Key takeaways:
- Leading new-style premium tea maker HeyTea has launched a recent round of price cuts, even as many rivals struggle with rising costs, stiff competition and Covid disruptions
- Chinese high-end tea makers raised $2.2 billion from investors last year, with nearly half going to HeyTea, whose latest valuation stood at nearly $10 billion
By Jose Qian
New-style tea drink makers have bubbled up all over China these last few years, thriving on a potent brew of low barriers to entry, high profit margins, fast returns and a growing middle class that isn’t afraid to spend a few dollars on a cup of trendy tea. But as the market fast becomes saturated, they are entering a new overheated phase characterized by look-alike products and ferocious competition.
Covid-related shutdowns are adding to the recent growing pains, confronting these high-end tea shops with declining customers even as rents and labor costs remain high. At the same time, inflation at levels not seen in decades has caused raw material costs to also rise.
The growing pinch has led smaller chains like Xiangpiaopiao (603711.SH) and Sexy Tea to raise prices since the start of the year. But high-end market leader HeyTea recently bucked the trend by lowering prices of some products by about 1 yuan to 5 yuan, including a cut that saw the trendy chain drop the price for its “Pure Green Tea” to an unthinkable single-digit level of 9 yuan.
The move has sent market watchers scrambling to determine if HeyTea’s cuts represent a bid to steal market share, or perhaps signals the growth of high-end tea drinks has come to an end.
China’s new-style tea drink industry saw 32 financing events last year, raising more than 14 billion yuan ($2.2 billion). Those included two financing rounds by HeyTea, raising a combined $1 billion and pumping up its valuation to 60 billion yuan. Investors in the market leader include big names such as Hillhouse Capital, Sequoia Capital, BA Capital and Tencent(0700.HK).
However, maintaining such frothy valuations is no easy task. Take Nayuki (2150.HK), the market’s No. 2 player and HeyTea’s closest rival, as an example. The high-end tea competitor was listed in Hong Kong last June, and has seen its shares lose 60% of their value as investors grow impatient for the company to earn a profit.
The high-end of the market is hardly alone in its heated condition. The more mid-range Chabaidao announced that its national store count exceeded 5,500 last year, as talk bubbled up that it’s considering a $500 million IPO in Hong Kong. The lower-end Mixuebingcheng claims to have more than 20,000 stores in China, and received 2 billion yuan in investment early last year, led by Hillhouse Capital and Meituan(3690.HK)-affiliated Longzhu Capital, giving it a market value of 20 billion yuan. Shuyi Tealicious (603939.SH), another low-end player, also had 7,000 stores in 2021.
By comparison, HeyTea experienced some of its slowest growth in 2021, at least in terms of store count. After boosting its count by 139% and 78% in 2019 and 2020, respectively, HeyTea’s store growth rate dropped to just 26.3% last year, taking its total to 878, according to Canyan Data, a data service provider in the catering industry.
Founded in the city of Jiangmen in Guangdong province in 2012, HeyTea is considered a pioneer in the high-end premium tea business, a sort of tea equivalent of Starbucks (NASDAQ:SBUX). It creates its sense of higher value by adding products like fresh fruits and cheese foam to its teas. It sells those out of upscale shops in mainstream business districts, with people sometimes lining up to pay the equivalent of up to $4 and $5 for its uppity drinks.
Lifestyle product
As with Starbucks, HeyTea’s drinks are as much a lifestyle product as actual beverages, catering to young upwardly mobile white-collar workers who don’t mind splashing out relatively large amounts for products they could find much cheaper elsewhere.
But some believe HeyTea may have pushed prices as high as they can go. The average HeyTea drink costs 29 yuan, according to Haitong Securities, and consumers who are willing to pay such high prices are still a minority. A survey by Sina in 2020 showed that 61.8% of consumers would reject a tea drink priced over 30 yuan, while 31.4% said they would “drink less” for such prices.
Consulting firm iResearch data shows that high-end products, defined as those costing 20 yuan or more, accounted for only 14.7% of the Chinese new-style tea drink market last year. The remainder – more than 85% – was dominated by cheaper products costing less than 20 yuan.
HeyTea is hoping to hold on to its customer by lowering prices in its competitive industry, and even pick up some new ones by stealing business from popular low- and mid-end brands. It most likely also believes the move won’t damage its high-end image since the cuts are relatively moderate, not exceeding the 20%-30% range.
HeyTea’s confidence to initiate a price war in such a tough climate may come from its fatter margins due to big premiums it charges for its high-end image. Guosen Securities (002736.SH) estimates its gross profit margin is 65%-70%, much higher than the industry average of about 53%, giving HeyTea more room for price reduction than most of its peers.
HeyTea may also feel confident to make such cuts because its “base camp” in the high-end of the market is very stable, judging from its current market share. According to Haitong Securities, HeyTea leads the market with a share of 27.7%.
Thirdly, HeyTea has better control over the quality and cost of its raw materials by virtue of its self-built supply chain system. For example, by building organic tea gardens in Guizhou province, and signing purchase agreements with tea farmers, the company ensures low prices and stable supplies. It has similar channels allowing it to secure regular supplies of out-of-season fruits, giving it yet another advantage over its competitors.
HeyTea has also cut operational cost through its “HeyTea GO” applet, which had 520,000 daily active users in April 2021, second among new tea brands, according to iResearch. All those advantages give HeyTea a potent arsenal of weapons allowing it to cut its prices, seizing on the market’s current turmoil to drive consolidation by making strategic investments and acquisitions.
Since last July, the company has invested in six brands, including boutique coffee brand Seesaw, lemon tea brand Winning, fruit tea brand Hechi, oat milk brand YePlant, and the pre-mixed alcohol brand WAT. It has picked up stakes in those companies ranging anywhere from 5% to 60%, as it seeks to broaden its scope in the beverage business.
The next big milestone could be an IPO, though HeyTea has been tight-lipped on that matter. But with its market share likely to climb and its leading position likely to solidify with the latest price cuts, an IPO in the not-too-distant future could be a strong possibility to seize on its latest momentum.
