By Weining Hu
On April 8, 2016, Chinese authorities released an updated “positive list” for goods imported through cross border e-commerce (CBEC). Pet food, specifically dog food and cat food, are included on the list for the first time. This new regulatory update presents a substantial e-commerce opportunity for foreign pet food companies, as pet food can now be imported more easily via one of China’s 13 free trade zones or sold directly on business-to-consumer (B2C) or consumer-to-consumer (C2C) e-commerce platforms such as Tmall and JD.com. However, uncertainties and risks accompany these new opportunities, as new integrated tax policies for CBEC and the pre-existing “negative list” exert impacts on foreign investment.
Opportunities for foreign brands
Since global food and drink conglomerates Mars, Inc. and Nestle S.A. attained sweeping success in China in the early 2000s, numerous market research analyses have projected enormous growth momentum in China’s pet food industry. Their confidence in China’s pet food sector is fundamentally based on the reality that around 75 percent of pet owners in China still do not feed their animals with commercial pet food, as estimated by Euromonitor. However, the use of commercial pet food is expected to become more widespread going forward, with GfK projecting online pet food sales growth in China to reach 43 percent for 2016.
In addition to the promising growth potential in the pet food industry, the growing food safety concerns among Chinese citizens encourages more and more middle and upper class pet owners to choose reliable foreign-branded pet food over domestic options. In recent years, a sequence of food safety incidents associated with Chinese food manufacturers have weakened the nation’s trust in national brands, such as when tainted Chinese-made pet treats killed over 1,000 dogs in 2007, causing the US Food and Drug Administration to recall a massive amount of pet food. The most prominent food safety scandal occurred in 2008, when the sale of tainted milk powder led to more than 300,000 infants being harmed, leaving China’s central government embarrassed amid severe domestic and international reprimands over its regulatory deficiencies.
Tax treatment of pet food imported through CBEC
Due to uncertainties brought by the new integrated tax policies for CBEC, however, and counteractions hidden in the “negative list”, foreign investors are not necessarily guaranteed immediate success. As new integrated tax policies for CBEC means that the overall tax burden on consumers will exceed 10 percent, the price of imported pet food products will be significantly higher.
For example, if an online buyer paid RMB 202.26 (US$30) for a popular US branded natural dry adult dog food before the new adjustment, the tax would be waived by Customs because it amounted to less than RMB 50 (202.26 x 10% = 20.226). After the new adjustment, the same item is subject to a tax rate of 9.1 percent (0% [tariff for pet food] + 13% [VAT for pet food] x 70% = 9.1%). A further RMB 18 (RMB 202.26 x 9.1% = RMB 18.40566) would therefore be added to the original retail price after the adjustment.
In the short term, e-commerce platforms have been absorbing the price of the integrated tax for online buyers as a sales promotion to win greater market share. However, in the long run, integrated tax will eventually be passed onto online buyers. Consumers who prefer to enjoy low tax benefits might turn away from pricier overseas products, and instead choose from the existing foreign brands in China’s sales market. Though new investors may lose connections with that customer segment, licensed foreign pet food manufacturers will continue to benefit from sales growth due to well-established brand awareness, competitive price advantages, and low cost and speedy delivery.
While the new “positive list” includes pet food, the “negative list” excludes certain animal feeds, such as meat meal, bone meal, fish meal, whey powder, blood meal, animal-derived medicines, and other unspecified feeds. Under such a contradictory situation, customs clearing will prioritize the “negative list,” according to China’s Inspection and Quarantine Bureau. Inclusion of pet food on the “positive list” seems to be good news for foreign investment at first glance, but when it comes to the implementation level, further legal due diligence is essential for any new market entrant.
In general, both licensed foreign pet food manufacturers and new foreign pet food companies will encounter different types of barriers in the process of achieving sales growth. Nonetheless, new regulatory changes open an e-commerce channel for more foreign investment to enter China’s pet food market. With the increasingly diversified demands of China’s pet owners, foreign brands specializing in different pet food products have the chance to establish their respective market niches when navigating the choppy waters of China’s cross border e-commerce.
Asia Briefing Ltd. is a subsidiary of Dezan Shira & Associates. Dezan Shira is a specialist foreign direct investment practice, providing corporate establishment, business advisory, tax advisory and compliance, accounting, payroll, due diligence and financial review services to multinationals investing in China, Hong Kong, India, Vietnam, Singapore and the rest of ASEAN. For further information, please email firstname.lastname@example.org or visit www.dezshira.com.
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