In the summer of 1953, American media broke a big story: physicist Joan Hinton, who had disappeared five years earlier, had defected to China with top-secret nuclear bomb technology. Joan Hinton was a genius girl, recruited into the Manhattan Project at age 23. But in August 1945, after witnessing the immense destructive power of the atomic bomb that claimed countless lives, she refused to stay in the military and transferred to the University of Chicago, where she studied for her doctorate under Nobel laureate Fermi, becoming a senior fellow student of Yang Chen-Ning and the only woman in Fermi's team at the time. If she had continued her studies, it was not impossible for Joan Hinton to win a Nobel Prize. But in 1948, when she discovered that her scholarship and research funding were all provided by the military, she voluntarily dropped out and, with an invitation letter personally written by Soong Ching-ling, traveled across the ocean to Yan'an. There, she reunited with her boyfriend Erwin Engst, who had arrived in Yan'an earlier. Erwin Engst was also an idealist. He had studied at Cornell University, and after reading Edgar Snow's "Red Star Over China" in 1946, he made his way to Yan'an to join the revolutionary tide. After reuniting with Joan Hinton in Yan'an, the two married in 1949 in a shabby cave dwelling in Wayaobao, Yan'an, to the tune of "Unity is Strength." In the following 60 years, the couple devoted their lives to China. But contrary to the American media's nonsense, they did only one thing in those 60 years: raising dairy cows. At that time, Yan'an had only about 30 high-quality Dutch Holstein cows, and Erwin Engst, who had studied agriculture and animal husbandry, was one of the few people who knew how to care for them. When Hu Zongnan attacked the Shaanxi-Gansu-Ningxia Border Region, some soldiers wanted to abandon or even kill these cows during the retreat, but fortunately Erwin Engst rushed out to stop them, saying: These cows are the hope of New China's agriculture. After arriving in Yan'an, Joan Hinton gave up other positions and joined her husband's cause. Having worked on the atomic bomb, she was a master at raising cows. While others were still carrying water with buckets and cutting grass with hay knives, she built water lifts, chaff cutters, and harvesters. During the First Five-Year Plan, the couple vowed: Let all milk-poor Chinese people drink fresh milk, and not spoil a single catty of milk. For this, they struggled for fifty years, moving through pastures in Shaanxi, Inner Mongolia, and Beijing, breeding cows and installing milking equipment on farms. At that time, China's Holstein cows generally produced 3,000 to 4,000 kilograms of milk per year, but their cows produced over 9,000 kilograms annually. They also developed China's first refrigerated milk tank, greatly improving the transportation distance and shelf life of fresh milk. Joan Hinton and Erwin Engst, 2000 Unfortunately, too few people took the trouble to raise cows, and too many sought quick riches. Around 2000, China's dairy industry advanced by leaps and bounds. Mengniu, which pursued "market first, then dairy plants," and Sanlu, which promoted "cows to the countryside, milk to the cities," alternately took the top spot. A common feature behind their rapid expansion was that they did not raise cows themselves but only collected milk from farmers. The huge demand for milk sources directly fueled a fresh milk scramble across the country. Chaos emerged: adding various chemicals to milk to meet collection standards, painting draft cattle black and white to pass them off as dairy cows, and buying cows only to resell them at a markup. The scattered households raising cows, the milk stations that accepted everything, and the desire for quick wealth soon backfired on the industry. In 2003, Erwin Engst passed away in Beijing at the age of 85. His ashes had been placed in Babaoshan, but Joan Hinton, following his will to be "buried where he could see the cows," insisted on retrieving the urn from Babaoshan and buried him under a tree at Xiaowangzhuang Farm in Changping, Beijing, where they had worked for decades. Did the couple's vow come true? The year after Erwin Engst's death, the "big-headed doll" incident broke out in Fuyang, Anhui, where hundreds of infants suffered malnutrition from consuming inferior milk powder. The leading company Sanlu was on the blacklist. In response, Sanlu's chairman Tian Wenhua personally set up a crisis PR team, and four days later, Sanlu disappeared from the blacklist. For the next four years, inferior milk powder continued to be fed to Chinese children, one package after another, until the melamine incident in 