
1.0% 8%
Zhongdi Dairy Mead Johnson

Others 8%
0.6%
54%
Others YST Dairy Abbott

92.2% 0.7% 8%
Yili
6%
Market share – Liquid milk (%) Market share – Chilled products
100% 100%
90% 90%
80% 38.5% 38.2% 80% 39.4% 41.7%
70% 70%
60% 8.5% 7.6% 60%
50% 50% 15.3% 15.6%
40% 25.7% 26.8% 40%
16.9% 15.1%
30% 30%
20% 20%
27.3% 27.4% 28.4% 27.6%
10% 10%
0% 0%
2015 2016 2015 2016
Mengniu Yili Bright Dairy Others Mengniu Yili Bright Dairy Others
Market share –UHT products
100%
90%
32.5% 32.4%
80%
70%
9.9% 8.4%
60%
50%
30.0% 31.3%
40%
30%
20%
27.6% 27.9%
10%
0%
2015 2016
Mengniu Yili Bright Dairy Others
Source: AC Nielsen, Euromonitor, DBS Vickers

Page 73
China Dairy Sector
Infant formula – overseas manufacturing plants registered with CNCA
No. Count ry M anuf ac t ure name No. Count ry M anuf ac t ure name
1 Singapore Wy eth Nutritionals 35 F rance COOPERATIV E ISIGNYSAINTE MERE
CELIA-LAITERIE DE
2 Singapore Abbott Manufacturing 36 F rance
CRAON
Py eongtaek factory , Maeil Dairies
3 Korea 37 F rance LACTINOV ABBEV ILLE
Co.,Ltd
4 Korea LOTTE F OODS CO 38 F rance NUTRIBIO
LAITERIE DE MONTAIGU SAS
5 Korea Namy ang Dairy Products 39 F rance
SABOURIN
Samy ang Packaging Corporation
6 Korea 40 F rance UNION LAITIERE V ENISE V ERTE
Kwanghaewon Plant
7 Korea Ildong F oodis Chuncheon Plant 41 F rance EV EN SANTE INDUSTRIE
8 New Zealand Nutricia Limited 42 F rance SYNUTRA F rance International SAS
9 New Zealand NIG Nutritionals 43 Germany Töpfer GmbH
10 New Zealand Canpac International 44 Germany Nestlé Deutschland AG
11 New Zealand Sy nlait Milk 45 Germany Milupa GmbH
Milchwirtschaftliche Industrie
12 New Zealand Blue Riv er Dairy LP 46 Germany
Gesellschaft Herford GmbH & Co. KG
13 New Zealand Sutton Group 47 Germany CREMILK GmbH
14 New Zealand Dairy Goat Co-operativ e 48 Ireland Kerry Ingredients (Ireland)
15 New Zealand New Zealand New Milk 49 Ireland Abbott Ireland
16 New Zealand Yashili New Zealand Dairy 50 Ireland Wy eth Nutritionals Ireland
17 New Zealand GMP Dairy Limited 51 Ireland Nutricia Infant Nutrition
18 New Zealand Alpha Laboratories (NZ) 52 Italy GRANAROLO S.P.A
19 New Zealand Health Pak 53 Holland MEAD J OHNSON B.V
20 New Zealand New Zealand Pure Dairy 54 Holland NESTLE NEDERLAND
Camperdown Powder (export
21 Australia 55 Holland F rieslandCampina Domo
license suspeneded)
22 Australia V IPLUS DAIRY 56 Holland ABBOTT LABORATORIES
23 Australia SPHERE HEALTHCARE 57 Holland Ly pack Leeuwarden B.V .
24 Australia F ARMLAND DAIRY PTY 58 Holland Nutricia Cuijk B.V .
25 Australia asis 59 Holland Industriële Diensten Heino
26 Australia TATURA MILK INDUSTRIES 60 Poland GEO-POLAND SP.
27 Australia MURRAY GOULBURN 61 Switzerland HOCHDORF Swiss Nutrition Ltd.
28 Australia BLEND AND PACK 62 Switzerland HOCHDORF Swiss Nutrition Ltd.
29 Austria Agrana Stärke GmbH 63 Switzerland Nestlé Suisse S.A.
Pöll Beteiligungs GmbH & CO.KG- INDUSTRIAS LACTEAS
30 Austria 64 Spain
Gittis Naturprodukte ASTURIANAS,S.A.
31 Belgium Belgomilk CV BA 65 Spain ALTER F ARMACIA, S.A.
32 Denmark Arla F oods amba Arinco 66 Spain ABBOTT LABORATORIES S.A.
Arla F oods amba Esbjerg
33 Denmark 67 Spain HERO ESPAÑA, S.A.
Mejeri Dairy
V olkov y sk Open J oint
34 United Kingdom Kendal Nutricare Ltd 68 Belarus
Stock Company «Bellakt »
Source: CNCA, DBS Vickers

