China: a land of milk & money?


It should be a no brainer. A country which - although already having the world’s second largest baby population is taking steps to boost its birth rate, thus ensuring an increasing consumer base - allied to rapidly growing demand - value sales of baby milks have risen 79% between 2010-2016 (Global Data The Baby Food Sector in China 2017) - and a now established preference for imported baby milks, should be ripe for plucking if you happen to be a non-Chinese manufacturer of baby milks.

Certainly for some manufacturers - New Zealand’s a2 Milk being one shining example - China has proved to be in truth a land of milk and honey. However, for some others - and the example that comes immediately to mind is fellow Australasian dairy company Murray Goulburn - things haven’t gone so well.

According to GlobalData, among the foreign suppliers currently active in the Chinese infant formula market, ANZ companies are becoming particularly prominent. A number of Australian companies are present, including Bellamy’s, Murray Goulburn, and Winney Dairies, whilst brands imported from New Zealand have also managed to reinstate their popularity, after seeing their shares dented by the Fonterra botulism crisis. Examples currently available in major cities include a2 Milk, Cowala Dairy Limited, FernBaby New Zealand, Nouriz, and Fonterra itself.

The fortunes of these brands have varied significantly over the last year or so. Murray Goulburn, for example, is reported as struggling. Fonterra, on the other hand, said in mid-2016 that its sales of Anmum, through Beingmate, were increasing faster than it had expected, largely due to the number of cities where the product is available having tripled over the previous year or so. The a2 Milk Company also reported 2016 sales considerably in excess of its expectations, and sales of its Platinum Stage 3 ranked among the top 10 products purchased via JD.com on Singles Day.

The a2 Platinum brand has made particularly strong progress, reporting an increase in sales of more than 800% in the year to mid-2016, a trend which continued into 2017, the company noting that sales of the brand had exceeded its expectations. This is due to higher direct sales via the CBEC channel with products bearing the New Zealand/Australia label, and via Chinese-labeled products in specialist baby stores. It is also active online, and most recently much of the credit for its buoyancy has been atrtributed to its close relationship with informal travelling shopping agents known as "daigou",  essentially a channel of commerce between mainland Chinese buyers and overseas professional shoppers, sometimes referred to as the "grey market". There are currently estimated to be around 40,000 daigou in Australia.

In its latest full year results a2 noted its booming growth has continued, reporting that its net profit for the year to June roughly tripled, driven by growth in demand for its infant formula in China and Australia. The news is all the more impressive as it comes just two years after the company was loss-making. Moreover, even though the company remains confident that its infant formula sales would continue to grow, it also has plans to launch additional nutritional products, including a stage 4 formula product for kids aged 3 to 7, which a2 believes has the potential to provide another strong double-digit growth opportunity.

The only potential fly in the ointment is whether or not the China Food and Drug Administration will continue to let it export infant formula there, which various analysts view as one of the biggest risks facing the company. Following 2014 regulations, which made manufacturers obtain licenses to sell their products in China, new registration, based on a limited number of brands and recipes, must now be obtained before the January 1, 2018 deadline.

This is causing a shake-up of brands and is likely to result in peaks and troughs in supply and demand during 2017 and 2018. Changes to cross-border legislation have also resulted in supply hold-ups, while more stringent testing procedures have resulted in the banning of several brands, both local and imported.

However, in August 2017 a2 reported that it has had its application to sell its infant formula products in China accepted for review and is confident the registration will go ahead as planned. Latest forecasts from the company note that it expects continued growth in the 2018 financial year, in particular from infant formula and milk powder products in Australia and China. 

The success of a2 contrasts with Australia’s largest milk processor Murray Goulburn, whose first-half net loss in February started alarm bells ringing, and led the company to announce a full strategic review of its operations. Murray Goulburn said the regulatory regime surrounding formula imports to China was “fluid”, and it would freeze spending on exports to the country until the situation became clearer. Murray Goulburn has two reporting segments -- dairy foods & others and ingredients & nutritionals -- and during its latest full  financial year (where it recorded a 10% fall in profits), faced with a declining milk pool, sought to divert some of the supplies it would have used for its international dairy foods operations towards its domestic dairy foods business.  The company added that a goal of the strategic review is to "clearly define" where Murray Goulburn invests and where it allocates its milk. 

In the meantime it has announced that there have been several suitors interested in either buying some assets or taking over the whole co-operative, with a number of leading international dairy companies -- namely Fonterra, Lactalis-controlled Parmalat, Canada's Saputo, and Australia's Bega Cheese -- reportedly throwing their hats into this corporate ring. Whilst Chinese dairy firm Yili has denied speculation in the Australian media that it had made a substantial offer to acquire the business, Yili has admitted it had made a "cautious non-binding strategic development proposal". A takeover by a Chinese bidder would be somewhat ironic, given the concensus that its current status as a takeover target has been caused largely by damage sustained in a Chinese expansion drive.