Category Archives: Fonterra

What it will take to get this farmer growing

Confidence.jpg

The last two years – a drought and the infamous dairy debacle – have taken their toll and not just on my hip pocket. Unless there’s change, my cheque book is likely to grow cobwebs for up to a decade. Sounds melodramatic? Not really.

My reasoning is this: first, we need to recover the equity lost over the last two years.

Second, we need to catch up on the maintenance we couldn’t afford to do over the last two years.

Third, I want at least another $100,000 in equity as extra protection. Interest rates won’t always be this low and, when they rise, another shock of this magnitude could be devastating rather than debilitating.

It all adds up to roughly $300,000 in profit to make up before I have an appetite to invest in any project that takes more than a year to break even. And that will take me years and years to accomplish.

If other farmers have the same attitude, we will continue to see Australian milk production stagnate.

The problem with this is that the processors have been investing in hundreds of millions of dollars worth of new stainless steel that requires enough milk flow to make it efficient. Time and time again, they have said growth is the only way to return the maximum price to farmers.

Do we have the start of a vicious circle? I hope not to hear the processors blaming a low farm gate price on inadequate utilisation of bloated stainless steel created by a low farm gate milk price.

Making me even more risk averse is the lack of definitive action to prevent this happening all over again.

Both the big processors, MG and Fonterra, have pledged to be more transparent and that’s a good first shuffle. I say “first shuffle” because to call it a good first step would be overstating its importance. We need a game-changer.

MG has commissioned a price review that will consider farm gate price models from around the world. At the same time, the Bonlac Supply Company, which represents farmers supplying Fonterra, also announced it would present alternatives early this year. Will these be the game changers we need?

I suspect not. The game changer we need is one where risk is shared along the supply chain rather than simply shifted onto farmers.

After all, while the current system is a legacy of an industry dominated by strong co-operatives, it’s also a marvellous “magic pudding” business model for corporate processors.

Consider this recent ACCC submission by Warrnambool Cheese & Butter‘s new owners, Saputo:

In February, Saputo announced a quarterly profit of C$197.4 million. I’m not sure why it feels it is appropriate to make Australian farmers responsible for its inability to negotiate a better energy contract. But it does because it can.

It serves as a timely reminder that the push for farmer prosperity has to come from farmers.

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Filed under Farm, Fonterra, milk price, Murray Goulburn, Warrnambool Cheese and Butter

The MG fallout for Fonterra

msspfonterra

The trump card held by Fonterra milk recruiters has long been a promise to match or better the price offered by Victoria’s biggest processor. What could possibly go wrong?

Indeed, the so-called “Bonlac Milk Supply Agency Agreement” has worked well for a long time. But it all unraveled last season when the biggest processor, Murray Goulburn Co-operative, started to behave at odds with the deteriorating global price.

Aunty MG, which had always worn a demure twin set and behaved with utter decorum, pawned the family silver, took off in a turbo-charged red convertible driven at break-neck speed by the sweet-talking new boy in town while tossing money at admirers like confetti. Fonterra was dragged along, screaming for Aunty to slow the hell down but nonetheless tethered to the rear bumper.

The wreckage of the crash has been messy for all involved. The Bonlac Supply Company chairman, Tony Marwood, writes in the BSC’s annual report that:

“…clearly we cannot have a benchmark mechanism in place against a processor that is under performing and also facing significant headwinds and an uncertain future.”

Ouch!

BSC and Fonterra, he wrote, are working on a new benchmark that it will reveal early next year.

In the meantime, a group of suppliers has written to Fonterra Australia, saying the processor has failed to honour its agreement to match MG’s price. The dispute revolves around the question of whether MG’s closing milk price was $5.53 or just $4.80 per kilogram of milk solids (kgMS).

Confusingly, as you might remember, MG dropped its price last April but then added money back in the form of a “Milk Supply Support Package”. This MSSP, MG stressed, was not a loan to individual suppliers but a “socialised debt” that would come off the milk price. Since then, MG has paused the MSSP in a bid to stem milk losses. In a nutshell, it means that MG announced an official closing milk price of $4.80 per kilogram of but actually paid “an average cash price in FY16 of $5.53 per kgms“with the MSSP included.

I asked Fonterra Australia’s Matthew Watt to explain his company’s position.

MMM: Excluding any loans or the $2.50 offset paid this financial year for milk supplied last financial year, what was Fonterra’s closing price?
MW: Fonterra’s average milk price for the 2016 financial year was ultimately $5.13 per kgMS, which was 33 cents higher than the benchmark price set by MG.

