Chinese whispers on baijiu

International spirit makers are wising up to the sales opportunities in China's pungent, potent national drink - but it's not all plain sailing. Ling Jin reports from Chengdu
27 August, 2008
Page 18 
A typical dinner in Chengdu - a city of 12 million and the capital of Sichuan province in southwestern China - starts with the clink of shot glasses filled with baijiu and "Ganbei!" (the Chinese for "Cheers!"). The "firewater" hits the stomach with a punch.

Dubbed "the fountainhead of baijiu", the region produces almost all of China's premium baijiu brands - partly because of its unique water quality and millennia-old brewing techniques.

Similar in taste and appearance to vodka, baijiu is one of the oldest spirits on earth, as its history can be traced back to the Bronze Age. Yet in the 21st century, it still dominates Chinese dinner tables, be it in Chengdu or the rest of China.

Statistically, baijiu's popularity is unrivalled. According to Vin & Sprit, the global international spirit company, behind Absolut vodka, baijiu is the largest spirits category in the world, with annual sales of more than 520 million 9-litre cases. Vodka, the runner-up, sells 497 million cases.

However, baijiu's exceptionally high alcohol content - usually around 53 per cent abv, with the strongest up to 70 per cent abv - might have delayed its spread to the rest of the world. Exports in 2005 were a negligible 0.06 per cent of total sales, according to the National Bureau of Statistics of China.

== International interest ==

Despite the fact that it has barely been favoured outside China, a series of surprise deals in 2007 set the Chinese baijiu industry buzzing.

Diageo, the multinational that owns the Smirnoff vodka brand, among others, took a 43 per cent stake in Quanxing Group, which owns the brand of Shuijingfang.

LVMH became the majority shareholder in Wenjun, another distiller. Then Sweden's Vin & Sprit formed a joint venture with Jiannanchun, widely regarded as one of China's top brands behind Wuliangye and Maotai.

Regarding its joint venture with Jiannanchun, Vin & Sprit says : " The two companies will work together to develop a portfolio of premium baijiu brands."

A similar rhetoric is heard from other international spirit makers involved - that the main idea behind the buy-ins is for the foreign stakeholder to gain exposure to the domestic baijiu market.

Meanwhile, their Chinese partners would have access to international distribution channels.

"Chinese baijiu makers want to expand into the overseas market through the distribution channels of foreign partners," says Zhang Zongjun, secretary to Quanxing's board of directors.

But there seems to be a discrepancy. Johan Simonsson, general manager of the new joint venture between Vin & Sprit and Jiannanchun in Chengdu, says: "The joint venture will not sell any Absolut Vodka. It will go through the existing distribution company Maxxium and there are no immediate plans to sell Jiannanchun products in the V&S network."

If baijiu is ever to arrive in the international arena, it seems there is still a long way to go. Despite what is said by domestic baijiu makers, many in the industry harbour doubts over the plan to target overseas markets.

In China, however, baijiu has long been widely considered a highly profitable industry and a big tax contributor. Industry revenue has been growing at 30 per cent a year, according to Sinolink Securities. It would be absurd to assume that bajiu makers have a lack of capital or technical know-how for courting foreign capital.

== Balancing the books ==

So why call in investment from outside China? A management consultant in Chengdu, who has studied these baijiu deals and wishes to stay anonymous, suggests that some distillers need the cash to finance management buyouts carried out a couple of years ago.

"It's time for baijiu firms' senior management to pay the debts incurred during the buyouts, and they are looking for foreign capital to finance the debts," he says.

According to a report about its equity division reform released on December 12 2005 by Quanxing, 18 senior managers incorporated a company called Chengdu Yingsheng Investment in 2002, which spent RMB412.6 million (£30 million) for a 67.7 per cent stake in Quanxing.

Meanwhile, the state divested Quanxing equity as part of a national privatisation drive.

Quanxing even renamed itself Shuijingfang in September 2006. Its 2006 annual report explained this was to reposition itself, as Shuijingfang had become its core business. But it also spawned rumours it was to facilitate the entry of foreign capital because well-known baijiu brands, Quanxing among them, are restricted from foreign investment, according to the Guiding Directory of Industries Open to Foreign Investment .

While the potential rewards still seem enticing for foreign firms, they could be treading on dangerous ground. The nightmare scenario would be for a baijiu deal to turn sour, as in the case of US private equity firm Carlyle's bid for a majority stake in Xugong Group Construction Machinery in 2006. That transaction ended up blocked by the commerce ministry amid denouncements of Carlyle's audacity at bidding for a national symbol.

