Volvo China president Joakim Hjerpe on competing with local truck makers

------ By Mark Godfrey

Judging by the security and grandiosity of the Beijing Dairy Cattle Centre, breeding is a serious business of state in China. Guards stand stiffly on each side of the grand gates, which lead to a three-storey office building built in the European classical style. Behind that, a herd that numbers over 1,000 cows is housed in neat cubicles in a complex of white rectangular stables with pink-brown tin roofs.

The paddocks and feed silos have the look of those of any large dairy farm in Ohio or Holland. But the centre, almost two hours' drive north of the capital, isn't just about milk production. It's one of a network of bull stations run by provincial governments but overseen by China's Department of Agriculture.

Sperm from North American and European bulls has formed the kernel of China's dairy breeding programme. About 4 million straws of frozen semen and embryos have been distributed from the three-storey office block near the main entrance to the Dairy Centre to farms all over China and as far west as Xinjiang and Tibet .

China, recognising the health benefits of dairy for the country's infants - Chinese public schools regularly offer free or subsidised milk in pupils' lunches - has been building up a national herd to supply its huge population with dairy products. Sales of milk, never before a staple of the Chinese diet, have been rising fast. Retail milk sales grew from RMB15.8 billion to RMB18.2 billion (1.5-1.7 billion) between 2005 and 2006, a rise of 15 percent, according to figures from market research firm ACNielsen. Yoghurt sales jumped by 34 percent to RMB15.5 billion over the same period.

Herding hurdles

The impressive figures paint a picture of a dairy industry as wholesome and healthy as the sight of the Beijing Dairy Centre paddocks. But the steep growth figures mask a dairy sector in a crisis of confidence. A glut of supply has caused a price war among the country's dairy processing companies, such as Mengniu, Yili and Shanghai Bright Dairy & Food, which together comprise one-third of the domestic dairy consumer product. Lower retail prices mean the companies have been cutting prices paid to farmers (only Yili owns significant numbers of its own cows).

Most of China's milk supply comes from small-scale dairy herds ranging from two to 10 cows, managed by peasant farmers with little know-how in breeding and feeding, says Marc De Ruiter, founder of Yellow Valley, a dairy cooperative that produces cheese in the central province of Shanxi. "Chinese peasants switched from growing soy beans, millet and rice to raising cows. Farmers in Europe want to show their bulls and pigs off at shows. There are ribbons and breeding charts and family trees for prize bulls and cows. There is no such history in China." The black and white Holstein cows carefully bred by state-owned breeding centres like the one in Beijing end up in the hands of small-time farmers struggling to pay for feed as a result of dropping milk prices. "Good breeding is only beneficial if we pay for the milk. Farmers pay notice to fat and protein content if quality is rewarded."

China's inexperienced dairy farmers are giving the industry a bad name, says Michael Boddington, an Australian agribusiness consultant with an office in Beijing helping foreign agricultural and food firms invest in China. "Smaller farmers feed low-quality forage, little high-quality hay or silage is fed, the rations are often poorly balanced," he explains.

To avoid getting bad milk for his own cheese-making business De Ruiter pays his suppliers - all small-scale farmers milking between two to 15 cows - RMB2 per kilogram for milk, 33 percent more than a market rate of RMB1.5. "They can live off that. Good breeding is only beneficial if we pay for the milk. If that starts to happen, farmers will start asking questions about breeds and bulls."

The overall outlook for China's dairy industry is good, says Boddington, who predicts China's milk consumption will grow from current levels of about 5kg a person to 20kg a person by 2030 - but the industry needs to modernise and develop. "China has enough cows, but they will need to produce more than 6,000kg [of milk] per cow per year. In some parts of China, farmers walk their cows to a milking machine, where they queue to milk their cows, and then take the milk to the processor."

Small, inefficient farms will lose out to larger herd

owners, predicts Boddington, particularly as Chinese milk processors like Mengniu and Yili, concerned about controlling milk quality, begin to shift to contracting and long-term arrangements with suppliers to secure more market share. Dairy's industrialisation "may cause some short-term pain for those members that are not efficient," he admits. "However, the overall result for the industry will be growth of a viable and modern industry in China."

Breeding for beef

Others place some hope in diversification away from dairy to beef production. China has been experimenting with its own variation of the Simmental, a breed of cow prized by European farmers for its versatility as dairy and beef stock. China has recently been keen on the Simmental, says Chen Ruoyu, the Beijing-based representative for Bessamungsverein Neustadt (BVN), the German cattle-breeding company that supplies semen and breeding advice to breeders worldwide. The Chinese Simmental, says Chen, is a mix of the European breed and local breeds like Luxi and He, which are raised largely for beef production.

"The meat quality of He and Luxi is very good but they're not famous for milk production," Chen says. BVN semen is distributed to bull stations around China, rather than directly to farmers as in other states. "We cannot deal directly with Chinese farmers," says Chen. "Breeding is restricted by Chinese law which insists all sales must go through state-owned bull stations rather than private farms."

As other industries suffer from fakes, so too does China's dairy farming. De Ruiter sees the evidence running in fields near his cheese factory. "I've seen some cows running around that I wouldn't like to work with. Who can guarantee that the semen I'm buying is from a good bull? A small-scale farmer with a few cows doesn't have the means to go to a big breeding station. I have no papers from farmers to say where the breed is from."

Feed and genetics will both matter if China wants a first-rate dairy industry to supply high-quality milk to domestic dairy brands like Mengniu and Yili, whose billboards line the airport expressway in Beijing. But milk prices will first have to rise. "Farmers would start culling bad cows if there were financial incentives," says De Ruiter, who aside from paying his suppliers above-market prices, links pay to the quality of the milk farmers deliver.

Healthy competition: China's dairy market

Before 1990 a few large state-owned dairy enterprises such as San Yuan and Shanghai Bright controlled China's dairy market, but the vast majority of milk was produced by small one-or two-cow holdings in the northern provinces of Heilongjiang and Inner Mongolia and the Gansu and Qinghai in the west. Today, China has an oversupply of milk and a price war among its main players. Yet foreign investment has been flowing steadily into the sector. Groupe Danone recently spent US$45 million upping its stake in Bright Dairy & Food Co to more than 20 percent, Denmark's Arla Foods formed a joint venture with Mengniu Dairy in August last year and New Zealand-based Fonterra Cooperative Group bought a 43 percent stake in Shijiazhuang's San Lu Group. Foreigners are doing well in China's milk boom: Swiss food giant Nestl¨¦ figures in the top five in milk sales in Beijing and Shanghai, while Danone ranked among the top five in yoghurt sales in Guangzhou and Shanghai.