MMM: What was paid to Murray Goulburn suppliers last financial year?
MW: Murray Goulburn has clearly stated in its public announcements and 2016 Annual Report that its final farmgate milk price for the 2016 financial year is $4.80kgMS. The advance to suppliers under Murray Goulburn’s Milk Supply Support Package does not form part of the benchmark price, and neither does any Murray Goulburn dividend payment.

MMM: How is the term “bundled return” in section 10.1 of the Fonterra Australia Milk Supply Handbook defined?
MW: The Bundled return (following the payment of BSC shares out in 2014) is defined as the average farmgate price paid by the largest processor in Victoria

MMM: MG has suspended the repayment of the MSSP. If MG does not require suppliers to repay the MSSP, doesn’t that mean last year’s price was effectively the “cash price” of $5.53 and how will Fonterra respond if the MSSP is not recouped?
MW: Fonterra has an obligation under the BSC contract to match MG’s benchmark milk price. MG has clearly stated that its final farm gate milk price for FY2016 was $4.80. Based on MG’s announcements, the MSSP operates independently from the FY2016 milk price.  We are not in a position to speculate what MG may do in the future with regards to its MSSP repayment schedule.

Thank you very much, Matt, for answering Milk Maid Marian’s questions!

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Filed under Farm, Fonterra, milk price, Murray Goulburn

Could this have been the wake-up call Aussie dairy needed?

bulllores

When the two biggest processors of Australia’s milk, Murray Goulburn and Fonterra, squandered the goodwill of farmers earlier this year, there was a sense they could do as they wished. They made the rules and broke them, too.

One executive told me there was no risk of supply loss following the drastic price cuts, saying, “After all, where would they (farmer suppliers) go?”.

How things have changed. Both the big processors have watched milk supply evaporate and, with the dawning realisation that something had to be done to avoid the death spiral outlined here and detailed by MG’s own advisors, Grant Samuel, both have responded.

After suspending the MSSP while reducing the forecast close by about the same amount a week earlier, MG made amends with a step-up the day before its AGM.

In his AGM address, MG chairman Phil Tracy acknowledged farmers’ pain and offered an apology of sorts.

“While as a Board, we did what we could with the information that we had at the time, we know that the outcomes of that period have been devastating for suppliers and for that we are deeply sorry.” – Phil Tracy, MG Chairman

Like MG, Fonterra Australia has announced it is reviewing the way farmers are paid for milk in order to avoid a repeat of the May debacle. Farmers whose milk production peaked in May and June were initially singled out for a thumping, causing many to sell off cows, only for Fonterra to back-track days later and spread the pain of its price cut more evenly among suppliers.

Despite poaching 200 million litres of milk from MG, Fonterra Australia’s supply remained fragile, due to the tricky season, the low milk price and the damage done in May to autumn-calving regions. Hours after MG announced its step-up, Fonterra came out with its own, much larger (and incredibly welcome), price increase.

The size of the step-up challenged the oft-held belief that Fonterra only pays the price it needs to in order to prevent supply loss to MG. With profitability restored, perhaps Fonterra has indeed extended its co-operative spirit to this side of the Tasman. On the other hand, Fonterra’s announcement provided a hint that perhaps it was essential to fill under-utilised stainless steel:

“The last six months have been challenging for all of you, and we know that spring is critical to optimise production.” – Matt Watt, Fonterra Australia

No matter what the motivation, it’s enormously heartening to see the two biggest processors act and act so positively. Maybe this is the wake-up call Australian dairy had to have. It might even help to rekindle the traditional sense of partnership between farmer and factory that had been on the wane for so long.

What’s certain is that farmers – and their supply of milk – can no longer be taken for granted. Loyalties have been stretched or broken and farmers who have now experienced how easy and rewarding it can be to shift their supply may well be tempted to do so again.

In return, expect processors to lock in a broader range of “desirable” supply with more special deals and contracts. Be careful what you sign. I’m tipping the unfair contract law that came into force quietly this weekend will be more important for dairy farmers than legislators could have imagined.

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Filed under Farm, Fonterra, Murray Goulburn

Fonterra, farmers and that fat profit

fonterraprofit

Fonterra rocked its Australian farmers last May with a price drop following Murray Goulburn’s own shock price announcement. I think it was fair to say nobody was surprised there was a drop – Fonterra had been signalling one for months – but the savagery of its execution left many farmers aghast and distraught.

Salt was added to the wound three weeks later when Fonterra chief executive Theo Spierings reportedly said:

“What we are doing is drive (sic) every cent of money which we can out of Australia back to New Zealand shareholders in this extremely low milk price environment,” he said.

“That is what we are doing everyday. And Australian business this year will be at a plus.”

