Keith Woodford updates how New Zealand infant formula is being used at the forefront of distribution changes in China, and as a key element in Walmart's recovery plan

Keith Woodford updates how New Zealand infant formula is being used at the forefront of distribution changes in China, and as a key element in Walmart's recovery plan

By Keith Woodford*

In recent weeks, I have been writing about Synlait’s new infant formula Akarola [here and here]. The Akarola project is a  joint venture between China’s New Hope agri-food conglomerate  (75%) and Synlait (25%)  which has set out to market New Zealand made infant formula online direct to consumers through JD.com.

The strategy is based on cutting out the multiple layers of middle men and pricing the product at just a fraction of what Chinese consumers are used to paying.  But the strategy can only work if Chinese consumers can be convinced that low price does not mean low quality.

I am on record as saying that the Akarola product has potential to be transformational in relation to the Chinese infant formula market. But others are not so sure.

David Mahon from Mahon China has expressed doubt on Radio New Zealand National as to whether Chinese consumers can be easily weaned from a belief that a low price means low quality. David has lived in China for some 30 years and is widely regarded as New Zealand’s most experienced China business man. So his comments cannot be lightly disregarded.

However, I am confident that New Hope and Synlait are a powerful combination. New Hope knows what it is doing and it has the marketing budget to get the message across. But that does not mean there will be no hiccups along the way.

This week there have been further problems with supply, with Stage 2 and 3 formulas available, but Stage 1 not available. The online comments at JD.com are generally favourable, apart from one parent grumbling that they could not find the spoon buried somewhere in the powder.

Back here in New Zealand, it is hard to understand the importance that Chinese mums and dads put on infant formula. In China, having a baby is a huge investment decision as well as an emotional decision. Accordingly, deciding on the brand of infant formula is right up there alongside buying a house and buying a car in terms of the personal research that Chines parents undertake.

Currently, Chinese parents know that somehow they are being ripped off when they see infant formula three and four times international prices. But they still want to know that the infant formula they buy is up to genuine international standards.

In recent days, there has been a remarkable further development in the Akarola story, at this stage only reported within the Chinese dairy industry. Apparently Wal Mart China, which has more than 400 stores across China’s cities, is now going to sell Akarola in-store at the same remarkably cheap online price of 99 RMB per 900 g can.

So what is going on and how can this be?

Wal Mart has said that it will buy the product in bulk once it is cleared through China Customs and then it will distribute the product itself to its stores across China. In much of the world, such an approach would be totally unremarkable, but within China it is remarkable.  That is not the way things are done there.

It would seem that Wal Mart is happy to take exceptionally slim margins on Akarola. It may even be a ‘loss leader’. The real aim is not to make a big profit but to attract customers into the Wal Mart stores.

By some estimates, Wal Mart has about an 8% market share of Chinese supermarket trade, but in recent years they have been struggling.  This is part of their strategy to get back on track.

So already we are seeing the transformational effect of the New Hope and Synlait strategy. Already we have two reactions.  First it was Yashili saying they would match New Hope and Synlait with a low priced product online. And now we are seeing the first reaction from the supermarket channel. The ball is rolling.

This raises the question as to how big this might all be for Synlait?

In a previous article, I referred to Synlait’s new 50,000 tonne per annum dryer due to come on stream in September.  I suggested that this would be enough to provide 55 million 900 gram cans of infant formula.

Synlait have responded to me by saying I drew a long bow with the figure of 55 million cans. In essence, I assumed that they had the canning capacity to turn all of the new product into consumer-ready products. Apparently, a more realistic estimate of their canning capacity, even with additional shifts added, is a maximum of about 33 million cans across all of their consumer products. Akarola is only one of these products.

However, my bet is that when Synlait’s Board considers their next investments, it will look closely at increasing its canning facilities. This is despite the present canning facility still being in its first year of operation. In the overall product mix, and with the current canning facility at full capacity, somewhere around 75% of the Synlait product would still be going out in bulk form, either as wet-blended base powder for infant formula (in itself very much a value-add product) or as simple whole milk powder.

One of the interesting aspects of the Akarola story is that here in New Zealand it has opened up once again that running sore of foreign investment.  Opposition Agriculture spokesman Damien O’Connor once again raised the spectre on Radio New Zealand National of New Zealanders becoming ‘tenants in their own land’.

In regard to Synlait, it is worth noting that they started as a private company of New Zealand investors. Their first attempt to list on the New Zealand stock exchange went nowhere. Their second attempt at an IPO did succeed but only because of foreign investors.

Synlait’s share register shows that currently the major shareholder is Bright Dairy from China at 39.1%. Then comes FrieslandCampina from Holland at 9.99% held through FNZ Custodians. Then comes Matsui from Japan at 8.4%.

