The A2 Milk Company Ltd (ASX: A2M) share price has started the week positively.
In afternoon trade, the infant formula company's shares are up 1.5% to $5.50.
This means the A2 Milk share price is now up 5% since this time last week.
Why is the A2 Milk share price rising?
Investors have been buying the company's shares since last week's announcement of US FDA approval to import its infant formula into the enormous market.
According to the announcement, the FDA has approved the import, sale, and distribution of a2 Platinum infant formula products (Stages 1 and 2) from New Zealand through to 3 January 2023. This can be extended through to October 2025 at the FDA's discretion.
A2 Milk was granted approval after changing its product design to meet the US FDA's requirements. This will see the products manufactured with different scoops, mixing instructions, and labelling.
Broker reaction
The team at Bell Potter reacted positively to the news. In response, the broker retained its buy rating and lifted its price target slightly to $6.80. This implies potential upside of almost 24% for investors over the next 12 months.
Bell Potter was pleased with the news. Though, it acknowledges that that the gross margin on these products is expected to be lower. As a result, it has only modestly increased its earnings estimates for the coming years.
A2M expects US gross margins to be lower than average, distribution costs to be higher (initially air freighted), some rework costs, and incremental marketing and trade investment to enter the category. The prevalence of slotting fees, tariffs (once a certain import quota has been met) and higher marketing (as a proportion of sales) in our view are likely to result in more modest margins than those generated in Australian IMF channels.
We have adjusted our forecasts to incorporate modest sales volumes in the US IMF category through to FY25e (assuming sustained market access) and also updated for 1H23 NZD movements. The net effect is NPAT upgrades of +2% in FY23e, +1% in FY24e and +3% in FY25e.
Nevertheless, the broker believes the US business could eventually become a meaningful contributor to its earnings. It concludes:
We view the initial entry into the US IMF category as incrementally positive, though note the scale of A2M's existing US fresh distribution footprint implies this could be a more meaningful contributor should sales velocities approach levels seen in other markets.
