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The a2 Milk share price has rebounded 30% since November, but is it a buy?

After suffering through a substantial lull in its share price, the A2 Milk Company Ltd (ASX: A2M) has been on a tear recently. Since early November, shares in the dairy nutrition company have rebounded close to 30% to $14.63 as at yesterday’s close. But this was after they’d already crashed to their lowest value since February. It’s fair to say that it’s been a topsy-turvy few months for shareholders.

A closer look at a2 Milk’s recent performance

The sell-off of a2 Milk shares began seemingly in anticipation of the company’s FY19 results announcement. Despite the company delivering top line revenue of NZ$1.3 billion – an annual increase of more than 41% – and a 47% uplift in net profit after tax to NZ$287.7 million, investors may have been rueing the fact that profits could have been even higher if it weren’t for a significant increase in marketing investment during the year.

New company CEO Jayne Hrdlicka, who had only taken up the role in August 2018 after the exit of long-serving CEO Geoff Babidge, stated that the company had stepped up its push into the Chinese and US markets through a massive 83.7% increase in marketing expenditure. While this expansive growth strategy is exciting, it exposes a2 Milk to a range of new risks, making the company’s short-term profitability more difficult for analysts to predict.

The turnaround in the share price came in the second half of November after a2 Milk’s AGM, in which the company provided an updated outlook for FY20. Its earnings before interest, tax, depreciation and amortisation (EBITDA) margin was now expected to be in the range of 29–30% rather than the 28% target given in the company’s FY19 results announcement. First half FY20 revenue was expected to be in the range of NZ$780–800 million, with high growth rates forecast for Chinese and US sales.

While this is still only a forecast, it reassures investors that the marketing strategy to target these particular geographies is showing signs of success.

On the same day as the AGM, a2 Milk also announced that it was extending its supply agreement with Synlait Milk Limited (ASX: SM1) until at least 31 July 2025. The extension provides a2 Milk with a solid foundation from which to continue to build on its growth strategy. It almost seemed like, after taking a hit earlier in the year, the stars were beginning to align for a2 Milk and its shareholders.

That was until the beginning of December. Jayne Hrdlicka abruptly exited from her role as CEO, citing the toll the job’s travel demands were taking on her personal life as the reason for her departure. However, some in the media speculated that tension between Hrdlicka and the a2 Milk board had also contributed to her decision to leave. At any rate, it threatened to disrupt what had been a period of relatively strong recovery for the a2 Milk share price.

Foolish takeaway

The company has attempted to right the ship by appointing former CEO Geoff Babidge as interim CEO while it conducts a global search for a new full-time replacement for Jayne Hrdlicka. This at least means that someone with a thorough understanding of the a2 Milk business is at the helm during this time of change.

However, my advice would be to steer clear of a2 Milk until the company has resolved this issue around its leadership. During times of transition it can be difficult for a company to focus on a clear strategy, and there is the real risk that this could affect a2 Milk’s short-term financial outlook.

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Motley Fool contributor Rhys Brock 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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