How did China's premium liquor barons become so influential, and will new government an-ti-extravagance initiatives be enough to break their stranglehold on what used to be a captive market?
Illustration by Wu Shangwen
Enjoying a level of freedom to advertise that would make Bacardi's mouth water, and with almost total control over their market niche, China's top baijiu (literally "white liquor" - the country's national drink) brands are among the most visible consumer products in the People's Republic. With an unrivaled market position and ample political backing, the biggest brands effectively control retail prices, going to great lengths to punish anyone selling their products at a discount, with franchise terminations and heavy fines a common occurrence.
Now, however, rising public anger is forcing baijiu manufacturers to abandon their controversial business tactics, after the Kweichow Moutai Distillery, China's biggest by market value, and its arch rival Wuliangye Yibin, were fined 449 million yuan (US$72m) by the National Development and Reform Commission (NDRC), the country's top macroeconomic agency, in late February for breaching anti-trust laws.
Though the penalty only accounts for less than 1 percent of the two companies' total annual sales revenue, this is a watershed moment. Baijiu, like tobacco and sugar, is an industry firmly under State protection, and like any such industry, is usually considered above prosecution. The fact that the NDRC has dared to challenge two of the country's most high-profile enterprises, forcing them to abandon illegal business practices, has severely dented these companies' respective images, according to Zhu Xiaodong, an industry analyst with Oriental Securities in Beijing.
"The key driver for premium baijiu consumption is the yearning for social status," said Zhu. "A price drop is the last thing baijiu makers want to see."
Because premium baijiu is often given as gift, rather than consumed by the purchaser, price hikes have become routine around key national holidays such as Chinese New Year and the Mid-Autumn Festival. Moutai, noted for what connoisseurs describe as a "saucy" aroma, now retails for 1,800 yuan (US$290) for a standard 500-milliliter bottle, a price just short of the average monthly income of a Beijing resident. This is nine times what the same bottle would have cost a decade ago.
Even more remarkably, each consecutive price rise is typically followed by a jump in stock price, indicating that consumers are more inclined to buy a marked-up bottle of liquor, believing it to be of superior quality or, at least, a more prestigious gift. Similar effects have been noted in the sales of other luxury goods in China, where quality typically takes a backseat to sheer cost. The day after Moutai announced its last price rise in early September last year, the company's share price gained six percent on the Shanghai Stock Exchange.
This trend is partly explained by the fact that consumers of premium baijiu - namely the military, government and State companies - rarely pay for it out of their own pocket. Instead, public funds foot the bill.
"When a businessman is trying to get close to a government official to win a multi-million yuan government contract by throwing a banquet, why would he care about the price of a bottle of baijiu on the dinner table?" Zhu asked our reporter.
"He would probably choose the most expensive brand because the higher price would be more likely to impress his guest," he added.
The association with government extravagance means that, while price hikes don't do much to damage the reputation of premium brands of baijiu, they have come to symbolize many social grievances against China's ruling classes.
The austerity campaign begun by new Party chairman Xi Jinping last year drove down share prices of major premium baijiu brands by about 30 percent over the Chinese New Year holiday in early February, according to the Ministry of Commerce. Wuliangye's share price on the Shenzhen Stock Exchange fell by 29 percent, while the index itself gained nine percent, both occurring almost immediately after Xi Jinping made his first remarks about cutting back on government expenditure on luxury goods. Moutai lost similar ground on the Shanghai Stock Exchange, which itself saw a lift of 8 percent over the same period. These fluctuations were further ammunition to critics of government extravagance, taken as proof that public money was being blown on overindulgent banqueting.
These are dark days indeed for an industry which has long been among China's biggest domestic success stories. Unlike Korean soju and Japanese sake, baijiu has never found a market overseas, with its rough, aggressive palate unappealing to most non-Chinese. However, on its home turf, baijiu has rocketed in profitability over the past decade, with market leader Moutai - first popularized by Mao Zedong himself - seeing its market value increase 40-fold.
Sustained market demand has enabled distilleries to outperform almost all other companies on China's stumbling stock exchange. While Chinese markets fell 33 percent over 2010 and 2011, Moutai's value surged 25 percent. In 2011, the company reported a net profit of 8.76 billion yuan (US$1.38bn), 73 percent up from the previous year. Wuliangye Group saw its profits climb 40 percent to 6.16 billion yuan (US$991m) in the 2011 fiscal year.
