CONSUMER: Jack Daniels Makes China Splash With Wuliangye

Bottom line: Wuliangye’s new tie-up with Brown-Forman continues its drive to diversify and create new products for younger consumers, which could help it emerge as a leader when liquor makers emerge from their current downturn.

Brown-Forman links with Wuliangye

It’s not often that I get to write about foreign company involvement in China’s traditional liquor industry, which is largely closed to overseas investment and is also quite fragmented and filled with pitfalls due to dominance by local interests. So I was quite excited to read a new report saying Brown-Forman (NYSE: BF-B), a major US liquor maker whose brands include Jack Daniels whiskey, has teamed up with leading Chinese spirits maker Wuliangye (Shenzhen: 000858) to develop new products for emerging markets.

The report cites unnamed sources saying the 2 sides have already signed a cooperation agreement, but provides few other details. (English article) The bigger back story is that China’s traditional spirits makers, whose main product is a clear liquor known as baijiu, are all suffering enormously due to a number of factors.

The market’s high degree of fragmentation has been a problem for years, leaving most companies as regional players that don’t have the economies of scale to compete with beer and trendier imported liquors. More recently, a 2-year-old crackdown on excessive government spending has sent the industry into deep freeze, since baijiu was previously a favorite at lavish banquets paid for with government funds.

Many smaller baijiu brands have strong connections with their local governments, which subsidize the businesses as a matter of local pride and often obstruct consolidation. Larger and more famous brands like Wuliangye, Moutai (Shanghai: 600519) and Jiugui (Shenzhen: 000799) have been more successful developing national brands, and sell their products throughout China. That latter group is getting hit especially hard by the recent crackdown, since many such brands are both prestigious and expensive, and thus are often favorites at government banquets.

Among the leading names, Wuliangye seems to be one of the more innovative firms in responding to the recent crisis, realizing it needs to diversify its appeal beyond ultra high-end products largely favored by an older generation of Chinese. That drive is most likely one of the main factors behind this new tie-up with Brown-Forman, which is already the third leading whiskey brand in China with about 9 percent of the market.

The report doesn’t mention any equity tie-up in this new partnership, but I would expect there’s no such exchange just yet. That’s because China is quite sensitive about foreign investment in the baijiu space, and to date has prohibited most such investment. One notable exception to that is Britain’s Diageo (London: DGE), which owns a controlling stake in Sichuan-based Shuijingfang (Shanghai: 600779).

I expect this new agreement between Brown-Forman and Wuliangye is the first stage in a longer partnership that could eventually see the formation of a joint venture in the next year. That venture would then develop new products with different tastes, alcohol levels and a range of price points designed to cater to younger Chinese who might not want to splash out 1,000 yuan or more for a bottle of liquor.

The news also indicates the partnership won’t just focus on China, but will also aim to export its products to other developing markets. That certainly looks like a smart move, and is a place where Brown-Forman’s global connections would become a valuable asset for the new alliance.

Wuliangye made headlines last year when it launched a new line of products in the 500-600 yuan ($80-$95) range under a new brand, Wuliangye Touqu. This new tie-up looks like a continuation of that effort, and seems to reflect a realization by the company that it needs to become more diversified and create new products that can appeal to younger consumers. I quite like this approach, which looks more innovative than many other baijiu makers, and am cautiously optimistic that Wuliangye may emerge as one of the longer-term leaders when the sector’s current woes subside.

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