Nongfu Spring Minutes: The richest take turns smashing the market!

The following is a summary of the mid-year performance conference call of Nongfu Spring in 2024. For financial report analysis, please refer to "Nongfu Spring: Don't be scared by the 'water war', has the pressure of being the richest passed on?" .

I. Review of Core Financial Information:

II. Detailed Content of the Financial Report Conference Call

2.1. Key Points from Management's Statements:

1) Business Progress

a. Packaged Drinking Water Products

1. In January and February 2024, sales revenue increased by 19.0% year-on-year.
2. In the first half of 2024, affected by public opinion attacks, the revenue of the group's packaged drinking water products was RMB 8.531 billion, a decrease of 18.3% compared to the same period last year, accounting for 38.5% of total revenue.
3. In April 2024, the company launched a new Nongfu Spring purified water product. This product features a green label design, differentiating it from natural water products to meet diverse consumer needs.

b. Tea Products

1. Total revenue from tea products was RMB 8.431 billion, an increase of 59.5% compared to the same period last year.
2. The Tea Pie brand introduced a new flavor "Jasmine Lemon Tea" and conducted offline promotion activities covering 5 million people.

c. Functional Beverage Products

1. Revenue from functional beverage products was RMB 2.05 billion, a year-on-year increase of 3.8%.
2. Jiansheng launched new flavors of milk calcium and long amino acid products.

d. Fruit Juice Beverage Products

1. Revenue from fruit juice beverage products was RMB 2.114 billion, a year-on-year increase of 25.4%.
2. Water-soluble C100 compound fruit juice beverage introduced a new blood orange flavor in February, expanding the product line.

e. Other Product Segments

1. Revenue from other product categories was RMB 548 million, a year-on-year decrease of 7.3%.

f. Brand Image

1. Since the end of February 2024, the company and its founder have been subjected to online attacks and malicious defamation, severely impacting the brand image and sales. The company clarified the facts through various channels starting from March and issued an official statement on May 20th. On August 10th, founder Zhong Shanshan responded to relevant public opinion in the CCTV program "Dialogue," successfully reshaping the company's positive image.
2. The company continues to cooperate with Chinese national swimming, diving, and synchronized swimming teams, enhancing the brand image further through sponsoring Olympic events.

2) Financial Performance

a. Overall Revenue and Earnings

1. In the first half of 2024, the group's total revenue was RMB 22.173 billion, an 8.4% year-on-year increase
2. The gross profit was RMB 13.032 billion, a year-on-year increase of 5.9%.
3. Group profit increased by 8% year-on-year, reaching RMB 6.24 billion.

b. Expense Expenditure

1. During the reporting period, sales and distribution expenses increased by 5.9% year-on-year.
2. The proportion of sales and distribution expenses to total revenue was 22.4%, down from 22.9% in the same period last year, a decrease of 0.5%.
3. Administrative expenses were RMB 0.913 billion, a decrease of 4.8% year-on-year.

c. Other Income:

Other income and gains were RMB 1.04 billion, an increase of 15.4% year-on-year, mainly due to increased income from fixed-term deposits.

d. Liabilities, Deposits, and Inventory

1. The total amount of cash and bank deposits of the Group was RMB 27.136 billion, an increase of 5.8% from the end of 2023.
2. The net amount of current liabilities was RMB 4.95 billion, mainly due to an increase in long-term fixed-term deposits.
3. The Group's capital-to-liability ratio was 14.9%, up from 11.2% at the end of last year, due to an increase in the use of accounts receivable financing.
4. Inventory and inventory turnover days increased slightly, mainly due to the increase in production stocking and raw material inventory.

2.2 Analyst Q&A

Q: How was the sales performance of water and beverages in July and August? Especially for water products, when is positive growth expected to be achieved? Given that the first half of the year was affected by some unexpected factors, the full-year forecast for this year is double-digit growth. Has this guidance changed now?

