US-based Procter & Gamble (P&G) reportedly will merge with Yue-Sai, a famous Chinese firm, in a move many analysts expect will spur a new round of mergers and acquisition in China's cosmetics sector.

Local P&G officials, however, deny the rumours.

"We have not yet received any notice from our headquarters in the United States," said Pei Yiqun, P&G China's public relations manager.

"Nothing has changed," she told China Business Weekly, when asked about the company's business operations.

Officials at Yue-Sai, a Chinese company registered in the United States, are also denying the rumours.

"There has not been relevant information from our headquarters," said Zhao Xiaoyan, Yue-Sai's public relations manager.

Insiders, however, suggest P&G and Yue-Sai have been discussing the deal for some time. They say an agreement could be finalized within months.

P&G in the past two years has focused intently on China's cosmetics sector. Its shampoo brands, combined, hold more than 80 per cent of the Chinese market.

SK-II is P&G's high-end skincare product, while Olay is aimed at the mid-range and low-end markets.

P&G is eager to expand and develop more brands, an analyst, speaking on condition of anonymity, told China Business Weekly.

Yue-Sai is a good choice for P&G, as Yue-Sai is a leading brand in the Chinese market. It ranks second in both the colour cosmetics and lipstick categories, and third in skin-care products.

"Its background in both the United States and China is attractive to P&G," the analyst said.

Yue-Sai has adopted Western management and operational practices, and it has continued to hold a dominant share of China's market.

P&G's initial expansion strategy for China involves mergers with domestic firms, P&G China Vice-President James Wei told China Business Weekly.

Many international firms consider that strategy to be an efficient way in the post-WTO (World Trade Organization) era to enhance investments and increase their shares of China's promising market.

L'oreal, for example, was most interested in Mininurse's developed sales networks, especially its connections in China's second- and third-tier cities.

France-based L'Oreal announced early last month it had acquired Mininurse, a local brand aimed at China's low-end cosmetics market.

L'Oreal, a major international brand, has completed its sales networks in most of China's large cities. Now, an analyst said, it will repeat the process in smaller centres.

However, some insiders do not believe P&G's merger with Yue-Sai will proceed as smoothly as L'oreal's marriage with Mininurse.

"Unlike L'oreal and Mininurse, which are widely separated by market share, Yue-Sai is equal to or better than P&G in terms of popularity of its cosmetic products in China," said Zhang Hongyu, vice-secretary-general of the China Beauty & Cosmetic Chamber (CBCC).

Yue-Sai should think twice about what it will gain from its partner before co-operating with other companies, Zhang said.

He said companies can benefit from mergers and acquisitions.

Zhang expressed concern over the future of China's brands.

"Mergers and acquisitions will definitely affect the development of domestic brands. The companies will either sacrifice their brands or experience dramatic losses in the market as a result of pressure from the international cosmetics giants."

CBCC's statistics indicate foreign brands, both imported and manufactured by joint ventures, accounted for 68 per cent of China's market last year.

But they are growing about 15 per cent annually.

Eight of the top 10 cosmetics brands in China are owned by foreign firms.

Lack of capital is the main hindrance to the development of domestic cosmetics brands.

"How can domestic companies, which usually have about 1 million yuan (US$120,000) in capital, compete with foreign giants like L'Oreal, which have spent more than US$200 million to build factories and sales networks in China?" Zhang asked.

(Business Weekly 01/13/2004 page9)