Could this forgotten small cap be the next A2 Milk Company Ltd?

This small cap has surged to a record high but not many investors would have paid attention given its chequered past but the stock is on a comeback and may have more growth options than A2 Milk Company Ltd (ASX:A2M).

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The share price of Clover Corporation Limited (ASX: CLV) has hit a record high as it rides the boom in demand for infant formula in China, but most investors probably wouldn’t have noticed or even heard of the emerging company.

But it’s climb is pretty stellar with the stock surging 165% over the past year to hit $1.27 during lunch time trade today compared to the 3% gain by the All Ordinaries (Index:^AORD) (ASX:XAO) index.

Clover’s performance isn’t quite as good as the sector “gods” A2 Milk Company Ltd (ASX: A2M) or Bellamy s Australia Ltd (ASX: BAL), with their 200% plus surge over the same period, but some might argue that Clover has more growth levers it can pull.

Ord Minnett initiated coverage on the stock and described Clover’s business as “selling shovels to the gold miners”, as the company has developed a way to encapsulate Docosahexaenoic acid (DHA), an omega-3 fatty acid, so it can be added into a range of products like infant formula.

This also reminds me of the opportunity for Nufarm Limited (ASX: NUF) with its new range of omega-3 enriched seed products (click here to read more about this).

Clover, which has a chequered past, has contracts with many of the leading infant formula manufacturers around the world and that gives the company exposure to the booming Chinese market.

This diverse client base also provides Clover with some protection against the event that a brand loses favour with Chinese consumers – an issue that nearly brought Bellamy’s to its knees in 2016.

But it isn’t only the bullish outlook for the Chinese market that is providing a tailwind for Clover. There are a number of “easy wins” that could propel the stock higher, according to Ord Minnett. This includes an expected increase in Clover’s gross margin from contract renegotiations, cost of goods sold (COGS) savings and an improved product mix.

The company has also invested in a spray dryer, which will help pad margins and provide Clover with the flexibility to ease price pressure with customers.

Changing regulations in the European market are another potential windfall for Clover as EU regulators require manufacturers to double the DHA content in EU-sold infant formula from 2020.

These factors are the reasons why Ord Minnett is forecasting Clover’s earnings per share (EPS) to grow at a compound annual growth rate (CAGR) of 28% from FY18 to FY21.

What’s more, the broker has not factored in the upside from Clover’s potential expansion into sports nutrition, acquisitions that the company may undertake and changes to DHA levels in other jurisdictions to follow the lead of the EU.

Ord Minnett has a “buy” rating on the stock with a price target of $1.40 a share.

Infant formula and the Chinese boom aren’t the only big investment themes to hit our market. The experts at the Motley Fool believe there is another boom that is just starting to take off.

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*Returns as of January 12th 2022

Motley Fool contributor Brendon Lau has no position in any of the stocks mentioned. The Motley Fool Australia owns shares of A2 Milk. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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