Page 74
China Dairy Sector
Upstream sector
2013 2014 2015 2016

Consolidat ed sales (RM B m)
China Modern Dairy 3,289 5,027 4,826 4,862
Shengmu 1,144 2,132 3,101 3,467
YST Dairy 881 1,163 1,033 1,029
Upst ream sales (RM B m)
Shengmu 841 1,393 1,445 1,360
YST Dairy 881 1,163 1,033 1,029
Upst ream as % of t ot al
China Modern Dairy 90 83 69 70
Shengmu 74 65 47 39
YST Dairy 100 100 100 100
Dow nst ream sales (RM B m)
China Modern Dairy 321 833 1,502 1,479
Shengmu 303 739 1,656 2,106
YST Dairy 0 0 0 0
G ross margin (%) - c onsolidat ed
China Modern Dairy 38.2 37.1 34.4 33.0
Shengmu 42.9 50.2 47.7 48.3
YST Dairy 42.6 45.7 36.8 33.0
Herd siz e
Shengmu 37,343 103,252 111,395 123,329
YST Dairy 40,396 44,623 49,795 54,749
Sales v olume (t onne/annum)
China Modern Dairy 679,722 931,334 924,092 1,009,854
Shengmu 183,702 344,696 514,668 598,379
YST Dairy 183,702 230,121 233,275 258,675
Raw milk A SP (c onso)
Shengmu 5.29 5.25 4.90 4.45
YST Dairy 4.79 5.05 4.43 3.98
M ilk y ield (t onne/annum)
YST Dairy 9.8 10.8 10.7 10.7
Selling & admin ex penses (% of sales)
China Modern Dairy 6% 6% 9% 22%
Shengmu 9% 11% 12% 12%
YST Dairy 7% 6% 10% 9%

Page 75
China Dairy Sector
Downstream Operators
20 1 3 2 01 4 2 0 15 2016
Co n so lid at ed sales ( R M B m)
Mengniu 43,357 50,049 49,027 53,779
Bright 16,290 20,650 19,373 20,207
Yili 47,779 54,436 59,515 60,609
G ro ss p ro f it (R mb m)
Mengniu 11,697 15,434 15,375 17,635
Bright 5,576 6,972 6,899 7,697
Yili 13,462 17,851 21,733 22,885
G ro ss marg in (% )
Mengniu 27.0 30.8 31.4 32.8
Bright 34.2 33.8 35.6 38.1
Yili 28.2 32.8 36.5 37.8
S&D ex penses ( R mb m)
Mengniu (8,168) (10,564) (10,985) (13,435)
Bright (4,410) (5,471) (5,392) (5,619)
Yili (8,546) (10,075) (13,258) (14,114)
A d min ex pen se (R mb m)
Mengniu (1,606) (1,941) (1,871) (2,471)
Bright (484) (585) (683) (772)
Yili (2,392) (3,163) (3,456) (3,457)
SG &A (% )
Mengniu 22.5 25.0 26.2 29.6
Bright 30.0 29.3 31.4 31.6
Yili 22.9 24.3 28.1 29.0
O p erat in g marg in (% )
Mengniu 4.27 5.32 5.40 (0.78)
Bright 4.17 3.75 4.17 6.26
Yili 5.50 8.35 8.60 9.15
Net p ro f it ( R mb m)
Mengniu 1,631 2,351 2,367 (751)
Bright 406 570 418 563
Yili 3,187 4,144 4,632 5,662
Net g earin g (x )
Mengniu 26% 24% 14% 12%
Bright Net cash Net cash Net cash Net cash
Yili Net cash 12% Net cash Net cash
CA PEX
Mengniu (2,867) (2,931) (3,043) (3,268)
Bright (3,241) (3,946) (3,652) (3,419)
Yili (1,195) (1,797) (2,166) (1,290)
O CF
Mengniu 3,284 3,080 1,909 4,513
Bright 5,475 2,436 9,536 9,536
Yili 1,305 338 1,866 2,609