2008. -01- The Plight of Shortage In June 1960, welfare institutions in Shanghai were crowded with abandoned infants and young children. It was the period of the Three Years of Natural Disasters. Adults could not even feed themselves, so they had to send their children to welfare institutions in big cities, hoping Shanghai would have food. But they did not know that the central government had already issued urgent documents about food shortages in Beijing and Shanghai. Beijing had only enough grain for 10 days, while Shanghai's reserves were nearly exhausted. Shanghai could not feed the growing number of children. In an emergency, Kang Keqing, then director of the All-China Women's Federation, appealed to Zhou Enlai for help, requesting milk powder be transferred from Inner Mongolia. After careful consideration, Zhou Enlai decided to send the malnourished infants directly to Inner Mongolia, where herders would raise them. Until 1963, Inner Mongolia received about 3,000 orphans from Shanghai and surrounding areas. This heartbreaking story reflects the plight of China's dairy industry before the reform and opening up. For a long time, China was a large agricultural country with many draft cattle, few beef cattle, and even fewer dairy cows. In Yan'an in the 1930s and 1940s, the pasture built with dozens of cows captured from war and gifted by international friends produced only enough fresh milk for the wounded and some infants to have a sip or two. After the founding of the People's Republic in 1949, 500 million Chinese had only 120,000 dairy cows and 4 dairy plants. Wang Zhen, a founding general with experience in Yan'an's large-scale production and then Minister of Agriculture and Reclamation, worked tirelessly to develop the dairy industry, telling almost everyone he met: "To make the people healthy and children grow an inch taller, rice and corn alone are not enough. They must drink more milk, and we must vigorously develop dairy cows." But raising dairy cows in China faced natural difficulties. The first problem was: Domestic dairy cows have never been good enough. The world's highest-yielding dairy cow is the Holstein, producing up to 10 tons of milk per year, but it is not native to China. In the past, domestic milk came mainly from yellow cattle and water buffalo, which were used for farming and produced only 1-2 tons of milk per year. Moreover, because they were fed rice and corn straw, the milk lacked nutrition. The only solution was to introduce breeding stock. In April 1999, Zhu Rongji went to the United States for WTO negotiations. On his return, he brought back a Holstein bull named "Long." This bull came from a distinguished lineage; its mother had won the North American dairy cow beauty contest multiple times. After arriving in China, the bull lived up to expectations, not only being ready for breeding but also allowing scientists to clone "Dalong" and "Erlong," which worked together to improve Chinese dairy cows. Another long-standing problem was that "northern milk" could not be transported "south." Large pastures were in the north, while the main markets were along the coast and in the south. But before Joan Hinton developed the refrigerated milk tank, there was no corresponding refrigeration and transportation technology. Therefore, for most ordinary people at the time, milk was something for female movie stars to bathe in and for veteran cadres to nourish their bodies. To avoid transportation issues, cities like Shanghai and Guangzhou built cowsheds and food factories in the suburbs to produce fresh milk and milk powder. But due to the weak economy, supply was still rationed. At that time, a Shanghai Jiao Tong University engineering graduate who was the director of the Shanghai Yimin Food Factory led the factory to produce Bright brand milk powder and a cheaper milk substitute powder in 1950. But 20 years later, when he returned from Romania and visited Wang Daohan, he brought Romanian milk powder. Thus, this Jiao Tong graduate may have been China's earliest milk powder overseas shopper. This situation began to ease only after the reform and opening up. In 1983, the United Nations and the European Union began assisting China's dairy industry for 20 years. But the method was neither introducing high-quality dairy cows nor introducing production and packaging technology, but a formula: using skimmed milk powder and anhydrous butter, mixed with some fresh milk, to create "reconstituted milk" that closely resembled fresh milk. At that time, not only was milk on the mainland reconstituted, but Taiwan, which also received aid, was the same. Writer Lung Ying-tai, in a speech at the University of Hong Kong's Medical