Can China Convince Consumers it is Serious on Food Safety?

By Bing Ho, Cherrie Shi, and Jiahua Wu

Although China takes great pride in its rich culinary heritage, Chinese consumers have been left with a sour taste in their mouths when it comes to food safety. With a number of serious scandals in recent years, including the currently unfolding Shanghai Husi meat probe, the Chinese government finds itself facing greater and greater challenges in guaranteeing food safety and restoring confidence in its domestically-produced food products.

Enhancing regulatory power

In May 2013, China’s 12^th National People’s Congress (NPC) created a new food safety authority at the ministry level. The China Food and Drug Administration (CFDA) replaced its commission-level predecessor, the State Food and Drug Administration (SFDA), and immediately started exercising its broader regulatory powers. It consolidated examination and inspection responsibilities from other agencies and streamlined administrative approval procedures. For example, licenses for manufacturing food and food additives—previously administered by China’s General Administration of Quality Supervision, Inspection, and Quarantine (ASQSIQ)—were taken over by CFDA. So was the right to grant food distribution licenses—previously the purview of the State Administration for Industry and Commerce (SAIC). These structural changes were made in the hopes that a consolidated authority will lead to a more efficient food safety system and greater accountability.

Improving food safety laws

CFDA released a draft of the amended Food Safety Law for public comment in October 2013, and the final Food Safety Law—the centerpiece of China’s food regulatory regime—is expected to be passed this year. The draft aims to impose more stringent obligations on food manufacturers and distributors in their internal operations and in the supply chain, enhance enforcement authority among local governments, and boost consumer confidence in food products.

The following amendments are some of the major changes that reflect these goals:

• Manufacturing, distributing, and catering food will only require one unified license instead of separate ones;
• In addition to production, the sale of food additives will also require a license and be subject to strict supervision;
• E-commerce operators like Taobao.com and grocery, convenience store, and restaurant delivery services will have to obtain a license to operate food businesses and will be held jointly and severally liable for product liability and consumer safety;
• Prosecutors and regulators will cooperate to increase criminal prosecution of product liability and consumer safety violations. Fines for regulatory violations will be significantly increased.  This increase includes tripling the fines for certain violations under existing rules; and
• Punitive damages available to consumers in product liability lawsuits will be significantly increased.

CFDA submitted the draft of the amended Food Safety Law to the NPC Standing Committee for deliberation in June, and the final version of the law is expected to be released by the end of this year. After the final law comes out, CFDA and other agencies will release regulations to implement it. The Chinese government is also working to create or improve roughly 1,000 food safety standards by the end of 2015.

Boosting confidence in domestic baby formula

Although six years have passed since the Sanlu scandal over melamine-contaminated dairy products, Chinese consumers’ confidence in domestic baby formula has yet to recover. Many young parents living in large or mid-sized cities still opt to purchase baby formula online or via other methods from overseas markets.

To restore consumer confidence and revamp the domestic dairy sector, CFDA has announced a series of changes, including a December 2013 revision to regulations on the domestic production of baby formula. The enhanced standards cover everything from raw material procurement to processing and testing.

CFDA renewed production permits for 82 baby formula manufacturers under the new standards in May 2014. However, perhaps recognizing the importance of restoring consumer confidence by strictly enforcing the new standards, the CFDA did not renew permits for another 51 producers. Among those producers that failed the review, 23 applied for an extension, 14 chose to alter their production process for raw materials, five halted production, and the remaining nine surrendered their production permits.

Furthermore, the State Council released a work plan in June that encourages domestic baby formula manufacturers to reorganize through mergers and acquisitions to “support the development” of the dairy industry. As of May 2014, there were 133 baby formula manufacturers in China. The ultimate aim is to form 10 large baby formula conglomerates, each of which would have annual sales revenues of more than ¥2 billion ($325 million). If each of these conglomerates meets its annual sales revenue target, the combined annual sales revenue would represent 65 percent of the market in China by 2015.

