Check on China: Food safety
If there was ever a situation that fits the Chinese saying “crisis brings opportunity,” the current eruption of safety concerns for China’s food industry may be it. With the problem as widespread as it is, there is a huge demand for products that are safe, and investing in those companies that can meet the demand will likely bring nice returns.
For the past few months, it seems that not a day goes by without scary news concerning China’s food. One day it is Chinese catfish, bass, eel and shrimp containing high levels of cancer-causing toxins. Another day it is toothpaste made from diethylene glycol—the poisonous chemical found in antifreeze. Even Chinese-made pet-food could not escape the wrath, with some animal feed containing melanie—an industrial chemical used to make plastics and fertilizer.
Considering that China feeds 1.3 billion people every day, the incidents are still uncommon in the grand scheme of things. However, the problem is still a major one. China’s Health Ministry reported around 34,000 food-related illnesses in 2005, with at least 235 deaths—half of which were caused by poisonous chemicals in the food. The rest were from bacterial contamination and other causes. Total average daily caloric supply has jumped from 2,000 kcal per person in the 1970s, to around 3,000 kcal today, with the inclusion of more meats in the diet. The result is a booming food processing industry whose annual revenues rose 17% to $248 billion in 2005.
The obvious trend is that as Chinese consumers become wealthier, they will demand not only more food, but also safer food. This for sure will drive the development of a food safety infrastructure with big money to be spent. The Chinese State Food and Drug Administration announced in early August that China will step up its enforcement and spend 8.8 billion yuan (US$1.16 billion) to improve food and drug supervision by 2010.
The victims of these tighter controls will be the 450,000 small food-processing companies, most with fewer than 10 employees. These manufacturers, often unlicensed, are responsible for the majority of the food scandals and will gradually be shut down, clearing the way for the larger food processors to achieve higher growth because of their ability incur the higher costs of conforming to the new standards. These standards could include buying the more expensive monitoring equipment and safer feedstock supplies. Listed big cap Chinese players include Uni-President Enterprises Corp (TPE: 1216), and China Yurun Food Group Limited (HKG: 1068). The major foreign players have also established a good foothold, including Nestle (OTC: NSRGY), Kraft Foods Inc. (NYSE: KFT) and McCormick & Co, Inc. (NYSE: MKC).
For small-cap investors, the key is to find firms that can provide the necessary safe commodities and services to the major food processors. China Water and Drinks Inc. (OTC: CWDK) appears to fit the bill.
The firm is a leading producer and distributor of bottled water in China through its production facilities in Guangzhou, Zhangjiang, Feixian, Nanning and Changchun. Most interestingly, China Water and Drinks supplies purified water to local and international food firms, such as Coca-Cola and Uni-President, while providing private-label bottled water for companies such as Sands Casino, Macau. It also markets its own product under the brand “Darcunk.” On Sept. 6, the company announced it acquired a 48% stake in Hutton Holdings Ltd, which operates three wholly owned companies with operations in mold manufacturing, packaging and bottle manufacturing.
China Water and Drinks has recently been trading at around $10.00 a share, down from the 52-week high of $12.00 established Sept. 19. The 52-week low is $5.00, was set March 7.
The recent strength follows its second quarter earnings announcement on Aug. 22 for the six months ended June 30, 2007. According to the firm, total revenue during the second quarter increased to $12.5 million, up 41.5%, from $8.8 million in the second quarter of 2006. Fully diluted earnings per share were $0.13 in the second quarter of 2007, compared with $0.09 in the same period last year. More important, net income hit $3.9 million, up 48.7%, from $2.6 million in the second quarter of 2006. The boost is credited to the increased demand for bottled water during the summer months and expanded production capacity.
If these figures represent the start of a trend, China Water and Drinks will prove that it pays to be clean and safe.
About the Author
Contributing author Ray Cheung has more than 10 years of extensive first-hand experience monitoring and analyzing social, political, economic and business developments in China.
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