Yesterday, the wound was opened afresh with Fonterra’s annual results headlined by a profit of $834 million after tax, including a healthy profit from the Australian division. With all this in mind, Milk Maid Marian asked Fonterra’s GM Australian Milk Supply, Matt Watt, some rather blunt questions. To his enormous credit, Matt had the following answers for us in less than 24 hours.

MMM: Fonterra Australia is very good at assessing farmer sentiment with its regular forums and Mood Meter surveys. How did the pricing changes announced in May affect the sentiment of farmers supplying Fonterra Australia?

MW: On the back of the shock and challenge that the price revision in May had to our farmers, we have seen a significant drop in farmer sentiment measures – that’s absolutely reflective of the discussions I’ve had over the phone and in person with our farmers and as has been fed back via our field team, BSC board and supplier forum.

MMM: How has sentiment changed since?
MW: Since opening price, we have seen a slight increase in sentiment. Importantly, the aspect that does rate positively is our field team interaction and support – we are proud of the work that the team does and, despite the surrounding circumstances, they continue to find ways to help our farmers through this period.

MMM: How much money did Fonterra Australia save by slashing the milk price in May and June?
MW: The milk price revision in May reduced our losses by around $40M which, on its own, enabled the Australian Ingredients business to get to around a break even position.

MMM: Given the reshaping of the Australian business was already well underway, why was it considered necessary to make the radical price cut?
MW: There has been significant effort and investment in the turnaround – we’ve divested loss-making businesses and non-core assets, such as our yoghurt and dairy desserts business, our Bega shares and our stake in Dairy Technical Services.

We reduced our working capital and our headcount, and undertook a program to drive efficiency throughout our business. However, the simple truth is, we were paying a milk price that was not being returned by the market, and that was impacting our profitability.

Our results today show improvement for the Australian business, which has contributed to the strong result for the Co-op, however, our turnaround is not complete and we need to continue to invest – our new, more efficient warehouse investment and further expansion of cheese capacity at Wynyard are examples of investments that have been made recently. Without a profitable business we compromise our ability to invest, risk devaluing the business, and risk our ability to provide sustainable returns right back to the farm gate.

MMM: What, if anything, do you regret about the decisions made in May?
MW: Whilst I can’t personally feel the impact on every single farm and the business and family circumstances, I am acutely aware of the massive impact that this decision had. In hindsight I often reflect as to how we could have more overtly communicated the disconnect between the Australian farm gate price and returns available in the market.

Having said that, the attempts that we did make about Australia not being immune to global challenges and that the milk price did not reflect what was being earned in the market had a discernible, negative impact on our supplier sentiment. We were accused of talking down the market.

MMM: How does Fonterra justify such harsh cuts while making a profit?
MW: While the milk price revision was regrettable, it is important that both our farmers and Fonterra have a model that ensures sustainable profitability.

The reality is that Australian milk price last year was not reflective of the global dairy commodity prices and around the world, all dairy farmers have experienced low farmgatge milk price. Our business is owned by farmers, and they have $1 billion of equity invested here. Last year these farmers received $3.90 per kgMS (NZD) in milk price plus a 40c per kgMS dividend on the back of the profit result. This takes them to $4.30 per kgMS (NZD) vs a final farm gate milk price of $5.13 (AUD) here in Australia.

MMM: Where have the 200 million extra litres come from?
MW: The new milk has largely come from MG farmers moving to supply Fonterra.

MMM: The presentation also says Fonterra Au’s outlook is to continue efforts to fill Darnum and notes that Stanhope will be online in 2017. How many more litres will be needed?
MW: The additional milk that we have brought on goes part way to meeting these needs. However, we continue to expect to see market opportunities continue to emerge, meaning that we will want to continue to grow volume, particularly in Northern Victoria.

MMM: The presentation says Fonterra Australia has gone from “Disconnect between milk price and reality” to “Market connected milk price”, yet Fonterra Australia is still bound by the Bonlac Supply Agreement to match or better the price of Australia’s largest processor. What are Fonterra plans in respect to that agreement?
MW: Our opening price and forecast close of $5.00 per kgMS reflects market conditions, but also is well above MG, the benchmark milk price. We remain committed to meeting our obligations under the BSC agreement, which is why, in 8 out of the last 10 years, we have paid a higher price than the BSC minimum commitment.

Thank you very much to Matt Watt, Fonterra’s GM Australian Milk Supply, for answering Milk Maid Marian’s questions.

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Filed under Farm, Fonterra, milk price

Why I welcomed Four Corners to our dairy

I’m looking forward to watching Four Corners tonight with all the enthusiasm of a patient awaiting the lancing of a boil. Will it be fun? No. Will it be good for me? I guess so.

