Mengniu Dairy to Buy Stake in Quality Control

Reuters reports on Mengniu Dairy’s deal to buy a sizable stake in China’s largest raw milk producer in effort to gain greater quality control over its milk supply:

China Dairy Co Ltd’s (2319.HK) deal to buy a $410 million stake in China’s largest unpasteurized milk producer is a strategic move to rebuild trust after a series of scandals left local brands’ reputations in tatters.

Mengniu, twice hit by accusations it sold tainted milk, said on Wednesday it would buy 26.92 percent of China Modern Dairy Holdings Ltd (1117.HK) from private equity firms KKR & Co LP and CDH Investments. The deal will lift Mengniu’s stake in China Modern to about 28 percent.

For Mengniu, whose liquid milk products rank first in China by sales volume, the purchase is an attempt to ensure control over its milk supplies and win confidence among consumers in a market that is growing at about 20 percent a year.

Currently, Mengniu owns a 1 percent stake in Modern Dairy, and as stated above, this deal will increase their holdings to 28 perent. This move comes as part of a larger campaign by Mengniu, a leading player in an industry long embattled by safety scandals, to win back consumer confidence. From Bloomberg Businessweek:

Mengniu’s operating profit last year shrank (2319) 16 percent to 1.45 billion yuan as sales fell 3.5 percent. Food quality and safety incidents affected consumer confidence and sales, it said in a March 27 statement. In 2011, Mengniu said moldy cattle feed led to excessive toxin levels in its milk.

Since then, the company has run marketing campaigns emphasizing product quality to draw consumers back, and also formed a strategic partnership with Danish dairy firm Arla Foods in 2012 to improve quality inspection techniques and explore further co-operation.

This is another step by Mengniu towards industry consolidation in hopes to guard against future safety scandals. The Wall Street Journal reports:

China’s , which has seen multiple scandals in recent years, still relies on networks of small farmers, and analysts say consolidation would improve oversight. Even as China’s biggest dairy farmer, for example, Modern Dairy’s total output accounts for only a fraction of Mengniu’s demand. In 2011, it sold 97.5% of its raw milk to Mengniu–less than 7% of Mengniu’s needs.

[…]Mengniu bought its initial stake in Modern Dairy last year in a move that was expected to help it increase control over the quality of its raw materials. The two companies have a close relationship. Modern Dairy’s chairman, Deng Jiuqiang, was a co-founder and former vice president of Mengniu.

After recent large scale arrests for “meat-related offenses,” China’s Ministry of Public Security said that the dairy industry will be the next target in the national campaign towards . For more on food safety, China’s dairy industry, or milk contamination, see prior CDT coverage.