LUOHE, China -- As a child growing up in the Chinese city of Qingdao, Wu Qionglin would curl up on a sofa watching television before dinner and munch on her favorite snack: a red plastic-wrapped sausage called wangzhongwang, or "king of the king," a processed-pork stick.
That was then. As a graduate student of nutrition in the U.K. now, Wu gave up the snack when she discovered the amount of food additives and starch used in the product. "I only eat it occasionally now to get a taste of childhood," the 26-year-old Wu said. "I'll never give it to my children, though. I would rather cook fresh meat."
That sentiment is shared by many Chinese who are abandoning the sausage stick as they grow wealthier and pursue healthier lifestyles. And that shift in diet has posed challenges to WH Group, producer of the sausages.
WH Group, formerly known as Shuanghui International and based in Luohe in China's Henan Province, built a fortune selling the ready-to-eat sausages.
The products' popularity transformed the company from a small state-owned slaughterhouse to the world's largest pork manufacturer following its $4.7 billion acquisition of Smithfield of the U.S. in 2013. With annual revenue of $22 billion in 2016, it was added as a component of Hong Kong's benchmark Hang Seng Index.
Inexpensive, tasty and convenient, the 30-gram sausage was once an ideal staple a generation ago for people on limited incomes in an under-developed country. Today, sophisticated Chinese consumers prefer fresh meat over processed-meat products for their nutritional value.
Improved living conditions in China also has played a part. With the popularity of refrigerators in lower-tier cities, fast-growing food-delivery services, and greater penetration of overseas products, the Chinese appetite has grown far beyond what the sausage stick could offer.
Sales of what WH Group calls "high-temperature sterilized meat products" -- which have a longer shelf life, but less nutritional value -- had been a drag on its revenue in China, falling three consecutive years from 2014 to 2016. The first six months of 2017 saw revenue of those products dip 0.37% to 6.8 billion yuan ($1.04 billion).
To diversify its business and stop losing customers, Wan Long, WH Group's long-time chairman, has initiated a bold transformation plan.
Back to basics
It may not be surprising that the company has returned to the slaughtering business with which it is most familiar for a solution. Before the company became known as Shuanghui thanks to its popular sausage sticks, its key profit generators were slaughtering and the sale of fresh meat.
The company was founded in 1958 as Luohe Cold Storage and renamed Shuanghui Group in 1994. The company changed its name again to WH Group in 2014, the year after the Smithfield acquisition.
Wan, a former soldier, joined the then-state-owned factory after his discharge from the People's Liberation Army in 1968. He started as an office clerk and by the time he was 44, in 1984, he was elected by co-workers as general manager.
Wan took over a loss-making factory on the verge of bankruptcy, owing creditors 5 million yuan. But he turned the business around, according to reports, and delivered a profit of 5 million yuan the following year.
In the era of China's planned economy and during the early stage of reform and opening up, Wan was able to secure a stable supply of pigs from farms by offering slightly higher prices than what the government set. In addition to pigs, the company started slaughtering cows, goats, chickens and rabbits, eventually becoming the dominate player in Henan Province and earning Wan the moniker "China's chief butcher," for his ability to grow the business.
WH Group now plans to remedy China's volatile pig prices by becoming a dominant player in the slaughtering business in the country.
China is the world's largest market for pork, consuming half of the world's supply with per capita consumption of 30.8kg in 2016, according to the Organization of Economic Cooperation and Development. Pork makes up 60% of the meat consumed in China.
In November, Wan told a group of investors and reporters at a roadshow at its Luohe headquarters that its eventual goal is to slaughter 100 million pigs annually -- almost seven times the current level. That means the company would be producing roughly 10% of the world's hogs. In the medium term, the company plans to double its current production to 30 million pigs annually by 2025.
Wan's ambitions were fueled by Beijing's ongoing crackdown on smaller slaughterhouses and farms to modernize the country's agricultural industry.
"It is a historic opportunity for us to grow our slaughtering business," Wan said, and would help the company to be able to grab market share from smaller rivals. He predicted the sector would drive the group's growth for at least 10 years.
Beijing has shut down 6,929 private slaughterhouses since the end of 2013, according to the state news agency Xinhua in October. The number of pig slaughterhouses fell 23.78% to 11,219.
Under new environmental regulations, livestock production is banned from operating within close proximity of water resources or populated areas. Farms in other regions are also required to equip plants with expensive manure-management facilities, which small-scale operators cannot afford.
Analysts say the crackdown will squeeze out a large number of small-scale players, giving WH Group better control over hog prices and boosting its market share of fresh pork.
"WH Group will have more bargaining power in the market with its larger hog production," said Barney Wu, a consumer analyst at Chinese brokerage Guotai Junan Securities.
Most hogs in China are raised by individual farmers and small slaughterhouses with an annual production of less than 5,000 heads each. Lured by better profits when the market price is high, they rush to increase production, causing sharp increases in market supply. The high costs of small-scale production also leads to greater price fluctuations.
WH Group's management has blamed high pork prices for its lackluster results over the past three years, as they have dampened people's consumption of fresh pork and driven up material costs for packaged meat products.
However, following a three-year surge that saw hog prices reach more than 20 yuan a kilogram, prices started cooling since last year. Wan expects the average price of hogs to see a double-digit decline this year from last year's average, stabilizing at 13 to 14 yuan per kilogram.
