Does Arawana's volume-driven business have a moat? Arawana's stock price has been mired in a slump for two years. From 145 yuan at the beginning of 2021, the stock has now fallen to only about 40 yuan, and its market value has dropped from nearly 800 billion to 220.7 billion yuan. Once called the 'Oil Moutai' (Moutai in the oil sector), Arawana has become a pain point for many. With a market share of over one-third, Arawana has surpassed COFCO's 'Fortune' brand to become the number one brand in the edible oil sector. Additionally, its market share in packaged flour and packaged rice through modern channels has ranked first for several consecutive years. As a necessity business, market leader Arawana was given the title of 'Oil Moutai' and received a warm reception in financial markets. But the stock's persistent decline has made people realize that Arawana is not Moutai. Arawana is not Moutai Setting aside Moutai's financial attributes, as consumer goods, Moutai and Arawana are fundamentally different businesses. In terms of profitability alone, Arawana is far behind Kweichow Moutai and Haitian, the 'soy sauce Moutai'. As the largest food company in A-share market by revenue, Arawana's 2022 revenue was equivalent to two Kweichow Moutais and nine Haitian Flavoring & Food Companies, but Kweichow Moutai's net profit attributable to shareholders was over 20 times that of Arawana, and Haitian's net profit was 1.6 times that of Arawana. Arawana's gross margin is only 11%-12%, while Haitian's gross margin is between 40%-50%, and Moutai's gross margin exceeds 90%. Arawana's net margin is 3.5%-4%, Haitian's net margin is between 26%-29%, and Moutai's net margin is as high as 52.68%. In comparison, Arawana is a 'bitter' business that wins by volume with razor-thin profits. Looking at their net profits over the past three years, Arawana's net profit has declined significantly, Haitian has been relatively stable, while Moutai has been rising steadily. During the pandemic, international market turmoil and rising raw material prices made lower profits the norm, but among the three, only Arawana was severely hit. The reason is that differences in baijiu aroma types and soy sauce flavors can create differentiated competition, forming product moats of varying depths, giving companies the confidence to raise prices. But edible oil is highly homogeneous with many competitors, so competition is a price war, relying on volume. Moreover, unlike Moutai and Haitian, which can freely raise prices, grain and oil not only have low entry barriers and intense competition but also relate to people's livelihoods, with prices controlled by the state, limiting pricing power and affecting profits. In 2021, Arawana's revenue grew 16.1% to 226.2 billion yuan, but net profit fell 31.2% year-on-year. In 2022, revenue grew 13.8%, but net profit fell 27.1%. Such profits were achieved through cost-cutting. In 2022, Arawana's selling expenses were 5.986 billion yuan, down 640 million from the previous year, with promotional activity costs down 31.1% and advertising expenses down 19.47%. Low profits and low pricing power seem to make Arawana look inferior to Moutai and Haitian, but is low profit only a disadvantage? Does a volume-driven business have a moat? Becoming the Market Leader A hundred million oil-pressing workshops cannot piece together Arawana. In these traditional industries with low entry barriers, economies of scale do not simply come from volume accumulation; whoever first achieves a full industry chain revolution has the chance to become the leader. Examples include Wujiang in pickled vegetables, Chacha in melon seeds, Anjoy in meatballs, Haitian in soy sauce, and Arawana in edible oil. Over thirty years ago, Chinese people still carried oil bottles to grain shops to buy oil. The edible oil market meeting international hygiene standards was a blank slate. The Kuok family's Kerry Grain & Oil, which topped Malaysia's rich list for years, saw the opportunity in China's grain and oil market. Due to their foreign identity, they had no entry opportunity until COFCO extended an olive branch to foreign investors to enter the premium market, and the two sides hit it off. In 1991, Kuok Khoon Hong cooperated with COFCO, and Arawana pioneered China's small-packaged edible oil, quickly completing a nationwide production layout. After leveraging COFCO to popularize the Chinese market, the Kuok family continued to build refining bases in Shenzhen, Shanghai, and other cities, and oil palm plantations in Southeast Asia. Seeing that it could not control the situation, in 1995 COFCO set up its own brand, launching 'Fortune' small-packaged edible oil, determined to catch up with the competitor it had nurtured. In 1996, Arawana began advertising on CCTV. At that time, oil prices were high and sales were mediocre. Arawana opened the Chinese market by providing welfare oil to enterprises and institutions, becoming the first brand in China's small-packaged edible oil. After the battle with COFCO Fortune began, more brands joined the fray, eroding the market. Seeing product competition becoming passive, in 2000 Arawana struck first with the 1:1:1 blended oil advertisement, which