== Pluses and minuses ==

Making a deal in the baijiu sector is full of such challenges, but the other side of the coin is the vast Chinese alcohol market that not only consumes large quantities of baijiu, but also has an increasing appetite for a range of foreign liquors.

In Chinese cities, it's ironic that baijiu is a no-no for drinkers in bars and clubs while foreign liquor brands continue to take over.

Compared to baijiu's plain looks, the exotic packaging, alternative taste and premium prices of foreign drinks emit a siren call to the country's burgeoning nouveau riche. Foreign liquor is also making forays into unprecedented territories in China - supermarkets and department stores - as prices fall thanks to tariff cuts.

For example Chivas Regal, once priced at RMB500 (£36) - in line with top baijiu brands - finally dropped as low as RMB300 (£22) in supermarkets after China's entry to the World Trade Organisation. Mixed with green tea - a fairly localised fashion - it has become a hit with the young and affluent.

But there are also downsides to the market. Counterfeits are said to be rampant as only experienced connoisseurs can identify the genuine foreign brands. Potential profits in the region of 200-300 per cent make this worth the risk.

Other than counterfeits, legal loopholes affect distribution. Vendors import only semi-finished bulk spirits and finish everything else, including bottling, onshore. As a result, these made-in-China "imports" flourish because they are a quarter of the price of the authentic products.

"So international spirit makers choose instead to own stakes in the baijiu industry," says our anonymous management consultant. "That helps them make a quick profit from the lucrative baijiu industry and, in the long run, the established brand recognition, distribution and brewing facilities could facilitate further business development."

"With these capabilities," he points out, "it's also going to be a good option for foreign companies to produce and sell their own liquor brands in China."----=== A brief introduction

to baijiu ===Appearance and taste

l Clear liquor distilled from fermented grain

l Resembles Russian vodka, Japanese shochu and Korean soju

l Potent and pungent taste due to its high alcohol content (can exceed 70 per cent abv).----=== EARTHQUAKE UPDATE: the impact on baijiu ===Some baijiu breweries have sustained large financial losses after a devastating earthquake - which hit 8 on the Richter scale - swept through China's southwestern province of Sichuan on May 12 .

One of those affected was Jiannanchun, which has breweries in Mianzhu - a city of 520,000 people 60 km to the east of the epicentre.

Jiannanchun corporate officials said the financial loss would exceed RMB1 billion (£74 million) and its annual baijiu sales revenue would drop out of the top three.

The rest of the big brands in Sichuan, such as Wuliangye, Shuijingfang and Tuopai, were barely affected by the earthquake because most of them are located more than 100 km from Chengdu, well clear of the epicentre in the mountainous regions on the eastern edge of the Tibetan Plateau. However, there have been some pessimistic forecasts. Agricultural output has been hit and severe damage to the region's roads is causing distribution problems, which will inevitably push up grain prices. So, despite Jiannanchun's claim that it won't raise prices in the wake of the quake, industry observers predict a price hike for baijiu in the second half of 2008 due to inadequate supply.

In the mid-to-long term though, the dominant position of Sichuan's baijiu industry is unlikely to be affected, especially for the top three brands, because the impact of the earthquake appears to be limited to certain regions. ----=== Classification ===l Thick fragrance - the dominant style in the market with a sweet and mellow flavour. Major brands like Wuliangye, Jiannanchun and Shuijingfang are all "thick fragrance " baijiu.

l Sauce fragrance - the name comes from the way in which the liquid hangs on the inside of a glass, "like dew on a leaf". Maotai is one of the best-known brands in this category.

l Less mainstream flavours are available such as rice fragrance, light fragrance, honey fragrance.

l A licence is necessary for production and sales; those certified as "famous brands" are restricted from foreign acquisition.----=== Serving ===Served in shot glasses made of glass or porcelain.

l Sipping is suggested for entry-level baijiu drinkers, otherwise it can burn the stomach.

l Widely served with meat and snacks like fried peanuts.----=== Health benefits and dangers ===Chinese people are often compelled to drink an excessive amount of baijiu at dinner in order to forge guanxi (personal connections). The more you drink, the stronger the guanxi and respect you will win from the rest of the table.

Hence baijiu is widely known to present a danger - it is not unheard of for people to die from drinking too much.

However, a moderate amount on a regular basis is considered good for your blood flow.



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