$10b dairy payout on the cards

Andrew Ferrier says dairy is in a sweet spot but the rising milk price is putting some pressure on margins in the ingredients business. Photo / Dean Purcell

Dairy giant Fonterra is on track for one of its best years and the payout this season could be worth more than $10 billion.

The dairy co-operative posted its results for the six months ended January 31 yesterday, showing revenue up 21 per cent on the previous year at $9.4 billion.

However, Fonterra, which collected about 89 per cent of national milk production in 2009/10, warned farmers to be cautious as international prices reach the top of the cycle.

Fonterra yesterday affirmed its forecast payout for the 2010/11 season of $7.90-$8 per kilogram of milksolids before retentions - potentially a record result.

The previous highest payout of $7.90 before retentions was in the 2007/08 season.

Chairman Sir Henry van der Heyden said he was confident production would be better than last year "and it feels like about 1 per cent [higher]". An $8 payout based on a 1 per cent rise in production could be worth about $10.4 billion.

Dairy prices appeared to reflect a change in supply and demand for food internationally, van der Heyden said.

"We are benefiting from a combination of demand growth from China and other Asian markets, and tighter international supply due to adverse weather conditions in many parts of the world," he said.

Global prices for many commodities, including dairy, were approaching all-time highs.

"We must be mindful of the impact that dairy prices can have on demand in some markets, as well as on supply growth around the world," van der Heyden said.

"As prices continue to climb, the possibility of a downward correction can increase and farmers should always need to be prepared for a potential global price drop."

The average price for a basket of products in Fonterra's bi-weekly online auction fell 8.2 per cent last week, breaking a rise since the start of December which had seen prices hit the highest level since the auction was launched in 2008.

Van der Heyden said the forecast payout would be welcomed by farmers, many of whom were under pressure after several challenging years and a current season marked by some difficult weather.

"It is also good news for the New Zealand economy in the post-earthquake environment, underlining the importance of dairying to New Zealand's economic wellbeing," he said. Fonterra said the earthquakes in Christchurch and Japan would be reflected in the second half of the financial year.

The forecast payout incorporated a milk price of $7.50 per kg of milksolids and a distributable profit of $550-$690 million, which equated to 40-50c a share, of which a dividend was expected to be paid of 25-30c a share.

BNZ economist Doug Steel said the result confirmed it was a good year for the dairy industry and the economy.

"Twenty per cent of your exports going up in price, it tends to be good for the country."

Chief executive Andrew Ferrier said the last four years had seen three of the highest returns in the industry.

"We're in a period of very favourable global dynamics, really good demand for nutritious foods and dairy is truly in a sweet spot," Ferrier said.

Although the company was enjoying very high returns, it was at the top end of the cycle

"We advise them to pay down debt when you're at the top end of the cycle because there's a better chance that you'll start heading downwards at some point in time."

The rising milk price was putting some pressure on operating earnings, which were primarily driven by the ability to make and sell a range of dairy products at a margin above the cost of milk collected from farmers, he said.

"This margin squeeze is particularly significant in our ingredients businesses where the cost of raw milk represents a substantial proportion of total operating costs.

"Thanks to our strategy of building leading brand positions in key categories, our consumer businesses are better placed to withstand price increases - but they are not immune."

Federated Farmers Dairy vice-chairman Willy Leferink said he was struck by the 21 per cent surge in revenue to $9.4 billion.

"As a direct consequence of these results, Fonterra shareholders will have greater certainty on the forecast payout and that is most welcome," Leferink said. "That said, Federated Farmers is keen for Fonterra to explore greater retentions in order to strengthen its balance sheet and to take advantage of opportunities that may come its way."

FONTERRA

Six months to January 31:
* $9.4b revenue, up 21pc on the previous year.
* $293m of net profit.
* 48.5pc debt gearing ratio, versus 54.3pc the previous year.
* Payout forecast of $7.90-$8 a kg of milksolids for the season.