China Lures Global Dairy Producers
BEIJING — Global food and dairy companies are making another round of big bets on the fast-growing Chinese dairy sector, seeking to position themselves as safe alternatives after a scandal over deaths from baby formula burned the industry four years ago.
They are lured by projections of 10 percent annual growth for the sector and by Chinese consumers’ willingness to pay a premium for foreign brands as they remain wary of local brands’ safety records.
Just last week, China’s top-selling dairy company, Inner Mongolia Yili Industrial Group, recalled six months’ worth of one brand of infant formula after government tests found it was tainted with mercury, which can cause neurological damage if ingested.
The news sent Yili’s stock sliding 13 percent over two days to 21 renminbi, or $3.30, a share.
The latest foreign bet comes from the Danish-Swedish dairy group Arla, which said Friday that it would buy what amounts to a 6 percent stake in Yili’s main competitor, China Mengniu Dairy, from the private equity fund Hopu for 1.7 billion Danish kroner, or $290 million. The deal lifted Mengniu shares 7 percent Monday.
For some global milk producers, finding new markets is also crucial as they consolidate and expand production faster than their traditional, and mature, milk markets can grow.
Milk and formula safety became a deep concern for Chinese parents after a 2008 scandal in which at least six babies died and 300,000 were sickened by milk formula contaminated with melamine, a chemical used in fertilizer and plastic.
But investing in China can mean a risk for international dairy companies. In 2008, Arla, which already has a formula joint venture with Mengniu, had to reassure international customers that it did not sell Chinese-produced products elsewhere, after production at the Chinese plant was temporarily suspended during the melamine scandal.
In addition, last year, Mengniu destroyed milk tainted with aflatoxin, a carcinogenic mold found in corn grown in humid climates.
“To be a minority shareholder in a food company in China, regardless of the quality of your partner, you’re still exposed to the supply chain,” said David Mahon, a dairy consultant and head of Mahon China Investment Management, referring to the Arla-Mengnui deal. “The lesson from melamine would not have been learned, and that would be a pity.”
China is the world’s largest formula market and is expected to overtake the United States as the largest dairy market by 2020.
The private equity firms Hopu, Kohlberg Kravis Roberts and Carlyle Group all took stakes in Chinese dairy companies in 2008 and 2009.
Hopu is winding down its fund and got out as soon as it could, but K.K.R. and Carlyle have invested in technology and production systems to bring Western-style milk production to Chinese dairies, including imported cows.
Private equity funds typically get out of their investments after three to five years, and Carlyle and K.K.R. will try to attract Western buyers in the dairy or food sectors for their respective stakes.
K.K.R. has 24 percent of China Modern Dairy, valued at $266 million, and Carlyle has 24 percent of Yashili, worth $130 million. China Modern Dairy provides milk for the Shanghai market, while Yashili supplies the wealthy Pearl River Delta, around Guangzhou in the south.
Among more recent private equity investments in the sector, Olympus Capital led a consortium to buy a significant minority stake in Hua Xia Dairy Farm in mid-2011 for $45 million, providing expansion capital and bringing in a European dairy, Müller, for one of China’s largest single dairy farms.
To keep up with growth, multinational dairy firms are looking to expand their production in China, but are taking pains to guard against quality problems, particularly the need to control the supply chain for raw milk.
Nestlé’s sales in China are about to expand significantly, pending approval from the Commerce Ministry to incorporate the Chinese operations of Pfizer, which would increase its market share in infant formula to 12 percent. Nestlé, the Swiss food giant, agreed in April to buy Pfizer’s formula division for $11.9 billion.
Greater China — including mainland China, Hong Kong, Macau and Taiwan — accounted for only 3 percent of Nestlé’s global sales in 2011, but sales in the region grew by 23 percent last year.
Nestlé buys milk directly from thousands of small dairy farmers in the flat green fields of northeast China. But it has already cut its small suppliers from nearly 30,000 to fewer than 12,000, and plans to move the rest to big dairy bases.
This month, it broke ground on a $377 million project with the U.S. dairy and feed cooperative Land O’Lakes and other partners. It will house a training center and two huge modern dairy farms, one with 2,400 cows, the other with 8,000.
“The farmers are moving into the cities, the system is getting consolidated, so we are moving towards more middle- to large-sized farms,” Nestlé’s China chief executive, Roland Decorvet, said at the groundbreaking in Shuangcheng, near the northeastern city of Harbin.
The New Zealand dairy cooperative Fonterra, which sells $2 billion a year of imported milk products in China, is also building large bases near Beijing, selling the milk at a premium to other dairies.
In 2008, Fonterra lost almost all of its $150 million investment in Sanlu Group, the state-owned Chinese dairy at the heart of the melamine scandal.
Another force driving foreign companies’ expansion in China is a coming surplus of milk in Europe.
The expiration in 2015 of national production caps in the European Union is expected to lead to a 6 percent jump in European milk production, bringing an additional 9 billion liters, or 2.4 billion gallons, a year onto the market, said Kevin Bellamy, dairy analyst at Rabobank in the Netherlands.
“They could supply more to European cheese, but that’s pretty saturated,” he said. “The Asian and Chinese markets are very attractive because of the percentage of growth we are seeing.”
With its latest investment, Arla estimates its sales in China would grow fivefold by 2016, from $119 million in 2011.
“It will contribute positively to our cooperative owners’ milk price from Day 1, as we are able to add more value to milk that we otherwise would have to sell on the global bulk trading market, where the profit is lower historically,” Arla Foods’ chief executive, Peder Tuborgh, said in prepared remarks.
