There must be something festive in the air as Chinese New Year approaches, since I'm writing about the alcoholic beverages industry for the second time this week with word that leading domestic wine maker Dynasty Fine Wines Group (0828 .HK) has issued a profit warning. But whereas my previous post talked about the big potential in the baijiu industry for high-alcohol spirits, my latest post is decidedly more downbeat and points to a big bubble starting to burst in the fast growing but increasingly crowded market for western-style grape-based wines.
I've previously predicted this looming bubble was coming, as the rapid development of China's wine industry follows a pattern often seen in other hot new sectors. That pattern often sees hundreds of new companies pile into these emerging sectors, leading to overheated competition and forcing everyone into the red. The inevitable result is consolidation, with the older, larger companies usually coming in to mop up the mess.
While most of China's wine sellers are too young to be publicly traded, Dynasty is one of the few that is older and is listed in Hong Kong, providing an important window onto the broader sector's health. So it's quite revealing that Dynasty has just issued an announcement saying it will report a net loss  for 2012. That loss would come after the company reported a loss of about US$600,000 in the first half of last year, reversing a profit in the first half of 2011.
The losses have emerged as Dynasty feels the effects of competition from all the new companies entering the field, many of those importing more prestigious foreign wines that often sell for much higher prices than domestic products. Dynasty didn't say how big it expected its loss to be in its latest profit warning; but I suspect the loss in the second half of the year probably accelerated from the first half, meaning Dynasty is likely to report an annual loss of US$2 million or more.
Dynasty's status as one of China's oldest and best known domestic wine makers is particularly noteworthy, as the fact that it is losing money means that nearly everyone else in the sector is probably also posting even bigger losses. Dynasty noted in the warning that its sales volume actually decreased last year compared with 2011, and that the company has suffered from both China's weak economy and the waning appeal of domestic wines compared with imported rivals.
Dynasty's declining sales seem almost inevitable, reflecting the entry of so many new players into the market over the last two years. One analyst report estimated that sales of domestic wines grew just 4 per cent in 2012, while even imported wine sales grew a relatively modest 9 percent. Those numbers are down sharply over the strong double-digit growth of previous years, and the slowing growth certainly can't support the entry of so many new players into the market.
Those new players include traditional retailers, which seem have appeared on every street corner in big cities like Shanghai, as well as a growing number of venture-funded online shops with names like Jiuxian and WineNice. Even big names like Bright Food Group have entered the fray, following Bright's purchase of a French winemaker last year. With the competition heating up so much, look for 2013 to be a year of ballooning losses not only for Dynasty, but for just about everyone in the sector. We'll probably start to see the first signs of consolidation in the second half of the year, with a full-scale clean up likely in 2014.
Bottom line: A new profit warning from Dynasty reflects a bursting bubble in China's overheated wine industry, with a major consolidation likely to start in the second half of this year.
To read more commentaries from Doug Young, visit youngchinabiz.com