Calling it quits

Au revoir Danone

When Danone broke up with its first Chinese partner Wahaha in 2007, it set off such a ruckus that the then French President Nicolas Sarkozy felt compelled to step in and raise the issue with Chinese leaders during a state visit to Beijing (see WiC39). Fourteen years on, much has changed: the French food giant has navigated six more separations in the country. But its way of engineering exits, especially the latest one, also appears to have become a lot more low-key.

On May 13 the producer of Activia yogurt and Evian bottled water announced that it had sold its entire interest in Mengniu, China’s second largest dairy company by sales.

Previously Danone owned a 9.8% stake in the Hong Kong blue chip, spending nearly HK$6.9 billion to build its position in the Hohhot-based company since 2013. The divestment generated HK$15.4 billion ($1.98 billion) in gross proceeds for Danone, implying over a 100% return on paper.

The sale was made possible by a reorganisation in April – prior to this the Danone stake had been indirectly held through a joint venture with state-owned food giant COFCO. Danone did not reveal the buyer of the stake but its departure effectively shaved the shareholding of COFCO, currently Mengniu’s largest financial backer, to 21% from 31%.

The sale came at a time when Danone faces one of its worst corporate governance and management crises since its foundation in 1919. With its Paris-listed shares languishing at a six-year low, Danone has faced hostile investor activism this year, leading to the ousting of former boss Emmanuel Faber. Among investors’ demands are pruning underperforming businesses that they say account for 15% of Danone’s recurring revenue.

The fact that Mengniu was apparently first in line to be axed speaks volumes about the lacklustre financials of the Chinese milk brand. “Recurring net income from associates decreased from €98 million to €85 million, reflecting the deteriorated performance of Mengniu and [its infant formula subsidiary] Yashili in China,” Danone highlighted in its annual report for 2020.

Indeed, Mengniu recorded a 14% year-on-year decline in net profit for 2020 to Rmb3.53 billion as revenue dropped nearly 4% to Rmb76 billion ($11.8 billion). For comparison, its biggest rival Yili reported a 2% increase in net profit to Rmb7.1 billion on a 7% increase in revenue, which stood at Rmb96.5 billion during the same period. In terms of market capitalisation, Mengniu is worth HK$176 billion, versus Yili’s Rmb238 billion.

Given the similar product range of both players, their widening performance gap has much to do with their distribution strategies, according to Chengdu-based brokerage Chuancai Securities. Aside from having a deeper penetration into lower-tier cities, where sales growth is often much faster than in rich coastal cities, Yili has been able to maintain strong control over its sales channels through increased adoption of direct selling. Mengniu, in contrast, has remained dependent on distributors that often insist the dairy firm pay for costly marketing incentives. That explains why in the last three years the company burned through Rmb22.3 billion, or nearly 10% of its revenue, on advertising and promotional activities.

Back in 2014 the tie-up between Danone and Mengniu was meant to strengthen the duo’s command over China’s growing yogurt market. However, the rise of internet-sold brands in recent years has meant that their products are not enjoying as much pricing power as previously hoped.

Danone is shifting its focus to infant milk formula in the China market. Last May it bought a milk powder factory in Qingdao from Canadian dairy firm Saputo, and established a new research and development centre in Shanghai. Local players now account for 60% of China’s infant milk market, Securities Daily reports – suggesting they’ve recovered from the 2008 melamine scandal.

Meanwhile changing consumer preferences and slowing birth rates recently prompted British company Reckitt Benckiser to put up for sale its infant formula businesses in China, including the Mead Johnson brand. Several private equity funds as well as Yili are among the bidders, Reuters reported.

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