School graduation ceremony in 2011, recounted an experience from her youth: when she went to the United States to study in 1975, the first thing that surprised her was: How come Americans don't drink milk made from milk powder? Fresh milk is difficult to store and transport, but processing it into powder form (commonly known as "bulk powder") made it easy to import into China. Combined with milk powder reconstitution technology, more people could drink the scarce milk. But the side effect was that reconstituted milk became the norm in China, and it even cultivated a group of "milk blending experts" who could make milk taste better than fresh milk. At that point, no one imagined that the best of causes would yield the worst of results. -02- A Mess In early summer 1998, Beijing Sanyuan, a dairy seller, and Tetra Pak, the Swedish packaging company, jointly sponsored more than 200 experts to hold a "China Milk Science Forum" in Beijing to discuss why the average height of Japanese people had increased by 10 centimeters compared to the previous generation. After several days of discussion, the experts unanimously concluded: The Japanese grew taller because they drank milk. After the meeting, they immediately released the now-famous slogan: "A glass of milk strengthens a nation." The following year, the Ministry of Agriculture and the Ministry of Education issued orders, and the vigorous "School Milk" plan was launched. Education authorities in major cities were responsible for procurement, ensuring students could drink a glass of milk every day. School demand, coupled with parents who did not want their children to lose at the starting line, created a huge market. Whoever could produce the cheapest milk fastest would win. In the year the school milk market appeared, 41-year-old Niu Gensheng left Yili, where he had worked for 15 years, and founded Mengniu. At the time, he had only 10 million yuan, but he decided to spend 3 million on advertising: first, he secured more than 500 outdoor billboards in Hohhot, emblazoned with "Inner Mongolia's Second Dairy Brand"; then he bought airtime on CCTV, shouting "Build China's best dairy enterprise." At that time, Mengniu was actually a shell company with no factories or pastures. It bought fresh milk from milk dealers, had it processed by contract manufacturers, and then sold it under its own label. But that did not stop it from receiving a flood of orders after appearing on CCTV. Niu Gensheng's strategy of "market first, factory later" was a great success; 3 million yuan in advertising brought in 40 million yuan in sales. In terms of not raising cows to speed up, Mengniu was a rookie; Sanlu was the veteran. Sanlu's top leader, Tian Wenhua, had worked at Sanlu when it was still the "Shijiazhuang Milk Factory," serving as a veterinarian, accountant, office director, and party committee secretary. After taking charge of Sanlu in 1986, she set the strategy of "cows to the countryside, milk to the cities," collecting milk from rural areas, processing it, and selling milk powder in cities. From 1993 to 2007, Sanlu milk powder ranked first in national sales for 14 consecutive years. But the foundation supporting the rapid progress of Mengniu, Sanlu, and others was a weak breeding industry. At that time, the vast majority of domestic milk sources came from more than 2 million scattered households across the country, of which over 80% had fewer than 5 cows. After the cows produced milk, the households typically sold it to milk stations, which then transported it to dairy enterprises. The surging demand, the dairy factories scrambling for milk sources, and relatively lax supervision soon threw the upstream dairy farmers, milk stations, and the era-specific "milk blenders" into a state of disorder. Yili, Mengniu, Sanlu, and other manufacturers competed to grab rural milk sources, making cows the geese that laid golden eggs. At that time, when big factories arrived in local areas, they often offered prices 20% higher than the market to grab fresh milk that other factories had rejected. This also brought a windfall to Inner Mongolian herders: 1 kilogram of milk could sell for 1.6 to 1.75 yuan, feed such as straw and grass was everywhere, a cow could earn 4,000 to 5,000 yuan per year, and each calf could also be sold for 4,000 to 5,000 yuan. However, this business, which could almost generate profit without capital, was soon ruined. In 2000, Jiang Weishuo, who later became a famous "dairy industry fraud fighter," began setting up "cow care centers" and milk stations in his hometown of Yangling, Shaanxi, intending to raise cows collectively. At that time, setting up a milk station did not require a business