The downward trend has benefited WH Group, which saw solid volume growth of fresh pork sales, which were up 26% in the second quarter of 2017 and 38% in the third quarter.
"Integrated animal protein provider"
For WH Group, growing its slaughter business may serve the cause of mediating risks brought by volatile hog prices, but it is not likely to be a growth engine. The profit margin for its fresh pork business was 2.3% in the first three quarters of last year, compared with a 21.2% profit margin for packaged meats.
Despite dwindling sales in recent years, packaged meats still contributed 75% to the company's profits during the period.
The lucrative returns have prompted WH Group to invest heavily in new product development of packaged meats with a focus on frozen products and snack foods. In the past year, it set up seven more research and development centers across China, adding to the one it already had.
In Wan's words, WH Group will become an "integrated animal protein provider," signaling its future business will go beyond the traditional pork business.
Among the company's more than 100 products recently launched include a variety of flavors from different regions in China -- including ready-to-eat Sichuan spicy chicken and Cantonese braised duck neck -- to better cater to the picky tastes of China's millennials.
The new product line-up is expected to contribute 10% of its annual sales this year, Wan said. However, he said the company would still give priority to pork-related products while expanding other nonpork products by "exploiting its strengths and avoiding weakness" in the future.
Analysts who attended the roadshow gave positive marks to the company's strategy of introducing new products. "Management continues to address its product upgrading strategy in low-temperature categories, which will be a long-term growth driver," Macquarie Research wrote in a report. Goldman Sachs analysts maintained its "buy" rating for the company, despite signaling risks of slower-than-expected packaged-meat growth.
In the frozen packaged meat segment, the company expects more than half of its processed meat sales to come from low-temperature products in the coming years from less than 40% currently, with double-digit growth this year.
Frozen packaged meat is considered to have higher nutrition value compared with heat-processed meat. But these products tend to have a shorter shelf life and need to be kept in freezers.
The higher storage requirement means WH Group would have to put more effort on logistics and retail channels, said Wu of Guotai Junan. "Small shops [without freezers] will not be able to sell its frozen packaged meat," he said.
Expanding through acquisitions
While Shuanghui was a recognized brand at home, it became internationally recognized after its acquisition of Smithfield, the U.S.'s biggest pork producer.
The deal marked the company's first and probably most important step in the international market, followed by a series of other acquisitions in the U.S and Europe through the Smithfield subsidiary.
In September, WH Group agreed to acquire two packaged-meat producers in Romania for an undisclosed sum, a month after it bought three companies from Poland's Pini Group. Also last year, the company completed its acquisition of Clougherty Packing, California's largest pork processer, along with several brands it owned, including Farmer John bacon.
The recently acquired overseas businesses had proved to be better profit generators than WH Group's China operations.
In the first three quarters of last year, WH Group's U.S. business, which accounted for 59.1% of its revenue, saw its profit grow 9.1% to $670 million from the same period a year earlier. The profit for its Europe businesses surged 157% to $108 million, contributing 7.4% of its total revenue.
By contrast, profit from its businesses in China was down 4% to $601 million during the period, dragged down by sluggish packaged meat sales, whose profit dipped 4.2%.
WH Group's Hong Kong-listed shares closed at HK$9.12 on Thursday, up 47% from HK$6.22 at the beginning of last year, beating the benchmark Hang Seng Index's gain of 41% during the same period.
Wan said the company's broader international exposure would enable it to integrate global resources and reduce risks stemmed from a single market. For example, he said the group was able to lower production costs in 2016 by importing cheaper meat from the U.S. when hog prices were high in China.
The initial success of its international operations has encouraged the company to make aggressive moves for overseas assets. Sitting on a cash pile of $500 million as of the end of June and having access to major international lenders, company Chief Financial Officer Guo Lijun said it had ample capital for future acquisitions.
And WH Group is targeting companies that are not limited to meat for its expansion. Pan Guanghui, general manager at the company's Zhengzhou plant in Henan, said it is considering developing some bread-based products to go along with its Western-style pork products, as Chinese consumers have complained that hams and bacon under the Smithfield brand were "too salty."
To leverage the influence of Smithfield's well-established brand name in China, WH Group invested 800 million yuan on a production line in its Zhengzhou plant, manufacturing 23 meat products under the brand. But consumers' reactions did not meet the group's expectations, as its Chinese customers hesitated at accepting Western tastes.
"Customers said the products were too salty, but when you eat them with bread, lettuce and tomatoes, you don't feel that way," Pan said. "We are also discussing with the R&D team at Smithfield to see if it is possible to alter the recipe in China to cater to local tastes," he said.
Would chairman's son succeed?
The question on investors' minds in recent years is the issue of a successor for Wan, who has led the company for decades. "I do have a plan to retire, but I don't have a timetable," the 77-year-old said in November. "The matter needs to be discussed internally before we make any announcement."
Responding to a question about a successor, Wan said: "All the management here today look good to me. They have worked in the company for more than 20 years, and they are the leaders of the industry."
One possible candidate is his son, Wan Hongjian, who joined the company in 1993 and is currently group vice president, overseeing its international trading business. The elder Wan said his son's future role would depend on whether he has the ability and the support of employees.
Wan does make one thing clear: The group's headquarters will remain in Luohe, the city in which he was born and raised, no matter how far its future global ambitions take the company.