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China Dairy Sector
Nestle: company historic development and M&As
1800s 1900 - 1910 1911 - 1920 1921 - 1930 1931 - 1940 1941 - 1950 1951 - 1960 1961 - 1970 1971 - 1980 1981 - 1990 1991 - 2000 2001 - 2010 2011 - 2020
Nestle Established a
Launched Alimentana JV with Coke
Be verage Nestle Instant launched Cola in 1991,
Coffee in 1938 Nestle Iced Tea producing Iced
in 1948 Tea
- Acquired Uncle
Established JV Toby’s in 2006, an - Acquired
Nutrition & Founded Nestle Launched baby with General Australian breakfast Wyeth in 2012
He alth by Henri Nestle rice cereal Mills in 1991,
cereal producer - Acquired US-
Ca re in 1867, selling “Cerelac” in selling - Acquired Gerber based Pamlab
P r oducts baby food 1954 breakfast
in 2007 from in 2013
cereal products Novartis
Acquired - Acquired
Germany Swiss brand
Merged with Acquired Egron Acquired US- Acquired
based Jopa and Frisco in 1962
Anglo-Swiss in 1916, a based Movenpick &
Da iry & Ice Condensed Norway-based French brand - Acquired Carnation in Dreyer’s in 2003
Cr eam Heudebert- Chambourcy in
Milk Company dairy company 1985
in 1905 Gervals in 1968, a French
1960 yogurt
producer
Acquired - Acquired frozen food - Acquired frozen food
Alimentana in Acquired company Stouffer in business from Chef
P repared 1947, a company frozen food 1973 America in 2003
F ood & with major company - Acquired canned - Acquired frozen pizza
F lavourings products of soup Findus in 1962 food company McNeill business from Kraft in
& flavourings & Libby in 1976 2010
Entered pet Acquired US-based

food market by Purina in 2001
P et Food acquisition of
Friskies in 1985
Launched first Acquired Peter- Acquired Kowntree

chocolate Cailler-Kohler in Mackintosh in 1988,
Chocolate product in 1929, the biggest bringing KitKat, After
& S weets 1904 chocolate company Eight & Smarties to
in Switzerland Nestle family
- Acquired French
Acquired mineral water Acquired Swiss
French brand company Perrier in brand Henniez
Dr inking
Vittel in 1969 1992 in 2007
Wa ter
- Acquired Italy-based
San Pelligrino in 1998
Obtained Established
shares of Galderma, a JV
O t hers L'Oréal in 1974 with L'Oréal in
1981
Source: Company, Bloomberg Finance L.P.

Page 77
China Dairy Sector
Products of Bright Dairy
Fresh Milk
UHT milk
Yogurt
Milk Powder
Butter / Cheese
Source: Company

Page 78
China Dairy Sector
Products of China Mengniu
Ice-cream
Milk Beverage
Milk powder
UHT Milk
Yogurt
Source: Company

Page 79
China Dairy Sector
Products of Mongolia Yili Industrial Group
Ice Cream
Innovative
Milk beverage
UHT Milk
Milk Powder
Yogurt
Source: Company

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China Dairy Sector
This page has been left blank intentionally

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China Dairy Sector

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China Dairy Sector

Page 83
China Dairy Sector
DBSVHK recommendations are based an Absolute Total Return* Rating system, defined as follows:
STRONG BUY (>20% total return over the next 3 months, with identifiable share price catalysts within this time frame)
BUY (>15% total return over the next 12 months for small caps, >10% for large caps)
HOLD (-10% to +15% total return over the next 12 months for small caps, -10% to +10% for large caps)
FULLY VALUED (negative total return i.e. > -10% over the next 12 months)
SELL (negative total return of > -20% over the next 3 months, with identifiable catalysts within this time frame)
* Share price appreciation + dividends
Completed Date: 28 Jul 2017 08:45:36 (HKT)

Dissemination Date: 28 Jul 2017 18:07:32 (HKT)
Sources for all charts and tables are DBS Vickers unless otherwise specified.
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This report is prepared by DBS Vickers (Hong Kong) Limited (“DBSV HK”). This report is solely intended for the clients of DBS Bank Ltd., DBS Bank
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corporations and affiliates only and no part of this document may be (i) copied, photocopied or duplicated in any form or by any means or (ii)
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The research set out in this report is based on information obtained from sources believed to be reliable, but we (which collectively refers to DBS
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China Dairy Sector
ANALYST CERTIFICATION
The research analyst(s) primarily responsible for the content of this research report, in part or in whole, certifies that the views about the
companies and their securities expressed in this report accurately reflect his/her personal views. The analyst(s) also certifies that no part of his/her
compensation was, is, or will be, directly or indirectly, related to specific recommendations or views expressed in the report. The research analyst (s)
1
primarily responsible for the content of this research report, in part or in whole, certifies that he or his associate does not serve as an officer of
the issuer or the new listing applicant (which includes in the case of a real estate investment trust, an officer of the management company of the
real estate investment trust; and in the case of any other entity, an officer or its equivalent counterparty of the entity who is responsible for the
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2
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COMPANY-SPECIFIC / REGULATORY DISCLOSURES

1. DBS Bank Ltd, DBS HK, DBSVS, DBSV HK or their subsidiaries and/or other affiliates have a proprietary position in China Mengniu
Dairy Company Limited (2319 HK) recommended in this report as of 26 Jul 2017.
2. Neither DBS Bank Ltd, DBS HK nor DBSV HK market makes in equity securities of the issuer(s) or company(ies) mentioned in this
Research Report.
3. Compensation for investment banking services:

DBS Bank Ltd, DBS HK, DBSVS, DBSV HK, their subsidiaries and/or other affiliates of DBSVUSA have received compensation, within the
past 12 months for investment banking services from China Mengniu Dairy Company Limited (2319 HK) and COFCO Meat Holdings
Limited (1610 HK) as of 30 Jun 2017.
DBS Bank Ltd, DBS HK, DBSVS, DBSV HK, their subsidiaries and/or other affiliates of DBSVUSA, within the next 3 months, will receive
or intend to seek compensation for investment banking services from China Merchants Port Holdings Company Limited (144 HK) as of
30 Jun 2017.
4. DBS Bank Ltd, DBS HK, DBSVS, DBSV HK, their subsidiaries and/or other affiliates of DBSVUSA have managed or co-managed a public
offering of securities for China Mengniu Dairy Company Limited (2319 HK), Japfa Comfeed Indonesia (JPFA IJ) and COFCO Meat
Holdings Limited (1610 HK) in the past 12 months, as of 30 Jun 2017.
DBSVUSA does not have its own investment banking or research department, nor has it participated in any public offering of securities
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DBS Bank Ltd, DBSVS, DBSVHK, their subsidiaries and/or other affiliates of DBSVUSA may have published other investment
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1
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new listing applicant notwithstanding the fact that the scheme has investments in securities in respect of an issuer or a new listing applicant.

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China Dairy Sector
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China Dairy Sector
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Insights Focusing On Dairys Downstream Segment

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Insights Focusing On Dairys Downstream Segment

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Asian Insights SparX

China Dairy Sector

DBS Group Research . Equity 28 Jul 2017

Downstream is key HSI: 26,852

ASIAN INSIGHTS VICKERS SECURITIES

Note: Prices used as of 25 Jul 2017

ASIAN INSIGHTS VICKERS SECURITIES

ASIAN INSIGHTS VICKERS SECURITIES

Ta rge t Mkt PE PE PE Yie ld Yie ld P/Bk P/Bk ROE ROE

Multina tiona l Bra nds

# FY17: FY18; FY18: FY19

Source: Thomson Reuters, *DBS Vickers

ASIAN INSIGHTS VICKERS SECURITIES

How much dairy is China consuming? China - raw milk production

On a per capita basis, dairy consumption in China is (m)

…But consumption stays on the growth track

What is driving demand? Growing population, rising

(kg/person) CA G R 2009/14 2014/18E

ASIAN INSIGHTS VICKERS SECURITIES

m Nov'11: If both parents are Oct'15: Any parents

Source: NBS, DBS Vickers

Dairy imports also on the rise

Dairy imports have been growing at a phenomenal rate in

Import volume – dairy products

ASIAN INSIGHTS VICKERS SECURITIES

Source: China Customs, DBS Vickers

ASIAN INSIGHTS VICKERS SECURITIES

Trends and opportunities Yogurt consumption per capita (2016)

Factors behind rising demand Retail value RSP, USD

China’s dairy market

ASIAN INSIGHTS VICKERS SECURITIES

Flavoured milk drinks falling out of flavour. As Chinese

Segmental CAGR in China UHT Milk - premiumisation trend in China

China dairy - market share breakdown (2011-2021F) Source: Euromonitor

2011 Another example could be fresh milk products, as there is

2021F Bright: premium brands posted faster growth

0% 20% 40% 60% 80% 100% USD mn

Premium Brand Non-premium Brand

ASIAN INSIGHTS VICKERS SECURITIES

Over the past 6 years, the market share of Top-5 plain

ASIAN INSIGHTS VICKERS SECURITIES

ii) Brand diversification

ASIAN INSIGHTS VICKERS SECURITIES

Some examples of brand diversification Sales of plant-based milk in China

ASIAN INSIGHTS VICKERS SECURITIES

Quick comparison: plant-based drinks vs. cow’s milk

lac t ose- low high sat urat ed ot her

Source: Healthline, Livestrong

Online dairy sales: market players in China (2016)

So far, e-commerce players, including JD.com and Alibaba’s Source: Syntun

ASIAN INSIGHTS VICKERS SECURITIES

Sales (LHS) Growth (RHS)

Sales of IMF products have stayed strong as PRC consumers

More dairy categories demanded via e-commerce (sales breakdown by category)

Milk beverages Adult

ASIAN INSIGHTS VICKERS SECURITIES

M&As – The large gets larger

ASIAN INSIGHTS VICKERS SECURITIES

Nestlé – a classic case

Nestlé, currently the world’s largest food & beverage

ASIAN INSIGHTS VICKERS SECURITIES

Recent major acquisition of Nestle (by segment)

Dat e T arg et c o mp an ies Deal siz e Cu rren c y Pay ment