China's food sector: Is there room left for the little guys?

By Paul O'Brien, China food regulatory analyst

- Last updated on GMT

© iStock
© iStock

Related tags: International trade, China

China may have opened up its economy even more in the last several years but it's not as if the floodgates are wide apart. Much of this "openness" is actually born out of necessity rather than a love of equity. It's foreign trade policies are still protectionist to the core and still very much about maintaining favourable trade balances.

Entry into the infant formula market now requires registration of formulations, it limits manufacturers to three product lines and promises inconveniences like onsite inspection. 

Foods for special medical purposes require clinical trials and clinician prescriptions, while health foods with functional efficacy claims require exhaustive scientific substantiation involving a dossier submission replete with clinical trial data, animal testing and toxicology. 

Cross-border e-commerce will eventually be limited by positive lists and stricter administrative requirements. And on the horizon we can see similar strict requirements for wine and honey in the offing.

As as an investor considering expansion into China's food sector, it's wise to work on the assumption that you don't come to China and make money: you make your Chinese partner money and get a cut in the process—as long as you’re savvy. So with infant formula, health foods and FSMPs off limits to SMEs what options are left ?

Looks can be deceiving

The growth data and forecasts for China's food sector are compelling reasons for food enterprises to look towards Chinese markets as viable options for expansion or investment. However, there are the numerous hurdles facing potential investment on the flip-side.

If I had a penny for every article I've read that lists the language barriers, the lack of guanxi​ (connections with key decision makers) and differences in business practices as key factors for entry into China, I’d probably have about two pennies. That’s mostly because when I read this in an introductory paragraph, its a red flag for me to stop wasting my time with derivative drivel.

Something much more deliberate is at work in China's food sector and represents the real hurdle for international investors. Understanding this will help investors pick the low-risk, high-yield market-entry strategies that fit the following criteria: relatively reduced regulatory barriers; no foreseeable strict regulations in the pipeline; high demand; proven track record in international markets with relative underdevelopment in China; and internal growth trends.

Regulations are meaningless without context

If you've been following regulatory changes within the Chinese food sector for several years, you'd understand that the biggest issue facing investors is the fact that China will continue to remain extremely protectionist in its international trade policies, and the design and practical implementation of legislation and regulation born out of this overriding principle.

Its easy to forget this when looking at the impressive data and forecasts relating to growth in the imported food sector. However, in my opinion, this data is indicative of a transitional period that China has been forced to undergo due to domestic capacity issues, scandal and huge demand for imported products.

So with the big markets closed to all but the deepest-pocketed multinationals, what about the smaller emerging markets?

Yes there are certainly still major opportunities in China but as we saw in the infant formula sector the window of opportunity for investors is small and growing smaller as China accelerates domestic capacity-building and implements an exceedingly clever trade strategy to encompass all foods. 

Understanding some of the background and the basics of this strategy is crucial in determining the risks to investors and picking the smart battles going forward.

China's food foreign trade policy

China's food sector is being engineered using a mix of financial might, shrewd trade policies and strategic regulation, and it has brought these to bear with obvious effect in key food sectors including:

 • Foods for special medical purposes

 • Health foods and supplements

 • Infant formula

We have seen how in the space of a decade China's infant formula sector went from offering huge potential to international investors to now being arguably the most difficult market in the world for new investors to crack. 

It’s a big boys game now and SMEs are left to look from the sidelines; the same can arguably be said for “foods for special medical purposes” and “health foods”, which will require clinical trials prior to market, and other hefty regulatory compliance burdens. 

Scanning the horizon we can see similar regulations being developed for the wine and honey sector, and blueprints calling for future implementation of these requirements for all food sectors. The end is nigh!

Legislate, regulate, amalgamate

At the domestic level China uses what I've termed regulatory selective pressures in which it imposes lofty technical requirements forcing closure and mergers in weaker capacity enterprise. The result is consolidation of markets into the hands of China's larger "private" enterprise. 

On an international front it imposes extremely strict regulatory requirements for imported foods, including onsite inspection and audit by CNCA, increased administrative compliance requirements and heightened inspection and testing of products at port.

This domestic strategy of regulatory selective pressures is the just the first step in a longer term plan. This is especially the case when combined with aggressive international business expansion involving the purchase of overseas production facilities and stakes in large multinationals by China’s quasi-state-owned businesses, and has allowed the country to establish some parity for its domestic industry in a very short time.

This is important: in the future the terms "domestic​" or "imported​" will become meaningless when the raw materials, products, distribution channels and ultimately the profits are made by Chinese enterprise. This will maybe come with a nice kickback to governments and multinationals that have allowed Chinese enterprise to buy large production facilities or large stakes in the company.

The consumer is king

At the epicentre of all this activity is a battle for the Chinese middle-class consumer, a 300m-strong demographic. In the aggregate this demographic is fundamental in China's plans to re-engineer its economic engine away from traditional primary and secondary industries.

A history of scandals, impossible-to-avoid pollution and one-child policies have meant that domestic products are something to be avoided for this demographic. So now facing an impossible situation, China has come up with what can only be described as a very effective strategy to help it re-establish control of this key demographic. 

High-risk​" foods (read large, valuable markets which make people in control lots of money) have been emphasised initially, hence the speed at which the infant formula sector has been transformed. After these sectors have been transformed, we will see the government turn its attention towards the remaining areas.

  • Paul O'Brien is China food regulatory analyst for China-based Chemlinked. 

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