A: The performance of beverages in July and August this year basically met expectations. As for water products, due to the serious impact of online public opinion on the brand since the end of February, although the company has taken a series of measures since March, including clarification and legal actions, sales have not fully recovered to the level before the public opinion. We have noticed that market share has rebounded month-on-month in the past two months, but overall sales still need time to fully recover. As for the full-year guidance, the initial target at the beginning of the year was to achieve steady double-digit growth for all categories and water categories. However, considering the short-term impact of public opinion on the water category, this year we will focus on the steady and healthy recovery of water category sales.

Q: What is the sales proportion of green bottled water currently? Considering that cost control performed well in the first half of the year, but the profit margin of green bottled water is slightly lower than that of red bottled water, what is the outlook for the profit margin in the second half of the year? Can the decrease in gross profit margin be specifically analyzed?

A: Since its launch in April, green bottled water has had four months of marketing and terminal promotion activities. Due to its short time on the market, it is currently difficult to assess its stable market share in the overall market. In comparison, red bottled water covers a full range from 380ml to 19L and has established long-term market penetration in all channels. Therefore, the impact of green bottled water on the overall market share of the water category is relatively small at the moment.

Regarding the profit margin issue of concern, based on the financial data from the first half of the year, both the gross profit margin and net profit margin, the impact of green bottled water on the overall profit margin is still within a controllable range. The future market landscape of red bottled water and green bottled water will be determined by the marketThe original intention of introducing Green Bottle Water is to provide consumers with more choices: if consumers pay more attention to the health benefits of minerals in natural water, they may choose Red Bottle Water; while in specific consumption scenarios, such as brewing coffee, they may prefer the pure taste of Green Bottle Water. We will continue to promote Nongfu Spring's healthy brand image and further consolidate our position in the water category market and consumer recognition through differentiated product features.

We believe that both Red Bottle Water and Green Bottle Water have long-term growth potential in different demand areas. Through category differentiation promotion and channel development, we will ensure the steady growth of these two products. Red Bottle Water, with its healthy image, will continue to attract health-conscious loyal users; while Green Bottle Water, with its differentiated advantage of natural high-quality water source, will attract more users of pure water. The synergy between the two will enhance our product matrix and market layout in the categories of pure water, natural water, mineral water, and other segmented water products.

In the first half of the year, our gross profit margin declined by 1.4 percentage points, mainly due to the following three factors:

Firstly, the promotional price impact brought by the listing of pure water;

Secondly, the decline in water category sales by over 18 percentage points, leading to an increase in fixed cost allocation;

Lastly, the cost increase of some raw materials, especially fruit juice ingredients.

These three factors had a roughly equal impact on the overall gross profit margin, which were the main reasons listed in our performance announcement.

Q: In the first four months, the company was in the distribution stage of Green Bottle packaged water. We can see significant promotional discounts on bulk packaging and whole package sales. From a company strategy perspective, what level of business performance, such as reaching a certain level of distribution or the overall recovery of the water brand, would lead to gradually withdrawing the promotional policy? What is the current channel penetration rate for Green Bottle packaged water?

A: Regarding the issue of bulk packaging discounts and market performance, we have been closely monitoring the overall market share of water products and the recovery situation after being affected by public opinion. Water products are an important core category for the company, so we have focused our resources and actions on it.

Firstly, regarding the issue of discounts on bulk packaging, the single bottle price of bulk packaging is usually lower than that of single packaging, which is a common phenomenon in the industry. The consumption scenario for single-pack water mainly focuses on convenience stores and on-the-go needs, so the price remains stable at 2 yuan and has not changed since its launch.

As for bulk packaging water or whole package sales, we have introduced promotional prices in specific channels and regions to encourage consumers to try and purchase new products, while strengthening the health advantages and price differentiation between Red Bottle Water and Green Bottle Water through differentiated displays.

In the past four months, the market penetration and sales of Green Bottle Water have steadily increased. Although the overall penetration rate is still lower than that of Red Bottle Water, it has shown higher growth potential in specific markets and channels. Overall, the performance of Green Bottle Water meets our expectations, and there is still room for further development in the future.

