ANALYSIS OF CORPORATE STRATEGY China Resources Enterprise

Content Problem SWOT Analysis –Overview Business Level Strategy - Focused geographical - Differentiation - Related- link Acquisition- based Strategy Recommendation

Problem Recently restructured companies assets Low margins  CRE operating margin: 1.5% (2009 FY)  Sector average: 3.1% Desire from investors for higher profit margin Acquisitions currently a very important part of CRE’s strategy

Problem CRE has yet to improve its margins through an acquisition based strategy Should CRE continue acquisition based growth strategy or focus on fine-tuning their core business against the risks?

CRE Limited, SWOT Overview StrengthWeakness Market leadership better equips the company to effectively participate in the vibrant Chinese markets Store productivity significantly lower than the competitors Inorganic expansion to further establish a dominant market position Lower margins Integrated business model

OpportunityThreat China’s twelfth 5-year PlanRising minimum wages will increase operational costs Robust Chinese economy

Business-level strategy Focused differentiation with related linked strategy

Source: CRE 2010 Annual Report Business-level strategy

Focused Geographical market: domestic Chinese market - leverage its strength : good understand of Chinese Market - better serve the segment - local/regional competitors : focus on more narrowly defined competitive segments: offer same source of differentiation at lower price - cannot tap the advantages of using global strategy: increased market size, ROI, economics of scales and learning

Business-level strategy Differentiation strategy in each business unit

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Beer Analysis

Beer - " 雪花 Snow“ SWOT – Strength -China’s best-selling beer for 2009 in terms of sales volume - Market leader position further consolidated by acquisition of Kingway in Feb US $40m investment in Technology -Legend of quality: unified technological and technical standards - Appointed again as the official beer for NPC and CPPCC

Customer-Focused -Royal- looking and extravagant noble gold and jade inlaid and engraved vision -Focus shift from supply-driven to demand small bottles like imported beers

-Brand Promoton Campaign : “The Great Expedition” ( 勇闖天涯 ) more customer interaction attracted many customers due to its story (not actual taste)

SWOT –Weakness - Thin profit margin (Chinese: price-sensitive) [$2 per hectoliter, compared with $50 to $80 in Europe and the U.S]

SWOT –Opportunity - Enlarged customer group : younger, higher income, more urban customers high-end : Snow Draft, Snow Super Premium urban: Beijing - Chinese robust economy - Chinese twelfth five-year plan

SWOT –Threat - cost of production: raw materials, rent, utilities - increasing M&A cost

Five Forces  Rivalry with existing competitors  “ Tsingtao”: great brand recognition, 15% of domestic market share “Bud Light”: “Snow” outsold [Source: Pluto Logic]  Bargaining power of customers  High market reputation and strong customer loyalty “The Great Expedition” (“ 勇闖天涯 ”)  Bargaining power of suppliers  Raw materials + Packaging materials: hard to be replaced  Potential Entrants  Hard to gain a share in this competitive market  Product Substitutes  taste speciality

Retail Analysis Regional leadership on a multi-format business platform

Retail Analysis

Strength - 2 nd largest retail organization in China in Retail Asia Pacific top 500 awards Weakness - Lower average sales per store compare to competitors Opportunity - Increasing urbanization of China has expanded the consumption market Threat - Keen competition from Carrefour, Tesco, Wal-Mart

Retail Analysis Five Forces  Rivalry with existing competitors Multinational retailers such as Wal-mart, Tesco, Carrefour expand their operations in second and third tier cities They are expected to open new stores each year according to PwC  Bargaining power of customers  switching cost is moderate and is decreasing with growing experience in the market

Retail Analysis  Bargaining power of suppliers  rather low for small suppliers such as small farming businesses  higher for international brands like P&G as they have international brand awareness  Potential Entrants  High cost to entry due to the need to set up new distribution channels  Competitors may retaliate with price war or bad publicity  Product Substitutes  Retailing could be bypassed by internet shopping therefore eliminating hypermarkets and supermarkets  Traditional stores offering human contact are an alternative

C’estbon Pacific Coffee Beverage Analysis

Strength - Largest packaged water brand in Guangdong - Extensive distribution channel Weakness - Insufficient production capacity for launching new products Opportunity - Fast-growing coffee market - Emphasis on healthy diet Threat - Keen competition - High development Cost

Beverage Analysis Five Forces  Rivalry with existing competitors “C’estbon”: Master Kong, Wahaha, Coca-Cola and Nestle Pacific Coffee: Starbucks and Gourmet Maste  Bargaining power of customers “ C’estbon”: HIGH Pacific Coffee: LOW  Bargaining power of suppliers Pacific Coffee: HIGH

Beverage Analysis  Potential Entrants China beverage industry is attractive to the potential entrants  Product Substitutes Carbonated drinks, energy drinks and tea

Food and Processing Distribution Analysis

Ng Fung Hong Strength: premium food quality vertically integrated meat supply system - lower operational costs - Allow quality tracking : control both food quality &food safety -- create value to customers - brand building & consumer loyalty - Widen operating margin ---higher investment return - Build core competence to ensure continual growth - Remain in competitive position in the market ( 5 forces)

Food and Processing Distribution Analysis Five Forces  Rivalry with existing competitors: medium - the monopoly live cattle importer from China - strong brand recognition & reputation - Competitors: Local farms(limited supply), frozen meat suppliers all over the world  Bargaining power of customers & product substitutes : medium to low  monopoly in live cattle market in HK  Substitutes: local meats, chilled/ frozen meats  Potential Entrants  monopoly in live cattle market in HK

