Industry Overview: Beer or Bust - The Chinese Beer Market - Despite low prices and the terrific logistical challenge (or nightmare?), foreign brewers are once again venturing into murky but tempting waters, attempting to grab market share on one of the world’s fastest growing beer markets.

Last week, the world’s largest brewer, St. Louis-based Anheuser-Busch Cos., upped its stake in China’s Tsingtao Brewery Co., Ltd. from 4.5% to 27%, making it the second-largest investor in the company after the Chinese government, which will still own 30% after the deal. Tsingtao, with its national bestseller Tsingtao beer brand gobbling up 12% of market share, will issue Anheuser-Busch $182 million of bonds which can be converted into Hong Kong-listed Tsingtao H shares over the next seven years. The move will cut the Tsingtao-based brewer’s high debt-to-equity ratio of 66% in half, likely soothing investor sentiments and alleviating worries induced by Tsingtao’s rampant acquisition spree, having swallowed up 45 smaller rivals in the course of the past 3 years and increasing its debt-to-equity ratio by a third per annum amidst the shopping frenzy. The strengthened Sino-American alliance will benefit both sides, with the Missouri mavericks bringing on the funds, management know-how and technology necessary to keep an enterprise financially afloat, and the Tsingtao-based brewer in return opening up access to its intricate and far-reaching local distribution network.

Foreigners’ ventures

The Anheuser strategy comes as a surprise to many, as many foreign brewers have had their nerves frazzled and wallets emptied in their quest to crack open the Chinese beer market. Although China hosts the world’s second largest beer market, likely to catch up to and surpass America’s in the next few years, market entry let alone market penetration is very difficult given the lack of infrastructure, product channeling possibilities and the bondage of governmental red tape. “Companies… look at the size of the population and the size of the market and they think it’s going to be the same as Europe and the U.S.,” Marc Greenberg of the Deutsche Bank noted, however “most of it is very low-margin, unattractive business.” Australia’s Foster’s Brewing Group Ltd. had its fingers burned, having once operated three breweries in China. Now it backed out, only operating one, based in Shanghai. Denmark’s Carslberg also scaled back operations to virtually nothing. Others foreigners were even acted upon, with domestic giant Tsingtao swallowing up Carlsberg Beer Corporations Ltd. in Shanghai, sinking $22.4 million in acquiring“Five Star” Beer Co. in Shuanghesheng, and taking over the Asia-Pacific Beer Co. in Beijing, all of which were held by the American Strategic Investment Corp. With beer for the masses often cheaper than water, many a foreign brewer opted for product differentiation, shifting emphasis of sales to quality premium beer, targeting 4 or 5-star hotels --- a strategy which proved unsuccessfully. Premium beers make up less than 2% of overall domestic sales. But Western companies are far from being beaten into submission. As the Greek philosopher Epicurus noted thousands of years ago, “he gains most who is defeated, since he learns most.”

Following the insights foreign market players have gathered in their dealing with the Middle Kingdom, Anheuser-Busch seems to be on the right path on its China venture. Teaming up with a domestic market leader gives the enterprise the distribution channels needed to introduce its products to the masses of beer-loving Chinese. Without local expertise and a feel for local demand and dealing structures, foreigners are helpless. A second advantage of the Tsingtao enterprise is the fact that due to the 30% stake of the Chinese government, the foreign brewers get to hobnob with local officials and circumvent strands of regulatory red tape and closed doors that would otherwise hamper their efforts. The Missouri-based brewers also run a separate enterprise in central China, owning 98% of the Budweiser Wuhan International Brewing Co., where it brews its Budweiser and Bud Ice brands. The Budweiser brand is very popular with Chinese, claiming roughly 6% of the market.

The Americans aren’t the only ones with their foot in the door though, as the stealthy multinational South African Breweries (SAB) has lately been sneaking up from behind to grab a substantial amount of the market for itself. Whereas other global suds giants mainly focus on selling a highly specialized premium beer at a premium price in developed markets, reaping gains from higher profit margins, SAB follows a completely different strategy, acquiring myriads of local beer producers in emerging markets across the globe and sprucing up their balance sheets to churn out even more beer for the masses. To date London-based SAB - the world’s 3rd largest beer company - operates more than 100 breweries in 24 countries, running such local favorites as Pilsener Urquell in the Czech Republic, Mosi Lager in Zambia and Tyskie in Poland. It has sunk more than $100 million into its 27 acquisitions in China, where the company’s presence can be felt, although no specific brand name is usually associated with the company name. Whereas local giant Tsingtao builds on its brand name, SAB builds on its subtle strategy, avoiding market hotspots such as Beijing or Shanghai to move into regions less subdued to fierce market-grappling warfare and excess of suppliers. In a duo with the China Resources (Holding) Co. Ltd. , an investment arm of the Chinese Ministry of Foreign Trade and Economic Cooperation (MOFTEC), SAB benefits from government cooperation and political clout. The resulting joint venture, called CRE Beverage (CREB), has slashed its way into the mainland market to become the second largest beer producer, displacing Yanjing Beer Group Co. . The joint venture has built a stronghold in Sichuan province, having acquired a majority stake in Blue Sword Breweries and given it market access to the 90 million inhabitants there, who will need some suds to wash down the province’s famed spicy food.