license or a health permit; you could just put up a shed and start business. But the 40 cows he bought were all fake, made by dyeing yellow cattle, enhancing their breasts, and fitting them with false teeth. At that time, cows were the popular money printers. The number of cows in stock surged from 6.52 million in 2002 to 12.2 million in 2007. But the market was flooded with fake cows painted black and white, and stupid cows with confused breeding pedigrees. The damage was not limited to individual households. Zhaoguang Farm in Heilongjiang Province, the country's first state-owned mechanized farm, also fell victim: it introduced 300 cows, but before they even reached Heilongjiang, 62 were sick; in the following year, another 70 fell ill, and 109 did not come into heat, almost wiping out the entire herd. The quality of milk from these cows can be imagined. But the "milk blenders" active in the fields had their tricks for substandard fresh milk: If fat was low, add fat powder; if bacteria exceeded standards, add antibiotics; if concentration was low, add whey powder; if it turned sour, add alkali to neutralize; if protein was low, add melamine to fool the test. Milk with these additives could only last six or seven hours. Therefore, the vehicles delivering milk for inspection had to carry hydrogen peroxide to pour in before the test. However, milk powder processed from such milk was welcomed by distributors because of its low production cost and high sales profit. At the time, in farmers' markets and supermarkets, selling a bag of regular milk powder earned only one or two yuan, while inferior milk powder, though cheaper, could earn four or five yuan per bag. The evil consequences of corruption from source to end soon fell on children. In 2003, Anshan Baorun Dairy had quality problems with the soy powder used to produce student soy milk, causing 2,556 primary school students in Liaoning to suffer collective food poisoning after drinking "high-nutrition student soy milk." In 2004, the "big-headed doll" incident broke out in Fuyang, Anhui, where hundreds of infants developed abnormally large skulls after consuming milk powder with fat, protein, and other nutrients far below national standards, and containing impurities such as nitrite. After the big-headed doll incident was exposed, Fuyang issued a warning announcement about 33 brands of inferior milk powder based on inspection results, and Sanlu milk powder was on the list. Sanlu reacted quickly. Tian Wenhua personally led the PR efforts, even trying to withdraw Xinhua News Agency articles, and ultimately succeeded in removing Sanlu from the blacklist. Parents, kept in the dark, let innocent children eat problem milk powder for another four years. In 2008, the industry's unspoken rule of adding melamine to pass protein tests finally came to light. Twenty-two dairy companies and 69 batches of milk powder were found to contain melamine, causing at least 6 infant deaths and 300,000 children to develop kidney stones, sparking widespread public outrage. -03- Ten Years of Leaps In January 2015, People's Daily published a commentary titled "Hurry Up and Stop the 'Dumping Milk and Killing Cows' Debate." What prompted People's Daily to discuss the "socialist or capitalist" issue was that since the winter of 2014, dairy farmers in Beijing, Hebei, Inner Mongolia, Qinghai, Henan, Guangdong, and other places had been dumping freshly produced milk. The term "dumping milk" once appeared in textbooks for several generations, referring to the Great Depression in the United States in 1929 when dairy farmers poured milk into the Mississippi River, reflecting the "unavoidable basic contradiction of the capitalist system." Now it was happening in China. Farmers who spent their days raising cows did not understand why dairy companies no longer wanted their good milk. Major public events often drive industry reform. After the melamine incident, the recurring quality problems in milk powder were quickly traced back to dairy cows and farmers: producing high-quality milk sources could not rely on small workshops; it required large pastures. In October 2008, the State Council made the first move: milk stations could only be operated by dairy companies, farms, or local cooperatives. Dairy farming entered the cooperative era again. Farmers had to send their cows to "cow care centers" equipped with cameras in the pharmacy, barn, and milking parlor, paying management and feed fees. This model was jokingly called "raising cows like pigs." After the State Council sounded the clarion call, various ministries quickly followed. The Ministry of Agriculture and the Ministry of Finance launched the "Alfalfa Development