Dairy bonanza could top $2b

Fonterra processes about 92 per cent of the country's milk and collected 1.28 billion kg of milksolids in the 2008/09 season. Photo / Dean Purcell

The dairy industry will pump $1 billion extra into the economy based on next season's Fonterra milk price forecast, says Westpac bank.

Fonterra yesterday said its forecast payout before retentions for the 2010/11 season was $6.90-$7.10 a kilogram of milksolids, compared with $6.50-$6.60 predicted for this season.

Westpac senior economist Donna Purdue said that if production increased next season by about 2.8 per cent, then a $7.10 payout compared with $6.60 would equate to an extra $970 million across the entire industry.

The boost in earnings would be equivalent to 0.5 per cent of the gross domestic product of the New Zealand economy.

"That's impressive," Purdue said.

However, if economic factors remain stable the payout could be even higher.

Fonterra chairman Sir Henry van der Heyden said that if international dairy prices and foreign exchange rates were to hold to current levels for most of the coming year, then it was possible that the 2010/11 payout could be well over $8.

"That's what the market looks like right now, but we know that there is substantial volatility in the market," van der Heyden said.

"The reality is that we are seeing big swings in foreign currencies and turmoil in some economies.

"These factors could have a big impact on demand for dairy products and the prices we ultimately realise."

The forecast range of $6.90-$7.10 was appropriate and farmers should base their planning for the coming year around a payout broadly in line with this year, van der Heyden said.

"If prices hold up throughout next season, we could be looking at a significant improvement during the course of the year," he said.

"But at this stage, in the current volatile environment, it would not be sensible to count on this."

Westpac's Purdue said an $8 payout would equate to an increase of $2.2 billion across the industry compared with a $6.60 expectation for the current season - equivalent to 1.2 per cent of GDP.

BNZ head of research Stephen Toplis said the forecast would have a wealth and cashflow impact for dairy farmers which would show through to spending in the provinces and in turn have flow-on effects for the wider economy.

"The big question, of course, is how much do dairy farmers use that to fund consumption and/or capital investment versus how much do they use to get their balance sheets into better order.

"Either way it's net beneficial to the economy," Toplis said.

"People would be well advised to think before they leap in terms of spending all their long-fought-for gains because recent history shows us that commodity prices are volatile beasts."

The ANZ Commodity Price Index for dairy products was 127.6 in August 2006 and more than doubled by November 2007, then lost more than half its value by February last year before recovering to 215.2 by last month.

The forecast payout combines a milk price of $6.60 a kg of milksolids and a distributable profit of 30-50c a share.

Fonterra intends to retain 25-35 per cent of the distributable profit, in line with dividend policy.

Federated Farmers Dairy chairman Lachlan McKenzie said advice to farmers was to budget conservatively and use any windfall to retire debt, especially expensive short-term facilities.

"If anyone thinks this will lead to another dairy boom then they should think again," McKenzie said.

Fonterra Shareholders' Council chairman Blue Read said the opening forecast for 2010/11 was great news.

"With many farmers still feeling the impact of the recent drought this strong forecast cashflow will be most helpful."

Fonterra chief executive Andrew Ferrier said production this season had previously been expected to be up 3 per cent but was now "more or less line ball with last year".

"So optimistically, mother nature allowing ... we'd expect to be significantly up in solids next year over this year."

Fonterra processes about 92 per cent of the country's milk and collected 1.28 billion kg of milksolids in the 2008/09 season.

The opening forecast milk price of $6.60 a kg of milksolids was based on a favourable outlook for dairy pricing, Ferrier said.

"There continues to be strong growth in dairy consumption and demand from China, the rest of Asia, the Middle East and North Africa," he said.

"Meanwhile, global supply remains constrained, with production down because of adverse weather in Europe and Australia, while tight credit conditions are constraining dairy growth in the United States."