Q: Tea beverage products have shown rapid growth in the first half of the year, especially achieving better growth rates under a high base. Looking ahead to the second half of the year and next year, what are the main drivers of this growth? What is the current distribution level of tea beverage products?This summer, multiple tea beverage brands have launched sugar-free teas, intensifying market competition and leading to price reductions by some brands. What considerations are there for future pricing strategies in the tea beverage product sector? How is this year's dividend arrangement structured? In the past two years, the company had a relatively high dividend payout ratio, is there any special consideration for this year?

A: Regarding the development of tea beverages, we have seen strong growth in the tea beverage category in the first half of the year, especially with explosive growth in sugar-free teas in recent years. As a leading brand in the sugar-free tea market, Eastern Tea Leaves has achieved significant market share growth. Additionally, low-sugar fruit-flavored teas have also shown double-digit growth over the past few years, meeting expectations.

Looking ahead, we will continue to implement a dual-brand strategy, focusing on low-sugar fruit-flavored teas and sugar-free teas. We believe that the growth of tea beverages mainly comes from two aspects: market penetration of the brand and increasing per capita consumption. Although our market penetration has improved, there is still significant growth potential in lower-tier cities, especially where per capita consumption is relatively low. Tea beverages still have expansion potential in these areas.

We have also observed that the consumption scenarios for sugar-free and sugared teas are diversifying, expanding from single on-the-go consumption to home consumption, homemade fruit teas, milk teas, and other multi-scenario consumption. These changes provide new opportunities to increase per capita consumption. Through dual-brand positioning, focusing on product quality, and continuous market education, we are confident that amidst the gradual enhancement of consumer health awareness, we can achieve steady growth.

Furthermore, we are increasing the marketing efforts for Eastern Tea Leaves, including promotions on major platforms and in urban terminals, to attract new users and enhance brand loyalty. We believe that through continuous product innovation and marketing efforts, Eastern Tea Leaves can further solidify its market position.

Regarding dividend policy, Nongfu Spring has always not had a fixed dividend ratio, but rather considers factors such as the company's cash flow, operating performance, and future capital needs comprehensively to ensure stable cash returns for shareholders while safeguarding the company's steady development.

Q: Could you share the reasons for achieving over 25% growth in the juice business this year, as well as the specific actions taken in terms of products and channels? Additionally, how do you view the overall performance of the juice industry and the market performance differences of juices with different concentrations? Also, what are the main reasons for the relatively weak performance of the sports beverage business in the first half of the year?

Firstly, regarding the juice business. In the first half of this year, our three main juice brands, including Soluble C100, NFC (Nongfu Orchard Freshly Squeezed), and Nongfu Orchard Whole, performed steadily and as expected. We continue to invest resources in brand building, product optimization, and channel expansion.

For example, Soluble C100 strengthened its advantage in vitamin C content and launched a new blood orange flavor, further activating the brand and gaining market recognition. For NFC juice, although it has a smaller market share, due to increased consumer demand for pure, natural products, we continue to invest heavily in product development and supply chain construction, such as the launch of Gan Nan navel orange juice, which underwent 7 years of research and development. We emphasize healthy and sustainable growth for brands and categories, rather than just pursuing short-term high growth**

Next, regarding sports drinks. In the first half of this year, the sports drinks business achieved single-digit growth. We did indeed allocate more resources to water and tea categories, especially in response to public opinion and capturing market potential. However, we did not neglect the sports drinks and functional beverages market.

This year marks the 20th anniversary of the Scream brand. We launched two new flavors and continued to strengthen the brand in sports scenarios, such as through partnerships with marathons and basketball associations. Although advertising investment is lower than water and tea categories, we are still steadily promoting the Scream brand in key cities. Additionally, the high base brought by the market opening last year due to the epidemic is also a factor affecting this year's growth.

Q: Regarding the 10 billion increase in inventory in the first half of the year, is it mainly due to increased stocking of juice products such as NFC juice? Also, is PET material being prepared for next year? Furthermore, considering the significant advertising tactics we deployed during the Olympics, including ads for Eastern Leaves and Nongfu Spring, how do you expect expense spending to be in the second half of the year?