By the end of the 2000s, Wuliangye was still China's number-one baijiu maker in terms of sales volume, with a clear upper hand over Moutai. But its strategy to diversify its products, according to analysts, seriously diluted its brand value. It was soon overtaken by Moutai which, in contrast, focused on the high-end market and made great efforts to promote its sales among government clients rather than the general public. A bottle of Moutai became the must-have item during official banquets, society weddings and business transactions.
Moutai came up with a brand-new sales strategy called "institutional sales," which meant taking direct orders from government departments, the military and major State companies. The company duly enjoyed a massive boom in sales, fed entirely at the taxpayer's expense. According to a research report by Goldman Sachs, institutional sales now account for about half of Moutai's revenues.
Between 1995 and 2010, government revenue in China grew nine-fold, more than triple the increase in average urban disposable income and almost five times the increase in average rural disposable income, according to an article by Chen Zhiwu, an economist from Yale University.
2011 government revenue broke yet more records, increasing by almost 25 percent over the previous year to top 10 trillion yuan (US$1.61tn), while GDP rose only 9.2 percent and average urban disposable income by 8.4 percent.
In 2011, household consumption only accounted for about 35 percent of China's GDP, down from 46 percent in 2000. The figure for the US was about 70 percent.
Reaping this windfall, officials spent much of this revenue on lavish dinners, luxury cars and overseas tours, habits which have stoked public anger to fever pitch in recent years.
Institutional sales have helped to largely consolidate Moutai's brand image as the liquor of choice of the elite, equal to the status of the black Audi sedans so beloved of China's officials.
Inspired by Moutai's success, other premium baijiu makers attempted to replicate their success. According to Goldman Sachs, Wuliangye now attributes 15 to 20 percent of its sales revenue to government purchasing. Luzhou Laojiao, China's third-biggest distillery group, only makes 5 percent of its revenue through institutional sales.
Moutai remains at the top of the heap, thanks largely to its political pedigree. During the Long March in 1935, the Red Army passed through the liquor-producing town of Moutai in western Guizhou, using its signature product to drown their sorrows and treat their wounds. Claims were even made that Moutai was a treatment for diarrhea.
Mao Zedong, having just eliminated his political rivals to seize control of the red army, would later mention Moutai in his memoirs. As early as the mid-1950s, the three major private distilleries in the town of Moutai, Guizhou Province, were nationalized under the name of "joint public-private operation" and merged into one State-owned Moutai distillery, with the liquor named a State Banquet Beverage.
One liter of Moutai is made from five kilograms of mixed sorghum and wheat. According to Yanhuang Chunqiu magazine, even during the great famine which killed millions of Chinese between 1959 and 1961 as a result of the Great Leap Forward, an unbroken supply of grain continued to feed production of Moutai even as the peasants growing it died of starvation.
Moutai has made great efforts to cash in on its association with the Communist Party. In its head office compound is a statue of Premier Zhou Enlai, a Moutai aficionado who shared his passion with US President Richard Nixon during his historic visit to China in 1972.
Zhou was even honored by the Moutai corporation as "the Father of State Liquor," a self-ascribed epithet which has met with fierce opposition from other distilleries, preventing Moutai from registering "State Liquor" as a trademark.
Since Reform and Opening-up, as its competitors have grown in strength, Moutai has attempted to vary its branding to match an increasingly sophisticated consumer. Like other high-end baijiu, Moutai reportedly doesn't cause hangovers, but that hasn't prevented the company from stressing this in its advertising, also adding claims that it is "a natural, organic and unique liquor catering to elite consumers," claims impossible for independent sources to verify. The company has even gone so far as to claim their 106-proof product is good for health, a claim vehemently denied by medical professionals.
A report released on March 14 by the Time Weekly newspaper disclosed that, contrary to the corporation's claims, a large percentage of the raw materials used by Moutai are neither local nor organic. Most grain used in the distillation process is now imported, and pesticides are widely used both on the sorghum farms around the distilleries as well as in the areas supplying the bulk of its other grains.
The report further dented Moutai's share price on the Shanghai Stock Exchange, which fell eight percent in the wake of its publication. For the first time in its history, a corporation carefully nursed by the State has found itself under attack from both the government and consumers. If Xi Jinping continues to push ahead with anti-waste and anti-extravagance reforms, Moutai could lose its most-favored status at State functions.
Moutai boomed in a period when the government tightened its controls on the economy and cracked down on independent enterprise, an endeavor dubbed "the advance of the State and the retreat of the private sector." China's new leadership is hinting at reversing this trend, which analysts believe has damaged the country's economic prospects and eroded faith in the Communist Party. Should they deliver the goods, Moutai, along with black Audi sedans, luxury holidays and expensive houses, may vanish forever from government expense accounts, and, eventually, the marketplace they once dominated.
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