What to do when you fail in China
Failure in China need not be final.
Yes, the market is difficult and failure is common. This is true for both domestic and foreign companies. But the country is huge and there is almost always another opportunity available. The brutality of the Chinese market is compensated for by its breadth.
French food company Danone and Danish brewer Carlsberg Group provide good examples of failing in China. Their responses also hold important lessons. One went on to a reasonable outcome, and the other to great success.
Foreign multinationals, like Danone and Carlsberg, typically arrive in China with great announcements. Those that leave tend to do so a lot more quietly. Danone was an exception. Its exit from its main China venture came after a two-year legal fight that was loud, acrimonious and widely reported.
Danone's biggest move into China was a 51/49 joint venture with Hangzhou Wahaha Group, formed in 1996. It was a fairly typical inbound development deal based on combining foreign expertise, products and capital with local management and distribution, especially into secondary cities. On paper, Danone had ultimate contractual control.
The joint venture grew rapidly and expanded from a small struggling beverage company into a conglomerate of over 40 food joint ventures in milk drinks, soft drinks, bottled water, teas and fruit juices. Over the course of 10 years, Danone and Wahaha built the largest beverage company in China.
The joint venture, however, famously fell apart in 2007 -- after Wahaha launched its own competing products.
This was unsurprising. But Danone had a surprisingly unrealistic belief in the power of contracts and board seats in China. Danone eventually took legal action in Hangzhou and Los Angeles, which was also unrealistic. Both sides sniped in the press, but Wahaha held the upper hand. Danone sold its stake in the venture to Wahaha and left China in 2009, pretty much with nothing.
Carlsberg's China failure was much less dramatic and much less reported.
The brewer arrived in 1981, at first limiting itself to importing beer and operating a Hong Kong brewery. It made its first major move on the mainland in 1995 with the acquisition of a brewery in Huizhou, Guangdong Province. This would become the company's main hub in China. It also invested in a Shanghai brewery and began producing there in 1998. Unlike Danone, it did not really form a partnership on the mainland.
But like most international brewers, Carlsberg struggled in China. Small state-owned breweries already existed in almost every Chinese city. This legacy meant there was already a lot of beer infrastructure and that Chinese consumers were accustomed to very low-priced beer.
Later, foreign entrants had to contend with these state-owned breweries being rolled up into state-owned giants. By the late 1990s, China was still an unprofitable beer market, rapidly growing shares of which were held by state-owned Tsingtao Brewery, Beijing Yanjing Brewery and China Resources Snow Breweries.
In 1999, Carlsberg effectively gave up on China. It sold its Shanghai brewery and let its staff go. Sunny Wong, one of its key China sales people, left the country and returned to the U.K.
Danone left with a bang. Carlberg left quietly. What happened to both after their China failure, though, is important.
In 2002, Carlsberg suddenly reappeared in China. It is not clear who made the decision or why. But it relaunched its China operations and took everyone by surprise with its strategy: It basically ignored the major cities and beer markets of Shanghai, Beijing and the east coast. Instead, it went far west, into China's big backyard.
These western regions, including the provinces of Gansu, Qinghai, Xinjiang and Yunnan, remain relatively undeveloped today. Back in 2003, they formed a vast nowhere, by far the poorest part of China. There was little infrastructure and even less money.
Around 2002, Sunny Wong also returned from the U.K. with what he would later describe as his "mission impossible" -- to develop Carlsberg's western China business in places he had never been before. He promptly flew to Yunnan and Tibet, and over the next couple years put together a flurry of joint ventures and development deals across the region.
By 2006, Carlsberg had 20 breweries in western China. It also had become the market leader in all the western provinces in which it had invested. Its network would eventually expand to more than 50 breweries in central and western China. Today, Carlsberg has more than a 60% share of the market in western China, where beer consumption is growing at a 12% annual clip, compared with 4% to 5% nationally.
Carlsberg has recently expanded into Chongqing, in central China. For most companies, starting operations in Chongqing is considered moving inland. For Carlsberg, it was actually a big move toward the east. In Yunnan, the company is currently building what will be its second largest brewery anywhere in the world.
In contrast to Carlsberg, Danone has continued to struggle in China since its 2009 exit. It has held talks about new joint ventures with China Mengniu Dairy and Bright Foods, but these never really took off. However, China is big and rapidly changing; there are always new opportunities.
Following the 2008 powdered milk contamination and other scandals, Danone found itself well-positioned in the infant nutrition market. Food scandals and a general lack of trust in domestic brands led to a massive increase in imports of milk formula. More than 30% of baby formula is now purchased online, and it is common for vacationing Chinese to bring home suitcases full of powdered milk.
Danone and other foreign leaders like Mead Johnson and Nestle are benefiting from this. Danone has still not figured out how to operate directly on the mainland, but things are starting to look a lot better.
With 1.4 billion consumers, there are always second chances in China.
There are three important lessons here:
Failure is not necessarily final. Things change very fast in China. However, bear in mind that this works both ways. Success in China is also not necessarily forever.
If you are partnering with local companies, you need something of value to add long-term. Contracts will not protect you, and your value-add needs to last more than a few years. Think brands, technology, foreign customers and foreign products. And be conscious of when they are no longer going to be of value.
When going directly into China without a local partner, the key question is how to avoid or beat the competition. You need a powerful answer to this question. It is far better and cheaper to avoid this struggle altogether, if you can. Carlsberg did this by going west. Danone is doing this now by focusing on infant nutrition.
Jeffrey Towson is a professor of investment at Peking University's Guanghua School of Management in Beijing.