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Wine exports wither on vine but there's light at end of funnel

There is a glimmer of hope for the hungover wine industry as China threatens to do for premium wines what it has done for Australia's resource sector, writes Colin Kruger.

There is a glimmer of hope for the hungover wine industry as China threatens to do for premium wines what it has done for Australia's resource sector, writes Colin Kruger.

This was meant to be the year Australia's wine industry finally hit rock bottom and started looking up again.

That was before our dollar rocketed to $US1.07, and a projected 1.3 million tonne grape crush - the fruit of recent attempts to curb chronic oversupply - gushed to more than 1.6 million tonnes this year.

Instead the industry faces another year of crippling glut and a currency that is the financial ruin of most wine exporters. The flipside of the currency strength also means imported wines are competing at unprecedented prices in a tough local market.

But amid the woe there has been a bright spot, a glowing ember in the dark promising to set the industry alight.

While wine exports to our two biggest markets, Britain and the US, plummeted, China's imports boomed.

Bottled wine imports from Australia grew 32 per cent in value for June compared to the prior year, while the British and US markets dropped 33 per cent and 20 per cent respectively.

And it only tells half the story.

"China is Australia's largest export market for wine over $10 a litre," says Lucy Anderson Wine Australia's director for Asia. "It surprises people every time I tell them," she says.

According to the June export data released by Wine Australia, Chinese imports in the $10-plus category almost equalled that of the US and British markets combined.

This figure does not include Hong Kong which managed to import more wine in this price bracket than the entire British market.

More importantly, most of the growth for China came in the $20 to $50 price bracket which more than doubled from June last year.

Wine Australia, the Australian government sponsored promoter, is responding to these changes. Anderson moved office from Adelaide to Hong Kong last year and now employs three staff in China.

It isn't the only evidence that China is doing for the premium wine market what it has done for commodities across the board.

Sandy Mayo global brand manager for Penfolds at Foster's spin-off, Treasury Wine Estates, said that China's demand is driving up prices for the company's premier wine brand across the board - not just Grange.

"The demand is constantly increasing and it outweighs what we are able to supply," says Mayo who admits Treasury Wine is still in the early stages of quantifying demand and growth in China. "There are the core wines such as Grange, Bin 707, Bin 389, Bin 407 that are a focus, but it is not these wines alone. The demand is stretching from Bin 28 right through to Grange," she says.

The coronation of China's new status in the Penfolds world takes place in November. For the first time in nearly half a century, Penfolds will release a Bin 620 - a drop considered so exceptional its price will match that of Penfolds' flagship label Grange. The global launch will be held in China.

"We have not done a launch like this in China before. It is a first and a step change for us," says Mayo.

Interest is extending beyond the bottle. China's Bright Foods was recently forced to deny speculation it was preparing a bid for Treasury Wine. Late last year Hong Kong-based CK Life Sciences International acquired a controlling stake in Challenger Wine Trust.

South Australian wine industry brokers, Gaetjens Langley, have opened an office in Guangzhou, China to cater to Chinese interests snapping up Australian winemakers and vineyards.

Australia is not even at the epicentre of this China boom.

In France it has become known as the Bordeaux Bubble. The combined appetites of China and Hong Kong make them the largest international market for Bordeaux wines and it has sent prices skyrocketing for the region's Premier Grand Crus.

Last year Hong Kong replaced the US as the world's most important market for fine wine auctions. This year auctioneers Christie's sold bottles of Chateau Latour 2009 for ?1870 ($2482), three times last year's price.

British-based Wine exchange Liv-ex reported that the prices of top-end bordeaux last year outperformed gold, oil and Britain's stock exchange.

Influential wine critic, Robert Parker, warned of a speculative bubble in bordeaux prices and warned the region is in danger of pricing itself out of traditional markets as it chases wealthy Asian clientele.

To understand the middle kingdom's dizzying ascent in the wine world it pays to put their buying in a different context.

China's nouveau riche are buying premium wines in much the manner they do other luxury brands, according to a report from Asian investment group CLSA.

"Success, wealth and fame/social standing are highly regarded in Chinese culture and displaying this through watches, jewellery, apparel, cars and wine garners respect," says the report which forecasts that China will account for 44 per cent of luxury goods sales globally by 2020, up from 15 per cent today.

CLSA says these new, young and wealthy elite are willing to pay a premium for goods with cache, "a trend that is noticeable in the wine sector where fine wine prices increased 40 per cent during 2010".

The fact that the premium market is driven more by prestige than palate means there is no imminent danger of a wine bubble developing for producers who are not at this gilded end of the market.

This is the sober reality for the 99 per cent of the market not considered "investment grade", according to Sam Gleave of Bordeaux Index a European fine wine merchant with offices in London and Hong Kong.

"The only thing that really affects prices at the mass-produced end of the market is exchange rates," he told the Guardian last month.

It accurately reflects the predicament of most of Australia's export market built on "sunshine in a bottle at $4.99" as industry veteran Kevin McLintock puts it.

Even in China, the pickings get rather slim once you leave the realms of the super wines.

Neil McGuigan, chief executive of Australian Vintage says the Chinese want to buy premium and they want to buy entry level. In simple terms it's "what's your best and what's your cheapest", he says.

With the dollar putting a strong wind behind Australia's new world wine competitors such as New Zealand and Chile, Australia can no longer afford to play in this end of the market.