Bargaining power of suppliers: Low - Many product sources

Weakness: - increasing cost of production ( raw materials) --- pressure to raise the price of - risk of diluting perceived differentiated features: customer’s dissatisfaction of price increase of meat price increase is not justified by perceived increase in quality

Opportunities - Economic growth in China: increasing pork consumption--- demand increase - market expansion in China: joint venture and acquisition --- penetrate into production, retailing and marine fishing

Threats - Hong Kong Pork Traders Call For End In Monopoly Imports:buyers urged the government to open up the live cattle market --- break Ng Fung Hong's monopolyHong Kong Pork Traders Call For End In Monopoly Imports

Business-level strategy Related linked: SBU Form of Multidivisional Structure - share some resource: distribution channels in different business units

Food and retail Development of self-owned retail stores and launched more than 120 meat counters and stores Shanghai, Hangzhou, Nanning, Shenzhen and Ningbo, etc, Leveraging the strong “Ng Fung” brand name and efficient supply chain

Beverage and retail Holders of Pacific Club Card enjoy discount in supermarkets operated by CRE - sharing of marketing resources

Beer Strategy to be No.1 - encircling the cities from rural areas - moving up-market - promotion and branding strategy

Acquisition-Based Strategy Value Creating Drivers Pursuit of Market Power Learn and Develop New Capabilities

Source: DataMonitor

Acquisitions in 2010 Acquisition of the Jialinshan project marked the Group’s expansion into the mineral water sector. Acquired 80% interest in Pacific Coffee (Holdings) Limited from Chevalier Pacific Holdings Limited. Ng Fung Hong won the bid to acquire a 60% stake in Jiaxing Food & Meat Co., Ltd.

Pursuit of Market Power CRE has potential to further increase market power as a result of their related linked strategy Proper execution will allow CRE to reduce the costs of its primary and support activities CRE can further employ vertical integration via vertical acquisitions

Pursuit of Market Power Vertical Integration  Food, beer and beverage divisions provide inputs for CRE’s retail business segment CRE can increase their market power using an integrated model  R&D, processing & distributing, storage, wholesaling, retailing Limitations of vertical integration  Outside supplier may produce the input at a lower cost  Changes in consumer demands create capacity imbalance and coordination problems

Pursuit of Market Power Horizontal Acquisitions  CRE can integrate its own assets that complement their core competency  Key driver to top-line growth and market share  Ex. Strengthening retail position by acquiring supermarkets Expand geographical coverage in the northern and central areas of mainland China  Help CRE further establish its network of primary activities  Ex. CRE recent push to acquire breweries in these locations

Learn and Develop New Capabilities Goal: Develop and exploit economies of scope between CRE’s businesses Broaden knowledge base and leverage CRE’s core competences Create value by pursuing Operational and corporate related acquisitions

Learn and Develop New Capabilities Acquisitions to create operational relatedness  CRE can leverage its existing primary activities  Distribution systems  Sales networks  Also facilitate their support activities  Purchasing practices  Bargaining power Has potential to improve existing profit margin  Increased revenues  Decreased costs

Learn and Develop New Capabilities Limitations to acquisitions to further operational relatedness  Organizational integration may fail to create synergies  Success is dependent on CRE’s ability to integrate acquisitions into a cohesive structure that will allow sharing of activities to take place efficiently  Important that HQ implements controls to foster sharing of activities between related divisions

Learn and Develop New Capabilities Enhancing corporate relatedness through acquisitions  Transferring CRE’s core competences to an acquired business  CRE has expert local market knowledge and a sophisticated distribution system  Transferring core competences of core business to CRE  Possible targets should include companies that can transfer cost saving related core competences to CRE

Learn and Develop New Capabilities Downside of pursuing a combination operational relatedness and corporate relatedness acquisition based strategy  Cost of organization and compensation structure could be expensive leading to further decrease in CRE’s profit margins

Risks of Acquisition Based Strategy Integration Challenges  Financial systems  Control systems  Building effective working relationships

Risks of Acquisition Based Strategy Inability to achieve synergy  Ideally want acquisitions to create economies of scope and share resources to benefit the company  Must focus on rational evaluation of private synergies  Business is worth more managed by CRE than by itself  Transaction costs  Due diligence fees (lawyers, investment banks, accountants, etc)  Managerial time to evaluate target firms, complete transaction  Transaction costs < expected synergies

Risks of Acquisition Based Strategy Too much diversification  CRE could begin to rely on acquisition activities to replace innovation  Managers may focus solely on financial performance of a business segment rather than strategic controls to evaluate business performance CRE may be getting to big  Managers may implement more bureaucratic control to manage combined firm’s operations  Hinders innovation

Risks of Acquisition Based Strategy Managers overly focused on acquisitions  Large managerial cost associated with acquisitions  Searching for viable acquisitions  Completing due diligence process  Preparing for negotiations  Managing the integration process  Diverts attention from other matters that are necessary for long-term competitive success, such as identifying ways to drive cost-efficiencies

Recommendation Beer Raise avg. selling prices in certain strong regions to cover the increase in beer production materials - divest non-core beer brands - increase product mix - fine tune selling prices in certain regions - lift sales volume of premium beer

Retail locating supermarkets in self-owned or partially- owned property development projects

Recommendation Beverage Increase the production capacity  Manufacture the products by themselves rather than by OEM factories  Pro: the supply chain become more vertically integrated  Con: costly Develop healthy drinks  More people aware of healthy life style  Healthy drinks can be charged a higher premium

Food Product - product quality improvement and innovation Promotion - Increase brand awareness : superior product quality Price: set a premium price Place: Market expansion in China - Continue joint venture and acquisition with large food and processing companies