The shares are listed on the NZX, and so all New Zealanders have the opportunity to buy-in should they so desire. The reality, however, is that most New Zealanders do not like the risk that is associated with entrepreneurial companies.

A further misunderstanding is that Synlait produces the milk itself.

It used to own some farms, but in 2010 they were split into a separate company now called Purata, with minimal overlapping shareholding.

About 9% of Synlait’s milk now comes from Purata, which is controlled by Chinese company Shanghai Pengxin. The rest of Synlait’s milk comes from about 160 Kiwi-owned farms.

There is indeed a lot that needs to be debated about value-add strategies and how they can and should be funded. A starting point is to sort out the fundamental facts.

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Keith Woodford is Honorary Professor of Agri-Food Systems at Lincoln University. He combines this with project and consulting work in agri-food systems. He will be writing a regular column here. His archived writings are available at http://keithwoodford.wordpress.com

We welcome your help to improve our coverage of this issue. Any examples or experiences to relate? Any links to other news, data or research to shed more light on this? Any insight or views on what might happen next or what should happen next? Any errors to correct?

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What needs to be talked about is how NZ will survive when China has a large amount of control of paddock to plate production in NZ, producing cheap stuff is counter productive to this country's well-being.
When do we stop and have the talk about being tenants in our own land, given what Shanghai Pengxin or rather Hunan Dukang plan to do

A good first step would be giving John Key the boot, but Joe Kiwi is convinced that all is well because house prices are going up 15% a year and his house just bought him a new Sante Fe.

Good article and I'd agree with your points but here's a couple of things I think New Zealanders need to extract their heads from their "leaders" buttholes and wake up !!

"But the strategy can only work if Chinese consumers can be convinced that low price does not mean low quality."

That's IN China. If I saw the people from my local fish'n'chip store eating fish and chips elsewhere because the quality was too low...I would eat where the experts eat !

Many people buy chinese made product or shift manufacture to China *********_because_it's_low_cost_*********

People buy this stuff in NZ - not because they think that low cost doesn't mean low quality they buy the low cost stuff because their budget won't stretch to the higher price brands. (imagine my smile when I saw it was WalMart running the low cost brand out to the world).

So in China, who get business because it's low cost and thus who make many of the low cost items, refuse to buy stuff that is low cost because it's low quality (alarm bells yet?) but not only that but they are wealthy enough to choose more expensive "quality brands" while the consumers in NZ (who make higher quality items consumed by the Chinese) HAVE to buy the cheaper low quality rubbish that the Chinese _manufacturers_ refuse to buy. (WTF??)

And if it does work profits won't flow back to NZ dairy farmers. They will continue to receive the lowest cost that has to be paid to secure product. Which will be whatever Fonterra is paying.

Not even that as with the vertical integration structure they are setting up among themselves I doubt that will even come into it

but the shareholders in synlait will reap the profits. Farmers have a choice if they want to buy shares if they have faith to earn the extra income unlike fontera where they have to own shares

I bloody well hope so to your first sentence. I bought a small parcel and so far I'm down about 18%. Of course I could have done worse and bought Fonterra shares at the time.

I was thinking general manufacturing rather than just dairy.

Even simple stuff I get like screws or nuts and bolts. the tolerances are terrible and often won't go together, the thread metal is soft, often stripping or binding. And once in place the metal _stretches_! re-tighten and the tension distorts the bolt, and often snaps it. We're talking tension (and 8.8 and 10.9 grade bolts)... that's for the ones that survive the torque and the top (nut) doesn't just come away.

A few months back I was doing some masonry drilling to put some sleeve anchors into dairy walls to suspend some 2mm thick black plastic "curtains". The 6mm masonry bit _bent_. Not snapped, not just like a little kink in it. It wasn't hot. It looked like I'd put a gummy worm around a finger, over 1cm displacement from center line.... in a _drill_bit_ . What kind of crap steel are they pushing on us?

Used to find that with the imported look-a-like Honda's. mill surfaces stripped within weeks. Levers would break from apparent metal fatigue in under a year. the rubberware lasted 2 months (tires, grips). the tire kept going flat because all the spokes would move in the rims because the metals would distort.

Or the CD's and DVD's I got, or that we used to get from China. rubbish, some of them don't even play, If I didn't just download the digital copies and use them I'd be annoyed. etc etc

https://www.youtube.com/watch?v=F1ZsVUB_-qg
Here's an interesting clip about China's ghost cities. There's been nothing like it in history. Our leaders (Auckland's council) must be envious of how fast they can build infrastucture. Normal rules of supply and demand must mean very little in China
Makes you wonder.. if they can build these cities and many can't move into them because they can't afford the rent.....if they can get their created economy going the potential is obviously massive.

