Chinese beer bitter for foreign brands

Premium draught beers make up only 5 per cent of China8217;s overall beer market,compared with 50 per cent in developed markets such as France and Germany,and 30 per cent in the United States.

Analysts expect premium beer to account for a quarter of China8217;s annual production in five to 10 years,largely driven by rising brand awareness and lifestyle changes following the emergence of a wealthy middle class.

For Paul Sin,a Hong Kong Chinese merchant in his 60s,drinking beer is not just a matter of taste. It is also about national pride.

We are now able to taste good beer produced by ourselves,taste the success of our economic development with our taste bud,said Sin as he sipped a Tsingtao Draft in an upscale Hong Kong restaurant.

Our beer is now good enough to stand side by side with Heineken and Blue Girl,he said. Blue Girl is made by South Korea8217;s Oriental Brewery Co Ltd .

Major local brewers are likely to see their premium segment growing more rapidly than foreign brands,helped by their vast sales network,nationwide presence and cost advantage.

That could be a major threat to foreign brands such as Anheuser Busch InBev SA ,which dominates the premium beer segment in China with a 45 per cent share.

Tsingtao Brewery Co Ltd is a distant second in the segment with a 15 per cent share,while Heineken NV and Carlsberg AS trail at 7.5 per cent and 6.1 per cent,respectively.

PREMIUM FOCUS

Premium beers,priced 30-50 per cent more than regular beers,offer bigger margins despite increased cost of production due to the need for higher quality ingredients and packaging,as well as more spending on marketing and advertising.

Production of Tsingtao8217;s flagship products,including its green bottled Tsingtao Pure Draft labelled stylish and intriguing,rose 11 per cent in the third quarter,versus flat growth for its none-core brands.

China8217;s largest brewer CR Snow,which uses the slogan The Great Expedition for its premium Snow brand,reported a 48 per cent jump in the sales of premium beer in the first half,accounting for 21 per cent of its sales,up from 17 per cent a year earlier.

CR Snow is a joint venture between China Resources Enterprise Ltd and SABMiller Plc .

The industry is trying to raise average selling prices to improve margins to levels we see internationally,said London-based David Serre,who oversees Credit Suisse8217;s global beer industry investment banking business.

If you get the premium strategy right,get the pricing right,the profit growth prospects are truly amazing.

In the broader beer market where the top four companies together command more than 55 per cent,AB InBev is the only major foreign company. The company has a 11 per cent of the market,versus CR Snow8217;s 21 per cent,Tsingtao8217;s 14 per cent and Beijing Yanjing Brewery Co Ltd8217;s 11 per cent.

Encouraged by their success in regular beers,Tsingtao,CR Snow and Yanjing have been racing to pump out more premium beer to challenge the foreign dominance of the segment,which is growing more than twice faster than the overall beer market.

I don8217;t see that as a major near-term threat but in the long run it is potentially,yes,said Vijay Karwal,managing director and head of Asia consumer,retail and healthcare investment banking for RBS in Hong Kong.

Chinese brewers are offering premium beers at 20-25 per cent cheaper than foreign brands and utilising their extensive sales network,undercutting foreign brands.

UOB Kay Hian analyst Jason Yuan estimates gross profit margins for premium beer at 50-60 per cent versus 30 per cent for mainstream products.

TOO EXPENSIVE

Rapid growth of Chinese beer companies,fuelled by an acquisition binge over the past decade and cut-throat price competition,have left them with lower margins,driving them to produce more premium beers that carry higher margins as Chinese consumers trade up.

Operating margins at Tsingtao and Yanjing are less than 10 per cent,below the 12-17 per cent at Heineken,Carlsberg and AB InBev.

Per capita beer consumption in 20 major Chinese provinces averages less than 33 litres,way below 100 in some European countries,40 in South Korea and Japan and 65 in Brazil.

Despite soaring costs and competition,Chinese brewers8217; shares are one of the most expensive among beer brands.

Tisngtao is trading at 24 times estimated earnings and China Resources at 27 versus AB InBev8217;s 15 and Carlsberg8217;s 10.

Shares of Tsingtao,China Resources and Yanjing have soared in the past decade,with Tsingtao posting a twenty-fold jump. Tsingtao8217;s shares in Hong Kong were little changed so far this year,beating a 14 per cent fall in the benchmark Hang Seng Index

Tsingtao is a long-term hold,said Nomura analyst Emma Liu,adding long-term investors should look beyond its latest results.

Tsingtao,about 20 per cent owned by Japan8217;s Asahi Group Holdings ,posted a nearly 1 per cent fall in third-quarter profit as high barley costs hit margins and poor weather slowed growth in sales volume.

TOUGH TO CRACK

China,one of the fastest-growing beer markets in the world,has proven to be a tough nut to crack for most foreign brewers.

Despite two decades of efforts,foreign brands have a relatively small slice of China8217;s overall market because of a fragmented industry,fierce competition and distribution bottlenecks.

Foreign brands such as Carlsberg and Foster8217;s Group Ltd entered China in the 1990s,setting up shops by themselves or with small local producers,only to see their start-ups drown in a sea of cheap domestic beer.

Foreign brewers have tried different strategies,such as setting up ventures with large Chinese partners or taking strategic stakes in relatively big Chinese brewers.

This appears to be working as China8217;s contribution to the revenue of foreign brewers has grown in recent years.

However,the prospects for foreign beer brands in China remain unclear as their local partners focus on promoting their own brands.

The most successful foreign brewers in China is probably SABMiller,which formed the CR Snow joint venture in 1990s with state-run retail,food and beverage conglomerate China Resources Enterprise.

Leveraging China Resources8217; extensive distribution network,CR Snow has become China8217;s top brewer and brand.

Over the next five to 10 years,you will find more and more mid-cap Chinese brewers becoming acquisition targets for large Chinese brewers and international brewers willing to play in China,said Credit Suisse8217;s Serre.