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In December 2011, the Switzer- land-based Nestlé affirmed the bubbling rumors about closing the ice cream factory in Shanghai. Nestlé also added that its ice cream business in East China would be stopped by the end of December 2011.
In the meantime, Danone from France announced the closure of its yoghurt factory. Prior to that, Pepsi Cola sold its 24 bottlers to Master Kang. All these show that those well-known foreign food giants are transforming its operation strategy in China.
This is rare in the food industry which is known for its “resistance against economic period”.
The increasing competition in China is thought to be the main reason for the current depression of foreign food giants, which are forced to conduct strategic transformation.
Profits and market share not available simultaneously
Nestlé did not make a detailed explanation about the reason of closing the factory; instead, it stated that “Nestléwas reviewing its ice cream business and preparing for corresponding changes to keep the long-term momentum for this business”.
However, the market statistical data shows that the ice cream business volume in China reached 30.675 billion yuan (USD 4.81 billion) in 2011. In the last six years this field saw a 35.19% increase. But for Nestlé, its market share in the ice cream market in 2011 was only 3.2% and thus took the fourth place, behind Unilever which took a 7.4% market share in China.
“Both Nestlé’s ice cream business and Danone’s yoghurt business were depressed by Chinese local dairy companies in the past few years,” said an analyst.
After ending the cooperation with Bright Dairy and Mengniu, Danone began to develop solely in China. In the past three years, Danone followed the strategy of “taking market share while ignoring profits” and increased its market share at whatever cost. In less than two years it recovered its share in Guangzhou’s yoghurt marekt to 17%, close to Bright Dairy, Mengniu and Yili. However, the cost it paid was very huge.
“This pattern could not stand long,” said Wang Dingmian, a dairy expert. Because Danone had no factory in Guangzhou, all its yoghurt products are from its plant in Beijing. In addition, the quality guarantee period of yoghurt product only lasts 14 days and it usually cost one week from the production date of one batch of yoghurt products to the day when they are placed on the shelves of supermarkets in Guangzhou for sale. This leads to the lofty cost. In addition to the competition with local brands in price, Danone nearly saw zero profit in its yoghurt business in China.
Hard to expand production in major cities
It is noteworthy that the factories of both Danone and Nestlé in Shanghai are the initiators of their strategic transformation.
In the past few years, private companies from Zhejiang and Jiangsu bought and reserved large tracts of land in Shanghai and other major cities of the coastal area of China. Presently, it is very difficult for the production enterprises, especially those engaged in traditional production industry such as food to find a suitable place to build a new factory.
Another problem is the rise of the comprehensive cost of corporate operation. Compared with the central and western areas of China, Shanghai and coastal major cities have no advantages in labor cost, logistics, raw materials purchasing and fees of water, gas and electric power supply. The statistical data shows that the average price of dairy products in Shanghai had a 15% year-on-year increase to 16.07 yuan per kilogram in the first three quarters of 2011. In comparison, the average price in China is only 15.18 yuan per kilo- gram.
The third problem is the favorable taxation and financial polices that no longer exist.
In 2007, China began to unify the taxation system for foreign and domestic companies. The average tax rate for foreign companies increased by 10% from before. This deleted the“super-national treatment” that foreign companies had enjoyed for more than a decade.
“Having no land means that it is very difficult for Nestlé and Danone to expand its production capacity in the major cities like Shanghai. In addition, the increasing operation cost and tight financial and taxation policies add more difficulties to the operation,” an expert said.
“Based on the 12th Five-year Plan of Shanghai, the production enterprises, including the food companies, will be gradually marginalized. It has become a trend of these companies to close their factories in Shanghai at a proper time and moved the production line to the central and western parts of China where the cost is relatively lower,” said the same expert. He even predicated that Shanghai was no longer suitable for traditional manufacturing and more and more production enterprises will choose to move out of this city.
Strategic transformation under industrial structure change
“Presently, the situation of food industry is caused by the transformation and upgrade of foreign food giants against its unbalanced development in the past with the regional industrial structure change as the background,”said an expert. On the one hand, they need to position the categories of products and change the strategies, or move from coastal cities to the central and western parts of China to lower the cost, or optimize the product structure and upgrade low-end products.
Before closing the ice cream factory in Shanghai, Nestlé had acquired 60% of the stake of Yinlu and 60% of the stake of Hsu Fu Chi. Now, these acquisitions could be considered the signal of strategic adjustment to the business.