Action to Revitalize the Dairy Industry," requiring Chinese dairy cows to switch to alfalfa. Alfalfa, known as the "king of forage," has a protein content of up to 22% and can increase milk production. Cows originally fed corn produced 5-7 tons per year; after switching to alfalfa, they could produce 8-10 tons. But domestic alfalfa was scarce, requiring high-priced imports of over a million tons from the United States each year. From cow care centers to forage, the cost of raising cows for scattered households rose rapidly, and many dairy farmers exited the business, becoming milk station managers. But regulatory reshaping of the industry continued. The National Development and Reform Commission, the Ministry of Agriculture, and 11 other departments issued the "Dairy Industry Rectification and Revitalization Plan," subsidizing pastures with a capacity of 300 or more cows, with the goal of increasing the proportion of farms with 100 or more cows to 30% by the end of 2011, and requiring dairy companies to achieve 70% self-sufficiency in milk sources. This ignited a fierce battle for milk sources. Mengniu, which previously did not raise cows, now had its vice chairman Deng Jiuqiang lead the way in raising cows through Modern Farming, jointly building 14 pastures with a capacity of over 10,000 cows each with Mengniu, at a cost of 4 billion yuan; Yili invested 1.4 billion yuan to build 7 pastures; Sanyuan acquired Sanlu's Hebei pastures. The four golden milk source belts of Inner Mongolia, Xinjiang, Northeast, and Hebei, as well as emerging belts in Sichuan, Henan, and other places, were quickly carved up within a few years. At the same time, large-scale farms had to bear the costs of self-inspection and spot checks for 64 indicators, including melamine. In 2008, testing costs accounted for 5% of total costs for Chinese dairy companies; by 2012, this proportion had soared to 12%. At the time, Guo Benheng, president of Bright Dairy, said at a meeting of the Dairy Industry Association: "They conduct more than 2,600 spot checks in half a year; such checks will kill people." The cumbersome breeding and testing procedures made the cost of raw milk in China as high as 3.7 yuan per kilogram, far higher than the 1.5 yuan per kilogram in the United States, New Zealand, and other places. Meanwhile, starting in 2013, China successively signed tariff reduction agreements on dairy products with New Zealand, the Netherlands, Australia, and other countries. The price of "bulk powder" made from spray-dried fresh milk dropped significantly, with imported landed costs 10,000 yuan per ton lower than domestic milk powder costs. The huge price gap led domestic dairy companies to significantly increase imports of bulk powder to replace local fresh milk. The price of domestic raw milk began a continuous decline from 4.26 yuan per kilogram in 2013 and never recovered. Scattered households, with little power, could only helplessly dump fresh milk that could not be sold even at a loss, or even kill their cows and permanently exit the industry. Large pastures also could not escape the fate of being squeezed by downstream dairy companies using imported bulk powder. Among China's four major pastures, Modern Farming, which almost exclusively supplied Mengniu, lost 1.7 billion yuan in 2016 and 2017; Western Pasture lost money for five consecutive years from 2015 to 2019; Zhongding Pasture was delisted; Huishan Dairy's financial fraud was exposed, and its market value evaporated by 85% in one day. The biggest beneficiaries of this supply-side reform to comprehensively improve dairy quality were the downstream dairy companies. -04- King of Milk Powder On November 21, 2019, China Feihe, a domestic milk powder company, was shorted just 8 days after listing in Hong Kong. The short seller was GMT Research, a Hong Kong investment institution that had previously shorted Alibaba and JD.com and believed Anta should plummet 80%. This time, it targeted Feihe, the leading domestic milk powder brand, arguing that Feihe's revenue doubled between 2016 and 2018, exceeding 10 billion yuan, and that its market share in high-end products was as high as 25%, far surpassing foreign brands like Nestlé, Wyeth, and Mead Johnson. The institution said Feihe was "too good to be true." Clearly, this Hong Kong institution was too naive to understand the industry rule that "food safety incidents ultimately benefit the leading companies." After the melamine crisis, Chinese parents' trust in domestic milk powder hit rock bottom. They preferred to travel long distances to buy milk powder abroad rather than buy domestic brands, even forcing Australia and other places to impose purchase restrictions. Coupled