Regarding the inventory issue, Nongfu Spring's inventory is mainly composed of raw materials , including fruit juice and PET materials. Fruit juice, as a derivative of agricultural products, has prices that fluctuate due to seasonal changes and market dynamics; PET materials, as industrial products with significant impact, also experience price fluctuations. We will strategically manage inventory at the right time to ensure a stable supply of raw materials needed for future production and sales, while also ensuring price stability and cost-effectiveness through price locking and proper storage.

Regarding Olympic sponsorship and expense spending, although we started pre-launch advertising in June, the main marketing investment will be concentrated during the Olympics. Therefore, advertising spending for July and August will peak.

Q: You mentioned our commitment to a high sustainability and profit growth strategy. Currently, the profit margin of the juice business is relatively lower compared to other business segments. Are we still unsatisfied with the current profitability of the juice business? Do we have plans for improvement in the future? Additionally, what are the cost expectations for next year's juice, PET, and tea raw materials, especially the cost outlook for PET?

A: Regarding the factors affecting PET raw material costs, we understand that PET prices are influenced by various factors, including crude oil prices, processing capacity, and the market conditions of other petroleum-derived products. Currently, we have not observed significant factors that could lead to large fluctuations in PET prices, so PET prices have been relatively stable this year, with only minor normal market fluctuations. Looking ahead, we will continue to ensure the stability of PET prices through effective procurement strategies and price locking measures. For the second half of the year, we do not currently anticipate significant fluctuations in PET consumption, but we will continue to monitor the market situation.

Regarding cost control for fruit juice and agricultural products, we acknowledge the relatively lower profit margin of the juice business. As mentioned by Mr. Zhong in a dialogue program, nurturing an industry typically requires time and sustained long-term investment. For example, in the case of Gan Nan navel oranges, to achieve high-quality juicing effects, we spent seven years researching juicing technology, aiming to perfectly present this Chinese local specialty in the juiceThe concept of perseverance and long-term investment is equally applicable to the development of other new product categories.

Take Oriental Leaves as an example. In the first six years of its launch, this sugar-free tea barely made any profit. However, we persisted in investing in tea and craftsmanship, and eventually achieved rapid market growth and profitability in recent years. We believe that this long-term persistence strategy will contribute to the success of other categories in the future. When a certain level of industrial scale and corporate production is reached, corresponding financial returns will follow.

When it comes to controlling agricultural product costs, we place more emphasis on the long-term development of the agricultural industry rather than lowering acquisition prices. We have been committed to agricultural construction to ensure the sustainable development of the industry. This is not only crucial for the company's own development but also has profound significance for the development of the entire social industry. With the gradual resolution of raw material challenges in recent years, we believe there is still great room for growth in the juice business. As Mr. Zhong said, as long as we stay on the right track and persevere, there will definitely be substantial returns in the future.

Q: Considering that the market share of water products has not fully recovered to previous levels and the further impact of expanding Green Bottle Water distribution, what positive and negative factors will affect the fluctuation of profit margins in the second half of the year? Can we consider the operating profit margin in the first half of the year as a representative indicator before the market share fully recovers? Also, considering that the market size of water products is still maintaining a moderate growth rate, although the market share has not fully recovered, there has been a significant improvement compared to March, April, and May. Can we say that the decline in water products has narrowed to a manageable level? Is there any significant downward adjustment in the full-year sales guidance?

A: Regarding the recovery of water products, as mentioned earlier, the market share of water products has been gradually recovering over the past two months and showing a stable upward trend. However, the negative impact on brand image caused by some malicious rumors during the peak period of public opinion in March and April still needs time to dissipate.

We recognize that the elimination of this negative impression will be a long-term process, especially in the current environment where the Internet and mobile Internet heavily rely on traffic distribution, and negative information spreads quickly and has far-reaching effects.