They are lured by projections of 10 percent annual growth for the sector and by Chinese consumers’ willingness to pay a premium for foreign brands as they remain wary of local brands’ safety records.
Just last week, China’s top-selling dairy company, Inner Mongolia Yili Industrial Group, recalled six months’ worth of one brand of infant formula after government tests found it was tainted with mercury, which can cause neurological damage if ingested.
The news sent Yili’s stock sliding 13 percent over two days to 21 renminbi, or $3.30, a share.
The latest foreign bet comes from the Danish-Swedish dairy group Arla, which said Friday that it would buy what amounts to a 6 percent stake in Yili’s main competitor, China Mengniu Dairy, from the private equity fund Hopu for 1.7 billion Danish kroner, or $290 million. The deal lifted Mengniu shares 7 percent Monday.
For some global milk producers, finding new markets is also crucial as they consolidate and expand production faster than their traditional, and mature, milk markets can grow.
Milk and formula safety became a deep concern for Chinese parents after a 2008 scandal in which at least six babies died and 300,000 were sickened by milk formula contaminated with melamine, a chemical used in fertilizer and plastic.
But investing in China can mean a risk for international dairy companies. In 2008, Arla, which already has a formula joint venture with Mengniu, had to reassure international customers that it did not sell Chinese-produced products elsewhere, after production at the Chinese plant was temporarily suspended during the melamine scandal.
In addition, last year, Mengniu destroyed milk tainted with aflatoxin, a carcinogenic mold found in corn grown in humid climates.
“To be a minority shareholder in a food company in China, regardless of the quality of your partner, you’re still exposed to the supply chain,” said David Mahon, a dairy consultant and head of Mahon China Investment Management, referring to the Arla-Mengnui deal. “The lesson from melamine would not have been learned, and that would be a pity.”
China is the world’s largest formula market and is expected to overtake the United States as the largest dairy market by 2020.
The private equity firms Hopu, Kohlberg Kravis Roberts and Carlyle Group all took stakes in Chinese dairy companies in 2008 and 2009.
Hopu is winding down its fund and got out as soon as it could, but K.K.R. and Carlyle have invested in technology and production systems to bring Western-style milk production to Chinese dairies, including imported cows.
Private equity funds typically get out of their investments after three to five years, and Carlyle and K.K.R. will try to attract Western buyers in the dairy or food sectors for their respective stakes.
K.K.R. has 24 percent of China Modern Dairy, valued at $266 million, and Carlyle has 24 percent of Yashili, worth $130 million. China Modern Dairy provides milk for the Shanghai market, while Yashili supplies the wealthy Pearl River Delta, around Guangzhou in the south.
Among more recent private equity investments in the sector, Olympus Capital led a consortium to buy a significant minority stake in Hua Xia Dairy Farm in mid-2011 for $45 million, providing expansion capital and bringing in a European dairy, Müller, for one of China’s largest single dairy farms.
To keep up with growth, multinational dairy firms are looking to expand their production in China, but are taking pains to guard against quality problems, particularly the need to control the supply chain for raw milk.
Nestlé’s sales in China are about to expand significantly, pending approval from the Commerce Ministry to incorporate the Chinese operations of Pfizer, which would increase its market share in infant formula to 12 percent. Nestlé, the Swiss food giant, agreed in April to buy Pfizer’s formula division for $11.9 billion.
Greater China — including mainland China, Hong Kong, Macau and Taiwan — accounted for only 3 percent of Nestlé’s global sales in 2011, but sales in the region grew by 23 percent last year.
Nestlé buys milk directly from thousands of small dairy farmers in the flat green fields of northeast China. But it has already cut its small suppliers from nearly 30,000 to fewer than 12,000, and plans to move the rest to big dairy bases.
This month, it broke ground on a $377 million project with the U.S. dairy and feed cooperative Land O’Lakes and other partners. It will house a training center and two huge modern dairy farms, one with 2,400 cows, the other with 8,000.
“The farmers are moving into the cities, the system is getting consolidated, so we are moving towards more middle- to large-sized farms,” Nestlé’s China chief executive, Roland Decorvet, said at the groundbreaking in Shuangcheng, near the northeastern city of Harbin.
The New Zealand dairy cooperative Fonterra, which sells $2 billion a year of imported milk products in China, is also building large bases near Beijing, selling the milk at a premium to other dairies.
In 2008, Fonterra lost almost all of its $150 million investment in Sanlu Group, the state-owned Chinese dairy at the heart of the melamine scandal.
Another force driving foreign companies’ expansion in China is a coming surplus of milk in Europe.
The expiration in 2015 of national production caps in the European Union is expected to lead to a 6 percent jump in European milk production, bringing an additional 9 billion liters, or 2.4 billion gallons, a year onto the market, said Kevin Bellamy, dairy analyst at Rabobank in the Netherlands.
“They could supply more to European cheese, but that’s pretty saturated,” he said. “The Asian and Chinese markets are very attractive because of the percentage of growth we are seeing.”
With its latest investment, Arla estimates its sales in China would grow fivefold by 2016, from $119 million in 2011.
“It will contribute positively to our cooperative owners’ milk price from Day 1, as we are able to add more value to milk that we otherwise would have to sell on the global bulk trading market, where the profit is lower historically,” Arla Foods’ chief executive, Peder Tuborgh, said in prepared remarks.
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