KEY POINTS:
Dairy giant Fonterra has slashed its payout forecast, ripping more than $700 million from the economy.
Fonterra yesterday made an unscheduled change to its forecast payout to farmers, cutting it by 60c to $6 per kg of milksolids.
Based on last season's collection of 1.19 billion kg of milksolids, the cut could cost farmers $714 million.
Chairman Henry van der Heyden said declining prices across all commodities, including dairy, had been exacerbated in recent weeks by the global financial crisis.
"Why we've seen the drop is because commodity prices have come off significantly over the last three weeks, particularly powder, and also it's starting to show signs in the global market place that we are moving into an economic crisis," he said.
"We have kept conditions under close review and brought forward our forecast revision so farmers know exactly where they stand as they work through their budgets for next year."
Van der Heyden told farmers to be cautious and conservative in the midst of all the volatility and uncertainty.
Westpac economist Doug Steel was not surprised at the forecast drop, although it was a bit more than expected.
The $6 forecast is well down on last year's record $7.90 payout - 24c of which Fonterra held back because of uncertainty in the currency, commodity and financial market - but still higher than the $4.46 of the year before that.
Steel said people expecting payouts of $7 or more to continue would be disappointed but historically the cash flow for dairy farmers was still going to be pretty good.
The 10-year average before last season was about $4.20 and most farmers who kept their feet on the ground would still be reasonably happy with a $6 payout, he said.
The sharp slowdown in world economic growth was also pulling down other prices, he said.
"There is some relief coming on the cost side, petrol prices are the obvious one but fertiliser prices overseas are starting to fall as well on the back of world demand falling."
The payout could drop further or bounce back, Steel said.
"You wouldn't rule anything out in the current environment, especially on the international scene. Things are extremely volatile."
Federated Farmers dairy vice-chairman Willy Leferink said farmers would be disappointed but the drop was not unexpected.
"The world economic situation is so unusual and so debilitating to trade that Fonterra's latest announcement at least gives some certainty," he said.
"The one message dairy farmers have from this announcement is to tighten our belts and not look for any immediate rebound."
Fonterra chief executive Andrew Ferrier said commodity stocks were building and these would need to be cleared before prices improved, while demand was unlikely to recover by mid-2009 as initially expected.
"We've had to have a look at our view that prices were going to come down, flatten out and move up before our year end," Ferrier said.
"Now we're saying they're going to go down even further than we thought and they won't move up until after the year end."
The drop in prices was substantially more than the improvement gained from exchange rates, he said.
But Fonterra was still positive about dairy pricing over the medium to long term.
"All of the positive dynamics that we've been talking about in the last couple of years around long-term demand for dairy and the ability for supply to meet it remains."
The new forecast comprised a $5.60 per kg milksolids milk price and a 5c increase in the value return component at 40c.
Ferrier said it was increasingly likely Fonterra would have to write off the balance of its 43 per cent ownership of Chinese dairy company San Lu, with sale-of-assets proceeds likely to go to that firm's liabilities.
SPILT MILK
* Fonterra cuts payout forecast by 60c to $6 per kg of milksolids.
* Reduction costs farmers $714 million based on last year's production.
* Commodity prices down.
* Farmers told to hunker down for volatile times.
