The discovery underscores China's stubborn problem with illegal food additives used to turn a quick profit regardless of the health risks.
Caches of toxic milk powder repeatedly have been discovered since a crackdown in 2008 that saw dozens arrested and a dairy farmer and a milk salesman executed.
The Global Times newspaper quoted police in the southern city of Chongqing as saying Tuesday that the Jixida Food Co. bought the milk powder a year ago to make pastries and ice cream.
The report said the tainted powder was stored in a warehouse and had not yet been used. Five suspects were detained and three could face criminal charges, the paper said, but did not identify their suspected roles in the contamination.
The report said the milk was traced to a company in Inner Mongolia but didn't say when it had been made. Other seized batches have been described as old stocks that were hidden when they should have been destroyed.
Adding melamine and water to milk and milk products makes the tainted, weaker products appear to have the correct protein content. Health problems from the industrial chemical include kidney stones and kidney damage.
At least six children died and nearly 300,000 children fell ill after consuming tainted infant formula in 2008.
That scandal prompted China to pass tougher food safety regulations and step up inspections.
A recent spate of new problems prompted the State Council, China's Cabinet, to last week order a renewed crackdown on the illegal food additives. So far this year, authorities have uncovered sales of drug-tainted pork, bean sprouts treated with a carcinogenic chemical compound, and old bread treated with sweeteners and dye to make it seem fresh.