Experts think that Nestlé and Danone need to set up a few plants in major cities. If the cost is too high, they can adopt the OEM to reduce the cost. They could also choose some cities in central and western areas of China as the destinations of their new plants.
In the meantime, Danone from France announced the closure of its yoghurt factory. Prior to that, Pepsi Cola sold its 24 bottlers to Master Kang. All these show that those well-known foreign food giants are transforming its operation strategy in China.
This is rare in the food industry which is known for its “resistance against economic period”.
The increasing competition in China is thought to be the main reason for the current depression of foreign food giants, which are forced to conduct strategic transformation.
Profits and market share not available simultaneously
Nestlé did not make a detailed explanation about the reason of closing the factory; instead, it stated that “Nestléwas reviewing its ice cream business and preparing for corresponding changes to keep the long-term momentum for this business”.
However, the market statistical data shows that the ice cream business volume in China reached 30.675 billion yuan (USD 4.81 billion) in 2011. In the last six years this field saw a 35.19% increase. But for Nestlé, its market share in the ice cream market in 2011 was only 3.2% and thus took the fourth place, behind Unilever which took a 7.4% market share in China.
“Both Nestlé’s ice cream business and Danone’s yoghurt business were depressed by Chinese local dairy companies in the past few years,” said an analyst.
After ending the cooperation with Bright Dairy and Mengniu, Danone began to develop solely in China. In the past three years, Danone followed the strategy of “taking market share while ignoring profits” and increased its market share at whatever cost. In less than two years it recovered its share in Guangzhou’s yoghurt marekt to 17%, close to Bright Dairy, Mengniu and Yili. However, the cost it paid was very huge.
“This pattern could not stand long,” said Wang Dingmian, a dairy expert. Because Danone had no factory in Guangzhou, all its yoghurt products are from its plant in Beijing. In addition, the quality guarantee period of yoghurt product only lasts 14 days and it usually cost one week from the production date of one batch of yoghurt products to the day when they are placed on the shelves of supermarkets in Guangzhou for sale. This leads to the lofty cost. In addition to the competition with local brands in price, Danone nearly saw zero profit in its yoghurt business in China.
Hard to expand production in major cities
It is noteworthy that the factories of both Danone and Nestlé in Shanghai are the initiators of their strategic transformation.
In the past few years, private companies from Zhejiang and Jiangsu bought and reserved large tracts of land in Shanghai and other major cities of the coastal area of China. Presently, it is very difficult for the production enterprises, especially those engaged in traditional production industry such as food to find a suitable place to build a new factory.
Another problem is the rise of the comprehensive cost of corporate operation. Compared with the central and western areas of China, Shanghai and coastal major cities have no advantages in labor cost, logistics, raw materials purchasing and fees of water, gas and electric power supply. The statistical data shows that the average price of dairy products in Shanghai had a 15% year-on-year increase to 16.07 yuan per kilogram in the first three quarters of 2011. In comparison, the average price in China is only 15.18 yuan per kilo- gram.
The third problem is the favorable taxation and financial polices that no longer exist.
In 2007, China began to unify the taxation system for foreign and domestic companies. The average tax rate for foreign companies increased by 10% from before. This deleted the“super-national treatment” that foreign companies had enjoyed for more than a decade.
“Having no land means that it is very difficult for Nestlé and Danone to expand its production capacity in the major cities like Shanghai. In addition, the increasing operation cost and tight financial and taxation policies add more difficulties to the operation,” an expert said.
“Based on the 12th Five-year Plan of Shanghai, the production enterprises, including the food companies, will be gradually marginalized. It has become a trend of these companies to close their factories in Shanghai at a proper time and moved the production line to the central and western parts of China where the cost is relatively lower,” said the same expert. He even predicated that Shanghai was no longer suitable for traditional manufacturing and more and more production enterprises will choose to move out of this city.
Strategic transformation under industrial structure change
“Presently, the situation of food industry is caused by the transformation and upgrade of foreign food giants against its unbalanced development in the past with the regional industrial structure change as the background,”said an expert. On the one hand, they need to position the categories of products and change the strategies, or move from coastal cities to the central and western parts of China to lower the cost, or optimize the product structure and upgrade low-end products.
Before closing the ice cream factory in Shanghai, Nestlé had acquired 60% of the stake of Yinlu and 60% of the stake of Hsu Fu Chi. Now, these acquisitions could be considered the signal of strategic adjustment to the business.
Experts think that Nestlé and Danone need to set up a few plants in major cities. If the cost is too high, they can adopt the OEM to reduce the cost. They could also choose some cities in central and western areas of China as the destinations of their new plants.