It’s almost four months since Murray Goulburn called a trading halt, followed by the infamous “clawbacks” of both MG and Fonterra that rocked the dairy community.

In a state of confusion and panic, farmers called out for help. Ordinary Australians did what they could, ditching cheap unbranded milk in a show of solidarity with farmers that continues to hearten.

Four months on, panic has given way to a sense of aimlessness and loss. Helou and Tracy’s vision had offered a shining path towards security and prosperity but now Gary the Great has vanished and nobody has filled the role of white knight. Leadership is lacking at the time we need it most.

We farmers have a fleeting once-in-a-lifetime chance to fix things. Politicians want to know how they can help but we don’t seem to be able to articulate a coherent answer other than to cry for something, anything, to dull the pain.

Meanwhile, there’s a puerile optimism amongst some elites, reckoning that every casualty improves the prospects of the survivors. It’s a sentiment that disgusts me and simply doesn’t stack up.

Floods of milk generated by the powerhouses of Europe, NZ and the USA sink or float the export market – not the farm next door. We’ve already lost thousands of Aussie dairy farmers since deregulation. More of the same won’t solve our problems.

The first step towards a cure is to work out exactly what ails us and, at the moment, all we’re doing is bandaiding a festering sore. If there’s anybody who can sniff out and lance a boil, it’s Four Corners.

That’s why we welcomed Deb Whitmont and her team to our farm. Sure, I’ll be cringing on the couch but Four Corners’ Milked Dry might just reveal the bitter pill we need to swallow.

 

 

 

 

 

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Filed under Farm, Fonterra, milk price, Murray Goulburn

Theo was too right…

keep-calm-let-s-cut-the-cake-and-eat-it

Here’s an unpalatable truth: when Fonterra head Theo Spierings said the milk price was unsustainable back in August last year, he was right. He also said the way milk prices are set needs to change. Correct again. Then he started talking about the need for, “a good debate with farmers … about how are we going to share – how are we going to cut the cake.”.  That’s what really matters right now.

At the time, Fonterra Australia head, Judith Swales responded to Milk Maid Marian’s request to clarify what Theo had meant by “sharing the cake” and said:

“We have always said that the best dairy industry model is the one where everyone can get a sustainable return. Farmers need to be able to make money, processors need to make money and so do customers, like retailers. And that’s what he means by sharing the cake.”

It’s hard to disagree with that sentiment. The problem is that we’ve learnt one more lesson in the last couple of months: if you’re stranded on a desert island with a hungry gorilla and a small cake, you’re in very big trouble indeed.

This post is not intended as an attack on Fonterra. After all, things are no better at Murray Goulburn. The reality is when there are thousands of small businesses selling a highly perishable product to a handful of large corporates and multinationals, the playing field is anything but even.

Just 12 months before Theo was talking about cake, the majority owner of Warrnambool Cheese and Butter, Lino Saputo, was quoted as wondering:

“…what will it take for the dairy farmers to be optimistic about the dairy industry and investing in their farms and what kinds of programs can we put in place that will assist them.”

At the time, I summarised my answer as “reliable profitability”. I posted the charts below showing just how far dairy farmers’ terms of trade had slipped and the wild fluctuations in profitability.

DairyTermsTrade

DairyBusinessProfit

“Productivity in the Australian Dairy Sector”, ABARES, September 2014

There’s one more factor I missed: confidence.

Writing for the latest edition of The Australian Dairyfarmer magazine, Dairy Australia managing director Ian Halliday notes that :

“In 2015, confidence among dairy farmers was at 75 per cent. In February this year, confidence had fallen to 65 per cent reflecting the dry seasonal conditions and also what milk prices were looking like for 2016-17 when considering the global price outlook.”

“Following the sudden milk price cuts in late April, which affected up to 65 per cent of all dairy farmers, we conducted another survey to get an understanding of changes in farmer confidence. This sample, although smaller, indicated confidence nationally had droppedd to 45 per cent.”

I’m willing to bet that confidence has fallen to historic lows after the Murray Goulburn opening price announcement.

What’s needed now is:

  • Transparency
  • Risk management strategies to deal with volatility
  • A more level playing field that provides farmers with real choices when dealing with processors.

These are the ingredients of reliable profitability and, without it, we’ll be continually wrestling the gorillas for the crumbs of a perpetually shrinking cake.

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The haves and have nots of Australian dairy

CowTongue

I’ve had requests from farmers, investors, the media and even politicians for an explanation of how milk prices work (or don’t). I’m going to start with the factors that affect the price a dairy farmer in Australia’s south-eastern states receives.

