Back in 2007, China’s Premier Wen Jiabao declared: “I have a dream to provide every Chinese, especially children, sufficient milk each day.”
US private equity group Kohlberg Kravis Roberts (KKR) seems to be thinking something similar, albeit with a little more emphasis on how to maximise profits. It has confirmed a series of investments in Chinese milk producer Maanshan Modern Farming, otherwise known as Modern Dairy, a company based in China’s central province of Anhui.
The deal’s size is reckoned to be nearly $150 million, and is the largest investment in a mainland dairy producer since last year’s tainted-milk scandal. Modern Dairy was not among the 22 dairy companies revealed to have sold products containing melamine, an industrial chemical. The melamine scandal saw nearly 300,000 children become ill and six infants died as a result of the adulterated milk.
Despite all the controversy overall dairy consumption in China remains robust. The dairy market grew by 128% between 2003 and 2008 – an 18% compound annual growth rate according to market research firm Euromonitor. Even in scandal-hit 2008, the market grew by 12.4%.
David Liu, head of KKR Greater China, told the Financial Times that the US fund now owned a “significant minority stake” in Modern Dairy – which has 40,000 cows. He promises KKR will bring capital and expertise to help the firm develop world-class facilities: “These will provide high quality milk production that will benefit China’s consumers,” says Liu.
In the past the Chinese government has been reluctant to allow foreign investments in its food and beverage sector, and earlier this year Coca-Cola’s bid for juicemaker Huiyuan was blocked by regulators. KKR’s bid for Modern Dairy has gone a lot more smoothly, perhaps because the government sees KKR’s support of the beleaguered sector in terms of restoring confidence in the country’s dairy products. China is currently the world’s third-largest milk producer, behind the US and India.
China’s dairy industry has traditionally been highly fragmented, with 1.3 million farmers in China owning herds of between five and 10 cows.
Milk yields and safety standards have suffered as a result, and the government is keen to consolidate the sector to improve quality control.
The existing regulations have also been reviewed, and the supervisory agencies have been strengthened. “If they [the government] had taken such steps years ago, the scandal would never have happened,” says Chen Yu, a senior dairy analyst and professor at the Institute of Cadre Management under the Ministry of Agriculture. Prior to the reforms, “nobody knew what respectively they had to do and there were many loopholes with the management system. The crisis compelled them to rethink.”
Perhaps it is time for the larger, better funded producers to dominate. Maybe that’s why the share price of one of the country’s largest dairy producers, China Mengniu, has tripled since last autumn.
But it is still 21% down from a year ago. “It will take months for the sector to get back on its feet; it may only happen by the first half of 2010,” Wang Dingmian, executive council member of the Dairy Association of China, told China Business Weekly. “Our biggest concern is how to regain consumer confidence as soon as possible.”
The better news is that China’s dairy market has a lot of untapped potential. According to the China Daily, on average the Chinese consume 30 kilograms of dairy products annually. Consumers in developed countries get through anything from 120kg to 300kg, depending on their nationality.
No doubt KKR hopes to see the mainland disappearing beneath an avalanche of milk, cheese and ice-cream. But China’s huge consumption potential requires that local dairy producers grow in size significantly, says Long Yongtu, the Bo’ao Forum’s Secretary-general for Asia. “That will come as a major boon for the industry,” Long reports.
Keeping Track: In the last issue we talked about private equity group KKR investing in Chinese dairy producer Modern Dairy. This week it emerged that the state’s largest foodstuff company Cofco and domestic private equity fund Hopu Investment are teaming up to invest $780 million for a 20% stake in China Mengniu Dairy, one of the country’s largest dairy producers. The deal suggests that investors are optimistic about the dairy industry as it emerges from last year’s milk scandal. (July 10, 2009)
© ChinTell Ltd. All rights reserved.
Exclusively sponsored by HSBC.
The Week in China website and the weekly magazine publications are owned and maintained by ChinTell Limited, Hong Kong. Neither HSBC nor any member of the HSBC group of companies ("HSBC") endorses the contents and/or is involved in selecting, creating or editing the contents of the Week in China website or the Week in China magazine. The views expressed in these publications are solely the views of ChinTell Limited and do not necessarily reflect the views or investment ideas of HSBC. No responsibility will therefore be assumed by HSBC for the contents of these publications or for the errors or omissions therein.