Actually, perhaps in degree, but not in kind. The West's capitalistic development has historically been characterized by periods of irrational exuberance, where the impressions about the present and future compel them to make overly optimistic investment and spending decisions, only to find their positivity to be ill founded and then panic when faced with the economic reversal, financial distress, and finally leading to widespread business failure, unemployment, and penury for many.

http://www.theatlantic.com/business/archive/2014/11/the-unfinished-subur...

http://www.businessinsider.com.au/irish-abandoned-housing-estates-2011-2...

http://fortune.com/2013/11/15/the-road-to-demolition-inside-a-spanish-gh...

By the peak of the Railway Mania in 1845 and 1846, scores of railroad companies were formed and many proposed schemes such as “direct” rail lines that ran straight across the UK’s countrysides, which would be very difficult to build and almost impossible for the locomotives of the time to travel upon. At this point, nearly every town wanted its own railroad and, in 1846, 272 Acts of Parliament were passed for the purpose of incorporating new railroad companies, which proposed a total of 9,500 miles (15,300 km) of new lines (Wikipedia, n.d.). Railroad magnates such as George Hudson developed large rail networks through the acquisition of smaller railroad companies. From 1844 to 1846, an index of railroad company stocks approximately doubled as the speculative mania took hold (Odlyzko, 2010).
http://www.thebubblebubble.com/railway-mania/

cant afford rent there, but can afford to buy up in auckland...

Sounds a bit like the problems the meat industry had where meat companies were in a procurement war, undercutting each other overseas and selling product at a lower price to drive the other guys out of business, no one wins. Margins aren't big enough to invest in technology. Also making NZ milk powder a Walmart product only devalues the NZ brand. Should we being allowing this? Why let foreign companies in here to drive down the value of our primary industry.

A few years back an industry insider told me that they never made money, once they set up cutting rooms. The NZ meat industry needs to get back to basics.

I'm afraid our words will continue to fall on deaf, short-termist ears

well for some reason Plan A didn't work out.... and to us that is what is of real interest - the failure of a premium brand ex NZ, that seemed to tick all the boxes in the making thru to in-China partners with coin...

Penno said Jia was accompanied by a large group of Chinese media, which was perfectly timed for Synlait Milk's Canterbury Pure infant formula which went on Shanghai shelves in December retailing at almost $90 a kilogram. The milk powder was pitched at high-end Chinese consumers in the US$10- billion infant-formula market and benefited from zero tariffing under the China- New Zealand Free Trade Agreement.
http://www.stuff.co.nz/the-press/business/6777346/Chinese-visit-boosts-S...

Milk powder is gold dust for New Zealand. Synlait Milk is working to make it even more valuable. The Dunsandel-based company is minuscule compared with industry giant Fonterra, which would easily beat Synlait in the volume-based commodity milk powder game. Instead, Synlait is shifting its focus to making high-value milk powders that sell for a packet overseas. Its first such foray, Canterbury Pure, is an infant formula that flies off Shanghai shelves for about $90 a kilogram. Chinese toddlers would go through a 900-gram tin about every 10 days.
http://www.stuff.co.nz/the-press/business/7502455/Turning-powder-into-go...

going on to say...
Synlait's milk processing business is using the Chinese distrust of their own milk processors to further the appeal of its products and is backed in this by its 51 per cent Chinese owners, Bright Dairy. Roughly a third of infant formula is milk powder, the rest is whey, minerals and other ingredients. So the markup isn't simply the difference between the cost of milk powder and the sale price, but it's still lucrative. The other products being hatched are slightly more oddball, but Synlait research manager Simon Causer is confident that, treated right, they will be well worth the effort.

a little detail on Plan A:

Chinese dairy investor Bright Dairy appears short of its sales targets for its New Zealand-made infant formula brand sold to China's biggest cities.,

http://www.stuff.co.nz/business/farming/agribusiness/68637830/chinese-da...

Gee, By the sounds of these comments there are going to be long lines at the optometrists and local shrinks offices. Talk about short sightedness and depressive.
1 Making the product the same price Internationally in China is not going to hurt our returns. We are paid a international price.
2 Making milk products affordable opens up more customers increasing demand. We are in a supply glut we need to move product to make it more valuable Internationally.
3 when demand comes on and product is hard to come by price goes up. We do not care about the distributors or third party companies that is up to them to eek a living out of the market.
4 We need to stop focusing on China Its a fools game having only one big market. We need to get a FTA with India on the books, plus they consume a lot of dairy product.
5 Fonterra needs to get off it's fat ass there sounds like there is going to be a advertising ban on Baby formula in China so they need to get their ANMUM product to the market. It would make a killing.

the corruption, low cost and politics of dairy self sufficiency make India non-viable.