Nevertheless, we remain confident in the long-term steady growth of the water category, especially in terms of market share and sales growth. Because for the water and beverage category, product strength, brand power, and terminal channel capabilities remain key factors for success, which will not fundamentally change in the industry. While short-term impacts from public opinion do exist, we are actively taking measures to address and overcome these challenges, and believe that the future recovery trend will be more pronounced.

As for predicting the speed of recovery and specific data, it is currently difficult to provide exact figures as market changes are a dynamic process, and seasonal factors will also affect overall performance. We will continue to monitor specific actions every day, every week, and every month, striving to accelerate the recovery of water products. At the same time, our strategy is not only focused on a single SKU but revolves around the overall advancement of the entire category and channel strategy, ensuring that all consumer scenarios and channels contribute to overall growth.At the beginning of the year, we set a double-digit growth target. However, this year, due to the impact of sudden public opinion events, especially in the first half of the year, there was a significant impact on the overall business performance. It can be seen from the decline in aquatic product sales in the first half of the year that the impact of public opinion lasted for about four months, which had a very significant effect on aquatic products.

This year, we will continue to focus on daily recovery actions, without sacrificing long-term, stable, profitable and healthy development for the sake of achieving short-term data targets. The main goal of the company's management team remains to ensure the long-term stable growth and profitability of aquatic products and other beverage categories. We have taken multiple measures to address the negative impact of public opinion and have felt the gradual recovery and improvement of the brand image. At the same time, we expect the beverage business to still have good growth potential in the future. The management team is confident in the healthy progress of the company's business.

Q: Regarding profit margins, the announcement mentioned that the operating profit margin of aquatic products in the first half of the year decreased by about 4 percentage points. Is this decline mainly due to the contraction of economies of scale and the impact of discounts on bottled water, each accounting for half? If so, as the proportion of bottled water continues to increase, will the profit margin of aquatic products further decline? At what level will it be more sustainable? In addition, the operating profit margin of tea beverages has already exceeded 44%, with the increasing proportion of Eastern Tea Leaves, is there still room for improvement in the profit margin of tea beverages? Overall, what are your expectations for the overall profit margin in the second half of the year and in the future for the company?

A: Regarding net profit, first addressing the operating profit margin of aquatic products, as mentioned earlier, it decreased in the first half of this year compared to the same period last year. This was mainly influenced by two factors: one is the intensity of discounts, especially the promotion of purified water, and the other is the weakening of economies of scale. Looking ahead, with the expansion of scale, efficiency improvement, and cost reduction, healthy development of operating profits is expected. However, while pursuing growth, we are more focused on overall value creation.

For tea products, in the past few years, with the improvement of economies of scale and product strength, the operating profit margin of tea products, especially Eastern Tea Leaves and Tea π, has steadily increased. However, we will not simply pursue continuous growth in high profit margins, but rather focus on product quality, consumer experience, and healthy, steady growth. Based on this, long-term sustainable OP margin and healthy operating levels can be achieved.

Regarding net profit, in the first half of this year, the net profit margin remained basically flat compared to the same period last year, only slightly decreasing by 0.1 percentage point. It is expected that in the second half of the year, due to seasonal and investment factors, the net profit margin may be slightly lower than in the first half of the year. Overall, the net profit margin for the full year of 2024 may experience a slight decrease, but will still be maintained at a stable and healthy level. As mentioned at the beginning of the year's performance meeting, in 2023, the company achieved a net profit margin of 28.3%, which is a relatively high level, but difficult to sustain in the long term, and is expected to decline this year.

Q: Currently, the scale of tea beverages and aquatic products is quite similar. It is expected that this year or at the latest next year, tea beverages will surpass aquatic products and become the company's largest category. In the field of tea beverages, what are the plans for future layout? Do you have any preliminary expectations or goals for the sustainable growth and future scale of Eastern Tea Leaves?

A: In addition to water and tea, we are currently also expanding into the categories of plant-based beverages and fruit juices. Although these two categories currently have a relatively small market share, considering the consumption trends in China, consumer scenarios, and the identification of the new generation of consumers, these categories have long-term growth potential. Therefore, these categories are expected to become important growth points in the future.