received a good market response. In 2002, Arawana followed up by introducing the concept of 'balanced fatty acids' with the second-generation blended oil and applied for a national patent. Unexpectedly, having found a new breakthrough, Arawana missed the opportunity in the new era due to a series of mistakes: too small a price difference between new and old products, internal friction between them, and hastily withdrawing old products before the new ones were established. But protected by its basic traffic pool, Arawana still gained the upper hand in competition with Fortune's natural grain blended oil. Arawana's channels are divided into retail, catering, and industrial channels, with over 3 million channel points nationwide. Some retail channels can reach down to townships, many directly supplied by Arawana's first-tier distributors. These pervasive channels make Arawana's horizontal expansion into rice, flour, and oil very smooth, and vertical expansion in oil categories easy. To counter rivals from all sides, Arawana began product diversification, targeting products for different consumer classes, categories, and selling points. Extending and Deepening the Industry Chain How does Arawana build a moat in a volume-driven business? Arawana has said: 'If an industry has high profit margins, it attracts more competitors.' Low profit is Arawana's weakness, but from another perspective, it is also Arawana's amulet. The grain and oil business is not easy. For a matter related to national livelihood, food safety is a lifeline. Arawana has built a full-process production line guarantee system. Through source control, it samples and tests water, soil, GMOs, and heavy metals, establishing a risk map. Using professional instruments, it conducts quality inspection and control from raw materials to finished products, ensuring the company can firmly hold its rice bowl. Once the rice bowl is held, it's time to think about turning the earthen bowl into a golden one. Under grain price controls, simply enlarging the bowl is not a long-term solution. Only by truly 'squeezing every drop' from the grain in the bowl can maximum value be obtained. Taking oil products as an example, Arawana has GMO soybean and rapeseed planting bases in South America and elsewhere. The residue of ordinary soybeans can only be used as feed, with low bargaining power, but the protein from Arawana's non-GMO soybeans after oil extraction can be made into food, and by-products like oil foot and soapstock can produce fatty acids for pharmaceuticals or oleochemicals. Each process's residue on the production line is treated as raw material for the next process, extending a long soybean industry chain. The circular economy model allows soybeans worth 4,000 yuan to sell for up to 10,000 yuan after processing. In the production and processing of rice, flour, and other agricultural products, Arawana uses the same model, obtaining more profit through deep processing and extending the industry chain. Broken rice, rice bran, and rice husks, which had little value in the past, are now squeezed for new profits. Rice bran is refined into rice bran oil, and rice bran meal can be further processed into feed raw materials. Rice husks are burned for power generation, and from the ash of summer rice husks, high-value-added products like activated carbon and white carbon black can be extracted. Yihai Kerry's rice husk-reinforced white carbon black is revolutionary in green tire manufacturing, an internationally pioneering cutting-edge technology. These items once considered scraps and waste are becoming increasingly important in the company's revenue. In 2022, Arawana's revenue in kitchen foods like edible oil, rice, and flour was 157.132 billion yuan, up 10.67% year-on-year, accounting for about 61% of revenue; feed raw materials and oil technology revenue was 98.606 billion yuan, up 19.50%, accounting for about 38%. Martin Christopher, a renowned British supply chain management scholar, once said: 'Competition in the 21st century is no longer between enterprises, but between supply chains.' By extending and deepening the industry chain and squeezing every drop from grain, Arawana gains greater profit space and the confidence to 'sell rapeseed oil to Sichuanese and soybean oil to Northeasterners.' Arawana makes every link of the industry chain bloom, ensuring stable profits amid raw material price fluctuations and weak product pricing. But can Arawana really just stand by in the face of raw material price volatility? Dealing with Raw Material Price Fluctuations In the 1970s, McDonald's wanted to launch a chicken nugget product, but chicken price fluctuations were a stumbling block to offering stable prices. The company quickly thought of buying futures to solve this, but there was no chicken futures market at the time. After some research, the company decided to buy futures for corn and soybeans, the main feed for broilers. By investing in appropriate proportions of corn and soybean futures, they effectively hedged against chicken price fluctuations, allowing chicken producers to supply McDonald's at stable prices. To hedge against the huge impact of raw material price fluctuations on