End of A Golden Era

From Corporation, page 27, issue 387 & 388, Sept 29 - Oct 6, 2008
Translated by Zuo Maohong
Original article: [Chinese]

The golden era of China's domestic dairy industry has come to an abrupt end with the recent melamine-scare. As consumer confidence evaporated, the industry's average annual growth rate of over 20% for the past seven years would become history.

Leading local brandnames like Mengniu, Yili and Bright Dairy - all found to have used industrial chemical melamine in some of their products - have become the most affected with drastic drop in sales - some up to 80%.

Market observers believed the industry would undergo a reshuffle and the market would become more fragmented as several industry kingpins losing grip over their domination, and that also opening  the battleground for invasion by foreign brands.

"In the past one month, it was pure panic that led consumers to deserting big local brands. But in the coming months, consumers may still abandon them as a conscious choice," said one industry analyst.

Shockwaves to Last
Disbelief - that was the first reaction of a leading brand's senior manager when he first learned of products from 22 Chinese dairy companies were contaminated by melamine through television news on September 16.  His company was on the list.

The weeks that followed were the darkest times for the industry - sales of milk became stagnant, even attractive promotion failed to lure customers; consumers stormed supermarkets to demand refund for milk they previously bought regardless of the products were tainted or not.

Chinese health authorities confirmed that melamine-laced powdered milk had caused babies to develop kidney stones and four dead as a result. As the number of people getting medical treatment for consuming tainted milk escalated, the "outreach" of melamine had also expanded into dairy-based confectionary products like biscuits, candies and chocholates.

Meanwhile, chain restaurants and cafe outlets like Starbucks and KFC halted their orders from Mengniu, and replaced milk with soy milk instead.

Investment banks were pessimistic about the industry's outlook. Credit Suisse predicted that Mengniu's sales volume would regress to two years ago, while Morgan Stanley estimated the company's milk products' sales would fall by 80% in the fourth quarter and wouldn't regain its 2007 level until 2012.

Li Xiangqun, a company management counselor, believed the scandal would slow down the national expansion plan of Inner Mongolia-based Mengniu and Yili, providing great opportunities to other local brands like Heilongjiang-based Wandashan and Beijing-based Sanyuan. As a result, the pie of China's dairy market would be divided up by more companies, he said.

Guojin Securities analyst Chen Gang, however, believed Yili could seize the chance to take over the powdered milk market share once owned by Sanlu, the company blamed for the death of babies that triggered nationwide outcry, leading to official investigations and inspections against other dairy products and firms.

Chen said Sanlu targeted low and middle-end markets, and Yili had an advantage in taking over its production to fill the vacuum left, as Yili was only moderately higher-end than the former.

As for the liquid milk market, China Minzu Securities' analyst Liu Xiaofeng believed that Sanyuan could not replace Mengniu and Yili, as neither its milk source nor distributing network would support expansion to the whole country.

Great Leap Forward and Back
The rise of Mengniu and Yili to dominate the Chinese dairy market was a rather recent event tracing back to 2001. That year, Mengniu's president Niu Gensheng drew up a five-year plan – to reach a yearly sales volume of 10 billion yuan by 2006.

All shareholders and senior staff took it as an unrealistic goal, as the company's sales revenue in 2000 was less than 300 million yuan.

Some mocked Niu as mimicking "the great leap forward", a social and economic plan launched by Mao Zedong in the late 1950s to build China into a modern, industrialized communist society overnight.

Niu achieved his goal, however, and did it a year earlier than planned. In 2005, Mengniu's sales revenue reached 10.8 billion yuan.

A popular television singing contest "super girl" that Mengniu sponsored helped it realize the dream. That year, its acidic milk-based drink named Suansuanru  alone contributed 2.5 billion yuan to its sales revenue.

After that, Mengniu moved on to become the exclusive milk supplier for Chinese astronauts.

As for Yili, it won the Beijing Olympics' sponsorship and received enormous publicity.

These two business rivals had spared no expense to occupy the prime time slots for advertising on the state broadcast network.

In 2007, when Mengniu's sales volume broke through 20 billion yuan, Yili reached 19.4 billion. In the first seven years of the new century, the whole dairy industry in China grew at an annual rate between 21% and 23%.

As the two companies racing ahead, diversifying their products that catered for various price ranges and markets, their nationwide dominance too strengthened - especially in the liquid milk market.

However, for China's high-end powdered milk market, global big names like Mead Johnson, Wyeth, and Dumex had taken up over 70% of the market share, but these brands were mainly confined to developed urban areas.

According to an industry insider, Mead Johnson and Dumex had attempted to enter second and third-tier cities in recent years, but were disadvantaged in pricing compared with the fast-growing local brands.

Some industry players believed that after many years of waiting, foreign capital had finally won a best opportunity to invade the Chinese dairy industry.