Soochow: Divergence in dairy and beverage sectors intensifies; leading dairy companies will benefit from improved supply landscape.

Soochow released a research report stating that since July 2026, driven by seasonal factors such as heat stress/the alfalfa harvesting and storage season/the peak demand season of the two holidays, milk prices have risen slightly and moderately from the bottom. With subsequent moderate increases in milk prices, leading dairy companies will benefit from the improvement in the supply landscape, reflected in recovery in selling prices and optimization of expense spending, and the profitability of associated farms will also improve. Revenue growth in Q3 for multiple categories including beverages, snacks, condiments, and baijiu all came under pressure, as reflected in listed companies' financial statements; secondly, extreme weather also had an impact on beverage sales. Soochow's main views are as follows: Dairy products: Raw milk stabilizes, transmitting positive effects Since July 2026, driven by seasonal factors such as heat stress/the alfalfa harvesting and storage season/the peak demand season of the two holidays, milk prices have risen slightly and moderately from the bottom. The contract milk price in October 2026 was RMB3.10/kg, slowly rising from the low of RMB3.02/kg in April. Looking ahead to Q4 and 2027, the domestic beef cattle price increase cycle is expected to continue, the contribution of deep dairy processing to raw milk consumption will increase, and the balance between raw milk supply and demand is moving toward establishment. The bank judges a path of moderate milk price increases, mainly due to weak demand recovery, the relatively high degree of scale-up of upstream farms, and the gradual increase in the share of deep processing; supply-side changes will also not occur in an intense manner. With subsequent moderate increases in milk prices, leading dairy companies will benefit from the improvement in the supply landscape, reflected in recovery in selling prices and optimization of expense spending, and the profitability of associated farms will also improve. 1) Revenue side: From January to September 2026, the dairy sector's total operating revenue increased by 2.6% year on year, and Q3 revenue increased by 1.5% year on year. Overall demand is recovering steadily, and dairy development is becoming more diversified. Ambient milk relies on product structure upgrades to defend its base, chilled milk penetration continues, and infant formula continues to face pressure constrained by the decline in the birth population, but share is concentrating further toward leaders, testing companies' omni-channel operating capabilities. Adult milk powder is rapidly breaking out and has high prosperity. In addition, China's dairy industry has entered a new stage, leading dairy companies' deep-processing capacity construction is gradually being delivered, and output of dairy products represented by "two oils and one cheese" and high-value-added raw materials such as lactoferrin and whey protein will also grow significantly. 2) Profit side: On gross margin, the dairy sector's gross margin in Q3 2026 increased by 1.07 pct year on year, mainly because national/regional leading dairy companies continued to optimize product structure; on expense ratios, the dairy sector's three expense ratios (selling expense ratio + administrative expense ratio + financial expense ratio) in Q3 2026 decreased by 0.15 pct year on year in total, as the strategic results of dairy companies optimizing expense allocation structure/improving internal management efficiency became evident; on non-recurring items, dairy companies were generally affected by updates to tax enforcement standards. Since 2026, the national tax system has unified collection and management standards, strictly distinguishing the tax enforcement scope for dairy products. Fermented milk/formulated milk, and dairy products represented by "two oils and one cheese" and high-value-added raw materials such as lactoferrin/whey protein were included in the tax scope, and single-quarter tax payments increased year on year. Soft drinks: "High first, low later," overall performance relatively weak Quarterly revenue and profit growth showed a quarter-by-quarter decline. In Q3 2026, the prosperity of the soft drinks sector continued to weaken, mainly because consumption at the macro level was generally weak. July-August retail sales growth remained at a low level, and only September improved slightly due to the misalignment of the two holidays. Revenue growth in Q3 for multiple categories including beverages, snacks, condiments, and baijiu all came under pressure, as reflected in listed companies' financial statements; secondly, extreme weather also had an impact on beverage sales. 1) Revenue side: From January to September 2026, the soft drinks sector's total operating revenue increased by 12.1% year on year, and net profit attributable to owners of the parent company increased by 10.4% year on year; Q3 total operating revenue increased by 2.0% year on year, and net profit attributable to owners of the parent company decreased by 10.3% year on year. 2) Profit side: On gross margin, the soft drinks sector's gross margin in Q3 2026 decreased by 0.64 pct year on year. The decline in gross margin was jointly affected by an increase in the share of low-gross-margin products/channels and rising costs of core raw materials, but some companies continued to optimize product structure/exercised strong cost control; on expense ratios, the soft drinks sector's three expense ratios (selling expense ratio + administrative expense ratio + financial expense ratio) in Q3 2026 decreased by 0.23 pct year on year in total. Some beverage companies made seasonal optimizations in expense spending, but some manufacturers marginally increased sales promotion expense spending in the face of weak consumption. Investment recommendations Bullish on the continuation of dairy fundamentalscontinued demand recovery, continued supply-side optimization, and obvious marginal improvement in the transmission from upstream to downstream in the dairy industry. Recommend MENGNIU DAIRY, Inner Mongolia Yili Industrial Group, and Shanghai Milkground Food Tech, which has good growth and profit release. For beverages, continue to focus on companies that occupy long-life-cycle categories and have the ability to build blockbuster products: Eastroc Beverage, whose operations are bottoming out; Shanghai Bairun Investment Holding Group, which is returning to steady growth and gradually implementing systematic promotion strategies; Jilin Quanyangquan, which has both regional expansion and profit elasticity; and Cheng De Lolo/Hebei Yangyuan Zhihui Beverage, which continue to have high dividend payout ratios. Risk warnings: Food safety risk, raw milk price fluctuation risk, intensifying market competition risk.