Inside China: Exploring Supplement Sales Channels

By Jeff Crowther | October 1, 2009

The pharmacy and direct sales channels reign supreme in China's dietary supplement market.

For those of you who have done any market research on China's dietary supplement industry, I'm sure you've wanted to pop some L-theanine or valerian root to calm your nerves. Well you're not alone. China's dietary supplement regulatory system is certainly lacking in transparency, and it can be confusing and downright frustrating at times. But it's these regulations that have laid the foundation for the current industry and its sales channels, particularly the pharmacy and direct sales (MLM) segments.

An Historical Perspective

The establishment of China's dietary supplement industry dates back to the late 1980s and early 1990s. At this time, there was no clear understanding of what exactly dietary supplements were. Likewise, industry needed clarification on how they would fit into the country's regulatory framework. Due to the lack of a distinct set of regulations, misunderstandings about the products, and the fact that dietary supplements come in a "pill type" dosage form, supplements found themselves equated to pharmaceuticals and were regulated as such. This perception, although now an unwanted legacy, helped propel some of the early players to national brand status.

The first brands to enter the market came from well-funded pharmaceutical companies. For them, registering products as OTC drugs was not only within their financial means, but it also offered them clear market advantages. First, being an OTC meant not going against the system. China viewed these products as drugs and OTC status complemented this philosophy. Second, OTC status gave the manufacturer advertising rights, along with the ability to be sold in pharmacies and hospitals. It also qualified some for insurance reimbursement.

In the early stages of development, the Ministry of Health (MOH) was the de facto regulator of the industry. It wasn't until MOH created the Food Hygiene Law (1995) and Health Food Administrative Regulations (1996) that the government began to recognize the need for regulations that dealt with the dietary supplement industry specifically.

The Health Food Administration Regulations began the registration process known as the "blue hat" registration. The "blue hat" is the nickname for the small blue logo a product receives after being successfully registered. This registration gave dietary supplements limited advertising rights, potency restrictions and limited functional claims that could be made after going through a lengthy and costly registration process. "Blue hat" registration also allowed companies that didn't go through the OTC registration process to begin entering the pharmacy channel, and it also set in motion the newly developing direct sales channel.

At this time, the pharmacy sales channel was the only pre-existing channel. Pharmacies were already selling medicines and OTC multivitamins, and with literally hundreds of thousands of locations throughout China, the channel was already nationwide. For example, in 2006, Beijing alone had more than 8000 pharmacies. To put this number into perspective, most of these pharmacies are located in local neighborhoods very close and convenient to their customer base. One of the reasons this sales channel was so attractive was most consumers and regulators viewed supplements as "drug like" products, so it made sense to be on the shelves at local pharmacies.

Throughout the 1980s and most of the 1990s, the pharmacy channel controlled more than 80% of the market. But today those numbers are changing due to the growth of the direct sales channel as well as newly forming channels. In 2008, for instance, the pharmacy channel was responsible for roughly 20% of the market, and worth more than $2 billion.

A couple decades ago, most domestically made health products were based on Traditional Chinese Medicine (TCM), which came in liquid dosage forms and featured formulas based on herbal ingredients. Chinese consumers were already very familiar with herbal products and drinking liquid formulas, so the marketing and selling of these products were easily accepted by consumers. As a result, foreign imports of dietary supplements using ingredients such as vitamins, minerals, amino acids, herbs and specialty nutrients faced an uphill battle upon entering the market. First, these ingredients were foreign to consumers and came in dosage forms that to them resembled drugs. Second, the existing MOH regulations did not allow for most of these products to enter the market due to ingredient and potency restrictions.

Now that the pharmacy channel was well underway with the early players of the pharma produced OTC multivitamins and the domestically produced herbal formulas, it was time to figure out how to get dietary supplements up and over that hill and into the hands of the massive consumer base of China.

The Birth of the Direct Sales Channel

Prior to their involvement with dietary supplements, direct sales companies were already selling cosmetics and household goods successfully in China. Building on this expertise, many began marketing dietary supplements in the mid to late 1990s. These efforts hit a snag in 1998, however, due to pyramid schemes and dubious sales tactics, which caused the Chinese government to ban direct sales.

It wasn't until 2005 that the central government passed legislation and began licensing direct sellers under a set of strict regulations. Part of these restrictions stated that direct sellers were not allowed to sell food, but could sell dietary supplements as long as they obtained the "blue hat" approval. During this transitory period for direct sellers (1998-2005), regulatory authority for dietary supplements changed hands. In 2003, the State Food and Drug Administration (SFDA) was created to take over responsibilities of regulating drugs, medical devices and dietary supplements from MOH.

SFDA continued with the "blue hat" registration process and direct sales companies both domestic and foreign were eager to get "blue hat" approvals or use the existing approvals they held from MOH granted prior to 2003.

Entering Today's Market as a Direct Seller

Entering the market as a direct sales company is not an easy task. Companies must first get a license from the Ministry of Commerce (MOFCOM), for which there are numerous requirements, including setting up service centers in each province the company intends to conduct business. This could cost the company a small fortune considering that each province would require hundreds of centers to be opened. If a company had ambitions to be a nationwide direct seller, it would need to open thousands of centers.

However, although extremely difficult to enter the market as a direct seller, the direct sales model works extremely well in China for several reasons. For one, having an independent sales force numbering in the millions moving about China selling products is a win-win mathematically. Further, China's large population, concentration of potential clients, tight social networks and entrepreneurial spirit all have enabled direct sellers to expand their sales channel rapidly. Since 2005, there have been 24 direct sales companies licensed by MOFCOM. These 24 companies control more than 40% of China's dietary supplement sales. In 2008, this sales channel alone was estimated to be worth more than $4 billion.

For the past two decades, both the pharmacy and direct sales channels have reigned supreme as the sales leaders for dietary supplements. But as dietary supplements become more well understood and an increasing number of domestic and foreign manufacturers enter the market, Chinese consumers will demonstrate a willingness to explore other sales channels. The potential for these newly developing channels will be discussed in the next edition of "Inside China."

References furnished upon request.

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