The Booze Is Flowing in China

TAIPEI ( TheStreet) -- One night about 10 years ago a friend took me to dinner in a working-class city outside Beijing. He ordered a grain alcohol that we drank till I can't remember when and tried to forget as soon as my clawing headache and nausea passed the next afternoon.

A few years later I had a chance to try another type of the clear-colored Chinese "baijiu," which is Mandarin for white wine. A government foreign affairs office leader in northeastern China had ordered the smoother, tangier liquor to celebrate after an interview that he helped arrange. No trouble the day after.

The first kind of experience is still being enjoyed by people with more fortitude than me, often on stools in the back alleys of Beijing. But a lot of middle-class drinkers have shifted from this old-time, made-in-China staple to beers and grape wines, both of which Chinese say go well with their meals. For high-end imbibers, however, the distilled grains still top hops.

And for a sober investor, there's a deal at both ends of the bar.

Some of the white wine replacements for China's ubiquitous middle class come from foreign brewers that are well known to any drinker offshore -- Anheuser-Busch ( BUD) and Molson Coors ( TAP), for example.

China's beer market grew 29% from 2006 to 2011 to a record high of 50 billion liters, twice that of the next biggest guzzler the U.S. (consider the obvious population size difference plus strong domestic consumption), market research firm Mintel said in a report in June.

Market value for beer in China went up 63% to 454 billion yuan ($71.6 billion) over the same period. Mintel said the growth in value tracks rising personal incomes. That would make sense, as beer costs more than low-end spirits like the stuff I had 10 years ago. That costs just 2 to 5 yuan per bottle.

Year-on-year value growth in grape wines has slacked to 12% after 52% from 2006 to 2010, but the same measurement for spirits such as white wine grew just 24% year-on-year to 2010 and 16% to last year, Mintel says.

Foreign beer brands are a drop in the barrel compared to China's own Tsingtao (0168.HK) and regional brews such as Yanjing (000729.SZ). Tsingtao share prices on the Hong Kong stock exchange are bouncing around near a five-year high, though on a dip at the moment (hint, hint). Yanjing shares are down sharply from peaks in early 2008 and mid-2010.

But popular foreign-brand beers sell widely in urban supermarkets and upscale bars. Among the easiest to find are the Danish beer Carlsberg (CARLS-B.CO) and its Dutch rival Heineken (HEIA.AS). Both are trading on comfortably in Europe at pre-global financial crisis levels.

U.S. brewing giant Anheuser-Busch InBev and fellow American macro-brewer Molson Coors are also on the move.

Asia was Anheuser-Busch InBev's top market by volume in the first half of 2012, up 5.7% and led by China at 5.9%, no surprise given how easy it is to find a Budweiser in Beijing. Global volume went up just 0.8%. The brewer's first-half financial report forecasts a market-share gain in the first five months of the year. Its share prices reached a five-year high on Sept. 4.

Molson Coors entered China in 2003 and reports growing Coors Light sales. Two years ago it announced a joint venture with China-based Hebei Si'hai Beer Co. and a 51% controlling interest in the venture, still noteworthy for any Sino-foreign tie-up in China.

The venture opens valuable local sales and distribution doors for new brands under a joint label. Molson Coors share prices are oddly volatile for a beer brand but holding for the moment near a five-year average.

Imported grape wines of special note are Jacobs Creek of Australia, South Africa-based Penfolds and Chile's Santa Rita. Stock traders can't tap into most of these wineries as they're privately held.

But classy, top-brassy Chinese drinkers, guys like the foreign affairs office rep, are sticking hard to indigenous booze. Government military officials have particularly keen tastes for the high-end Chinese spirits, among other luxuries.

For that reason, shares of top brands such as Kweichow Maotai (600519.SS) and China Jiugui Liquor (000799.SZ) are considered more than safe unless the country's elite suddenly gets too poor to afford them, an unlikely scenario no matter what they say about a slowdown in the country's economic growth.

Kweichou Maotai, the biggest company of its kind in China, announced a 20% to 30% ex-factory price hike from this month, after share prices hit a record high in July. China Jiugui Liquor saw a historic high around the same time.

Valuations for China's overall spirit sector are strong, according to an analysis by the Swiss investment bank UBS. It says the sector is trading at 12 times 2013's estimated price-to-earnings ratio, implying 36% growth potential for next year. Over the past month shares have sagged, but that's seen as a short-term trend that just makes them cheaper for now.

Shares of both Kweichow and China Jiugui already show signs of picking up -- quickly.

"Historically, spirits have been less affected by economic slowdowns compared to other consumer sectors, especially since 2010," UBS said in a note to this column last week. "We believe sectors with stable results growth profiles may still enjoy a valuation premium upside."

This article is commentary by an independent contributor, separate from TheStreet's regular news coverage.