Baijiu slowdown offers international promise

Far from an international spirits crisis, the steep decline of the baijiu market has knocked producers out of their complacency, finds Amy Hopkins.

Sales of high-end baijiu have been hit by the Chinese government’s crackdown on lavish spending

Only two years ago, high-end baijiu – the fiery staple spirit of China – was one of the most coveted categories in the spirits world. Accounting for greater volumes than most other segments combined, no-one could have predicted the extent of its decline after the Chinese government announced its ongoing crackdown on hedonistic banqueting and gifting among politicians and the military in 2012.

The white liquor, made from sorghum, wheat or rice, has long enjoyed the financial affections of Chinese officialdom as well as its ceremonial position at most weddings, birthdays and business meetings in the country. Selling billions of litres each year, baijiu’s authority in the spirits world has been left near enough unchallenged for many decades.

It was into this bright and promising arena that Diageo marched in 2011 with the acquisition of SJF Holdco and its luxury baijiu brand Shui Jing Fang. The group was excited not only by the prospect of having greater access to the lucrative Chinese marketplace, but also by making the brand a star on the international stage.

However, China’s austerity measures punctured the UK drinks giant’s optimism, forcing it to write down the value of Shui Jing Fang by £264 million in its full-year 2013/14 financial results. The massive decline impacted Diageo’s overall net sales for the fiscal year, which fell by £1.1bn to £10.2bn. The problem was echoed throughout the business, with both Moutai and Wuliangye Yibin also forced to report sliding profits.

Without the government’s guaranteed block purchases of luxury baijiu, producers have resorted to deep discounting. The effect of this is exemplified by figures released by the IWSR. In 2013, volumes of baijiu continued to grow to 1.17 billion nine-litre cases, from 1.16bn in 2012, however the value of the spirit fell from over US$92bn in 2012 to US$83bn in 2013, indicating a growing trend of heavy price reductions.

Diageo’s was forced to write down the value of its Shui Jing Fang baijiu brand by £264 million

Yet Diageo has, publically at least, expressed a firm confidence in Shui Jing Fang and the luxury baijiu sector. “The question for me is did we make the right decision and is this the right category to be in? It is the right category,” said Diageo CEO Ivan Menezes shortly after the group’s financial results were revealed last month.

“It was very tough for us to get into it; it took seven years of persistent effort. We are the only multinational that has a terrific brand in what is 60% of the China beverage alcohol market. Could I predict that the anti-extravagance stuff would happen? No. But we will rebuild from here.”

Another light has been found at the end of the tunnel by international distributors, who claim that despite short-term hardship, baijiu producers are now more aggressively targeting their high-end variants in international markets to offset domestic value declines. According to Manny Burnichon, founder and CEO of US distribution company Private Cask Imports (PCI), which handles baijiu brands including Moutai and Shui Jing Fang, the declining value of the baijiu category has forced producers out of their complacency.

“For a long time, Chinese producers have been selling vast amounts in an easy territory,” he said. “Before they were overly confident, but they don’t know how to tackle the US market.

“Most of the producers were supporting their brands with their eyes completely closed. They were trying to replicate what they were doing in China by using a mass-market approach, when in fact they are in infancy in the rest of the world so their approach has to be different and more targeted. That was our main challenge at PCI – to convince them to understand our needs.”

Producers are now engaging with US distributors with “open minds”, according to Burnichon, and are attempting to grow their businesses “beyond China Town” and the Asian-American diaspora which has sustained their modest international volumes over the years.

Derek Sanhaus, author of Baijiu: The Essential Guide to Chinese Spirits, echoes this: “Producers have been experiencing uninterrupted double-digit growth for decades, but the austerity measures have forced them to change direction.

“When you have the Chinese government buying your high-end stocks outright, you don’t need the extra attention, you just need the cash.”

While some commentators have already written the premature obituary of baijiu, others believe there are opportunities for international distributors

Meanwhile, back in its motherland, some commentators have already begun to write the premature obituary of baijiu. Last year, Torsten Stocker, partner at business strategy consultancy AT Kearney, told Reuters that producers “had a new reality to adjust to”, as austerity measures coupled with an unfavourable reputation among the younger generation in China, meant that “baijiu has nowhere to go but down”.

This somewhat hyperbolic standpoint has been batted away by the more optimistic. For Sandhaus, “prices are going down significantly at the top end of the market, but it’s going to a place it should have been without being subsidised by the Chinese government. It doesn’t mean people in China don’t like drinking baijiu anymore.”

Sandhaus adds that demand is still strong at the luxury end of the market since China’s anti-corruption campaign only targets official channels. “Every private businessman and every wealthy consumer still drinks huge amounts of expensive spirits, so the baijiu industry isn’t going anywhere,” he says.

The prevalence of super-premium baijiu will also be sustained by the emerging middle class in China, believes Sandhaus. “As the mobility and purchasing power of Chinese consumers increases, so will the consumption of alcohol, and baijiu makes up 90% of alcohol consumed in the country,” he says.

Sandhaus also forsees a cyclical fortune in the international ambitions of baijiu, claiming that “if brands do manage to expand into global markets in a serious way, then this will make them more appealing to younger Chinese drinkers”.

But can a nationally-embedded spirit such as baijiu achieve serious volumes internationally? According to Burnichon, while the interest of “early adapters” and experimental mixologists will continue to drive the category abroad, the strength, unique taste profile and high price of luxury baijiu will restrict it to modest volume sales. “I believe in a bright future, but not a mass market,” he says.

And so while world domination might be somewhat distant, it seems there’s still hope for Shui Jing Fang and its brethren yet.