Chinese dairy labels evolve into big brands

Shares in Inner Mongolia Yili Industrial Group Co and China Mengniu Dairy Co have soared to all-time highs as the companies hunt aggressively to build up their milk supply chains through foreign acquisitions.

With China's dairy demand forecast to grow 37 percent to $76 billion in five years－overtaking the United States to become the world's biggest dairy market－the bull run may have further to go.

Mengniu's stock, traded in Hong Kong, was raised to a buy by Daiwa Capital Markets Securities analyst Anson Chan on Oct 16. It began this year at HK$15 and ended at HK$21.65 on Friday.

Similarly, Yili shares began the year at 16.5 yuan in Shanghai and ended at 29.17 yuan on Friday.

The two have a combined 44 percent of the dairy-products market in China, according to data from Euromonitor International.

Shanghai-based Bright Food Group Co is a distant third with a 4.8 percent market share.

Mengniu has spent about $2 billion on acquisitions at home since 2014, while Yili has concentrated on shifting its product mix into higher-margin segments and boosted its nationwide marketing.

Now the focus is moving overseas: both have made bids for Australia's biggest dairy producer, Murray Goulburn Co-operative Co, in a deal that may value it at more than A $1 billion ($784 million) including debt.

Yili and Mengniu are cash-rich－they posted 23.5 billion yuan ($3.6 billion) in cash and equivalents combined at last year's end－and hungry, thanks to their success in pushing gross profit margins past the 30 percent threshold.

To Haitong International Securities analyst Nicolas Wang, this means they have gone from being the bedmates of agriculture companies and OEM manufacturers to becoming standalone brands chalking up margins nearer to that of household names Danone SA and Nestle SA.

Yili's been trying to build up an upstream supply on foreign grass: in 2013, it took over Oceania Dairy in New Zealand, after the previous owners ran out of funds to build a dairy factory.

Since then, it has invested $600 million into facilities that include an infant-formula canning line and a whole milk dryer.

The Oceania plant is currently being supplied by 67 farmers. Murray Goulburn, the Australian cooperative that both Yili and Mengniu want, is supplied by 2,000 farmers. Acquiring such a large, stable milk source and dairy processing facility could catapult their products to the next level in the local consumer market.

Song Liang, a leading dairy analyst in China, said the acquisition of Murray Goulburn would give either Yili or Mengniu an edge to secure their dominant positions in domestic market while facilitating their plans to expand overseas with a strong established international brand.

"But both of them are not offering a price that is not worthy of the deal," said Song.

Bloomberg and China Daily