with the rise of overseas shopping and online shopping, high-priced imported milk powder continued to enter China, gradually crushing cheap domestic milk powder. In 2007, foreign brands held 40% of the Chinese milk powder market; in the following years, this proportion quickly rose to 60%, and in first-tier cities, foreign brands' share even reached 74%. But in China, the main battlefield for mass consumer goods has never been first-tier cities. Low-tier cities with more newborns and higher birth rates are the key to winning the milk powder market. Domestic brands like Feihe and Yili knew this well. While Wyeth and Abbott were dominating first-tier cities, domestic milk powder brands that survived the industry rectification storm launched a counterattack in the vast low-tier markets— 1. Ultra-high product pricing. Milk powder is bought by parents and eaten by children; parents always tend to buy the best for their children. After multiple milk powder safety incidents, in the minds of Chinese parents, cheap milk powder had become synonymous with counterfeit and substandard products; they even suffered from "cheap milk powder phobia." Aware of the psychological change in parents, domestic milk powder brands abandoned their previous low-price competition and rushed to raise prices, selling better and better. The market share of high-end and ultra-high-end milk powder grew from 22% in 2014 to 43% in 2019, with average prices rising significantly from 336.3 yuan/kg to 438.2 yuan/kg. This directly gave Feihe and Biostime, which sell milk powder, gross margins close to 70%, while Yili and Mengniu, which mainly sell liquid milk, had gross margins below 40%. 2. Dominating maternal and child channels. Milk powder is a highly standardized product, seemingly suitable for e-commerce sales channels. But in fact, 60% of milk powder is sold in offline maternal and child stores, with e-commerce accounting for less than 30%. The reason for this strange online-offline ratio is mainly information asymmetry. After all, most parents are not nutrition experts. Faced with a dazzling array of milk powder, listening to salespeople's explanations and recommendations is clearly more vivid than reading information online. In addition, because children stop drinking milk powder as they grow up, the consumption cycle is short, so maternal and child stores must constantly hold events to attract new parents. Therefore, thousands of distributors and year-round parent-child activities are the core technology of domestic milk powder brands. For example, Feihe, which the short seller found "too good to be true," has an iron army of over 10,000 sales promoters stationed at more than 100,000 retail terminals and maternal and child stores across the country. Distributors are required to hold events at least once every two days, and each event must drive 10 times the sales; if they fail to meet the target twice in a row, they are replaced. With such a dragnet, it is no surprise that Feihe can hold more than 500,000 events a year and sell over 10 billion yuan worth of milk powder. At the same time, domestic milk powder brands that dominate the nationwide maternal and child store channels have seen their market share recover and begin to compete with imported brands. After ten years of leaps in breeding, testing, and regulation, domestic milk powder has long bid farewell to the dirty and chaotic era of selling for a few yuan per bag in farmers' markets. In 2019, China's milk powder market reached 175.5 billion yuan, with an average price of 250 yuan per 900g, not only far exceeding the world average of 150 yuan per 900g but also higher than developed countries such as the United States, the United Kingdom, Singapore, and Japan. In other words, Chinese people now drink some of the most expensive milk powder in the world, which is undeniably a tragedy. As an aging society approaches, every child is the most precious asset of China's future. Despite a decade of rectification and the popularization of industrial production, quality problems in regular domestic milk powder are now rare, but public incidents like "protein solid drinks masquerading as milk powder" still occur from time to time, stirring the sensitive nerves of parents and public opinion. Protecting children and freeing parents from anxiety is the right way forward for China's milk powder industry. The road to self-redemption for China's milk powder industry may still be long. Source: Yuanchuan Research Institute (ID: caijingyanjiu), Author: Yao Shuheng (Consumer Group, Yuanchuan Research) Support: Kou Xing (Chief Analyst of Food and Beverage, Huaxi Securities) Tips will be paid 400-2000 yuan upon adoption.