Key Processors Face Challenges in H1

      The latest financial results of the key processors signal mixed fortunes, highlighting that the domestic dairy industry continues to face substantial operating challenges. These range from increasing costs to negative media coverage on dairy and have been exerting greater pressure on small and medium-sized processors especially, according to CCM’s August issue of Dairy Products China News.

      In terms of revenues, H1 figures – all for January-June – show Yili ranked No. 1, USD444 million ahead of its main competitor Mengniu, a significant gap compared to its lead of USD9 million in 2011’s full year figures. Bright Dairy and Beijing Sanyuan remain far behind, so does the smaller Royal Dairy (included as an example of a smaller regional dairy processor). Mengniu suffered a decline of 1.17% vs H1 2011, but the other 4 companies all achieved good sales growth: Yili +11.8% (in RMB), Bright Dairy +16.5%, Beijing Sanyuan +14.3% and Royal Dairy +51.3%.

      In terms of net profitability, the situation is less positive. Bright Dairy’s net profit rose by 61.9%; Beijing Sanyuan also performed soundly, with growth rate of 17.2%; however Mengniu, Yili and Royal Dairy experienced decreases of 16.2%, 6.3% and 30% respectively.

      In general, sales growth was to be expected. According to the Dairy Association of China (DAC), the total output of dairy products was 11.5 million tonnes in H1, up 6.6% compared with the same period in 2011. (Please see Dairy Products China News Vol.5 August Issue, p3 Dairy Industry Growth in H1).

      The contrasting sales picture for Mengniu reflects the impact of product scares, especially the incident concerning its Aflatoxin M1 (AFM1) tainted UHT milk which occurred in late December 2011 – just 2 months after the General Administration of Quality Supervision, Inspection and Quarantine had issued an urgent telegram to all the country’s Bureau of Quality and Technical Supervision offices on this very subject. The company has indicated that this led to a 30% decline in sales: this is believed to refer to December 2011 and January 2012 – especially the latter – the Spring Festival in 2012 and a peak consumption season for dairy products. (Please see Dairy Products China News Vol.5 January Issue, p10).

      Such incidents have had a wider impact, forcing the dairy processors to invest more funds and resources to deal with them. They have also provided increased opportunities for international suppliers, so intensifying the competition – once again, leading to a requirement for more investment and pushing down some key processors’ profit levels. It can be seen that all 5 companies’ net margins decreased in H1 compared with in 2011, and the increasing spend on marketing and expansion of distribution networks is a key factor behind this.

      The situation is worse for the small and medium-sized companies with more limited resources. Royal Dairy is a case in point: its production costs increased significantly in H1, including operating costs +65.6%, sales expenses +64.9%, management costs +49.6%, financial costs +950.6%, etc., all of which curbed the company’s net margin.

      However, each company’s specific situation is different of course. In fact Royal Dairy’s margins were still higher than other 4 companies, especially the net profit margin. The key reason is

      likely to be its focus on premium buffalo milk; government support also plays an important role, as this accounted for 39.2% of Royal Dairy’s net profit in H1, compared with 29% in 2011.

      Amongst the 5 companies, Bright Dairy’s net margin is the lowest in H1, suggesting that the company has invested significantly in promotions. The company believed that the net margin for domestic dairy industry should be 5-6%, so there should still be ample room for Bright Dairy to increase its profitability, mainly through launching more premium products with higher gross margins (premium UHT milk, premium infant formula etc).

      The level of competition seems sure to become fiercer in the future as processors diversify to seek higher margins: besides Bright Dairy, Mengniu also plans to strengthen its expansion of formula powder business, on the premise of continual expansion in its core liquid milk business. The other

      companies have indicated that they are prepared for growing competitive threats to their businesses. The dairy market in China has been driven since the 1990’s by the majors developing national scale which has over-powered the multiple regional dairies. Now in the liquid milk segment, many regional companies are beginning to launch UHT milk products, aiming to expand nationwide, whilst the larger players are moving to expand their business in the regional markets.

        Source: Dairy Products China News 1208