To realize these goals, the State Council plan includes strict rules and regulations for entry into the baby formula industry and lenient administrative approval processes for mergers and acquisitions in the industry. Although combining 133 baby formula manufacturers into 10 large conglomerates does not guarantee safer products, it should make it easier for government authorities to monitor product safety. In addition, bigger companies are more likely to comply with government regulations because they have more to lose than smaller companies when it comes to brand name recognition and total revenue.

As a result, expect to see a boom in transactions among established domestic baby formula producers in the near future.

Regulating the use of food additives

Widespread concerns over food safety have also arisen from the illegal use of food additives. Chinese consumers fear that domestic producers add dangerous chemicals to food to reduce their costs, as was the case in the melamine scandal in 2008. In an attempt to address these concerns, Chinese regulators have initially focused on monitoring food additives. In May, China’s National Health and Family Planning Commission (formerly known as the Ministry of Health) and four other administrative bodies issued a joint notice that restricts the use of some aluminum-based food additives, limiting the use of others. Additives containing aluminum are widely used in sponge cakes, steamed buns, and deep-fried dough sticks to give the products fluffier textures, but excessive aluminum in food may cause serious health problem such as kidney or Alzheimer’s disease.

Beginning this month, no food additives containing any amount of aluminum are permitted in the production of snack foods. However, fried flour products are not covered by the ban and products with food additives containing aluminum produced before July 1 can be sold on the market until the end of their shelf life.

CFDA has also begun the process of drafting new measures to supervise the manufacture of food additives. However, the initial draft fell well short the public’s expectations. The public viewed the initial draft as too similar to the existing flawed legislative regime and was disappointed by the lack of input from experts. CFDA is now revising the initial draft, but no timetable has been set for the release of a revised draft for public comment.

The government is also developing an online database that will make all approved food additives publicly searchable. The database will provide basic information about the permitted and restricted uses of food additives, giving consumers a way to find out whether ingredients in their food are approved.

Improving legislation through judicial enforcement

The Food Safety Law itself will not completely solve the shortcomings in food safety in China without proper enforcement. To that end, the Supreme People’s Court issued its first judicial interpretation on food safety crimes, which will serve as a binding rule for all lower-level courts in adjudicating food safety cases.

The judicial interpretation improves enforcement in the following ways:

• Consumers may claim punitive damages even if no personal injury is suffered;
• Sellers are liable for damages even if consumers knowingly purchase counterfeit products;
• Food offered as gifts, including free samples, are subject to food safety regulations;
• Online platform operators, accreditation agencies, and celebrity spokespeople face joint and several liability for any violation of the law by their business partners; and
• Consumers may challenge unfair clauses in standard form contracts, which will be held void and nonbinding without exception by PRC courts.

Change on the horizon?

Among the Chinese government’s recent accomplishments, one fundamental duty has remained unfulfilled—to provide safer food to its people. The Chinese government is finally taking significant steps to correct this oversight through various legal and regulatory changes. These shake-ups will be felt throughout the food and agribusiness industry and will create numerous opportunities and pitfalls for industry participants. As many of these legal and regulatory changes are still in the beginning stages, industry participants should expect and remain watchful for significant shifts as China moves to improve its legal regime and produce safer food.

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About the Authors

Bing Ho ([email protected]) is a partner in the Corporate Group at Baker & McKenzie and leads the firm’s North America-China M&A Practice, dividing his time between Chicago and China. His practice focuses on M&A transactions, foreign direct investment and cross-border counseling for multinational corporations doing business in China, with a particular focus on transactions related to the food, agribusiness, manufacturing, chemicals, and retail sectors.

Cherrie Shi ([email protected]) is a special counsel in the Corporate Group at Baker & McKenzie based in Shanghai. Her practice focuses on cross-border mergers and acquisitions for foreign investors and foreign direct investment into China. She also advises clients on China outbound investment and general corporate matters.

Jianhua Wu ([email protected]) is an associate in the Corporate Group at Baker & McKenzie based in Shanghai. Her practice area focuses primarily on merger and acquisitions, joint ventures, private equity, venture capital and other general corporate matters. [/box]

(Photo by funkz via Flickr)