McLintock, who headed the taskforce which developed Directions to 2025 - a blueprint for the industry's future based on driving Australian wines up the value chain - knows better than most the challenges facing the industry as a whole.

The unexpected, and unwelcome, bounty of wine produced this year means that the pain of oversupply will continue for at least another year.

This surplus wine gets dumped below cost and becomes a scourge in the retail channel, or exported in bulk where it damages Australia's attempts to build a premium brand.

The numbers are simple.

Goldman's analysts estimate that true sustainable demand for Australian wine is about 100 million cases about half of which represents domestic consumption.

Actual production is closer to 140 million cases of wine each year.

This is on top of the high dollar leaching any profit out of exports while bargain imports are eating up hundreds of millions of dollars in local sales.

Goldman's says the high dollar means our biggest export markets in Britain, Europe and the US are "barely break-even at present" for the likes of Penfolds parent, Treasury Wine.

Even China's penchant for Penfolds can do only so much.

Any upside for Australia's largest listed wine stock is down to expectations that the Aussie dollar will deflate from current levels.

Goldman's says it is plain that "with export earnings closer to zero, there is significant leverage to the upside if the Australian dollar were to depreciate back below parity with the US dollar".

Analysts at another investment bank, Citi, are more sceptical, saying: "The listed wine company model has yet to be proven through the cycle. The litany of disasters that have characterised the Australian wine industry over the past 5-10 years provides plenty of evidence."

The only upside it sees is the fact that the wine industry is at the nadir of the three cycles dictate terms to listed wine stocks such as Treasury Wine: currency, wine supply, and the economic environment.

"The recovery stage of the economic and wine supply cycles bode well for improving industry conditions, however the long-dated nature of each implies an extended recovery," says Citi.

While a solution to oversupply is in sight, the message from industry veterans is that Australia needs to work its way up the value chain to help negate the currency issue which has dictated success in our traditional export markets of Britain and US.

As Penfolds and other premium winemakers have shown, the currency issue gets taken out of the equation the higher up you go.

And no one is counting on a return to the glory days when a much cheaper Aussie dollar allowed the industry to go gangbusters.

"If you're writing your strategy right now you'd be insane if you weren't writing your strategy at $1.07," says McLintock.

And the strategy should not just be about China.

McLintock sees big opportunities in building the premium end of what remains of Australia's hard-won wine markets in Britain and US.

McGuigan says that regaining ground from the foreign invasion, including what he sees as the Kiwi blight of Semillon Sauvignon Blanc, will also help put the industry back on a sustainable footing. "The way out of it is to be creative and get people excited about Australian wine again," he says.

To this end, McGuigan's company, Australian Vintage, is combating the Kiwi juice with the recent launch of a wine labelled the Semillon Blanc.

He recently told the Herald that the wine is already doing exceptionally well in Britain. "This wine has single-handedly lifted McGuigan's semillon sales in Britain by 52 per cent," he says.

But no one is denying that the big opportunity is China.

Although veterans have no illusions about how hard it will be to harness this potential.

"I think there is a huge opportunity for Australian wineries in China but it comes at a high risk," says Anderson.

She describes the Chinese market as being "on the cusp" and says it is important for Australian wines to build the right image and position - a sentiment echoed by others in the industry.

The dynamics are very different to western nations and it is changing rapidly as a growing cultural sophistication, and adoption of western tastes, spreads from the traditional high ground of Beijing and Shanghai to regional hubs such as Wuhan and Chongqing.

Time, connections, and money, are needed to harvest this potential market of a billion imbibers.

Despite a history of viticulture stretching back thousands of years, China's relation to wine is very different to that of your average Aussie, yank or Brit.

"China is just such a complicated market at the moment," says wine industry consultant John Weeks.

"The whole culture of drinking is very different to how we think of it."

The current Chinese experience of wine is of it playing more of a ceremonial role in wedding toasts, gift giving, or socially in restaurants rather than in the home.

Weeks says the vast majority of wine sales take place around festivals, Chinese New Year and the mid-autumn Moon Festival.

McLintock says this is why 55 per cent of sales are "on premise" in restaurants and the like, compared to just 15 per cent in Australia.

But the market is changing rapidly and Australia needs to get its branding and marketing in order to chase the growing westernised tastes of China's new middle class who threaten to become the sort of wine consumer more recognisable to a western consumer.

"The emerging middle-class - predominantly consumers in their 20s and 30s - present a significant opportunity for Australian wine sales," says Anderson.

"This is where we need to work together as a wine community to target these opportunities and successfully position Australia as a producer of aspirational, high-quality, excellent value wines."

This market opportunity may be more recognisable to Australian pioneers who placed Australian wine at the top of British shopping lists but the education and marketing efforts needed in China will be as daunting as the competition.

Weeks says the favoured place of French wines will have an umbrella effect on its regional cousins Spain and Italy.

And then there is China's home-grown competition. The country expects to produce more wine than Australia this year and double this within four years. Local giants Changyu Pioneer Wine, China Great Wall Wine and Dynasty Wine dominate the market.

Weeks says Changyu's marketing spend already is in the hundreds of millions of dollars - potentially drowning out the competition which cannot match this spend let alone the local knowledge of a company that traces its roots back to the 1890s.

No wonder some veterans such as McLintock are reluctant to rely on China as the panacea for the industry's ailments.

"China will be one component of the Australian wine industry, whether it becomes the saviour is yet to be seen," he says.


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