International infant formula manufacturers are adjusting their business practices in China having been found guilty of price fixing. Multinational companies, which were the focus of an anti-trust investigation, say they have emerged from the probe with a “clearer understanding” of the regulatory framework in the country. However, some pundits suggest the investigation must be viewed in the context of a wider government push to boost the domestic industry. Katy Askew reports.

China’s National Development and Reform Commission today (7 August) unveiled the results of its anti-trust investigation into the infant formula sector. The competition watchdog concluded eight infant formula companies carried out “various forms of resale price maintenance” and imposed fines totalling CNY669m (US$109.3m), the largest antitrust ticket in China’s history.

The NDRC probe drew in almost all the leading international formula makers operating in China, including Nestle, Mead Johnson, Danone, FrieslandCampina, Abbott Laboratories and Japan’s Meiji. Hong Kong-listed Biostime and Chinese firm Beingmate were also examined by the regulator.

Beijing said the investigation was prompted by escalating infant formula prices. According to government statistics, Chinese infant formula prices have increased by 30% since the melamine contamination scandal of 2008. Chinese consumers pay significantly more for infant formula products than consumers elsewhere and the price differential is more pronounced at the premium end of the market.

The NDRC found the eight companies carried out “various forms of resale price maintenance”. The regulator said “specific measures and means” varied between enterprises, but included the imposition of direct fines, disguised fines, deduction rebates and limiting supply to downstream operators who sold products below the company’s minimum price. This, the NDRC argued, lessened competition in the market and kept formula prices artificially high.

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Commenting on the regulator’s findings, a spokesperson for Nestle told just-food the company had already moved to adjust business practices at its Wyeth Nutrition unit, which was acquired from pharmaceutical giant Pfizer last year.

“Following this investigation, Wyeth Nutrition assessed its pricing practices and decided to improve certain sales and marketing practices. Nestle Nutrition was not investigated,” the spokesperson emphasised.

Nestle was spared a fine by the NDRC, which said in its report the company was exempt because it took the “initiative to report the situation on monopoly agreement, provided important evidence and carried out rectification”.

The company has also implemented price cuts in the market, with some prices being reduced by as much as 20% and the average price dropping by 11%. “Wyeth Nutrition… will continue to implement the price reductions,” the spokesperson added.

Speaking to journalists at a press conference in China last month, Nestle CEO Paul Bulcke said the price cuts were not expected to have a significant impact on Nestle’s global infant formula margins.

“You have always to see things over time and I don’t see any real material impact in a sense that the business is also part of a bigger business in a bigger world, so we can handle it, no problem there,” Bulcke said.

According to Bulcke, the probe is part of the Chinese government’s drive to develop a clear regulatory framework for the sector. “It is by working together with the authorities that a real, transparent framework can be set up. And that is what is happening. It is a shaping and confirming of a regulation framework in China, which we welcome. It is only [through] clear rules that… you really have honest and sustainable competition,” he said.

New Zealand dairy giant Fonterra, which was fined CNY4.47m, also believes the investigation has left it with a “clearer understanding” of Chinese competition regulations.

“We believe the investigation leaves us with a much clearer understanding of expectations around implementing pricing policies which is useful as we progress our future business plans,” said Kelvin Wickham, president of Fonterra’s operations in Greater China and India.

Wickham added the company is “taking these steps” to ensure it “fully compl[ies] with the NDRC’s expectations”.

Meanwhile, a spokesperson for Danone, which produces the Dumex brand in China, told just-food the company will alter its polices to ensure it is compliant with Chinese competition regulations.

“Dumex… has fully cooperated with the investigation and will make adjustments at the request of NDRC,” the spokesperson said. “In the future, we will continue to comply with applicable Chinese law and regulations for production and operation.”

Danone was fined CNY172m or 3% of sales and previously announced it too would cut prices in China by as much as 20%.

While some pundits have argued lower sales prices – which may result in less appealing margins – could deter international companies from operating in China, Danone is quick to emphasise its commitment to the market.

“As a company solidly rooted in China for over 20 years, Dumex is committed to long-term development in this country,” the spokesperson insisted.

Likewise, US formula maker Mead Johnson stressed that China remains a key market for the group. “China remains one of the company’s most important markets, and Mead Johnson reiterates its commitment to making positive contributions to the communities within which it operates,” CEO Peter Kasper Jakobsen said.

Mead Johnson has reduced prices in China by 7-15% in a move that the company concedes will hit annual sales.

“The 7% to 15% price reduction… in China will reduce annual sales by about US$55-$65m. In 2013, we will see a half year impact, with a sales risk in the low $30m range before any offsets,” CFO Peter Leemputte revealed following the company’s first-half results release at the end of last month.

Mead Johnson was fined CNY203.76m, or around 4% of last years sales, for its antitrust violations. The company said that this will reduce EPS by around $0.12 per share. Mead Johnson said that it now expects full-year EPS to fall in a range of $3.04 to $3.12 per share.

While international manufacturers seem keen to take their medicine and continue to expand in China’s growing infant formula category, some industry watchers have claimed the probe could herald calls for increased government oversight of the sector.

“The lack of transparency and persuasive evidence to prove the alleged antitrust violations will only spur more calls for state intervention,” Dr Zhan Hao of Beijing-based law firm AnJie predicts.

SWS Research analyst Sean Zhang concurs it is unlikely that this will be the end of the story. “It is too soon to conclude that the government-led rectification of the infant formula industry is over,” Zhang tells just-food. “The NDRC will continue to monitor companies involved on their rectification of their sales [practices] and push for the promotion of domestic brands.”

Beijing is working to provide a boost to strong domestic companies, such as Mengniu Dairy Co. who recently acquired Hong Kong-listed Yashili International Holdings. The government wants to reverse a trend that has seen overseas companies gaining share in the Chinese infant formula market.

Since the melamine contamination scandal, when tainted milk powder killed six babies and sickened thousands more, Chinese consumers have been wary of domestic-made formula. As a result, demand for formula made by overseas firms – and indeed manufactured overseas – has boomed. Prior to 2008, foreign companies accounted for around 30% of formula sales. This has risen to 50-60% of sales and up to 80% of the premium market.

In a bid to help build a strong domestic sector, the Chinese government has introduced new safety requirements that include tighter product certification regulations and stronger supervision of the production process. The authorities are also pushing for a process of consolidation in the crowded sector on the basis that fewer, larger companies are likely to employ higher safety standards and will be easier to regulate.

But Beijing could also be looking to assist domestic manufacturers by actively hampering international firms, one analyst suggests.

Speaking on the condition of anonymity, the analyst says: “The probe served two purposes. Firstly, the probe forced foreign brands to push down prices and, secondly, it could indirectly strengthen the big domestic players.”

The suspicion is supported by the fact that large domestic companies were, for the most part, excluded from the NDRC’s investigation.

“These companies were found to have broken the law and were fined accordingly. This would happen in almost any… market. But it is also fairly common for companies in the FMCG sector to set recommended prices… It is a widespread practice, so why limit the scope of the investigation to focus on certain, mostly foreign, companies?” the analyst asks.

Added to the pot can be the health scare following Fonterra’s recall of whey powder contaminated with a bacteria that can cause botulism. Fonterra supplied eight customers in markets including China. Both Danone and Abbott have been forced to recall infant formula products. 

The recall has dominated the headlines running in China’s state-controlled media for the past week and, if anyone was looking for a means to knock foreign-made formula off its pedestal, it would seem they may have been handed a timely excuse.