After the initial mass inflow of foreign capital during the Eighth Five Year Plan, many other foreign enterprises have also become successful on Chinese turf. The Japanese-run Asahi Beer Corp. boasts 5 production bases in China (in Beijing, Hangzhou, Shenzhen, Quanzhou, and Yantai) groping for the mark of 10 million hectoliters of annual beer output, making the corporation another large player on the market. In the market for canned beer, foreign-funded Zhaoqing-based Blue Ribbon Brewing Co. Ltd. has grown to claim competitive market share, its Blue Ribbon brand being the second best selling thirst-quenching product of choice. Some Sino-foreign joint venture products popular among the locals include beer from the Shenzhen-based Kingway Brewing Co. Ltd. and Shanghai-based, Japanese-funded Santory Beer Co. Ltd.

The fight for the domestic market

The $8.5 billion Chinese beer market panders to 1.3 billion inhabitants, who are thirsty. With aggregate output growth at 7% and income levels rising, especially in the well-off coastal regions, beer consumption is also expected to rise accordingly. Chinese beer demand in the past has increased around 6% a year, compared to only 1% for the US. This year’s Chinese beer consumption volume is forecast to exceed 230 million hectoliters, compared to 237 million for the global leader United States. At the current rate of growth, China will soon, maybe even next year, become the world’s largest beer consumer.

The beer brewing business isn’t even a traditional Chinese one, modern techniques first having been introduced to China at the beginning of the 20th century, when control over the northern Chinese coastal city of Qingdao was handed over to the Germans, who set up the first brewery in 1903. But not until the onset of economic reforms at the end of the 1970s did the industry begin to take off. Except for Tibet, almost all provinces set up breweries in 1979 and one year later China’s annual output already exceeded 6.8 million hectoliters. With a massive influx of foreign capital during the Eighth Five Year Plan (1991-1995), beer output also rocketed and by 1998 annual throughput reached more than 65 million hectoliters.

One of the main characteristics not only of the Chinese beer industry, but of developing countries as in general, is the high degree of market fragmentation. There are now more than 500 breweries on the mainland, of which only about 100 have an annual output of 0.5 million hectoliters, and 20 have a capacity of 2 million hectoliters. The largest 3 producers, Tsingtao, CREB, and Yanjing - in that order - each produce roughly 10 million hectoliters and make up 30% of the domestic market, leaving the remaining 70% to the remaining mass of local producers to wrangle over. “The big story in China is consolidation,” noted Glen Steinman, head of the Hong Kong-based beer consultancy Seema International. In more mature markets, the few market leaders usually have a much larger slice of the market cake. In the course of the next few years many of the unprofitable and undercapitalized smaller brewers, many of which are currently operating at a loss, are sure to be subject to slash-and-burn takeovers. In 2000, 210 of the 550 domestic breweries were operating at a loss, as 90% of the 500 plus brewers have an annual production of less than 1 million hectoliters and thus may not gather enough resources and financial momentum to reap profits from economies of scale and break even in the long run. As a proxy that the consolidation process is underway, the market share of the top 3 leaders has gradually been rising; ten years ago the top 3 only made up 6% of the market.

Tsingtao started an initiative to buy rivals early on a few years ago, haven since taken over more than 40 in a seemingly uncoordinated and arbitrary shopping spree. Many of these were debt-ridden and not profitable, tugging down the already small profit margin upon incorporation. Whereas it is estimated that becoming giant SAB makes $0.02 profit a liter off its China operations, Tsingtao earns only a quarter of that - the price war is fierce. Beer prices lower than that of mineral water make any attempt to enter the dragon a delicate high-wire act between amassing sunk costs and selling en masse to the masses to earn a profit. Any considerations to follow the strategy of product differentiation should be weighed against the fact that the average Chinese person earns only $1000 per year. Nonetheless, product differentiation might become a decisive factor in the future development of the beer market, as Chinese tend to be very brand-conscious, sticking to products that they like and that are “in”. In an effort in part to start a trend and in part to expand the target group to further incorporate the female population, Tsingtao has introduced flavored beers, like red strawberry beer and light yellow pineapple beer. Further such innovations may be needed to keep a brand name alive in the turbulent beer market.


 Image © Lee Ka Sing | Design by Rachel Wong