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With an increasingly affluent population of more than 1.36bn mouths to feed the potential offered by China’s food sector is immense. But the size of the opportunity does not, in itself, guarantee success. Competition is fierce as multinational food groups and local players alike look to grow their share of this vast pie. Katy Askew examines the competitive dynamics of the Chinese food sector.

China represents a tempting prize for multinational food groups that are increasingly looking to offset sluggishness in developed countries by expanding in high-growth emerging markets.

The country is the largest food and grocery market in the world. According to IGD, food and grocery sales in China stand somewhere north of US$1trn – and this is projected to grow by 50% to $1.5trn over the next three years.

International food manufacturers in almost every category have been lustily eyeing this market for years.

Some have long-established Chinese operations and considerable weight in China. Nestle, for example, established its first Chinese sales office in 1908. Today, Nestle operates 33 factories in Greater China. The group generated CHF5.2bn (US$5.5bn) in sales in the country during 2012 and the country has become Nestle’s second-largest market behind only the US.

Others have invested to grow their Chinese businesses in a relatively short space of time. PepsiCo, for instance, now operates six food manufacturing plants in the country. While the company does not strip out country-specific sales, it has almost tripled its business in emerging markets from annual sales of $8bn in 2006 to $22bn last year. Likewise, Mondelez International has grown its footprint in the country since its entry in 1984, expanding its presence in the biscuit and confectionery sectors. Danone, another relatively youthful player in emerging markets, says China now accounts for 6% of group sales.

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Meanwhile, the likes of Hershey and Arla Foods have only recently looked to build a presence in the country and various other overseas companies, including Canadian dairy giant Saputo, have indicated their desire to expand in but are yet to make any serious strides in this direction.

It would seem, then, that almost any food company with an international footprint has ambitions to grow in China. However, these firms are not moving into white space. Rather, they face formidable competition from large – sometimes state-backed – domestic players. The likes of Bright Food and China National Cereals, Oils and Foodstuffs Corporation are some of China’s largest food manufacturers. Like the banks in the West, to an extent these state-owned enterprises are viewed as too big to fail.

According to data released by industry body China National Food Industry Association, in 2012 the output value of the Chinese food industry totalled almost CNY9trn (US$1.48trn), up 21.7% on 2011 levels. Chinese food manufacturers are primarily focused on the domestic market, with exports in 2012 accounting for 4.62% of sales – down 0.5% on 2011.

“Within food, in many categories, large mainland and Taiwanese food brands like Tingyi and Want Want are dominant.  Overall they have the inside track on understanding Chinese consumers’ taste buds and eating habits and that is a big reason for their success,” China Market Research Group analyst James Roy tells just-food.

The CNFIA identifies a number of areas that have seen particularly strong growth for domestic manufacturers. Categories where growth exceeded 20% last year include edible oils, rice, frozen rice products and refined sugar. Fresh and frozen meat, frozen fish and instant noodles all saw domestic players grow sales by more than 10%, the industry body adds.

According to AT Kearney analyst Torsten Stocker it is “not surprising” domestic companies are strongest in these areas.

“You almost have to look at it category by category to see where the local companies dominate. In many sectors, dairy for example, local companies dominate,” Stocker tells just-food. “In categories that are typically Asian, [such as] cooking oils, meat, domestic players are strong. Slightly value-added, but very Asian – that is where local companies are [ascendant].”

To get around this, in categories where domestic players have an advantage, some international food groups are expanding through joint venture agreements with local players.

Nestle, for example, has developed joint venture arrangements with local partners such as dairy group Yinlu and confectioner Hsu Fu Chi. Through its partnership agreements, the Swiss food giant hopes to combine its strength in areas such as stringent internal structures and expertise supply chain management with the local know-how, consumer insight and – not to be underestimated – distribution structure that Chinese companies benefit from.

This relationship can also be seen working in the other direction, with some of China’s largest food companies stepping up investment in overseas brands. Bright Food acquired a 60% stake in UK cereal brand Weetabix last year in a deal many commentators predicted would see the Chinese firm leverage the reputation of the Weetabix brand to grow cereal sales in China. Most recently, Shuanghui International agreed the takeover of US pork company Smithfield Foods. Shuanghui said it intends to utilise Smithfield’s expertise in food safety, the strength of its brands and its supply of US meat to grow its presence in China. Arguing in favour of the deal, Smithfield management insisted the sale would open up the Chinese market to meat produced by US hog farmers.

In categories that are less culturally-specific to China, multinationals have been more successful establishing a foothold. In particular, categories that are relatively new to the country have provided an opportunity for foreign companies to expand, Euromonitor’s Lamine Lahouasnia observes.

“If you look at something like chocolate confectionery it is not really a product that is indigenous to China so any progress made in that sector, by default almost, is going to be made by international brands… Taking the chocolate confectionery example, this is a category that never existed in China 100 years ago, so the lower, mid and premium end of the market are pretty much controlled by the Mondelezs, the Ferreros etcetera.”

Another advantage multinationals are leveraging is the consumer perception that international food manufacturers offer higher quality. Nowhere is this more evident than in the high-profile infant nutrition category, where overseas groups like Nestle, Danone and Mead Johnson have benefited from Chinese consumers’ concern about the safety of domestic products after recent scandals.

The biggest scare came in 2008 when formula contaminated with industrial chemical melamine killed six babies and sickened around 300,000 more. The scandal drew in around 20 domestic dairy companies and undermined consumer confidence in the safety of homegrown formula and dairy products in general, uncovering a major issue Chinese dairy companies – and regulators – are still attempting to grapple with.

International infant nutrition companies have felt a negative impact of some recent safety scares. Indeed, Danone downgraded its full-year forecasts after a consumer facing recall hit baby formula sales in China. Danone was forced to recall batches of its Dumex brand after New Zealand dairy giant Fonterra revealed it believed some of the whey powder concentrate it supplied to the French group was contaminated with a bacteria that can cause botulism. The scare turned out to be a false alarm.

While progress has been made in improving standards of Chinese-made formula – with new safety regulations and a government-backed process of consolidation in the sector under way – foreign-made formula still dominates the premium end of the Chinese infant formula market.

China is a unique food market. In some categories, it pays to be an international food company with a global brand. In others, regional or national preferences are more pronounced and the use of a global brand structure is inappropriate. Nevertheless, it is evident that in this complex mosaic there is space for international food companies to grow alongside local manufacturers.

Click here for the rest of just-food’s management briefing on China.