Investing in the China Story

November 2, 2017

Glennon recently attended a two-day China conference where we listened to representatives from Austrade, the Chinese answer to Amazon, Alibaba, and a bunch of local companies who are doing their best to succeed in China.

 

There is no doubt the potential is enormous. If the economy grows at the expected 6% it is like doubling the economies of NSW and Victorian economies every year. As Chinese infrastructure investment is slowing the consumer is taking over – private consumption expected to move from 41% of GDP to 51%. The number of Chinese nationals earning more than US$32,000 a year, which is a sweet spot for Australian products, will grow from 25m to 109m by 2021. This will put the squeeze on China’s already scarce land and water resources and drive the need for imported goods.

 

The key Australian products include food – particularly beef, dairy (including the much celebrated infant formula), seafood, cereals, cereal snacks and eventually fruit – plus wool, lamb skins (shoe leather), animal fats, skincare, beauty and health supplements.

 

Just being Australian won’t sell the product. It will take a large investment in marketing and local support to generate long term, sustainable success. There are competing countries in every Australian niche. One presenting company, Vitaco, estimated it would take 10 times the average Australian marketing spend to break through in China – $30m. Blackmores, which has been in China for 30 years reckoned it would be less but acknowledged the long term expense and effort required – often for little gain.

 

The advantage Australia has is its reputation of safety, prestige and awareness (the latter built by the enduring presence of groups like Blackmores). But price is a big part of the deal and margins are lean.


There are three entry points to China. The biggest is general trade where goods are sold through regular retail outlets (either modern or traditional) and online locally. This is the big prize but the regulation hurdles are onerous and lengthy. For example vitamins require human clinical trials and health products often require animal testing (a good way to destroy your brand back home).

 

Australian trade deals with China are making this avenue a little easier, mostly for food products, and there has been good success for beef, seafood and cereals (oats).

 

The first alternative is cross border trade – where products are acquired online internationally and distributed by local bonded warehouses. Typically this is run by local trading groups which means the Australian entity can easily lose control of supply and pricing.

 

The second alternative is Postal – entities called Daigous purchase products literally from the shelves of local pharmacies (or increasingly going direct to suppliers) and packaging up goods which are sent to China in the post directly to the end user. The Daigou champions the Australian brands it represents using extensive social media campaigns and feedback plus connections into the major Chinese retail online portals – such as T Mall Global (Alibaba), Kaola and JD Worldwide. It sounds easy – there is no regulatory restriction and it avoids taxes – and has very effectively lifted the Australian brand presence in Australia.

 

The key risk in all of this is that the Daigou is not popular with the Chinese government or its big direct competitors such as Alibaba (which wield plenty of influence in politburo circles) because of the taxes avoided and the safety measures being circumvented.

 

It could all be stopped in a short time if the government decided. At the very least the rules could be changed, as they have in recent years across many market segments (witness the impact of infant formula regulations on Bellamy’s and Blackmores). The alternative, creating a long term presence on-the-ground, is an expensive and time consuming process that comes with no guarantees.

 

Like most investors we are keeping a keen eye on the opportunities China presents but at the same time keeping another eye on the risk/reward equation.

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