Foreign dairy firms step up push into China

PUBLISHED : Friday, 21 February, 2014, 1:11am
UPDATED : Friday, 21 February, 2014, 6:01pm

Foreign companies are ramping up their investments in China's dairy industry.

Last week, French food giant Danone paid HK$5.15 billion to raise its stake in China Mengniu Dairy to 9.9 per cent from 4 per cent.

On the same day, China's Bright Dairy announced in a filing on the Shanghai exchange that RRJ Capital, a private equity firm run by former Goldman Sachs partner Richard Ong, was investing 1.52 billion yuan (HK$1.93 billion) in a joint venture with the company.

The acquisitions stoke speculation that many other foreign entities are circling the mainland dairy sector.

"The Chinese dairy industry in the next few years will be all about consolidation," a senior banker said. "If you are in the top tier and have scale, you will survive. Otherwise, you may have to exit or merge with one of the larger players to gain scale."

The mainland government said last year it wanted to cut the number of domestic milk powder manufacturers to 50 from 127, and to see 10 large dairy entities with an annual income of more than two billion yuan take over 70 per cent of the market in five years, a Fitch report said.

There is a lot at stake. Chinese middle-class tastes are evolving, creating more interest in high-margin dairy products such as yogurt, yogurt drinks and cheese.

The dairy industry in China has experienced stellar growth in recent years. The market was worth US$40.6 billion last year, compared with US$20.7 billion in 2008, according to Mengniu.

Raw milk prices rose 22 per cent last year, Mizuho said in a report.

Analysts say foreign partners are attractive to domestic firms because they have ready-to-go product lines that can be plugged into the mainland market. Partnerships allow them to immediately launch products as the market and tastes evolve rapidly, avoiding being left behind if a firm tries to develop a new product on its own.

"There should be more acquisitions in the works because the local guys have the distribution but they don't have the product portfolio to launch themselves into the next stage," said Jeremy Yeo, a dairy industry analyst with Mizuho Securities.

Danone is a yogurt specialist, and yogurt products such as Greek yogurt and yogurt drinks are taking off in popularity on the mainland.

Foreign companies want Chinese dairy firms for their distribution networks. Unlike Western markets, where dairy products sales are consolidated among a number of large supermarket chains, China's milk consumables are sold by a vast network of independent small shops. It would be expensive and time-consuming to replicate the work to build sales to such a network. It is more cost-effective to partner with a local firm, and use their distribution.

Chinese firms are looking to reach out to offshore partners because it gives them instant access to a well-developed product line.

"As this market matures, consumers will differentiate between brands and food for taste and quality, and these are some of the intangibles that the foreign partners bring," said Lian Lian, JP Morgan's co-head of North Asia M&A.

"Differentiation is less of a concern when the economy is growing at 8 per cent plus each year. But when the economy slows down, people do need to think about your core competency and how you differentiate from the shop next to you."

The foreign companies also provide branding, which is valuable in the mainland when so many domestic firms have been embroiled in food safety scandals.

Mengniu started its partnership with Danone in May last year with the goal of selling Danone-branded yogurt in the country.