The realization of this growth depends on our infrastructure and market acceptance in these categories. Both need to develop synchronously. Therefore, we have always insisted on continuous cultivation in these categories while also continuously launching new products. For example, this year we introduced 100% Farmer's Orchard tomato juice and carrot juice, with the tomato fruit and vegetable mixed juice being a return to the healthy fruit and vegetable juice category in the market, especially catering to the needs of health-conscious and fitness-oriented individuals. We will continue to explore consumer demands in the market, and through the layout of these categories and the construction of basic brands, we hope to achieve good development results in the future.

In the tea category, due to our years of deep cultivation, whether it is in flavor collection and reserves, selection and control of raw materials, or in extraction technology and processing technology, we have industry-leading advantages. Therefore, we have the ability and opportunity to continue developing more new flavors in the tea category, responding to consumer demands by introducing more different SKUs, including upgrades and innovations in terms of capacity, packaging, etc., to further enrich and expand our product matrix.

Q: The company's long-standing strategy of strict selection of raw materials and upstream supply chain is commendable, but we also note the capital market's demand for short-term profits and the intensification of industry competition. In this context, how does the company balance long-termism with a healthy profit level? Does the company have clear goals and considerations for medium to long-term profit margins? How does the company maintain a healthy profit level and competitive advantage in the intense competitive environment? Regarding the growth target of water products, the company's announcement shows that before the public opinion incident, the growth rate of water products reached 19%, exceeding the industry average. Does the company expect the growth of water products to return to a level far above the industry average, or is it mainly focused on regaining lost ground and reclaiming market share? In addition, regarding the discount strategy for green bottled water, what are the internal criteria within the company, such as at what level of shelf occupancy rate will the discount intensity be considered for adjustment? Regarding the sales of large-packaged water, especially the 19-liter large-packaged water, how has the growth been so far this year? Does the company have plans to further promote in the field of large-packaged water, such as expanding into large-packaged water in green bottled water?

A: In terms of a healthy profit margin level, we believe that a healthy profit margin must be able to support the brand's long-term investment, infrastructure construction, and research and development, without compromising these key areas for the sake of short-term profit margin pursuit. We believe that the profit margin level of 28.3% last year was relatively high, and the long-term reasonable profit margin should be between 20% and 25%. This range is based on industry standards, especially those of international and domestic major factories. It is important to emphasize that this does not mean that the profit margin will experience significant fluctuations, but rather we will adjust budgets and investment directions as needed to ensure the company's long-term healthy developmentPersisting in long-termism and seizing short-term opportunities are not contradictory. When market opportunities arise, we will increase investment to drive faster growth. The core of long-termism lies in ensuring the long-term health of the company, rather than being limited by specific data.

Regarding raw material prices and supply, we have proven the feasibility of industrialized cultivation of navel oranges in the Gan Nan region over the past few years. By promoting the construction of the upstream and downstream industry chain, farmers can plant more orchards or tea gardens and produce primary agricultural products in an industrialized manner, thereby improving production efficiency and income. This model not only achieves a win-win situation for the industry chain but also avoids significant price fluctuations caused by increased demand for raw materials. By increasing output and efficiency, we can improve the profit margin of agricultural production within a reasonable price range while maintaining the stability of the supply chain.

Regarding the 9.9 yuan promotional plan, we believe that market competition is not just about competition of a single SKU, nor is it about a single indicator (such as shelf space). Currently, 550ml of purified water is mainly concentrated in the small packaging market, while medium and large packaging water is still dominated by natural water, targeting home and large customer scenarios. In the second half of the year, we will continue to advance this strategy and make dynamic adjustments based on market competition dynamics and category development. Overall competition and discount strategies will be optimized according to market demand and the phased goals of brand development.

End of minutes, for financial report interpretation, please refer to "Nongfu Spring: Don't be frightened by the 'water war', has the richest man passed on the pressure?" .

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