profits, Arawana's approach is similar to McDonald's: using commodity futures and other financial derivatives for hedging. In 2017, Arawana's commodity futures trading profit was as high as 2.8 billion yuan, more than half of its annual net profit. In Q2 2022, Arawana's net profit was 1.86 billion yuan, up 1526.0% quarter-on-quarter. This sharp fluctuation was due to futures trading losses in Q1; in Q2, commodity prices like soybeans and palm oil fell from highs, derivative financial instruments realized gains, and profits improved. Using futures to balance risk is a good idea, but in recent years, Arawana's futures have become a burden. In 2016, Arawana lost about 3.63 billion yuan in futures and about 110 million yuan in foreign exchange futures, directly causing annual net profit to plummet to 850 million yuan. From 2018 to 2021, Arawana's hedging futures lost money for three consecutive years: 81.635 million yuan, 1.556 billion yuan, and 3.154 billion yuan, respectively. Futures trading has shifted from a means of balancing volatility to a major factor in Arawana's profit fluctuations. As a risk hedge, futures markets have gains and losses, which is normal. The core criterion for evaluating futures behavior is whether it keeps the company's profit level stable. Judging from recent profits, Arawana's futures behavior has been unsatisfactory in 'maintaining stability.' Second Growth Curve China's grain and oil market is a fiercely competitive red ocean. Although Arawana is the market leader, its promotion of higher-margin new products has not gone smoothly. For example, in the high-end oil market, Arawana's promoted high-end corn oil and sunflower seed oil failed to lead consumer demand. Extending the industry chain is a slow process, and profit improvement cannot be achieved overnight. Coupled with futures hedging losses, Arawana needs to give the market new excitement. Finding a new market with a large pool and deep water, and finding new profit growth points, is what more netizens expect from Arawana. Arawana Chairman Kuok Khoon Hong revealed at the 2020 annual shareholders' meeting that the company has entered the condiment and yeast industries and will also enter frozen dough, central kitchens, and related fields. In September 2021, the company established the Central Kitchen Food Division. The 'central kitchen' attempts to leverage advantages in rice, flour, oil, and condiments to build comprehensive factory parks, with product ranges covering prepared dishes, seasoning sauces, cold-chain bento, student meals, group meals, and government/enterprise meals, creating a full industry ecosystem from source to table. In March 2022, Arawana's first central kitchen, Hangzhou Fengchu, officially landed and began prepared dish production. It will also serve as the fruit and vegetable processing center for the 2023 Hangzhou Asian Games and Asian Para Games in September. Arawana's focus in the prepared dish track is group meal customization. In February 2023, the central kitchen project in Xingping, Shaanxi, officially started meal supply, providing student meals to five local schools. The first phase of Arawana's Shaanxi Central Kitchen Industrial Park is still being improved, expected to produce 100,000-120,000 student meals per day upon completion. Currently, Arawana's central kitchens in Hangzhou, Chongqing, Zhoukou (Henan), and Xingping (Shaanxi) have been put into operation. Once the 'central kitchen' is fully implemented, it is expected to bring new profit growth for Arawana. Although the story sounds exciting, Arawana's path is not smooth. Although Arawana has high-profile entered the condiment field, Haitian's strategic hinterland, it has not threatened Haitian, which firmly holds the B-end condiment market. Moreover, Arawana's diversified development strategy makes it difficult to truly threaten Haitian, which focuses on one point. So the significance of condiments to Arawana's revenue is far less than its strategic value. From grain and oil to central kitchens, condiments are Arawana's most direct springboard. Central kitchens are indeed a good business, as seen from the declining Haidilao and the thriving Bashu International. Arawana's leading position in rice, flour, and oil cannot be ignored, but to what extent its historical accumulation can help it dominate the prepared dish market is questionable. Prepared dishes are not highly related to the rice, flour, and oil sales business, so for Arawana, prepared dishes are almost a new field. Without prior advantages or relevant technical barriers, how can Arawana guarantee market dominance? Facing new ingredient categories, cold-chain logistics management, and making prepared dishes to suit different regional tastes, the company needs to overcome many difficulties and conduct long-term R&D and trial and error. The low match between its existing moat and future strategy is the gap Arawana must cross to become a true 'Oil Moutai.' For Arawana, this is a huge gap, not impossible to cross, but it tests the company's resilience and execution. With many companies laying out the prepared dish track, Arawana, without first-mover advantage, must run steadily and fast to succeed.