  1. Who buys Old Macdonald’s milk?

The opening prices of most of the processors are in:

ACM $5.30
Bega $5.00
Lion (variable option) $5.00
NDP $5.00
Warrnambool Cheese & Butter $4.80
Fonterra $4.73
Longwarry $4.60
Burra Foods $4.40 to $4.60
Murray Goulburn $4.31
ADFC To be advised

It’s a massive spread of prices, with the top almost 25 per cent higher than the bottom. And it doesn’t stop there. The pricing systems are incredibly complex, with the prices no more than weighted averages. I know of a farmer supplying MG, for instance, who will receive just $3.79kg MS for his milk. I’ll explain that later in this post.

But, why, you ask, doesn’t Old Macdonald simply choose the buyer with the highest price?

It’s easy to change factories. You just call, make an appointment, fill in some forms and voila, a new sign hangs on the gate! But the reality is that there are lots of other factors in play:

  • Not all processors collect milk in every region. ACM, for example, does not collect milk from Milk Maid Marian’s district.
  • Many farmers are tied up with debts to their current processor or incentives for flat milk supply that would see them penalised tens of thousands of dollars for leaving.
  • Some farmers are contractually bound to the processor as part of share acquisition or “Next Gen” programs.
  • Then, there’s the waiting list. Processors tell me that since the opening prices were announced, there are hundreds of millions of litres of milk on waiting lists for new homes right now. The processors will cherry-pick those that suit their ideal profiles. In fact, many processors already have too much milk and have simply closed their books.

2. The breed of cows and what they’re fed
As a rule of thumb, if you’re not familiar with this industry pricing, you can convert prices expressed in kilograms of milk solids (kg MS) into cents per litre (cpl) by dividing by 13. So, $5.30 per kg of milk solids equates to 41 cents per litre and $4.31 equates to 33 cents.

It’s a formula that works pretty well for the 80% of Australian dairy cows that are the classic black-and-white Holsteins.

But not if your cows are Jerseys. Around 11% of Australian dairy cows are Jerseys, which produce around 30% less milk than Holstein Friesians but a lot more fat for every litre. According to ADHIS statistics, HF cows’ milk contains an average 3.83% butterfat and 3.24% protein, while Jersey milk is creamier at 4.76 % fat and 3.67 % protein. This means that returns from Jerseys appear higher than those of HF in terms of cpl and lower in terms of dollars per kg MS.

3. When the cows give the most milk
Every cow produces no milk for two months until she calves, then her milk production increases steeply for a couple of months before tapering off again. We call this her “lactation curve” and when you add together all the herd members’ curves, you get a farm’s “milk supply curve”.

It makes sense to have the herd’s milk production peak when there is the most grass in the paddocks. Inevitably, that’s in Spring. Of course, if all herds peaked in Spring, it would cause big trouble for the processors. The entire Australian dairy milk supply is getting less and less seasonal over time because the processors offer more money for “off peak” milk.

Here’s an excerpt from my own farm’s income estimate to show you just how much the price changes over the year with Fonterra.

FonterraTotal

For MG suppliers, the shift can be far more dramatic if suppliers elect to provide “flat milk” but I would need to dedicate a blog post to explaining this aspect of its system.

The differences in payment systems mean that even if a farm receives the average milk price from one processor, it might not from another.

4. Compulsory charges and levies
Most processors have compulsory charges that come off the headline price. These are not trivial and amount to tens of thousands of dollars. In my farm’s case, we pay a transport levy that amounts to 35 cents for every kilogram of milk solids we sell. On top of these, there are Dairy Australia and Dairy Food Safety Victoria levies.

5. Bonuses for the big and beautiful
If you think you’re across all that, don’t forget there are productivity incentives that favour larger farms and MG still has a growth incentive for farms supplying more milk than the year before. These can be very significant. There are also quality bonuses (and/or penalties) with different processors having different benchmarks.

6. Clawbacks
As you might already know, both MG and Fonterra dramatically dropped their prices for May and June to bring back the overall price. They have both come up with “support packages” for suppliers. Farmers are now beginning to pay for those. Fonterra suppliers are on interest-only this year and principal repayments will begin in the next financial year. MG suppliers are paying off their packages in the form of an artificially-lowered milk price already.

7. Special deals
Farmers were outraged back in 2012 when it was revealed that even the co-op was offering special deals for the really big farms. Nobody can say for sure how common these are today.

The bottom line is that every farmer needs to get an individual income estimate from processors to be sure what their milk price really is and what it would be if they supplied a different factory. Not all milk is created equal.

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Filed under Cows, Farm, Fonterra, milk price, Murray Goulburn